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                       SECURITIES AND EXCHANGE COMMISSION
                             WASHINGTON, D.C. 20549

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

                                   FORM 10-K

                 ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d)
                     OF THE SECURITIES EXCHANGE ACT OF 1934
                  FOR THE FISCAL YEAR ENDED DECEMBER 25, 1999

                         COMMISSION FILE NUMBER 1-12082

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

                              HANOVER DIRECT, INC.
             (EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)

                                    DELAWARE
                 (STATE OR OTHER JURISDICTION OF INCORPORATION
                                OR ORGANIZATION)

                  1500 HARBOR BOULEVARD, WEEHAWKEN, NEW JERSEY
                    (ADDRESS OF PRINCIPAL EXECUTIVE OFFICES)

                                   13-0853260
                       (IRS EMPLOYER IDENTIFICATION NO.)

                                     07087
                                   (ZIP CODE)

                                 (201) 863-7300
              (REGISTRANT'S TELEPHONE NUMBER, INCLUDING AREA CODE)

SECURITIES REGISTERED PURSUANT TO SECTION 12(b) OF THE ACT:

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                                                                          NAME OF EACH EXCHANGE
                  TITLE OF EACH CLASS                                      ON WHICH REGISTERED
                  -------------------                                     ---------------------
<S>                                                      <C>
            COMMON STOCK, $.66 2/3 PAR VALUE                             AMERICAN STOCK EXCHANGE
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SECURITIES REGISTERED PURSUANT TO SECTION 12(g) OF THE ACT: None

     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. [X]

     As of March 17, 2000, the aggregate market value of the voting and
non-voting common equity held by non-affiliates of the registrant was
$105,135,953 (based on the closing price of the Common Stock on the American
Stock Exchange on March 17, 2000; shares of Common Stock owned by directors and
officers of the Company are excluded from this calculation; such exclusion does
not represent a conclusion by the Company that all of such directors and
officers are affiliates of the Company).

     As of March 17, 2000, the registrant had 213,308,946 shares of Common Stock
outstanding.

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

                      DOCUMENTS INCORPORATED BY REFERENCE

     The Company's definitive proxy statement to be filed by the Company
pursuant to Regulation 14A is incorporated into items 10, 11, 12 and 13 of Part
III of this Form 10-K.

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                              HANOVER DIRECT, INC.

                                   FORM 10-K
                  FOR THE FISCAL YEAR ENDED DECEMBER 25, 1999

                                     INDEX

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<S>          <C>                                                           <C>
                                    PART I
ITEM 1.      Business....................................................    1
               General...................................................    1
               Hanover Brands............................................    1
               erizon....................................................    3
               Incubator Investments.....................................    5
               Credit Management.........................................    5
               Financing.................................................    5
               Additional Investments....................................    8
               Employees.................................................    8
               Seasonality...............................................    8
               Competition...............................................    8
               Trademarks................................................    8
               Government Regulation.....................................    9
ITEM 2.      Properties..................................................    9
ITEM 3.      Legal Proceedings...........................................    9
ITEM 4.      Submission of Matters to a Vote of Security Holders.........   10

                                    PART II
             Market for Registrant's Common Equity and Related
ITEM 5.      Stockholder Matters.........................................   10
ITEM 6.      Selected Financial Data.....................................   11
             Management's Discussion and Analysis of Consolidated
ITEM 7.      Financial Condition and Results of Operations...............   12
               Results of Operations.....................................   12
               Liquidity and Capital Resources...........................   15
               Year 2000.................................................   16
               Cautionary Statements.....................................   17
             Quantitative and Qualitative Disclosures about Market
ITEM 7A.     Risk........................................................   17
ITEM 8.      Financial Statements and Supplementary Data.................   18
             Changes in and Disagreements with Accountants on Accounting
ITEM 9.      and Financial Disclosure....................................   41

                                   PART III
ITEM 10.     Directors and Executive Officers of the Registrant..........   42
ITEM 11.     Executive Compensation......................................   43
             Security Ownership of Certain Beneficial Owners and
ITEM 12.     Management..................................................   43
ITEM 13.     Certain Relationships and Related Transactions..............   43

                                    PART IV
             Exhibits, Financial Statement Schedules and Reports on Form
ITEM 14.     8-K.........................................................   44
             Signatures..................................................   45
</TABLE>
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                                     PART I

ITEM 1.  BUSINESS

GENERAL

     Hanover Direct, Inc. (the "Company") provides quality, branded merchandise
through a portfolio of catalogs and e-commerce platforms to consumers, as well
as a comprehensive range of Internet, e-commerce and fulfillment services to
businesses. In December 1999, the Company completed a strategic realignment
pursuant to which it created two separately incorporated business units, Hanover
Brands, Inc. ("Hanover Brands") and erizon, Inc. ("erizon").

     Hanover Brands, the Company's business-to-consumer subsidiary, is comprised
of its catalog and Web site portfolio of home fashions, apparel, general
merchandise and gift brands including Domestications, The Company Store, Scandia
Down, Turiya, Domestications Kitchen & Garden, Kitchen & Home, Encore,
Improvements, Silhouettes, International Male, Undergear and Gump's By Mail.
Each brand can be accessed on the Internet individually by name. In addition,
the Company is the exclusive distributor of the Compagnie de la Chine brand in
North America and owns Gump's, a retail store based in San Francisco,
California.

     erizon, the Company's business-to-business subsidiary, is comprised of the
Company's direct commerce IT platform, Keystone Internet Services, Inc., the
Company's third party, end-to-end, fulfillment, logistics and e-care provider,
and Desius LLC, the Company's joint venture with RS Software (India), Ltd.,
offering Web shop services and e-commerce systems development. erizon also
services the logistical, IT and fulfillment needs of Hanover Brands through an
intercompany services agreement.

     Rakesh K. Kaul has continued as President and Chief Executive Officer of
the Company, overseeing both of the newly created subsidiaries.

     The Company is incorporated in Delaware with its principal executive office
at 1500 Harbor Boulevard, Weehawken, New Jersey 07087. The Company's telephone
number is (201) 863-7300. The Company is a successor in interest to The Horn &
Hardart Company, a restaurant company founded in 1911, and Hanover House
Industries, Inc., founded in 1934. Richemont Finance S.A. ("Richemont"), a
Luxembourg company, owns approximately 48.2% of the Company's outstanding common
stock and holds an irrevocable proxy from a third party to vote an additional
approximately 2.0% of the Company's common stock currently held by such third
party. Richemont is an affiliate of Compagnie Financiere Richemont, A.G., a
Swiss based publicly-traded luxury goods company.

HANOVER BRANDS

     General.  The Company, through Hanover Brands, is a leading specialty
direct marketer with a diverse portfolio of branded home fashions, general
merchandise, men's and women's apparel and gift products marketed via direct
mail-order catalogs and connected Internet Web sites. The Company's catalog
titles are organized into six brand groups -- Home Fashions -- Mid-Market
brands, Home Fashions-Upscale brands, General Merchandise brands, Women's
Apparel brands, Men's Apparel brands and Gift brands groups -- each consisting
of one or more catalog/online titles. All of these brand groups utilize central
purchasing and inventory management functions and erizon's common systems
platform, telemarketing, fulfillment, distribution and administrative functions
pursuant to an intercompany services agreement. During 1999, the Company mailed
approximately 235 million catalogs, answered more than 9.5 million customer
service/order calls and processed and shipped over 7.5 million packages to
customers in North America.

     The Company reviews its portfolio of catalogs as well as new opportunities
to acquire or develop catalogs from time to time. During 1999, the Company sold
its Austad's catalog; discontinued its Tweeds catalog operation; and
repositioned and relaunched its Colonial Garden Kitchens catalog as
Domestications Kitchen & Garden. All three of these catalogs had been selected
in the first quarter of 1999 to either be repositioned, discontinued or sold.

     Each of the Company's specialty catalogs targets distinct market segments
offering a focused assortment of merchandise designed to meet the needs and
preferences of its target customers. Through market research and ongoing testing
of new products and concepts, each brand group determines each catalog's own
merchandise strategy, including appropriate price points, mailing plans and
presentation of its products. The Company is continuing its development of
exclusive or private label products for a number of its catalogs, including
Domestications, The Company Store and Improvements, to further enhance the brand
identity of the catalogs.

     The Company's specialty catalogs typically range in size from approximately
30 to 130 pages with two to twenty-five new editions per year depending on the
seasonality and fashion content of the products offered. Each edition may be
mailed several times each season with variations in format and content. Each
catalog employs the services of an outside creative agency or has its own
creative staff which is responsible for the design, layout, copy, feel and theme
of the book. Generally, the initial sourcing of new merchandise for a catalog
begins two to six months before the catalog is mailed.

     The following is a description of the Company's catalogs in each of the
Company's six brand groups:

  Home Fashions -- Mid-Market Brands:

     Domestications is a leading home fashions catalog offering affordable
luxury for every room in the home for today's value-oriented and style-conscious
consumer.

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     Domestications Kitchen & Garden offers decorating products geared toward
answering and solving kitchen and garden needs.

  Home Fashions-Upscale Brands:

     The Company Store is an upscale home fashions catalog focused on high
quality down products and other private label and branded home furnishings.

     Kitchen & Home features distinctive and highly functional entertaining and
decorating products.

     Scandia Down is a nationally known retailer specializing in luxury down
products and home fashions.

     Launched in 1999, Turiya is a luxury home furnishings catalog featuring
exclusive designers with the finest products, textiles, tailoring and concierge
level customer care.

  General Merchandise Brands:

     Improvements is a leading do-it-yourself home improvement catalog offering
quick and clever problem solvers to make life easier around the home, yard and
car. Improvements also presents The Safety Zone which offers innovative products
for health, comfort and safety.

     Launched in 1999, Encore offers the best from America's finest catalogs in
one easy-to-shop-from format.

  Women's Apparel Brands:

     Silhouettes is a leading fashion catalog offering large size women upscale
apparel and accessories.

  Men's Apparel Brands:

     International Male offers contemporary men's fashions and accessories at
reasonable prices.

     Undergear is a leader in fashionable and functional men's underwear,
workout wear and active wear.

  Gift Brands:

     Gump's By Mail(R) and Gump's(R) San Francisco are luxury sources for
discerning customers of jewelry, gifts and home furnishings, as well as market
leaders in offering Asian inspired products.

     Compagnie de la Chine offers collections of tableware, glassware, textiles
and home decor based on Chinese ancestral designs, natural materials and
traditional techniques. In 1999, the Company became the exclusive distributor of
the Compagnie de la Chine brand in North America.

     The Shopper's Edge.  In March 1999, the Company, through a newly formed
subsidiary, started up and promoted a discount buyers club to consumers known as
"The Shopper's Edge." In exchange for an up-front membership fee, the Shopper's
Edge program enables members to purchase a wide assortment of merchandise at
discounts which are not available through traditional retail channels.
Initially, prospective members participate in a 45-day trial period that, unless
canceled, is automatically converted into a full membership term, which is one
year in duration. Memberships are automatically renewed at the end of each term
unless canceled by the member.

     Effective December 1999, the Company sold its interest in The Shopper's
Edge subsidiary to an unrelated third party for a nominal fair value based upon
an independent appraisal. The Company entered into a solicitation services
agreement with the purchaser whereby the Company will provide solicitation
services for the program, and will receive commissions for member acceptances
based on a fixed fee per member basis, adjusted for cancellation rates on a
prospective basis.

     Marketing and Database Management.  The Company maintains a proprietary
customer list currently containing approximately 9 million names of customers
who have purchased from one of the Company's catalogs within the past 36 months.
Approximately 4 million of the names on the list represent customers who have
made purchases from at least one of the Company's catalogs within the last 12
months. The list contains name, gender, residence and historical transaction
data. This database is selectively enhanced with demographic, socioeconomic,
lifestyle and purchase behavior overlays from other sources.

     The Company utilizes modeling and segmentation analysis to devise catalog
marketing and circulation strategies that are intended to maximize customer
contribution by catalog. This analysis is the basis for the Company's
determination of which of the Company's catalogs will be mailed and how
frequently to a particular customer, as well as the promotional incentive
content of the catalog(s) such customer receives.

     The Company utilizes name lists rented from other mailers and compilers as
a primary source of new customers for the Company's catalogs. Many of the
catalogs participate in a consortium database of catalog buyers whereby new
customers are obtained by the periodic submission of desired customer buying
behavior and interests to the consortium and the subsequent rental of
non-duplicative names from the consortium. The Company's recently launched
Encore catalog, by offering the best selling merchandise from both the Company's
and third party catalogs, is tailor-made to appeal to and attract new customers
derived from

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these name lists. Other sources of new customers include traditional print space
advertisements and promotional inserts in outbound merchandise packages.

     The Internet as a source of new customers continues to grow in importance.
The Company maintains an active presence on the Internet by having a
commerce-enabled Web site for each of its catalogs which offers its merchandise,
takes catalog requests, and accepts orders for not only Web site merchandise but
also from any print catalog already mailed. The Web sites for each brand are
promoted within each catalog, in traditional print media advertising, in TV
commercials, and on third party Web sites. The Company utilizes marketing
opportunities available to it by posting its catalog merchandise and accepting
orders on third party Web sites, for which it is charged a commission. Third
party Web site advertising arrangements entered into by the Company includes
partnerships with Excite, ArtSelect, Yahoo, and AOL.

     Purchasing.  The Company's large sales volume permits it to achieve a
variety of purchasing efficiencies, including the ability to obtain prices and
terms that are more favorable than those available to smaller companies or than
would be available to the Company's individual catalogs were they to operate
independently. Major goods and services used by the Company are purchased or
leased from selected suppliers by its central buying staff. These goods and
services include paper, catalog printing and printing related services such as
order forms and color separations, communication systems including telephone
time and switching devices, packaging materials, expedited delivery services,
computers and associated network software and hardware.

     The Company's telephone telemarketing phone service costs (both inbound and
outbound calls) are typically contracted for a two to three-year period. In the
fourth quarter of 1999, the Company entered into a two-year call center services
agreement with MCI Worldcom under which it obtained a reduction in the rate it
had been paying pursuant to its then current telecommunications contract. In
that connection, the Company agreed to guarantee certain levels of call volume
and the Company anticipates it will meet such targets. See
"erizon -- Telemarketing."

     The Company generally enters into annual arrangements for paper and
printing with a limited number of suppliers. These arrangements permit periodic
price increases or decreases based on prevailing market conditions, changes in
supplier costs and continuous productivity improvements. For 1999, paper costs
approximated 5.5% of the Company's net revenues. Although the Company
experienced a reduction paper prices during 1999, the Company expects that paper
prices will increase by approximately 11% during the year 2000. The Company
normally experiences increased costs of sales and operating expenses as a result
of the general rate of inflation and commodity price fluctuations. Operating
margins are generally maintained through internal cost reductions and operating
efficiencies, and then through selective price increases where market conditions
permit.

     Inventory Management.  The Company's inventory management strategy is
designed to maintain inventory levels that provide optimum in-stock positions
while maximizing inventory turnover rates and minimizing the amount of unsold
merchandise at the end of each season. The Company manages inventory levels by
monitoring sales and fashion trends, making purchasing adjustments as necessary
and by promotional sales. Additionally, the Company sells excess inventory
through special sale catalogs, sales/liquidation postings in brand Web sites,
e-auctions, its outlet stores and to jobbers.

     The Company acquires products for resale in its catalogs from numerous
domestic and foreign vendors. No single source supplied more than 5% of the
Company's products in 1999. The Company's vendors are selected based on their
ability to reliably meet the Company's production and quality requirements, as
well as their financial strength and willingness to meet the Company's needs on
an ongoing basis.

     The Company receives approximately 81% of its orders through its toll-free
telephone service, which offers customer access seven days per week, 24 hours
per day.

     Telemarketing and Distribution.  Hanover Brands' telemarketing and
distribution needs are provided by erizon pursuant to an intercompany services
agreement. The management information systems used by Hanover Brands are
discussed below. The Company mails its catalogs through the United States Postal
Service ("USPS") utilizing pre-sort, bulk mail and other discounts. Most of the
Company's packages are shipped through the USPS. Overall, catalog mailing and
package shipping costs approximated 16% of the Company's net revenues in 1999.
The USPS has initiated a proposed rate case that would allow for postage rate
increases ranging from 15% for Priority Mail to 1.3% for 4th class mail
effective January 2001. The Company mitigates the impact of postage rate
increases by obtaining rate discounts from the USPS by automatically weighing
each parcel and sorting and trucking packages to a number of USPS drop points
throughout the country. Some packages are shipped using a consolidator for less
frequently used drop points. The Company also utilizes United Parcel Service and
other delivery services. In February 2000, United Parcel Service increased its
ground and air rates by a further 3.1% and 3.5%, respectively. The Company does
not expect the increase to have a material adverse effect on its results of
operations.

ERIZON

     General.  The Company, through erizon, is an end-to-end technology
solutions provider for e-commerce customers. erizon is comprised of the
Company's telemarketing, fulfillment and distribution functions as well as its
proprietary, fully integrated systems platform internally known as Pegasus. That
system is described under "Management Information Systems" below. Other assets
include three warehouse fulfillment centers totaling approximately 1.2 million
square feet, and four telemarketing/e-care centers with over 750 agent
positions. In 1999, erizon introduced real-time, online inventory status, Web
hosting and co-location, a supply chain extranet and installation of new Dell
workstations at the Company's call centers.

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     In addition, erizon is home to Keystone Internet Services, Inc.
("Keystone"), providing back-end e-commerce services to a roster of Internet
players. Keystone's services range from fulfillment and e-care to platform
logistics products. erizon is also home to Desius, LLC, the Company's recently
formed e-commerce software systems and programming Web shop joint venture for
e-commerce applications. erizon also services the logistical, IT and fulfillment
needs of Hanover Brands through an intercompany services agreement.

     Telemarketing.  The Company has created a telephone network to link its
four primary telemarketing facilities in Hanover, Pennsylvania, York,
Pennsylvania, LaCrosse, Wisconsin and San Diego, California. The Company's
telemarketing facilities utilize state-of-the-art telephone switching equipment
which enables the Company to route calls between telemarketing centers and thus
provide prompt customer service. In the fourth quarter of 1999, the Company
entered into a two-year call center services agreement with MCI Worldcom. See
"Hanover Brands -- Purchasing."

     The Company trains its telemarketing service representatives to be
courteous, efficient and knowledgeable about the Company's products and those of
its third party customers. Telemarketing service representatives generally
receive 40 hours of training in selling products, services, systems and
communication skills through simulated as well as actual phone calls. A
substantial portion of the evaluation of telemarketing service representatives'
performance is based on how well the representative meets customer service
standards. While primarily trained with product knowledge to serve customers of
one or more specific catalogs, telemarketing service representatives also
receive cross-training that enables them to take overflow calls from other
catalogs. The Company utilizes customer surveys as an important measure of
customer satisfaction.

     Distribution.  The Company presently operates three distribution centers in
three principal locations: one in Roanoke, Virginia, one in Hanover,
Pennsylvania, and one in LaCrosse, Wisconsin. The Company uses these facilities
to handle merchandise distribution for Hanover Brands as well as its third-party
e-tail clients. See "Properties."

     Management Information Systems.  The Company has successfully converted all
catalogs to its integrated mail order and catalog system operating on its
mid-range computer systems. Additionally, the remaining fulfillment center
migrated to the newly developed warehouse management system. The migration of
the Company's business applications to mid-range computers was an important part
of the Company's overall systems plan which defined the long-term systems and
computing strategy for the Company. The Company modified and installed, on a
catalog by catalog basis, these new integrated systems for use in managing all
phases of the Company's operations. These systems have been designed to meet the
Company's requirements as a high volume publisher of multiple catalogs. The
Company is continuing to devote resources to improving its systems.

     The new software system is an on-line, real-time system which includes
order processing, fulfillment, inventory management, list management and
reporting. The software provides the Company with a flexible system that offers
data manipulation and in-depth reporting capabilities. The new management
information systems are designed to permit the Company to achieve substantial
improvements in the way its financial, merchandising, inventory, telemarketing,
fulfillment and accounting functions are performed. Two catalogs were brought
onto the Company's common systems platform in 1994. The Company brought eight
additional catalogs onto the Company's common systems platform in 1995, one in
1996 and the balance of the catalogs onto the Company's common systems platform
in 1997.

     The Company incurred for Y2K remediation expenditures of $3.8 million to
modify its computer information systems enabling proper processing of
transactions relating to the Year 2000 and beyond. The Company took courses of
corrective action, including replacement of certain systems and contracting with
a consultant to develop contingency plans. The Company contacted vendors and
others on whom it relied to assure that their systems would be timely converted.
Upon the turn of the millennium and subsequent thereto, the Company did not
experience any significant systems malfunctions related to the Year 2000
conversion.

     Keystone Internet Services.  Launched in 1998, Keystone initially serviced
the needs of other direct marketers without back-end fulfillment resources.
Keystone currently offers e-commerce solutions and services to a customer base
of brand name manufacturers and retailers who lack the end-to-end systems needed
to enter e-commerce quickly, easily and affordably.

     Keystone offers its client base of 18 third-party clients as of December
25, 1999 resources needed on the "front-end" ranging from Web site creation and
management to Internet marketing to multi-channel marketing promotions to
structured financing. "Front-end" logistical services provided by Keystone
include telemarketing and e-care. Keystone can take orders off the Web and
answer e-mails as well as handle order processing, credit card transaction
processing, customer database management and systems programming and interface
support. On the "back-end," Keystone offers services including fulfillment,
order management, inventory management and facility management. All this can be
done using the Company's proprietary Pegasus multi-channel, multi-title platform
described above.

     Desius.  In 1999, the Company entered into a 60/40 joint venture with RS
Software (India), Ltd. to provide Web shop services and e-commerce software,
systems and programming. Augmenting the Company's programming services, the
Desius teams, based in Calcutta, India and the United States, together can
provide 24/7 service. The Calcutta based Desius team also provides additional
resources including creative marketing, Web site creation, maintenance and
management. Desius also serves as the outsourcing arm for Keystone clients which
lack resources in these areas.

     Intercompany Services Agreement.  erizon and Hanover Brands, two
wholly-owned subsidiaries of the Company, have entered into an exclusive
intercompany services agreement. Under the intercompany services agreement,
erizon is obligated to provide services to Hanover Brands for (i) fulfillment
services, such as order processing, customer service, warehousing, inventory

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maintenance, shipping and billing; (ii) information technology and Internet
services, such as Web site design, development, hosting, systems administration
and maintenance; and (iii) general and administrative services. The provision of
services is coordinated by designated management teams from erizon and Hanover
Brands and performed in accordance with agreed upon service levels.

     The term of the intercompany services agreement is from December 27, 1998
through December 28, 2002, subject to renewal if the parties agree within twelve
(12) months prior to the expiration of a term. Services to support additional
catalogs, as well as new services, may be added to the contract. If erizon and
Hanover Brands no longer report to the same chief executive officer or similar
officer because of a change of control of erizon, erizon will have a thirty (30)
day exclusive period in which to form an agreement with Hanover Brands regarding
fees, performance standards, and other terms and conditions for additional
catalogs or new services. The intercompany services agreement may be terminated
upon a material breach by either party, nonpayment by Hanover Brands or erizon's
failure to perform, in each case, following an opportunity to cure or the
insolvency of either party. Upon termination for any reason, erizon will provide
reasonable termination assistance to Hanover Brands.

     For provision of the services under the intercompany services agreement,
Hanover Brands periodically will pay erizon fees, and reimburse erizon for
certain out-of-pocket expenses and any taxes, duties or tariffs. If the volume
of transactions exceeds projections, erizon may earn certain incremental fees,
charges and/or other payments.

     Any Web sites created in connection with the agreement will belong to
Hanover Brands. Any proprietary rights in information, data or knowledge
provided by erizon for Hanover Brands under the intercompany services agreement
will be the property of erizon, subject to a non-exclusive, non-transferable
license to Hanover Brands. Generally, each party will retain the right to use
general knowledge, experience and know-how obtained in connection with the
intercompany services agreement. erizon will maintain ownership of all hardware
and software used in performance of the services.

     Under the agreement, each party is obligated to indemnify the other (and
its related entities) from third party claims arising out of infringement of
intellectual property rights; arising out of that party's property, as well as
personal and property damage to employees, agents, subcontractors and business
associates caused by the party or its related entities; and arising out of
certain additional indemnities regarding certain obligations under the
agreement. With certain exceptions, both parties have limited their liability to
the other to direct damages with an aggregate limit. In the event that erizon
and Hanover Brands no longer share a chief executive officer or similar officer,
certain modifications will apply to the dispute resolution and other provisions
of the agreement.

INCUBATOR INVESTMENTS

     In 1999, the Company began to focus on growth via the expansion of its
business portfolio through new Internet-related initiatives. To date, the
Company has focused on taking equity stakes in promising on-line businesses and
taking an active role in their development and technology.

     In 1999, the Company acquired a majority equity interest in Always In
Style, LLC, an interactive service that provides consumers with personalized
style and taste advice and tailored e-commerce merchandise offers. Retailers
participating in the Always In Style retail network are provided with a
ready-made solution and a virtually instantaneous way of adding this
functionality to their Web sites. Always In Style was formally launched in
November 1999.

     In March 2000, the Company acquired a minority equity interest in
I-Behavior, Inc., an on-line data-mining cooperative in which the Company will
serve as an anchor tenant and be joined by other e-tailers, retailers,
catalogers and portals who will contribute quantitative and qualitative consumer
data to the co-op, thereby becoming eligible to make withdrawals of data for
their own marketing programs.

CREDIT MANAGEMENT

     Several of the Company's catalogs, including Domestications, International
Male and Gump's by Mail, offer their own private label credit cards. Prior to
July 1999, the Company had a five year $75 million credit facility with General
Electric Credit Corporation ("GECC") expiring in the year 2000 which provided
for the sale and servicing of accounts receivable originating from the Company's
revolving credit cards. GECC's servicing responsibilities included credit
processing, collections, billing/payment processing, reporting and credit card
issuance. In March 1999, the Company entered into a new three-year account
purchase and credit card marketing and services agreement with Capital One
Services, Inc. and Capital One Bank under which Capital One would provide
services generally of a type provided previously by GECC with respect to the
Company's private label credit card program. Capital One would do this by
purchasing from the Company the existing portfolio of credit card accounts on
terms which would create neither a gain or loss to the Company on the closing
date. During July 1999, the Company entered into a termination agreement with
GECC in regard to its credit facility and closed the Capital One transaction.

FINANCING

     Congress Credit Facility.  The Congress Financial Corporation ("Congress")
credit facility (the "Congress Credit Facility") was comprised of a revolving
line of credit of up to $65 million (the "Congress Credit Facility") and term
loans aggregating $12.5 million (the "Congress Term Note") at December 25, 1999.
The Congress Credit Facility was secured by all assets of the Company and placed
limitations on the incurrence of additional indebtedness. The amount that could
have been borrowed under the Congress Credit Facility was based on percentages
of eligible inventory and accounts receivable as reported to Congress from time
to time. An

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inventory appraisal was completed in March 1997 and the advance rate remained
the same through the balance of 1997. In November 1997, a new inventory
appraisal was completed and advance rates were increased along with other
modifications that increased the Company's availability under the Congress
Credit Facility. At that time, negotiations for the refinancing of the Congress
Revolving Credit Facility commenced. Under the terms of the re-negotiated
Congress Credit Facility, effective March 1998, the facility was extended to
January 31, 2001.

     The Congress revolving credit facility bore interest during 1999 at prime
plus .5% or Eurodollar plus 2.5% and the Congress Term Note bore interest at
prime plus .75% or Eurodollar plus 2.75%. Under the Congress Credit Facility,
the Company was required to maintain minimum net worth and working capital
throughout the term of the agreement. The Company was in compliance with such
covenants at December 25, 1999. At December 25, 1999, the Company had $5.2
million of outstanding borrowings under the Congress revolving credit facility
and $12.5 million outstanding under the Congress Term Note under the Congress
Credit Facility. As of December 26, 1998, the Company had no revolving
indebtedness and $14 million outstanding under the Congress Term Note under the
Congress Credit Facility. At December 25, 1999, availability under the Congress
revolving credit facility was approximately $32.8 million, including cash on
hand. The Congress Credit Facility financial covenant requirements as of
December 25, 1999 were as follows:

<TABLE>
<CAPTION>
  WORKING CAPITAL (AS DEFINED)                                      AMOUNT
  ----------------------------                                  ---------------
  <S>                                                           <C>
  December 1997 and forward...................................  $(10.0) million
                                                                ---------------
</TABLE>

<TABLE>
<CAPTION>
  NET WORTH                                                           AMOUNT
  ---------                                                     -------------------
  <S>                                                           <C>
  June 1997 and thereafter....................................  $      21.5 million
                                                                -------------------
</TABLE>

     On March 24, 2000, the Congress Credit Facility was further amended to
provide for a maximum credit of up to $82,500,000, comprised of a revolving line
of credit facility (the "Revolving Line of Credit"), a letter of credit facility
with a sublimit of $40,000,000, and term loans with an initial principal balance
of $25,035,000. The maximum credit available under the Revolving Line of Credit
is $82,500,000, less the amount of outstanding letters of credit, and less the
outstanding principal balance of the term loans. The Company paid a $1,400,000
closing fee to Congress to secure the amendment of the Congress Credit Facility.
The $25.0 million initial principal term loan balance includes a $17.5 million
Tranche A Term Loan having an eighty-four month term, and a $7.5 million Tranche
B Term Loan having a thirty-six month term.

     The Congress Credit Facility, as amended, is secured by all assets of the
Company and places limitations on the incurrence of additional indebtedness. The
amount that can be borrowed under the amended Congress Credit Facility is based
on percentages of eligible inventory, eligible accounts receivable, eligible
credit card receivables and eligible fulfillment contract receivables as
reported to Congress from time to time. Effective March 24, 2000, the Congress
Credit Facility was extended to January 31, 2004.

     Effective as of March 24, 2000, Revolving Loans will bear interest at prime
plus .5% or Eurodollar plus 2.5%, the Tranche A Term Loans will bear interest at
prime plus .75% or Eurodollar plus 3.5%, and the Tranche B Term Loan will bear
interest at prime plus 4.25%, but in no event less than 13.0%. Under the amended
Congress Credit Facility, the Company will be required to maintain minimum net
worth and working capital throughout the term of the agreement.

     Term Financing Arrangement/Letters of Credit.  During 1994 and 1995, the
Company entered into a term loan agreement with a syndicate of financial
institutions, which provided for borrowings of $20 million (the "Term Financing
Facility"). The Term Financing Facility bore interest based on A-1 commercial
paper rates existing at the time of each borrowing. As of December 25, 1999, the
Company had $16 million of outstanding borrowings under the Term Financing
Facility bearing applicable rates of interest ranging from 5.3% to 6.0%. The
Company was required to make annual principal payments of approximately $1.6
million for each of the next ten years.

     As of December 25, 1999, three letters of credit issued by UBS AG, Stamford
Branch ("UBS"), and guaranteed by Richemont Finance S.A. ("Richemont"),
supported the Term Financing Facility and the Company's Industrial Revenue
Bonds. These letters of credit originated in December 1996, when the Company
finalized its agreement (the "Reimbursement Agreement") with Richemont that
provided the Company with up to approximately $28 million of letters of credit
through Swiss Bank Corporation, New York Branch ("Swiss Bank"). The three
letters of credit were initially to expire on February 18, 1998. In the event
that the Company had not paid in full, by the expiration date of the letters of
credit, any outstanding balances under the letters of credit, Richemont had the
option, exercisable at any time prior to payment in full of all amounts
outstanding under the letters of credit, to convert such amount into Common
Stock of the Company at the mean of the bid and ask prices of the Company's
Common Stock on November 8, 1996, or the mean of the bid and ask prices of the
Company's Common Stock on each of the thirty days immediately prior to the date
of exercise of the conversion privilege. The Reimbursement Agreement was
subordinate to the Congress Credit Facility.

     In November 1997, Richemont definitively agreed to extend its guarantee
under the Reimbursement Agreement to March 30, 1999. The extension required the
approval of Congress and Swiss Bank, which approvals were obtained in February
1998, and was subject to certain other conditions. On February 18, 1998, the
extension of the Richemont guarantee and the closing of this transaction were
consummated. Accordingly, the expiration dates of two of the letters of credit
were extended through March 30, 1999, and the letters of credit were amended to
reflect the assignment of all obligations thereon from Swiss Bank, New York
Branch to Swiss Bank, Stamford Branch. A substitute letter of credit having an
expiration date of March 30, 1999 was issued to replace the third letter of
credit.

                                        6
<PAGE>   9

     In the first quarter of 1999, Richemont extended its guarantee under the
Reimbursement Agreement to March 31, 2000. As consideration for this
transaction, the Company paid to Richemont a fee of 9.5% of the principal amount
of each letter of credit including a facility fee of $500,000. The extension
required the approval of Congress and UBS (the successor to Swiss Bank
Corporation, Stamford Branch), which approvals were obtained in March 1999, and
was subject to certain other conditions. During March 1999, the extension of the
Richemont guarantee and the closing of this transaction were consummated.
Accordingly, the expiration dates of the three letters of credit were extended
through March 31, 2000.

     The Company has not extended or renewed the UBS letters of credit
supporting the Term Financing Facility and the Industrial Revenue Bonds, and,
accordingly, the $16 million of outstanding borrowings under the Term Financing
Facility and the $8 million of outstanding borrowings under the Industrial
Revenue Bonds were required to be redeemed. On March 24, 2000, the Trustees
under the Term Financing Facility and the Industrial Revenue Bonds made drawings
under the UBS letters of credit, and used the proceeds of the drawings to redeem
the Term Financing Facility and the Industrial Revenue Bonds. The Company
borrowed approximately $24 million under the Congress Credit Facility on March
24, 2000 to reimburse UBS for the drawings on these letters of credit. As a
result, both the Term Financing Facility and the Industrial Revenue Bonds have
been paid in full, and the Company has also paid all amounts payable to UBS and
Richemont relating to the letters of credit.

     Richemont Facility.  On March 1, 2000, the Company negotiated a new
$25,000,000 unsecured line of credit (the "Richemont $25,000,000 Line of
Credit") with Richemont. Borrowings under the Richemont $25,000,000 Line of
Credit bear interest at a rate of 0.583% per month (an annualized rate of 7.0%)
on the average monthly balance outstanding. In addition, the Company will pay
Richemont a monthly fee of $62,500 each month from March 1, 2000 to the Maturity
Date. The Richemont $25,000,000 Line of Credit will mature on the earlier of
December 30, 2000 and the date on which Richemont makes an equity infusion in
the Company or any of the Company's subsidiaries (such earlier date, the
"Maturity Date."). As of March 24, 2000, there were $5 million of borrowings
outstanding under the Richemont $25,000,000 Line of Credit.

     In addition, on March 24, 2000 the Company entered into a new $10,000,000
unsecured line of credit (the "Richemont $10,000,000 Line of Credit") with
Richemont. Borrowings under the Richemont $10,000,000 Line of Credit bear
interest at a rate of 0.125% per month (an annualized rate of 1.5%) on the
average monthly balance outstanding. In addition, the Company will pay Richemont
a monthly facility fee of $79,200 each month during the term of the Richemont
$10,000,000 Line of Credit. The maximum amount available to be drawn under the
Richemont $10,000,000 Line of Credit (the "Maximum Amount") was initially
$10,000,000 and will be reduced on a dollar-for-dollar basis for each dollar of
equity contributed to the Company or any of its subsidiaries after March 24,
2000 by Richemont or any subsidiary or affiliate of Richemont. If the excess
availability under the Congress Credit Facility is less than $3,000,000, the
Company will be required to borrow under the Richemont $10,000,000 Line of
Credit, and pay to Congress an amount such that the excess availability under
the Congress Credit Facility after such payment will be at least $3,000,000. The
Company may also borrow up to $5.0 million under the Richemont $10,000,000 Line
of Credit to pay trade creditors in the ordinary course of business. The
Richemont $10,000,000 Line of Credit will remain in place until the Congress
Credit Facility is terminated or the Maximum Credit is reduced to zero. As of
March 24, 2000, there were no borrowings outstanding under the Richemont
$10,000,000 Line of Credit.

     1997 Rights Offering.  The Company commenced a $50 million rights offering
(the "1997 Rights Offering") on April 29, 1997. Holders of record of the
Company's Common Stock, par value $.66 2/3 per share (the "Common Stock"), and
Series B Convertible Additional Preferred Stock, par value $.01 and stated value
$10.00 per share (the "Series B Preferred"), as of April 28, 1997, the record
date, were eligible to participate in the 1997 Rights Offering. The rights were
exercisable at a price of $.90 per share. Shareholders received .38 rights for
each share of Common Stock held and .57 rights for each share of Series B
Preferred held as of the record date. The 1997 Rights Offering expired on May
30, 1997, with 55,654,623 rights to purchase shares exercised, and it closed on
June 6, 1997.

     Richemont Finance entered into a standby purchase agreement (the "Richemont
Standby Purchase Agreement") to purchase all shares not subscribed to by
shareholders of record at the subscription price. Richemont Finance purchased
40,687,970 shares in the 1997 Rights Offering and, as a result, then owned
approximately 20.3% of the Company. The Company paid in cash, from the proceeds
of the 1997 Rights Offering, to Richemont Finance on the closing date
approximately $1.8 million which represented an amount equal to 1% of the
aggregate offering price of the aggregate number of shares issuable upon closing
of the 1997 Rights Offering other than with respect to the shares of Common
Stock held by North American Resources Limited ("NAR") or its affiliates plus an
amount equal to one-half of one percent of the aggregate number of shares
acquired by NAR upon exercise of their rights (Standby Fee) plus an amount equal
to 4% of the aggregate offering price in respect to all unsubscribed shares
(Take-Up Fee). In connection with the entering of the Richemont Standby Purchase
Agreement, the Company named two Richemont representatives, Messrs. Jan P. du
Plessis and Howard M.S. Tanner, to its Board of Directors.

     On April 26, 1997, NAR irrevocably agreed with the Company, subject to and
upon the consummation of the 1997 Rights Offering, to exercise certain of the
rights distributed to it for the purchase of 11,111,111 shares of Common Stock
that had an aggregate purchase price of approximately $10 million. NAR agreed to
pay for and the Company agreed to accept as payment for the exercise of such
rights the surrender by NAR of the principal amount due under a subordinated
promissory note dated September 1996 due by the Company to Intercontinental
Mining & Resources Incorporated, an affiliate of NAR ("IMR"), in the principal
amount of $10 million the ("IMR Promissory Note") and cancellation thereof.

                                        7
<PAGE>   10

     In order to facilitate vendor shipments and to permit the commencement of
the Company's plan to consolidate certain of its warehouse facilities, Richemont
advanced $30 million as of April 23 1997 against its commitment to purchase all
of the unsubscribed shares pursuant to the Richemont Standby Purchase Agreement.
The Company then executed a subordinated promissory note in the amount of $30
million to evidence this indebtedness (the "Richemont Promissory Note") which
was repaid out of the proceeds of the 1997 Rights Offering.

     The Company issued 55,654,623 shares as a result of the 1997 Rights
Offering which generated gross cash proceeds of approximately $40 million (after
giving effect to the acquisition and exercise by NAR of rights having an
aggregate purchase price of $10 million which were paid for by the surrender and
cancellation of the IMR Promissory Note). The proceeds of the 1997 Rights
Offering were used by the Company: (i) to repay the $30 million principal amount
outstanding under the Richemont Promissory Note, and (ii) for working capital
and general corporate purposes including repayment of amounts outstanding under
the Credit Facility with Congress.

ADDITIONAL INVESTMENTS

     In November 1997, SMALLCAP World Fund, Inc. ("SMALLCAP"), a mutual fund and
substantial investor in the Company, agreed to purchase 3.7 million shares of
the Company's Common Stock at $1.41 per share for an aggregate purchase price of
approximately $5.2 million in a private placement. This transaction was
consummated on November 6, 1997. These shares were restricted and were
subsequently registered under the Securities Act of 1933, as amended, pursuant
to a registration rights agreement with SMALLCAP that called for the Company to
use its best efforts to effect the registration of such shares as soon as
practicable after April 1, 1998.

     On July 31, 1998, Richemont acquired 5,646,490 additional shares of Common
Stock of the Company pursuant to the exercise of certain common stock purchase
warrants with exercise prices from $1.95 to $2.95 per share and an aggregate
total exercise price of $13.6 million. The Company used the proceeds of the
warrant exercise to reduce the amounts outstanding under the Congress Credit
Facility.

EMPLOYEES

     As of December 25, 1999 the Company employed approximately 3,000 people on
a full-time basis and approximately 1,300 people on a part-time basis. The
number of part-time employees at December 25, 1999 reflects a temporary increase
in headcount necessary to fill the seasonal increase in orders during the
holiday season.

SEASONALITY

     The revenues and business for both Hanover Brands and erizon are seasonal.
Hanover Brands processes and ships more catalog orders during the holiday season
than in any other portion of the year. Many of erizon's e-tail clients
experience similar seasonal trends resulting in increased order processing
during the holiday season. Accordingly, the Company, taken as a whole,
recognizes a disproportionate share of annual revenue during the last three
months of the year.

COMPETITION

     The Company believes that the principal bases upon which it competes in the
Hanover Brands business are quality, value, service, proprietary product
offerings, catalog design, convenience, speed and efficiency. The Company's
catalogs compete with other mail order catalogs, both specialty and general, and
retail stores, including department stores, specialty stores and discount
stores. Competitors also exist in each of the Company's catalog specialty areas
of women's apparel, home fashions, general merchandise, men's apparel and gifts.
A number of the Company's competitors have substantially greater financial,
distribution and marketing resources than the Company.

     The Company is maintaining an active commerce-enabled Internet Web site
presence for all of its catalogs. A substantial number of each of the Company's
catalog competitors maintain an active commerce-enabled Internet Web site
presence as well. A number of such competitors have substantially greater
financial, distribution and marketing resources than the Company. Sales from the
Internet for Web site merchandisers have grown in 1999. The Company believes
strongly in the future of the Internet and online commerce, including the
breakneck speed at which marketing opportunities are evolving in this medium,
and has adjusted its marketing focus, resources, and manpower to that end.

     The Company believes that the principal bases upon which it competes in the
erizon business are value, service, flexibility, scalability, convenience and
efficiency. The Company's third party fulfillment business competes with
Fingerhut Companies, Inc., PSF Web, Inc., ASD Systems, Inc. and SubmitOrder.com,
amongst others. A number of the Company's competitors have substantially greater
financial, distribution and marketing resources than the Company.

TRADEMARKS

     Each of the Company's catalogs has its own federally registered trademarks
which are owned by Hanover Brands. Hanover Brands also owns numerous trademarks,
copyrights and service marks on its subsidiary's logos, products and catalog
offerings. erizon

                                        8
<PAGE>   11

has federally registered trademarks which are used by its subsidiaries. The
Company has also protected various trademarks internationally. The Company
vigorously protects such marks and believes there is substantial goodwill
associated with them.

GOVERNMENT REGULATION

     The Company is subject to Federal Trade Commission regulations governing
its advertising and trade practices, Consumer Product Safety Commission and Food
and Drug Administration regulations governing the safety of the products it
sells in its catalogs and other regulations relating to the sale of merchandise
to its customers. The Company is also subject to the Department of
Treasury-Customs regulations with respect to any goods it directly imports.

     The imposition of a sales and use tax collection obligation on out-of-state
catalog companies in states to which they ship products was the subject of a
case decided in 1994 by the United States Supreme Court. While the Court
reaffirmed an earlier decision that allowed direct marketers to make sales into
states where they do not have a physical presence without collecting sales taxes
with respect to such sales, the Court further noted that Congress has the power
to change this law. The Company believes that it collects sales tax in all
jurisdictions where it is currently required to do so.

ITEM 2.  PROPERTIES

  Hanover Brands:

     The Company's business-to-consumer subsidiary owns and operates a 150,000
square foot home fashion manufacturing facility located in LaCrosse, Wisconsin.
The facility produces down-filled comforters for sale under "The Company Store"
and "Turiya" brand names. In addition, the Company leases the following
properties:

     - A 84,700 square foot corporate headquarters and administrative office
       located in Weehawken, New Jersey under a 15 year lease expiring in April
       2005, and

     - 14 retail and outlet stores located in California, Ohio, Pennsylvania and
       Wisconsin.

erizon:

     The Company's business-to-business subsidiary owns and operates the
following properties:

     - A 770,000 square foot warehouse and fulfillment center in Roanoke,
       Virginia, which was expanded during fiscal 1999 by 137,000 square feet to
       accommodate the increase in clients for the Company's end to end
       e-commerce services,

     - A 277,500 square foot warehouse and fulfillment center located in
       Hanover, Pennsylvania, and

     - A 58,000 square foot telemarketing facility in Lacrosse, Wisconsin.

     In addition, the Company leases the following properties:

     - A 185,000 square foot warehouse and fulfillment center located in
       Lacrosse, Wisconsin under a 13 year lease expiring in December 2001, and

     - A 123,000 square foot telemarketing and customer service facility located
       in Hanover, Pennsylvania, under a recently renewed 3-year lease term
       expiring in January 2003.

     Additionally, the Company utilizes temporary storage facilities ranging in
size between 40,000 and 90,000 square feet to house merchandise during the
holiday selling period and leases two additional satellite telemarketing
facilities in York, Pennsylvania and San Diego, California.

ITEM 3.  LEGAL PROCEEDINGS

     A class action lawsuit was commenced on March 3, 2000 entitled Edwin L.
Martin v. Hanover Direct, Inc. and John Does 1 through 10, bearing case no.
CJ2000-177 in the State Court of Oklahoma (District Court in and for Sequoyah
County). Plaintiff commenced the action on behalf of himself and a class of
persons who have at any time purchased a product from the Company and paid for
an "insurance charge." The complaint sets forth claims for breach of contract,
unjust enrichment, recovery of money paid absent consideration, fraud and a
claim under the New Jersey Consumer Fraud Act. The complaint alleges that the
Company charges its customers for delivery insurance even though, among other
things, the Company's common carriers already provide insurance and the
insurance charge provides no benefit to the Company's customers. Plaintiff also
seeks a declaratory judgment as to the validity of the delivery insurance. The
damages sought are (i) an order directing the Company to return to plaintiff and
class members the "unlawful revenue" derived from the insurance charges, (ii)
declaring the rights of the parties, (iii) permanently enjoining the Company
from imposing the insurance charge, (iv) awarding threefold damages of less than
$75,000 per plaintiff and per class member, and (v) attorneys' fees and costs.
The Company has not yet been required to file an answer to the complaint.

     At the end of January 2000, the Company received a letter from the Federal
Trade Commission ("FTC") conducting an inquiry into the marketing of The
Shopper's Edge club to determine whether, in connection with such marketing, any
entities have engaged in (1) unfair or deceptive acts or practices in violation
of Section 5 of the FTC Act and/or (2) deceptive or abusive telemarketing acts
or practices in violation of the FTC's Telemarketing Sales Rule. The inquiry was
undertaken pursuant to the provisions of

                                        9
<PAGE>   12

Sections 6, 9, and 10 of the FTC Act. Following such an investigation, the FTC
may initiate an enforcement action if it finds "reason to believe" that the law
is being violated. When there is "reason to believe" that a law violation has
occurred, the FTC may issue a complaint setting forth its charges. If the
respondent elects to settle the charges, it may sign a consent agreement
(without admitting liability) by which it consents to entry of a final order and
waives all right to judicial review. If the FTC accepts such a proposed consent,
it places the order on the record for sixty days of public comment before
determining whether to make the order final. The Company believes that it
complied with all enumerated aspects of the investigation. It has not received
notice of an enforcement action or a complaint against it.

     In addition, the Company is involved in various routine lawsuits of a
nature which are deemed customary and incidental to its businesses. In the
opinion of management, the ultimate disposition of these actions will not have a
material adverse effect on the Company's financial position or results of
operations.

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

     None.

                                    PART II

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

     The Company's Common Stock trades on the American Stock Exchange under the
symbol "HNV". The following table sets forth, for the periods shown, the high
and low sale prices of the Company's Common Stock as reported on the American
Stock Exchange Composite Tape. As of March 17, 2000, there were 213,308,946
shares outstanding and approximately 3,850 holders of record of Common Stock.

<TABLE>
<CAPTION>
                                                               HIGH      LOW
                                                              ------    ------
<S>                                                           <C>       <C>
FISCAL 1999
  First Quarter (Dec. 27, 1998 to March 27, 1999)...........  $3.813    $2.125
  Second Quarter (March 28, 1999 to June 26, 1999)..........   3.188     2.250
  Third Quarter (June 27, 1999 to Sept. 25, 1999)...........   3.000     1.563
  Fourth Quarter (Sept. 26, 1999 to Dec. 25, 1999)..........   3.875     1.875
FISCAL 1998
  First Quarter (Dec. 28, 1997 to March 28, 1998)...........  $3.500    $2.375
  Second Quarter (March 29, 1998 to June 27, 1998)..........   3.625     2.688
  Third Quarter (June 28, 1998 to Sept. 26, 1998)...........   3.438     2.563
  Fourth Quarter (Sept. 27, 1998 to Dec. 26, 1998)..........   3.438     1.938
</TABLE>

     The Company is restricted from paying dividends on its Common Stock or from
acquiring its capital stock by certain debt covenants contained in agreements to
which the Company is a party.

                                       10
<PAGE>   13

ITEM 6.  SELECTED FINANCIAL DATA

     The following table presents selected financial data for each of the fiscal
years indicated:

<TABLE>
<CAPTION>
                                                          1999        1998        1997        1996         1995
                                                        --------    --------    --------    ---------    --------
                                                            (IN THOUSANDS OF DOLLARS, EXCEPT PER SHARE DATA)
<S>                                                     <C>         <C>         <C>         <C>          <C>
INCOME STATEMENT DATA:
  Net Revenues........................................  $549,852    $546,114    $557,638    $ 700,314    $749,767
  Special charges (credit)............................       144        (485)     (2,209)      36,724       1,563
  (Loss) from operations..............................   (13,756)    (16,807)     (1,849)     (94,497)    (22,619)
  (Gain) on sale of The Shopper's Edge................    (4,343)         --          --           --          --
  (Gain) on sale of Austad's..........................      (967)         --          --           --          --
  (Loss) before interest and taxes....................    (8,446)    (16,807)     (1,849)     (94,497)    (22,619)
  Interest expense, net...............................     7,338       7,778       8,028        8,398       4,531
  Net (loss) before extraordinary items...............   (16,314)    (25,585)    (10,876)    (103,895)    (28,153)
  Extraordinary items.................................        --          --          --       (1,134)     (1,837)
                                                        --------    --------    --------    ---------    --------
  Net (loss)..........................................   (16,314)    (25,585)    (10,876)    (105,029)    (29,990)
  Preferred stock dividends...........................       634         578         190          225         240
                                                        --------    --------    --------    ---------    --------
  Net (loss) applicable to common stockholders........  $(16,948)   $(26,163)   $(11,066)   $(105,254)   $(30,230)
                                                        --------    --------    --------    ---------    --------
PER SHARE:
  Net (loss) before Extraordinary items...............  $   (.08)   $   (.13)   $   (.06)   $    (.93)   $   (.30)
  Extraordinary items.................................  $     --    $     --    $     --    $    (.01)   $   (.02)
                                                        --------    --------    --------    ---------    --------
  Net (loss)- basic and diluted.......................  $   (.08)   $   (.13)   $   (.06)   $    (.94)   $   (.32)
                                                        --------    --------    --------    ---------    --------
WEIGHTED AVERAGE NUMBER OF SHARES OUTSTANDING
  (THOUSANDS):
  Basic...............................................   210,719     206,508     176,621      111,441      93,030
                                                        --------    --------    --------    ---------    --------
  Diluted.............................................   210,719     206,508     176,621      111,441      93,030
                                                        --------    --------    --------    ---------    --------
BALANCE SHEET DATA (END OF PERIOD):
  Working capital (deficit) (1).......................  $ 17,990    $ 43,929    $ 47,570    $  (1,507)   $ 28,774
  Total assets........................................   191,419     218,870     230,299      220,827     279,009
  Total debt (1)......................................    42,835      58,859      59,958       65,189      62,802
  Shareholders' equity................................    53,865      66,470      75,551       31,740      87,210
                                                        --------    --------    --------    ---------    --------
</TABLE>

---------------
(1) The amounts for 1998 and 1997 include both a receivable and an obligation
    under receivables financing of $18,998 and $21,918, respectively, pursuant
    to SFAS No. 125.

     There were no cash dividends declared on the Common Stock in any of the
periods presented.

                See notes to consolidated financial statements.
                                       11
<PAGE>   14

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

     The following table sets forth, for the fiscal years indicated, the
percentage relationship to revenues of certain items in the Company's
Consolidated Statements of Income (Loss):

<TABLE>
<CAPTION>
                                                                    FISCAL YEAR
                                                              -----------------------
                                                              1999     1998     1997
                                                              -----    -----    -----
<S>                                                           <C>      <C>      <C>
Net Revenues................................................  100.0%   100.0%   100.0%
Cost of sales and operating expenses........................   63.7     62.9     64.2
Write-down of inventory of discontinued catalogs
  (recovery)................................................   (0.3)     0.7       --
Special charges (credit)....................................     --     (0.1)    (0.4)
Selling expenses............................................   24.8     27.3     25.3
General and administrative expenses.........................   12.5     10.6      9.7
Depreciation and amortization...............................    1.7      1.7      1.5
(Gain) on sale of The Shopper's Edge........................   (0.7)      --       --
(Gain) on sale of Austad's..................................   (0.2)      --       --
(Loss) before interest and taxes............................   (1.5)    (3.1)    (0.3)
Interest expense, net.......................................    1.3      1.4      1.4
Net (loss)..................................................   (3.0)%   (4.8)%   (2.0)%
</TABLE>

RESULTS OF OPERATIONS

  1999 Compared with 1998

     Net (Loss).  The Company reported a net loss of $16.3 million or ($.08) per
common share for fiscal year 1999 compared with a net loss of $25.6 million or
($.13) per common share for fiscal year 1998. Per share amounts are expressed
after deducting preferred dividends of $0.6 million in both 1999 and 1998,
respectively. The weighted average number of shares outstanding was 210,718,546
for fiscal year 1999 compared to 206,508,110 for fiscal year 1998. The increase
in weighted average shares outstanding is due to the exercise of common stock
purchase warrants by Richemont Finance S.A. in July 1998 and the exercise of
stock options in 1998 and 1999.

     Compared to the comparable period last year, the $9.3 million decrease in
net loss was primarily due to:

           (i) higher demand for the Company's core catalog offerings;

           (ii) the 1999 gain on sale of The Shopper's Edge of $4.3 million;

          (iii) 1998 losses from non-core catalogs, which were discontinued or
     repositioned during 1999;

          (iv) 1998 charges of approximately $5.9 million relating to the
               discontinuance or repositioning of the Company's non-core
               catalogs; $3.7 million related to write-down of inventory ($1.9
               million of which was reversed in 1999) and $2.2 million related
               to write-off of prepaid catalog costs; and

           (v) gain on sale of the non-core Austad's catalog of $1.0 million

     partially offset by,

           (i) 1999 losses resulting from the Company's e-commerce related
     strategic initiatives; and

           (ii) higher personnel related expenses.

     Revenues.  Revenues increased $3.8 million (0.7%) to $549.9 million for
fiscal year 1999 from $546.1 million for fiscal year 1998. This increase was
primarily due to higher demand for the Company's core catalog offerings and
revenues from the expansion of the Company's third party business-to-business
("B-to-B") e-commerce services operation partly offset by lower demand from the
Company's non-core catalogs. Revenues from core catalogs increased by $18.6
million (3.8%) while revenues from non-core catalogs decreased by $29.7 million
(60.9%). The Company circulated 235 million catalogs during fiscal year 1999
versus 242 million catalogs during fiscal year 1998 reflecting the
discontinuance or repositioning of the Company's non-core catalogs. Circulation
of the Company's core catalogs increased approximately 6.0% during fiscal year
1999. The number of customers having made a purchase from the Company's catalogs
during fiscal year 1999 remained at approximately 4 million, consistent with
fiscal year 1998.

     Fiscal year 1999 revenues of $14.9 million resulted from the expansion of
the Company's B-to-B e-commerce services operation, which provided Internet
order processing, customer care, and shipping and distribution services to third
party clients primarily during the 4th quarter. Third party B-to-B e-commerce
service revenues for fiscal 1998 was approximately $2.1 million.

     Cost of Sales and Operating Expenses.  Cost of sales and operating expenses
increased by $6.9 million (2.0%) from fiscal year 1998. This increase includes
higher order processing, distribution and systems development costs related to
the expansion of the Company's B-to-B e-commerce services operation.
Furthermore, additional personnel related costs, which include temporary
increases in headcount, were incurred in order to fill the seasonal increase in
Internet orders during the holiday period. These cost

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<PAGE>   15

increases along with demand related increases in cost of merchandise sold from
the Company's core catalogs were partly offset by cost decreases resulting from
the discontinuance or repositioning of the Company's under-performing non-core
catalogs.

     Selling Expenses.  Selling expenses decreased by $12.2 million (8.2%) from
fiscal year 1998. This reflects a $13.6 million decrease in expenses (including
a $2.2 million charge in 1998 for the write-down of certain non-core catalog
prepaid assets) resulting from the discontinuance or repositioning of the
Company's non-core catalogs. Selling expenses related to the Company's core
catalogs increased by $1.4 million (1.0%) due to an increase in circulation
during 1999 partly offset by lower name list rental and catalog production
costs.

     General and Administrative Expenses.  General and administrative expenses
increased by $11.0 million (19.1%) from fiscal year 1998. This increase is
primarily due to higher professional fees and Internet advertising costs related
to the Company's e-commerce strategic initiatives, and higher personnel related
expenses.

     Depreciation and Amortization.  Depreciation and amortization decreased by
$0.1 million (1.0%) from fiscal year 1998.

     (Loss) before Interest and Taxes.  The Company's loss before interest and
taxes decreased by $8.4 million to $8.4 million in fiscal 1999 from a loss of
$16.8 million in fiscal 1998. Beginning in 1999, the Company's results are
comprised of the following segments:

     - Direct Commerce:  Income before interest and taxes increased by $23.1
       million primarily due to higher demand for the Company's core catalog
       offerings, the gain on sale of The Shopper's Edge ($4.3 million), 1998
       losses from the Company's non-core catalogs, 1998 charges related to the
       discontinuance of non-core catalogs ($5.9 million, of which $1.9 million
       was reversed during 1999), and the gain on sale of Austads ($1.0
       million). This was partially offset by the cost of the Company's catalog
       related e-commerce strategic initiatives (primarily Internet advertising
       costs) and higher personnel related expenses.

     - Business-to-Business ("B-to-B") Services:  Loss before interest and taxes
       increased by $15.2 million primarily due to 1999 losses related to the
       expansion of the Company's third party B-to-B e-commerce services
       operation, higher professional fees resulting from the separation of the
       Company's direct commerce/ B-to-B services operations, and higher
       personnel related expenses. These results reflect overhead costs incurred
       by the Company throughout fiscal 1999 to systematize the infrastructure
       in order to service the expected increase in third party Internet
       customers, which were brought online primarily during the second half of
       the year.

     Interest Expense, Net.  Interest expense, net decreased by $0.4 million to
$7.3 million in 1999 due to lower average borrowings outstanding during 1999.

     Income Taxes.  The Company did not record a Federal income tax provision in
1999 or 1998 due to net operating losses incurred during both years. The
Company's state tax provision was $0.5 million and $1.0 million for fiscal 1999
and 1998, respectively.

     Shareholders' Equity.  The number of shares of Common Stock outstanding
increased by 439,574 during 1999 primarily due to shares issued in connection
with the Company's stock option plans. At December 25, 1999, there were
210,866,959 shares of Common Stock outstanding compared to 210,427,385 shares of
Common Stock outstanding at December 26, 1998.

     In February 2000, the Company's Series B Convertible Preferred Stock
("Series B Stock") was redeemed via the issuance of 2,193,317 shares of the
Company's common stock. Weighted average common shares outstanding as of
December 25, 1999 would have been 212,911,863 versus a reported 210,718,546,
assuming conversion of the Series B Stock at the beginning of 1999. Reported
quarterly and total year 1999 net (loss) per common share amounts would not have
been affected by the pro-forma increase in weighted average common shares
outstanding.

     The Shopper's Edge.  In March 1999, the Company, through a newly formed
subsidiary, started up and promoted a discount buyers club to consumers known as
"The Shopper's Edge". In exchange for an up-front membership fee, The Shopper's
Edge program enables members to purchase a wide assortment of merchandise at
discounts which are not available through traditional retail channels.
Initially, prospective members participate in a 45-day trial period that, unless
canceled, is automatically converted into a full membership term which is one
year in duration. Memberships are automatically renewed at the end of each term
unless canceled by the member.

     During 1999, primarily as a result of timing of revenue and expense
recognition, The Shopper's Edge subsidiary incurred losses of $4.3 million
reflecting both cash payments and outstanding liabilities to the Company of $3.3
million and $1.0 million, respectively. The Company's operating results reflect
$0.1 million of net losses after the elimination of these intercompany
transactions. The Company recorded membership fee revenue as well as an
allowance for estimated cancellations on a straight-line basis over the one-
year membership term, which commenced immediately following the expiration of
the initial 45-day trial period. Costs tied to acceptances such as commissions
paid to service providers as well as membership servicing and transaction
processing expenses were deferred and expensed as membership fee revenue was
recognized. All other costs, including membership kits and postage, were
expensed as incurred. Under the terms of the program, the Company was entitled
to periodic withdrawals of funds provided by up-front membership fees. These
withdrawals, however, were subject to contractual limitations as The Shopper's
Edge subsidiary was required to maintain adequate cash balances to fund
estimated membership reimbursements resulting from cancellations. Accordingly,
funds retained within The Shopper's Edge subsidiary were reported as "restricted
cash" in the Company's balance sheet during 1999. If membership reimbursements
due to cancellations exceeded the amount of funds retained by The Shopper's Edge
subsidiary, the Company was liable to cover the shortfall.

     Effective December 1999, the Company sold its interest in The Shopper's
Edge subsidiary to an unrelated third party for a nominal fair value based upon
an independent appraisal. At the time of the sale, the liabilities of the
subsidiary exceeded the assets by

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<PAGE>   16

$4.3 million resulting in a gain on sale to the Company of $4.3 million. The
gain represented the portion of deferred income of The Shopper's Edge that the
Company received in the form of withdrawals discussed above which, in accordance
with the Company's revenue recognition policy for memberships, would not have
been earned until the completion of the membership term. The deferred income was
recognized immediately upon the sale and has been reflected as a gain on sale in
the accompanying consolidated statement of income (loss) for the year ended
December 25, 1999. There are no conditions or obligations to the Company to
refund any portion of the cash withdrawals received prior to the sale. The
Company entered into a solicitation services agreement with the purchaser
whereby the Company will provide solicitation services for the program, and will
receive commissions for member acceptances based on a fixed fee per member
basis, adjusted for cancellation rates on a prospective basis. Membership
revenue earned during the fiscal year ended December 25, 1999 was $3.9 million,
which is included in revenues in the accompanying consolidated statement of
income (loss). Had the new solicitation services agreement been in place for
fiscal 1999, net revenues on a pro-forma basis would have increased by $1.4
million reflecting the inclusion of $5.3 million of fee revenue for solicitation
services provided versus $3.9 million of recorded membership fee revenue under
the old agreement. Furthermore, on a pro-forma basis, the Company's loss from
operations would have decreased by $5.4 million to $(8.4) million.

  1998 Compared with 1997

     Net (Loss).  The Company reported a net loss of $25.6 million, or $(.13)
per common share, compared with a net loss of $10.9 million, or ($.06) per
common share, for 1997. Per share amounts are expressed after deducting
preferred dividends of $0.6 million and $0.2 million in 1998 and 1997,
respectively. The weighted average number of shares outstanding was 206,508,110
for the year ended December 26, 1998 compared to 176,621,080 in 1997. The
increase in weighted average shares outstanding is primarily due to a rights
offering completed in June 1997.

     The higher loss in fiscal 1998 is attributed to:

           (i) a $3.7 million charge for the writedown of non core catalog
               inventory as well as a $2.2 million charge for other costs
               associated with plans to discontinue certain under performing
               company catalog brands

           (ii) higher promotional activity primarily in the fourth quarter

          (iii) costs related to new business initiatives

          (iv) higher selling expenses due to increased promotional activity and
               more competitive mailings in advance of the 1999 postal rate
               increase

           (v) the 1997 special credit which exceeded the amount recorded in
               1998 by $1.7 million

          (vi) 1997 income from the partial recovery of previously written-off
               investment securities amounting to $1.3 million

     partially offset by,

           (i) improved gross margins from reductions in the cost of merchandise
               resulting from the benefits of improved purchase strategies and
               efficiencies in inventory management for the core catalog brands,
               as well as the positive impact of upsell promotions

           (ii) reduced distribution costs resulting from the completion of the
                consolidation of distribution activities into the Company's
                Roanoke, Virginia facility.

     Revenues.  Revenues decreased in 1998 to $546.1 million from $557.6 million
in 1997, primarily as a result of the under performing (non core) catalog brands
(Tweeds, Austad's and Colonial Garden Kitchens), partially offset by revenue
growth in other brands and the impact of upsell promotions. The Company's
revenues for 1998 for the core catalog brands increased 3% over 1997.

     Catalog circulation decreased to 242 million in 1998 from 244 million in
1997.

     Operating Costs and Expenses.  Cost of sales and operating expenses, which
include fulfillment and telemarketing costs, decreased by $14.7 million from
1997. This decrease was the result of a reduction in catalog sales and reduced
merchandise costs as the Company's margins were enhanced by improved product
sourcing and merchandise mix as well as continued improvement in telemarketing
and fulfillment costs. Additionally, the Company attained inventory management
efficiencies resulting in improved order fill rates, lower product delivery
costs and lower backorder levels.

     Selling Expenses.  Selling expenses increased $7.4 million in 1998 as a
result of the increased utilization of name list rentals, additional catalog
production costs and new marketing initiatives, partially offset by the benefit
of reduced, more targeted circulation strategies. These expenses also include
$2.2 million of charges related to the aforementioned discontinuance of certain
under performing company catalog brands.

     General and Administrative Expenses.  General and administrative expenses
increased $4.0 million in 1998 primarily due to an increase in spending to
support growth initiatives, including electronic commerce, as well as the impact
of an offset to general and administrative expenses ($1.3 million of income)
recorded in 1997 as a result of asset distributions made to the Company relating
to previously written-off investment securities.

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<PAGE>   17

     The operating results for 1998 and 1997 include benefits of $0.5 million
and $2.2 million, respectively, relating to the reversal of a portion of the
restructuring charges that were recorded in 1996. The 1998 reversal related to
the Company's decision to remain in its Hanover, Pa. fulfillment center. The
1997 reversal related primarily to the Company's decision to remain in its
Weehawken corporate facility.

     Depreciation and Amortization.  Depreciation and amortization increased
$1.3 million in 1998 resulting from fixed asset additions associated with the
improvements in the distribution center in Roanoke, Virginia.

     (Loss) from Operations. The Company's loss from operations increased $15.0
million to $16.8 million in 1998 from a loss of $1.8 million in 1997. As
discussed above, the 1998 operating results include $5.9 million in charges
related to discontinuing certain non core catalog brands as the Company focuses
on building brands with a strong core customer base. The operating results also
include infrastructure costs related to the Company's e-commerce initiatives.
The operating results for 1998 and 1997 include a $0.5 and $2.2 million credit,
respectively, relating to the reversal of a portion of the restructuring charges
that were recorded in 1996.

     Interest Expense, Net.  Interest expense, net decreased $0.2 million to
$7.8 million in 1998 from $8.0 million in 1997. This improvement was primarily
due to lower interest rates and lower amortization of capitalized debt costs.

     Income Taxes.  The Company did not record a Federal income tax provision in
1998 or 1997 based on each years' net operating losses. The Company's state tax
provision was $1.0 million in 1998 and 1997.

     Shareholders' Equity.  The number of shares of Common Stock outstanding
increased by 6,672,063 in 1998 due to 5.6 million shares issued in connection
with the exercise of certain common stock purchase warrants, its equity and
incentive plans, and other activities. At December 26, 1998, there were
210,427,385 shares of Common Stock outstanding compared to 203,755,322 shares of
Common Stock outstanding at December 27, 1997.

LIQUIDITY AND CAPITAL RESOURCES

     Net cash used in operations:  During 1999, net cash used by operating
activities was $6.7 million. This was primarily due to higher accounts
receivable attributable to the 1999 addition of several third party clients for
the Company's B-to-B e-commerce services operation and an increase in prepaid
catalog costs. These cash outflows were partly offset by increases in cash
resulting from lower inventory carrying levels.

     Net cash used in investing activities:  During 1999, net cash used by
investing activities of $3.3 million was primarily due to capital expenditures
of $4.9 million. These capital expenditures primarily related to computer
hardware and software to increase the functionality and capacity of the
Company's integrated e-commerce systems platform. The net cash used for capital
expenditures was partially offset by the proceeds from the sale of the Company's
non-core Austad's catalog of $1.6 million.

     Net cash provided by financing activities:  During 1999, net cash provided
by financing activities of $0.6 million was primarily due to increased
borrowings under the Congress Revolving Credit Facility of $5.2 million, partly
offset by payments of long-term debt obligations as well as for debt issuance
costs.

     Debt and Liquidity:  At December 25, 1999, the Company had $2.8 million in
cash and cash equivalents compared with $12.2 million at December 26, 1998.
Working capital and current ratio were $18.0 million and 1.2 to 1 at December
25, 1999 versus $43.9 million and 1.47 to 1 at December 26, 1998.

     As of December 25, 1999, the Company had outstanding borrowings of $17.7
million and $16.0 million under the Congress Revolving Credit Facility and the
Congress Term Loan, respectively. Borrowings under the Congress Revolving Credit
Facility, which allows for total borrowings based on percentages of eligible
inventory and eligible accounts receivable, is comprised of $5.2 million under a
revolving line of credit arrangement and a $12.5 million term loan. Remaining
availability under the Revolving Line of Credit at December 25, 1999 was $30.0
million ($32.8 million including cash on hand). The weighted average rates of
interest, which are based on prime and LIBOR rates, related to the Revolving
Line of Credit and the Congress Term Loan were 8.75% and 9.00%, respectively, as
of December 25, 1999.

     On March 24, 2000, the Congress Credit Facility was further amended to
provide for a maximum credit of up to $82.5 million, comprised of a revolving
line of credit facility (the "Revolving Line of Credit"), a letter of credit
facility with a sublimit of $40.0 million, and term loans with an initial
principal balance of $25.0 million. The maximum credit under the Revolving Line
of Credit is $82.5 million, less the amount of outstanding letters of credit,
less the principal balance of the term loans. The Company paid $1.4 million to
Congress to secure the amendment of the Congress Credit Facility. The $25.0
million initial principal term loan balance includes a $17.5 million Tranche A
Term Loan having an eighty-four month term, and a $7.5 million Tranche B Term
Loan having a thirty-six month term.

     Borrowings under the Term Financing Facility were supported by standby
letters of credit issued through UBS AG ("UBS"), and guaranteed by Richemont
Finance, S.A., a 48.2% owner of the Company's outstanding common stock. Interest
rates related to the Term Financing Facility are based on "A-1" commercial paper
rates, and ranged from 5.3% to 6.0% as of December 25, 1999. Borrowings under
the Term Financing Facility were redeemed on March 24, 2000. The Term Financing
Facility was paid in full from borrowings under the Congress Credit Facility.

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<PAGE>   18

     Richemont Lines of Credit -- On March 24, 2000, the Company entered into a
new $10.0 million unsecured line of credit (the "Richemont $10.0 million Line of
Credit") with Richemont Finance, S.A. Borrowings under the Richemont $10.0
million Line of Credit bear interest at a rate of 0.125% per month (an
annualized rate of 1.5%) on the average monthly balance outstanding. In
addition, the Company will pay Richemont a monthly facility fee of approximately
$0.1 million each month during the term of the Richemont $10.0 million Line of
Credit. The maximum amount available to be drawn under the Richemont $10.0
million Line of Credit (the "Maximum Amount") was initially $10.0 million and
will be reduced on a dollar-for-dollar basis for each dollar of equity
contributed to the Company or any of its subsidiaries after March 24, 2000 by
Richemont or any subsidiary or affiliate of Richemont. If the excess
availability under the Congress Credit Facility is less than $3.0 million the
Company will be required to borrow under the Richemont $10.0 million Line of
Credit, and pay to Congress, the amount such that the excess availability under
the Congress Credit facility after such payment will be $3.0 million. The
Company may also borrow under the Richemont $10.0 million Line of Credit up to
$5.0 million to pay trade creditors in the ordinary course of business. The
Richemont $10.0 million Line of Credit will remain in place until the Congress
Credit Facility is terminated or the Maximum Credit is reduced to zero. As of
March 24, 2000, there were no borrowings outstanding under the Richemont $10.0
million Line of Credit.

     On March 1, 2000, the Company entered into a new $25.0 million unsecured
Line of Credit (the "Richemont $25.0 million Line of Credit") with Richemont
Finance, S.A. Borrowings under the Richemont $25.0 million Line of Credit bear
interest at a rate of 0.583% per month (an annualized rate of 7.0%) on the
average monthly balance outstanding. In addition, the Company will pay Richemont
a monthly fee of approximately $0.1 million each month from March 1, 2000 up to
the Maturity Date. The Richemont $25.0 million Line of Credit will mature on the
earlier of December 30, 2000 and the date on which Richemont makes an equity
infusion in the Company or any of the Company's subsidiaries (such earlier date,
the "Maturity Date"). As of March 24, 2000, there were $5.0 million of
borrowings outstanding under the Richemont $25.0 million Line of Credit.

     Remaining availability under all credit facilities as of March 24, 2000 was
$34.7 million ($36.5 million including cash on hand). Due to the combination of
internally generated cash flows and the multiple financing arrangements
previously discussed, the Company believes that it has sufficient liquidity to
cover its future working capital requirements.

     Dividends:  The Company is restricted from paying dividends at any time on
its Common Stock by certain debt covenants contained in agreements to which the
Company is a party.

     Foreign Currency Translation:  The Company minimizes currency risks by
making most foreign purchases in U.S. dollars and does not utilize hedging
instruments.

     Effect of Inflation and Cost Increases:  The Company normally experiences
increased costs of sales and operating expenses as a result of the general rate
of inflation and commodity price fluctuations. Operating margins are generally
maintained through internal cost reductions and operating efficiencies, and then
through selective price increases where market conditions permit. The Company's
inventory is primarily mail-order merchandise, which undergoes sufficiently high
turnover so that the cost of goods sold approximates replacement cost. Since
sales are not dependent on a particular supplier or product brand, the Company
can adjust product mix to mitigate the effects of inflation on its overall
merchandise base.

     Paper and Postage:  The Company mails its catalogs and ships most of its
merchandise through the United States Postal Service (USPS), with catalog
mailing and product shipment expenses representing approximately 16.2% of
revenues in 1999 and 15.4% of revenues in 1998. Paper costs represented
approximately 5.5% of revenues in 1999 and 6.6% of revenues in 1998 reflecting
reduced paper costs during 1999.

     The USPS increased its mailing rates in 1998, which became effective in
January 1999. The Company also utilizes United Parcel Service and other delivery
services. The United Parcel Service raised its rates for domestic deliveries by
3.1% for ground rates and 2.6% for air rates effective in February 1999. It has
generally been the Company's experience as well as its policy to recover the
costs of shipping, including outbound freight, and handling from customers.

YEAR 2000

     The Year 2000 issue related to the way computer systems and programs
interpret calendar date entries in two-digit data code fields. A system could
have failed or made miscalculations due to the inability to distinguish the year
2000 from the year 1900. Additionally, some other systems not normally
characterized as information technology systems could contain embedded hardware
or software that might be susceptible to this problem. As a result, many
companies upgraded or replaced computer systems in order to comply with Year
2000 requirements.

     As was the case with most other database marketing firms and, for the most
part, other businesses using computers and telecommunications equipment in their
operations, the Company planned for and addressed the Year 2000 issue to ensure
it would be able to continue to perform its critical functions. Specifically,
these functions included receiving, processing and shipping customer orders,
ordering and receiving merchandise from vendors, and processing payments.

     The Company's Year 2000 project commenced in 1996 and was divided into the
following phases:

           (i) Discovery- identification/ inventorying of all systems with
               potential Year 2000 issues;

           (ii) Assessment- evaluation, categorizing and prioritizing of Year
                2000 issues;

          (iii) Remediation- modifying and replacing existing systems; and
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<PAGE>   19

        (iv) Testing/ Deployment- comprehensive testing of Year 2000 readiness
             to ensure all problems were discovered and adequately corrected.

     The Company evaluated its internal mainframe business systems deemed
critical to its business, which included rollover tests allowing for a system
date change to January 1, 2000. Additionally, the Company performed an inventory
and assessment of hardware and software associated with individual PC systems
for Year 2000 readiness, and performed Year 2000 readiness surveys of its
suppliers to ensure a consistent flow of product. Furthermore, as an additional
contingency plan, the Company made arrangements to have technical staff
available at all locations at the turn of the millennium to support its
customers and operations in the event of a Year 2000 failure. Accordingly, while
some disruptions were anticipated with the Company's internal systems and a few
product vendors, the Company believed, absent any interruptions to either power,
utilities or telephone services that were beyond its control, the most probable
scenario was that there would not be a system failure of critical services or
infrastructure that would materially disrupt its operations.

     Upon the turn of the millennium and subsequent thereto, the Company did not
experience any significant systems malfunctions related to the Year 2000
conversion. Any systems malfunctions were relatively minor in nature and were
corrected without any loss of service to customers or other third parties.
Additionally, the Company did not experience any Year 2000 issues with suppliers
and did not suffer any interruption in power, utilities or telecommunications
services. Although the Company does not anticipate any future systems
malfunctions related to the Year 2000 issue, procedures are in place to
continuously monitor all critical systems to ensure that any potential Year 2000
issues that arise are corrected with minimal or no disruption to the Company's
operations.

     The Company did not modify spending patterns or postpone capital
expenditures due to efforts expended for the Year 2000 conversion nor were there
any unusual customer buying patterns prior to the turn of the millennium.
Cumulative costs associated with the necessary modifications to address the Year
2000 issue amounted to approximately $3.8 million. These costs primarily
comprised of expenditures to upgrade or replace computer hardware and software
as well as the costs of staff and consultants to perform the project.

CAUTIONARY STATEMENTS

     Certain of the foregoing statements may constitute forward looking
statements which involve risks and uncertainties including the following:
". . . the Company believes it has sufficient liquidity to cover its future
working capital requirements."

     The following are important factors, among others, that could cause the
Company's actual results to differ materially from those expressed in any
forward-looking statements made by, or on behalf, of the Company:

          A general deterioration of economic conditions in the United States
     leading to increased competitive activity including a business failure of a
     substantial size company in the retail industry, a reduction in consumer
     spending generally, or specifically with reference to the types of
     merchandise the Company offers in its catalogs. The failure of the Internet
     generally to achieve the projections for it with respect to growth of
     e-commerce or otherwise.

          The ability of the Company's computer system to connect with the
     systems of others and to be able to serve the other's fulfillment needs.

          The Company had a history of operating losses. Continuation of the
     operating losses may prevent the Company from making the investments in
     e-commerce which are required to be made to achieve a position of
     leadership in serving the e-commerce needs of companies doing business on
     the Internet. Also acquisitions may be prevented by the continuation of
     operating losses.

          The ability of the Company to attract management with the requisite
     experience in e-commerce or in Internet businesses and to develop a culture
     which is consistent with the manner in which e-commerce is managed.

ITEM 7A.  QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

     INTEREST RATES:  The Company's exposure to market risk relates to interest
rate fluctuations for borrowings under its Congress Revolving Credit Facility
and its Term Financing Facility, which bear interest at variable rates. At
December 25, 1999, outstanding principal balances under these facilities subject
to variable rates of interest were approximately $33.7 million. At March 24,
2000, outstanding principal balances under these facilities subject to variable
rates of interest were approximately $55.0 million. If interest rates were to
increase by one quarter of one percent from current levels, the resulting
increase in interest expense would not have a material impact on our results of
operations taken as a whole.

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ITEM 8.  FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA

                    REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS
To the Shareholders of Hanover Direct, Inc.:

     We have audited the accompanying consolidated balance sheets of Hanover
Direct, Inc. (a Delaware corporation) and subsidiaries as of December 25, 1999
and December 26, 1998, and the related consolidated statements of income (loss),
shareholders' equity and cash flows for each of the three fiscal years in the
period ended December 25, 1999. These consolidated financial statements and the
schedule referred to below are the responsibility of the Company's management.
Our responsibility is to express an opinion on these consolidated financial
statements and schedules based on our audits.

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

     In our opinion, the financial statements referred to above present fairly,
in all material respects, the financial position of Hanover Direct, Inc. and
subsidiaries as of December 25, 1999 and December 26, 1998 and the results of
their operations and their cash flows for each of the three fiscal years in the
period ended December 25, 1999 in conformity with generally accepted accounting
principles in the United States.

     Our audits were made for the purpose of forming an opinion on the basic
financial statements taken as a whole. The schedule of valuation and qualifying
accounts is presented for purposes of complying with the Securities and Exchange
Commission's rules and is not part of the basic financial statements. The
schedule has been subjected to the auditing procedures applied in the audit of
the basic financial statements and, in our opinion, fairly states in all
material respects the financial data required to be set forth therein in
relation to the basic financial statements taken as a whole.

                                      ARTHUR ANDERSEN LLP

New York, New York
February 18, 2000 (except with respect
to the matters discussed in Note 8 and Note 18,
as to which the dates are March 24, 2000 and
March 3, 2000, respectively)

                                       18
<PAGE>   21

                          CONSOLIDATED BALANCE SHEETS

                 AS OF DECEMBER 25, 1999 AND DECEMBER 26, 1998

                (IN THOUSANDS OF DOLLARS, EXCEPT SHARE AMOUNTS)

<TABLE>
<CAPTION>
                                                              DECEMBER 25,      DECEMBER 26,
                                                                  1999              1998
                                                              ------------      ------------
<S>                                                           <C>               <C>
                                           ASSETS
CURRENT ASSETS:
  Cash and cash equivalents.................................    $  2,849          $ 12,207
  Accounts receivable, net of allowance for doubtful
     accounts of $3,300 in 1999 and $2,544 in 1998..........      29,287            22,737
  Accounts receivable under financing agreement.............          --            18,998
  Inventories...............................................      54,816            62,322
  Prepaid catalog costs.....................................      20,305            16,033
  Deferred tax asset, net...................................       3,300             3,300
  Other current assets......................................       2,935             2,402
                                                                --------          --------
          Total Current Assets..............................     113,492           137,999
                                                                --------          --------
PROPERTY AND EQUIPMENT, AT COST:
  Land......................................................       4,634             4,634
  Buildings and building improvements.......................      23,269            22,724
  Leasehold improvements....................................       9,491             9,303
  Furniture, fixtures and equipment.........................      53,863            51,193
  Construction in progress..................................       1,990               113
                                                                --------          --------
                                                                  93,247            87,967
  Accumulated depreciation and amortization.................     (46,360)          (37,884)
                                                                --------          --------
  Property and equipment, net...............................      46,887            50,083
                                                                --------          --------
  Goodwill, net.............................................      16,336            16,890
  Deferred tax asset, net...................................      11,700            11,700
  Other assets..............................................       3,004             2,198
                                                                --------          --------
          Total Assets......................................    $191,419          $218,870
                                                                ========          ========
                            LIABILITIES AND SHAREHOLDERS' EQUITY
CURRENT LIABILITIES:
  Current portion of long-term debt and capital lease
     obligations............................................    $  3,257          $  2,573
  Accounts payable..........................................      63,549            64,594
  Accrued liabilities.......................................      24,284            22,212
  Customer prepayments and credits..........................       4,412             4,691
                                                                --------          --------
          Total Current Liabilities.........................      95,502            94,070
                                                                --------          --------
NON-CURRENT LIABILITIES:
  Long-term debt............................................      39,578            37,288
  Obligations under receivable financing....................          --            18,998
  Other.....................................................       2,474             2,044
                                                                --------          --------
          Total Non-current Liabilities.....................      42,052            58,330
                                                                --------          --------
          Total Liabilities.................................     137,554           152,400
                                                                --------          --------
SHAREHOLDERS' EQUITY:
Series B Convertible Additional Preferred Stock, $10 stated
  value, authorized, issued and outstanding 634,900 shares
  in 1999 and 1998..........................................       6,318             6,128
Common Stock, $.66 2/3 par value, authorized 300,000,000
  shares in 1999 and 225,000,000 in 1998; issued 211,519,511
  shares in 1999 and 210,785,688 in 1998....................     141,013           140,524
Capital in excess of par value..............................     301,088           297,751
Accumulated deficit.........................................    (390,763)         (373,815)
                                                                --------          --------
                                                                  57,656            70,588
                                                                --------          --------
Less:
Treasury stock, at cost (652,552 shares in 1999 and 358,303
  shares in 1998)...........................................      (1,829)             (813)
Notes receivable from sale of Common Stock..................      (1,962)           (3,305)
                                                                --------          --------
          Total Shareholders' Equity........................      53,865            66,470
          Total Liabilities and Shareholders' Equity........    $191,419          $218,870
                                                                ========          ========
</TABLE>

                See notes to consolidated financial statements.

                                       19
<PAGE>   22

                    CONSOLIDATED STATEMENTS OF INCOME (LOSS)

 FOR THE YEARS ENDED DECEMBER 25, 1999, DECEMBER 26, 1998 AND DECEMBER 27, 1997
              (IN THOUSANDS OF DOLLARS, EXCEPT PER SHARE AMOUNTS)

<TABLE>
<CAPTION>
                                                                 1999           1998          1997
                                                                 ----           ----          ----
<S>                                                           <C>             <C>           <C>
NET REVENUES................................................  $  549,852      $546,114      $557,638
                                                              ----------      --------      --------
OPERATING COSTS AND EXPENSES:
  Cost of sales and operating expenses......................     350,502       343,554       358,219
  Write-down of inventory of discontinued catalogs
     (recovery).............................................      (1,932)        3,726            --
  Special charges (credit)..................................         144          (485)       (2,209)
  Selling expenses..........................................     136,584       148,767       141,411
  General and administrative expenses.......................      68,928        57,881        53,839
  Depreciation and amortization.............................       9,382         9,478         8,227
                                                              ----------      --------      --------
                                                                 563,608       562,921       559,487
                                                              ----------      --------      --------
(LOSS) FROM OPERATIONS......................................     (13,756)      (16,807)       (1,849)
  (Gain) on sale of The Shopper's Edge......................      (4,343)           --            --
  (Gain) on sale of Austad's................................        (967)           --            --
                                                              ----------      --------      --------
(LOSS) BEFORE INTEREST AND TAXES............................      (8,446)      (16,807)       (1,849)
  Interest expense, net.....................................       7,338         7,778         8,028
                                                              ----------      --------      --------
  (Loss) before income taxes................................     (15,784)      (24,585)       (9,877)
  Income tax provision......................................         530         1,000           999
                                                              ----------      --------      --------
NET (LOSS)..................................................     (16,314)      (25,585)      (10,876)
  Preferred stock dividends.................................         634           578           190
                                                              ----------      --------      --------
NET (LOSS) APPLICABLE TO COMMON SHAREHOLDERS................  $  (16,948)     $(26,163)     $(11,066)
                                                              ==========      ========      ========
NET (LOSS) PER SHARE:
  Net (loss) per share -- basic and diluted.................  $     (.08)     $   (.13)     $   (.06)
                                                              ==========      ========      ========
  Weighted average common shares outstanding - basic and
     diluted (thousands)....................................     210,719       206,508       176,621
                                                              ==========      ========      ========
</TABLE>

                See notes to consolidated financial statements.

                                       20
<PAGE>   23

                     CONSOLIDATED STATEMENTS OF CASH FLOWS

 FOR THE YEARS ENDED DECEMBER 25, 1999, DECEMBER 26, 1998 AND DECEMBER 27, 1997
                           (IN THOUSANDS OF DOLLARS)

<TABLE>
<CAPTION>
                                                                1999        1998        1997
                                                              --------    --------    --------
<S>                                                           <C>         <C>         <C>
CASH FLOWS FROM OPERATING ACTIVITIES:
  Net (loss)................................................  $(16,314)   $(25,585)   $(10,876)
  Adjustments to reconcile net (loss) to net cash (used) by
     operating activities:
     Depreciation and amortization, including deferred
      fees..................................................    11,951      11,466      10,581
     Provision for doubtful accounts........................     2,817       3,278       3,973
     Special charges (credit)...............................       144        (485)     (2,209)
     Write-down of inventory of discontinued catalogs
      (recovery)............................................    (1,932)      3,726          --
     Gain on the sale of Austad's...........................      (967)         --          --
     Compensation expense related to stock options..........     2,890       2,684       1,800
     Recovery from investments previously written off.......        --          --      (1,274)
  Changes in assets and liabilities:
     Accounts receivable....................................    (8,639)     (8,331)      7,742
     Inventories............................................     8,853      (1,718)      3,280
     Prepaid catalog costs..................................    (4,288)      4,651       2,717
     Accounts payable.......................................    (1,045)      5,795     (20,788)
     Accrued liabilities....................................       710      (7,562)     (6,583)
     Customer prepayments and credits.......................      (279)        867        (893)
     Other, net.............................................      (572)       (867)       (205)
                                                              --------    --------    --------
  Net cash (used) by operating activities...................    (6,671)    (12,081)    (12,735)
                                                              --------    --------    --------
CASH FLOWS FROM INVESTING ACTIVITIES:
     Acquisitions of property and equipment.................    (4,830)     (6,111)     (4,222)
     Proceeds from sale of Austad's.........................     1,568          --          --
     Proceeds from investment...............................        --          --       1,274
                                                              --------    --------    --------
  Net cash (used) by investing activities...................    (3,262)     (6,111)     (2,948)
                                                              --------    --------    --------
CASH FLOWS FROM FINANCING ACTIVITIES:
     Net borrowings (payments)under revolving credit
      facility..............................................     5,202          --     (13,710)
     Borrowings from term loan facility.....................        --       7,272          --
     Payments of long-term debt and capital lease
      obligations...........................................    (2,745)     (5,433)     (3,575)
     Payment of stock issuance costs........................        --          --      (3,073)
     Payment of debt issuance costs.........................    (2,701)         --          --
     Proceeds from issuance of common stock.................       936         561      45,351
     Proceeds from exercise of stock warrants...............        --      13,640          --
     Other, net.............................................      (117)       (399)        275
                                                              --------    --------    --------
  Net cash provided by financing activities.................       575      15,641      25,268
                                                              --------    --------    --------
  Net increase (decrease) in cash and cash equivalents......    (9,358)     (2,551)      9,585
  Cash and cash equivalents at the beginning of the year....    12,207      14,758       5,173
                                                              --------    --------    --------
  Cash and cash equivalents at the end of the year..........  $  2,849    $ 12,207    $ 14,758
                                                              ========    ========    ========
SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION
     Cash paid during the year for:
       Interest.............................................  $  4,765    $  5,095    $  5,674
       Income taxes.........................................  $    713    $    447    $    685
     Non-cash investing and financing activities:
       Capital lease obligations............................  $    517    $     --    $    163
       Tandem share expirations.............................  $  1,016    $     --    $     --
       Other equity issuance and exchanges..................  $     --    $     --    $ 10,000
       Non-Cash gain on sale of The Shopper's Edge..........  $  4,343    $     --    $     --
</TABLE>

                See notes to consolidated financial statements.

                                       21
<PAGE>   24

                CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY

 FOR THE YEARS ENDED DECEMBER 27, 1997, DECEMBER 26, 1998 AND DECEMBER 25, 1999
                      (IN THOUSANDS, EXCEPT SHARE AMOUNTS)
<TABLE>
<CAPTION>
                                            PREFERRED
                                              STOCK
                                             SERIES B           COMMON STOCK         CAPITAL
                                            CUMULATIVE       $.66 2/3 PAR VALUE     IN EXCESS                   TREASURY STOCK
                                         ----------------    -------------------     OF PAR       ACCUM.      ------------------
                                         SHARES    AMOUNT    SHARES      AMOUNT       VALUE      (DEFICIT)    SHARES     AMOUNT
                                         ------    ------    ------      ------     ---------    ---------    ------     ------
<S>                                      <C>       <C>       <C>        <C>         <C>          <C>          <C>       <C>
BALANCE AT DECEMBER 28, 1996...........   635      $5,748    145,040    $ 96,693    $270,637     $(336,586)    (392)    $  (813)
                                          ---      ------    -------    --------    --------     ---------     ----     -------
Net income/(loss) applicable to common
  shareholders.........................                                                            (11,066)
Preferred stock accretion..............               190
Stock options granted..................                                                1,800
Shares issued in 1997 Rights Offering,
  net of issue costs...................                       55,655      37,103       9,958
Issuance of Common Stock to SMALLCAP
  World Fund, Inc......................                        3,700       2,467       2,750
Issuances & forfeitures of Common Stock
  for employee stock plan..............                           47          31          20                   (294)       (155)
                                          ---      ------    -------    --------    --------     ---------     ----     -------
BALANCE AT DECEMBER 27, 1997...........   635      $5,938    204,442    $136,294    $285,165     $(347,652)    (686)    $  (968)
Net income/(loss) applicable to common
  shareholders.........................                                                            (26,163)
Cash received for tandem receivable....
Preferred stock accretion..............               190
Stock options granted..................                                                2,684
Exercise of Warrants...................                        5,646       3,764       9,876
Issuances & forfeitures of Common Stock
  for employee stock plan..............                          698         466          26                    328         155
                                          ---      ------    -------    --------    --------     ---------     ----     -------
BALANCE AT DECEMBER 26, 1998...........   635      $6,128    210,786    $140,524    $297,751     $(373,815)    (358)    $  (813)
Net income/(loss) applicable to common
  shareholders.........................                                                            (16,948)
Preferred stock accretion..............               190
Stock options granted..................                                                2,890
Cash received for Tandem receivable....
Issuances & forfeitures of Common Stock
  for employee stock plan..............                          734         489         447
Tandem share expirations...............                                                                        (294)     (1,016)
                                          ---      ------    -------    --------    --------     ---------     ----     -------
BALANCE AT DECEMBER 25, 1999...........   635      $6,318    211,520    $141,013    $301,088     $(390,763)    (652)    $(1,829)
                                          ===      ======    =======    ========    ========     =========     ====     =======

<CAPTION>

                                           NOTES
                                         RECEIVABLE
                                         FROM SALE
                                         OF COMMON
                                           STOCK        TOTAL
                                         ----------     -----
<S>                                      <C>           <C>
BALANCE AT DECEMBER 28, 1996...........   $(3,399)     $32,280
                                          -------      -------
Net income/(loss) applicable to common
  shareholders.........................                (11,066)
Preferred stock accretion..............                    190
Stock options granted..................                  1,800
Shares issued in 1997 Rights Offering,
  net of issue costs...................                 47,061
Issuance of Common Stock to SMALLCAP
  World Fund, Inc......................                  5,217
Issuances & forfeitures of Common Stock
  for employee stock plan..............       173           69
                                          -------      -------
BALANCE AT DECEMBER 27, 1997...........   $(3,226)     $75,551
Net income/(loss) applicable to common
  shareholders.........................                (26,163)
Cash received for tandem receivable....        69           69
Preferred stock accretion..............                    190
Stock options granted..................                  2,684
Exercise of Warrants...................                 13,640
Issuances & forfeitures of Common Stock
  for employee stock plan..............      (148)         499
                                          -------      -------
BALANCE AT DECEMBER 26, 1998...........   $(3,305)     $66,470
Net income/(loss) applicable to common
  shareholders.........................                (16,948)
Preferred stock accretion..............                    190
Stock options granted..................                  2,890
Cash received for Tandem receivable....       327          327
Issuances & forfeitures of Common Stock
  for employee stock plan..............                    936
Tandem share expirations...............     1,016           --
                                          -------      -------
BALANCE AT DECEMBER 25, 1999...........   ($1,962)     $53,865
                                          =======      =======
</TABLE>

                See notes to consolidated financial statements.

                                       22
<PAGE>   25

                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

     YEARS ENDED DECEMBER 25, 1999, DECEMBER 26, 1998 AND DECEMBER 27, 1997

1.  BACKGROUND OF BUSINESS AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

     Nature of Operations -- Hanover Direct, Inc., a Delaware corporation (the
"Company"), operates as both a specialty direct marketer and as a provider of
business-to-business ("B-to-B") e-commerce services. As a specialty direct
marketer, the Company markets a diverse portfolio of branded home fashions, home
improvements, men's and women's apparel, and gift products, through mail-order
catalogs and connected Internet Web sites directly to the consumer ("direct
commerce"). As a provider of B-to-B e-commerce services, the Company offers a
full range of order processing, customer care, customer information, and
shipping and distribution services to third party clients.

     The Company utilizes a fully integrated systems and operations support
platform initially developed to manage the Company's wide variety of
catalog/Internet product offerings. This infrastructure has been leveraged and
expanded to provide the aforementioned B-to-B e-commerce services on behalf of
third party clients. Beginning in 1999, the Company adopted Statement of
Financial Accounting Standards ("SFAS") No. 131, "Disclosures about Segments of
an Enterprise and Related Information" (Note 11) to report its direct commerce
and B-to-B services as separate operating and reporting segments.

     Basis of Presentation -- The Consolidated Financial Statements include all
subsidiaries of the Company, and all intercompany transactions and balances have
been eliminated. 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, the
disclosure of contingent assets and liabilities at the date of the financial
statements, and the reported amounts of revenues and expenses during the
reporting period. Actual results could differ from those estimates. Certain
prior year amounts have been reclassified to conform with the current year's
presentation.

     Fiscal Year -- The Company operates on a 52 or 53 week fiscal year.
Effective for fiscal 1997, the Company changed its fiscal year to the last
Saturday in December. The years ended December 25, 1999, December 26, 1998 and
December 27, 1997 were 52 week years. Had the Company not changed its year-end,
fiscal 1997 would have been a 53 week year and the net loss for 1997 would have
increased by approximately $0.6 million.

     Cash and Cash Equivalents -- Cash includes cash equivalents consisting of
highly liquid investments with original maturities of ninety days or less.

     Accounting for Transfers of Credit Card Receivables -- The Company accounts
for transfers and servicing of financial assets in accordance with SFAS No. 125
"Accounting for Transfers and Servicing of Financial Assets and Extinguishments
of Liabilities." This statement establishes criteria distinguishing transfers of
financial assets that are sales from transfers that are secured borrowings. The
application of this statement resulted in the recognition of additional credit
card accounts receivable and an offsetting long-term debt obligation at December
26, 1998 of $19.0 million. This adjustment was based on the terms of the
Company's agreement with an unrelated third party for the sale and servicing of
accounts receivable.

     During 1999, the Company finalized a new account purchase and credit card
marketing and services agreement. The new agreement, which provides for services
similar to those of the previous agreement, transfers the Company's receivables
to a new third party provider on terms that, in accordance with SFAS No. 125,
require the transfer to be accounted for as a sale. Accordingly, the Company's
December 25, 1999 consolidated balance sheet no longer reflects additional
credit card accounts receivable or a related long-term debt obligation (See Note
6- "Transfer of Credit Card Accounts Receivable").

     Inventories -- Inventories consist principally of merchandise held for
resale and are stated at the lower of cost or market. Cost, which is determined
using the first-in, first-out (FIFO) method, includes the cost of the product as
well as freight-in charges. The Company considers slow moving inventory to be
surplus and calculates a loss on the impairment as the difference between an
individual item's cost and the net proceeds anticipated to be received upon
disposal. Such inventory is written down to its net realizable value.

     Prepaid Catalog Costs -- Prepaid catalog costs consist of direct response
advertising costs related to catalog production and mailing. In accordance with
SOP 93-7, "Reporting on Advertising Costs", these costs are deferred and
amortized as selling expenses over the estimated period in which the sales
related to such advertising are generated. Total catalog expense was $133.0
million, $145.0 million and $139.0 million, for fiscal year 1999, 1998 and 1997,
respectively.

     Depreciation and Amortization -- Depreciation and amortization of property
and equipment is computed on the straight-line method over the following lives:
buildings and building improvements, 30-40 years; furniture, fixtures and
equipment, 3-10 years; and leasehold improvements, over the estimated useful
lives or the terms of the related leases, whichever is shorter. Repairs and
maintenance are expensed as incurred.

     Goodwill, Net -- Excess of cost over the net assets of acquired businesses
is amortized on a straight-line basis over periods of up to forty years.
Accumulated amortization was $4.5 million and $4.0 million at December 25, 1999
and December 26, 1998, respectively.

                                       23
<PAGE>   26
           NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

     YEARS ENDED DECEMBER 25, 1999, DECEMBER 26, 1998 AND DECEMBER 27, 1997

     Impairment of Long-Lived Assets -- In accordance with SFAS No.
121,"Accounting for the Impairment of Long-lived Assets and Long-lived Assets to
be Disposed Of," the Company reviews long-lived assets for impairment whenever
events indicate that the carrying amount of such assets may not be fully
recoverable. The Company performs undiscounted cash flow analyses to determine
if an impairment exists. If an impairment is determined to exist, an impairment
loss is then recorded by the Company.

     Stock Based Compensation -- The Company accounts for its stock based
compensation to employees using the fair value-based methodology under SFAS No.
123, "Accounting for Stock-Based Compensation."

     Income Taxes -- The Company accounts for income taxes in accordance with
SFAS No. 109, "Accounting for Income Taxes." It requires an asset and liability
approach for financial accounting and reporting for income taxes. The provision
for income taxes is based on income after adjustment for those temporary and
permanent items which are not considered in the determination of taxable income.
Deferred taxes result when the Company recognizes revenue or expenses for income
tax purposes in a different year than for financial reporting purposes.

     Net (Loss) Per Share -- Net (loss) per share is computed using the weighted
average number of common shares outstanding in accordance with the provisions of
SFAS No. 128, "Earnings Per Share." The weighted average number of shares used
in the calculation for both basic and diluted net (loss) per share for fiscal
1999, 1998 and 1997 was 210,718,546, 206,508,110 and 176,621,080 shares,
respectively. Diluted earnings per share equals basic earnings per share as the
dilutive calculation would have an antidilutive impact as a result of the net
losses incurred during fiscal years 1999, 1998 and 1997.

     Revenue Recognition --

     -- Direct Commerce:  The Company recognizes revenue, net of estimated
returns, upon shipment of merchandise to customers. Postage and handling charges
billed to customers are also recognized as revenue upon shipment of related
merchandise. The Company accrues for expected future returns at the time of sale
based upon historical trends.

     -- Shopper's Edge Buyer's Club:  See Note 3.

     -- B-to-B Services:  Revenues from the Company's Internet transaction
services are recognized as the related services are provided. Customers are
charged on an activity unit basis, which applies a contractually specified rate
according to the type of service transaction performed.

     Fair Value of Financial Instruments -- The fair value of financial
instruments does not materially differ from their carrying values.

     Recently Issued Accounting Standards -- In June 1998, the Financial
Accounting Standards Board issued SFAS No. 133, "Accounting for Derivative
Instruments and Hedging Activities" which the Company is required to adopt at
the beginning of fiscal year 2001. SFAS No. 133 establishes new accounting and
reporting standards for derivative financial instruments, including certain
derivative instruments embedded in other contracts, and hedging activities. The
Company currently does not engage in derivative and hedging activities. The
effect, if any, on the financial statements has not yet been determined by the
Company.

2.  INVESTMENTS

     Blue Ridge Associates -- In January 1994, the Company purchased for $1.1
million a 50% interest in Blue Ridge Associates ("Blue Ridge"), a partnership
which owns an apparel distribution center in Roanoke, VA. The remaining 50%
interest is held by an unrelated third party. This investment is accounted for
under the equity method of accounting. The Company's investment in Blue Ridge
was approximately $0.8 million and $0.9 million at December 25, 1999 and
December 26, 1998, respectively. In December 1996, the Company consolidated the
fulfillment and telemarketing activities handled at this facility into its home
fashions distribution facility in Roanoke, VA, and attempted to sublease the
vacated space. In April 1999, the Company sublet the vacated premises to an
unrelated third party for a five-year period expiring in April 2004. In February
2000, the Company sold its partnership interest in Blue Ridge Associates to the
holder of the other 50% for $0.8 million, which approximates the Company's
carrying value of the investment.

     Always in Style, LLC. -- On August 6, 1999, the Company and AIS Marketing
Services, LLC ("AIS Marketing") entered into a joint venture whereby the Company
contributed $1.0 million and AIS Marketing contributed specialized software to
form Always in Style, LLC ("AIS"). The Company, which owns a two-thirds interest
in AIS, includes the operating results of AIS in its consolidated financial
statements. AIS develops and markets proprietary interactive fashion, beauty and
home decorating profiling software ("Profilers"). Based upon questionnaires
filled out by the customer, the Profilers provide the customer with personalized
fashion, beauty and home decorating analysis and advice, as well as specific
product recommendations. AIS was formally launched in November 1999.

     Desius, LLC -- In 1999, the Company entered into a 60/40 joint venture with
RS Software (India) Ltd. to provide 24/7 Web shop services and e-commerce
software, systems and programing. Augmenting the Company's programming services,
the Desius teams based in Calcutta, India and the United States together can
provide round the clock service. The Calcutta based Desius team

                                       24
<PAGE>   27
           NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

     YEARS ENDED DECEMBER 25, 1999, DECEMBER 26, 1998 AND DECEMBER 27, 1997

also provides additional resources including creative marketing, Web site
creation, maintenance and management. Desius also serves as the outsourcing arm
for Keystone clients which lack resources in these areas. The Company includes
the operating results of Desius in its consolidated financial statements.

3.  DIVESTITURES

     During 1999, the Company sold the following businesses:

     Austad's:  In October 1999, the Company sold the remaining assets of its
non-core Austad's catalog, which featured golf equipment, apparel and gifts, for
$1.6 million. The assets disposed of primarily included inventory and intangible
assets, which were written off in 1996, such as customer lists and trademarks.
The combined book value of assets sold was approximately $0.6 million resulting
in a net pre-tax gain of $1.0 million.

     The Shopper's Edge:  In March 1999, the Company, through a newly formed
subsidiary, started up and promoted a discount buyers club to consumers known as
"The Shopper's Edge." In exchange for an up-front membership fee, The Shopper's
Edge program enables members to purchase a wide assortment of merchandise at
discounts which are not available through traditional retail channels.
Initially, prospective members participate in a 45-day trial period that, unless
canceled, is automatically converted into a full membership term which is one
year in duration. Memberships are automatically renewed at the end of each term
unless canceled by the member.

     During 1999, primarily as a result of timing of revenue and expense
recognition, The Shopper's Edge subsidiary incurred losses of $4.3 million
reflecting both cash payments and outstanding liabilities to the Company of $3.3
million and $1.0 million, respectively. The Company's operating results reflect
$0.1 million of net losses after the elimination of these intercompany
transactions. The Company recorded membership fee revenue as well as an
allowance for estimated cancellations on a straight-line basis over the one-
year membership term, which commenced immediately following the expiration of
the initial 45-day trial period. Costs tied to acceptances such as commissions
paid to service providers as well as membership servicing and transaction
processing expenses were deferred and expensed as membership fee revenue was
recognized. All other costs, including membership kits and postage, were
expensed as incurred. Under the terms of the program, the Company was entitled
to periodic withdrawals of funds provided by up-front membership fees. These
withdrawals, however, were subject to contractual limitations as The Shopper's
Edge subsidiary was required to maintain adequate cash balances to fund
estimated membership reimbursements resulting from cancellations. Accordingly,
funds retained within The Shopper's Edge subsidiary were reported as "restricted
cash" in the Company's balance sheet during 1999. If membership reimbursements
due to cancellations exceeded the amount of funds retained by The Shopper's Edge
subsidiary, the Company was liable to cover the shortfall.

     Effective December 1999, the Company sold its interest in The Shopper's
Edge subsidiary to an unrelated third party for a nominal fair value based upon
an independent appraisal. At the time of the sale, the liabilities of the
subsidiary exceeded the assets by $4.3 million resulting in a gain on sale to
the Company of $4.3 million. The gain represented the portion of deferred income
of The Shopper's Edge that the Company received in the form of withdrawals
discussed above which, in accordance with the Company's revenue recognition
policy for memberships, would not have been earned until the completion of the
membership term. The deferred income was recognized immediately upon the sale
and has been reflected as a gain on sale in the accompanying consolidated
statement of income (loss) for the year ended December 25, 1999. There are no
conditions to the obligations of the Company to refund any portion of the cash
withdrawals received prior to the sale. The Company entered into a solicitation
services agreement with the purchaser whereby the Company will provide
solicitation services for the program, and will receive commissions for member
acceptances based on a fixed fee per member basis, adjusted for cancellation
rates on a prospective basis. Membership revenue earned during the fiscal year
ended December 25, 1999 was $3.9 million, which is included in revenues in the
accompanying consolidated statement of income (loss). Had the new solicitation
services agreement been in place for fiscal 1999, net revenues on a pro-forma
basis would have increased by $1.4 million reflecting the inclusion of $5.3
million of fee revenue for solicitation services provided versus $3.9 million of
recorded membership fee revenue under the old agreement. Furthermore, on a
pro-forma basis, the Company's loss from operations would have decreased by $5.4
million to $(8.4) million.

4.  SPECIAL CHARGES

     In December 1996, the Company recorded special charges of approximately
$36.7 million, which consisted of severance, facility exit/relocation costs and
fixed asset write-offs related to the downsizing of the Company, and a write-off
for impairment of long-lived assets of certain under-performing catalogs. In
December 1997, the Company adjusted its previous cost estimates to downsize the
Company due to exit plan modifications related to its Weehawken, NJ corporate
facility and its Hanover, PA distribution center.

                                       25
<PAGE>   28
           NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

     YEARS ENDED DECEMBER 25, 1999, DECEMBER 26, 1998 AND DECEMBER 27, 1997

These adjustments resulted in a reduction of special charges of approximately
$2.2 million, which related primarily to the reversal of the reserve for fixed
assets expected to be abandoned. In 1998, the Company adjusted further its
reserve for fixed asset write-offs by $0.5 million reflecting the Company's
decision to remain in its Hanover, PA distribution center. In 1999, the Company
recorded an additional $0.1 million of special charges related to a change in
estimate for losses on sublease arrangements for its Roanoke, VA apparel
distribution center and its San Francisco CA office facilities (see below).

     Severance -- The cost of employee severance includes termination benefits
for line and supervisory personnel in fulfillment, telemarketing, MIS,
merchandising, and various levels of corporate and catalog management. The
Company paid approximately $0.6 million and $2.7 million of severance during
fiscal 1998 and 1997, respectively. There were no recorded severance reserves in
the Company's consolidated balance sheets at December 25, 1999 and December 26,
1998.

     Facility Exit/Relocation Costs and Fixed Asset Write-Offs -- These costs
are primarily related to the Company's decision to sublease a portion of its
Weehawken, NJ and San Francisco, CA office facilities, and to consolidate its
Roanoke, VA apparel distribution center and Hanover, PA distribution center into
its Roanoke home fashion distribution center. As of December 25, 1999, the
Company consolidated the Roanoke, VA apparel distribution center and relocated
all but one catalog from its Hanover, PA distribution center into its Roanoke,
VA home fashion distribution center. The remaining catalog will continue to be
serviced out of the Hanover, PA distribution center. In addition, the Company
has sublease agreements in place for both a portion of its Weehawken, NJ and San
Francisco, CA office facilities.

     During 1999, the Company revised its estimates for losses on sublease
arrangements for its Roanoke, VA apparel distribution center and its San
Francisco, CA office facilities. The Company reduced its estimate for sublease
losses for the Roanoke, VA apparel distribution center by $0.5 million due to
the Company's release from any lease related obligations resulting from the sale
of its partnership interest in Blue Ridge Associates, a partnership which owned
the facility. This was more than offset by a higher estimate for sublease losses
related to the San Francisco, CA office facilities of $0.6 million due to higher
than anticipated rent escalations. Approximately $2.3 million of estimated
losses on sublease arrangements are recorded in accrued liabilities in the
Company's consolidated balance sheet at December 25, 1999.

5.  WRITE-DOWN OF INVENTORY OF DISCONTINUED CATALOGS

     In 1998, the Company decided to discontinue the traditional catalog
operations of the Tweeds, Austad's and Colonial Garden Kitchens catalog brands.
These "non-core" catalog brands were to be repositioned as primarily e-commerce
brands and, if unsuccessful, discontinued. Revenues from the aforementioned
non-core catalogs were $19.0 million, $48.7 million and $65.6 million for fiscal
1999, 1998 and 1997, respectively. The Company recorded provisions of
approximately $3.7 million related to the write-down of inventory associated
with these catalogs to net realizable value based on the planned liquidation of
such inventory and $2.2 million of additional charges relating to prepaid
catalog costs associated with the discontinuance of the catalog operations.

     The Company utilizes various liquidation vehicles to dispose of aged
catalog inventory including special sales catalogs, sales sections in other
catalogs, and liquidations through off-price merchants. During 1999, the Company
was able to utilize special sales catalogs, which provide higher cost
recoveries, to dispose of its non-core catalog inventory to a larger extent than
anticipated at the end of 1998. Accordingly, $1.9 million of the 1998 charges
were reversed and included in the Company's 1999 results.

     During 1999, the Company sold the remaining assets of its non-core Austad's
catalog for $1.6 million; fully discontinued its Tweeds catalog operation; and
repositioned and relaunched its Colonial Garden Kitchens catalog as
Domestications Kitchen & Garden.

6.  TRANSFER OF CREDIT CARD ACCOUNTS RECEIVABLE

     Through July 1999, the Company was a party to an agreement involving the
sale and servicing of accounts receivable originating from the Company's private
label credit card program. This agreement included full recourse provisions
obligating the Company to repurchase uncollectible receivables as well as a
requirement for the Company to maintain a deposit, based on a specified
percentage of outstanding receivables, to secure the Company's obligations under
the contract. Approximately $3.5 million was held as security by the unrelated
third party as of December 26, 1998. Due to the conditions imposed under the
agreement, the Company, in accordance with SFAS No. 125 ("Accounting for
Transfers and Servicing of Financial Assets and Extinguishment of Liabilities"),
accounted for the transfer of its private label credit card receivables as a
secured borrowing. Accordingly, the Company recorded both a financing receivable
as well as a corresponding long-term obligation of $19.0 million in its December
26, 1998 consolidated balance sheet.

     During July 1999, the Company finalized a new three-year credit card
marketing and servicing agreement with a new provider and terminated the
previously mentioned agreement. The new terms include provisions requiring the
Company to equally share credit losses over an agreed upon benchmark for the
first 18 months of the agreement, however, the Company is not obligated to
repurchase any uncollectible receivables. Upon the expiration of this period,
all credit card receivables transfers are non-recourse to the Company.
Furthermore, the Company is no longer required to maintain a deposit as security
for its performance under the terms of

                                       26
<PAGE>   29
           NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

     YEARS ENDED DECEMBER 25, 1999, DECEMBER 26, 1998 AND DECEMBER 27, 1997

the new agreement. Reflecting the change in terms included in the new agreement,
the Company, in accordance with SFAS No. 125, now accounts for the transfer of
its private label credit card receivables as a sale. Accordingly, the Company's
December 25, 1999 consolidated balance sheet no longer reflects a financing
receivable and a related long-term obligation. No gain or loss was recognized
upon the transition to the new program.

     As of December 25, 1999, the Company maintained a shared credit risk
reserve of $0.6 million, which is recorded in accrued liabilities. As of
December 26, 1998, the Company maintained a reserve for repurchases of
uncollectible accounts of $2.0 million, $1.5 million of which was recorded in
accrued liabilities and $0.5 million was recorded in the allowance for doubtful
accounts.

7.  ACCRUED LIABILITIES

     Accrued liabilities consist of the following (in thousands):

<TABLE>
<CAPTION>
                                                              DEC. 25,    DEC. 26,
                                                                1999        1998
                                                              --------    --------
<S>                                                           <C>         <C>
Restructuring...............................................  $ 2,299     $ 3,286
Reserve for future sales returns............................    4,680       4,778
Compensation................................................    8,290       3,999
Taxes.......................................................      881       1,211
Reserve for repurchase of accounts receivable sold with
  recourse..................................................       --       1,491
Reserve for accounts receivable -- shared credit risk.......      612          --
Reserve for discontinued operations.........................      849         982
Other.......................................................    6,673       6,465
                                                              -------     -------
          Total.............................................  $24,284     $22,212
                                                              =======     =======
</TABLE>

8.  LONG-TERM DEBT

     Long-term debt consists of the following (in thousands):

<TABLE>
<CAPTION>
                                                              DEC. 25,    DEC. 26,
                                                                1999        1998
                                                              --------    --------
<S>                                                           <C>         <C>
Congress Facility...........................................  $17,735     $14,033
Term Financing Facility.....................................   16,000      17,000
Industrial Revenue Bonds due 2003...........................    8,000       8,000
7.5% Convertible Subordinate Debentures due 2007............      751         751
Obligations under capital leases............................      349          77
                                                              -------     -------
                                                               42,835      39,861
Less: current portion.......................................    3,257       2,573
                                                              -------     -------
          Total.............................................  $39,578     $37,288
                                                              =======     =======
</TABLE>

     Revolving Credit Facility -- On December 25, 1999, the Company's credit
facility (the "Congress Credit Facility") with Congress Financial Corporation
("Congress") was a $65.0 million revolving line of credit, of which $12.5
million was a term loan. Total borrowings under the Congress facility, however,
were subject to limitations based upon specified percentages of eligible
inventory and eligible accounts receivable. The revolving line of credit
facility bore interest at prime plus .25% or LIBOR plus 2.75%, the term loan
bore interest at prime plus .50% or LIBOR plus 2.75%. The use of a prime or
LIBOR based rate is determinable at the Company's discretion. Additionally, the
Congress facility, which is secured by all assets of the Company, contains
restrictive covenants including restrictions on indebtedness and common stock
dividends, and requires the maintenance of a $21.5 million net worth and a
$(10.0) million working capital (deficit) position. As of December 25, 1999, the
Company had an outstanding term loan of $12.5 million, bearing a weighted
average interest rate of 9.0%, and $5.2 million of outstanding borrowings under
the revolving line of credit, bearing an interest rate of 8.75%.

     On March 24, 2000, the Congress Credit Facility was further amended to
provide for a maximum credit of up to $82.5 million, comprised of a revolving
line of credit facility (the "Revolving Line of Credit"), a letter of credit
facility with a sublimit of $40 million, and term loans with an initial
principal balance of $25.0 million. The maximum credit under the Revolving Line
of Credit is $82.5 million, less the amount of outstanding letters of credit,
less the principal balance of the term loans. The Company paid a $1.4 million
closing fee to Congress to secure the amendment of the Congress Credit Facility.
The $25.0 million initial principal term loan balance includes a $17.5 million
Tranche A Term Loan having an eighty-four month term, and a $7.5 million Tranche
B Term Loan having a thirty-six month term.

                                       27
<PAGE>   30
           NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

     YEARS ENDED DECEMBER 25, 1999, DECEMBER 26, 1998 AND DECEMBER 27, 1997

     The Congress Credit Facility, as amended, is secured by all assets of the
Company and places limitations on the incurrence additional indebtedness. The
amount that can be borrowed under the amended Congress Facility is based on
percentages of eligible inventory, eligible accounts receivable, eligible credit
card receivables and eligible fulfillment contract receivables as reported to
Congress from time to time. Effective March 24, 2000, the Congress Credit
Facility was extended to January 31, 2004.

     The Revolving Loans will bear interest at prime plus .5% or Eurodollar plus
2.5%, the Tranche A Term Loans will bear interest at prime plus .75% or
Eurodollar plus 3.5%, and the Tranche B Term Loans will bear interest at prime
plus 4.25%, but in no event less than 13.0%. Under the amended Congress Credit
Facility, the Company will be required to maintain throughout the term of the
agreement minimum net worth between $30.0 million and $38.0 million and working
capital between $12.0 million and $20.0 million, determinable on a month to
month basis. The Company is also required to achieve Earnings/(Loss) Before
Interest, Taxes, Depreciation and Amortization ("EBITDA") between ($1.3) million
and $17.8 million, determinable on a quarterly basis.

     Term Financing Facility -- During 1994 and 1995, the Company entered into a
term loan agreement with a syndicate of financial institutions, which provided
for borrowings of $20 million ("Term Financing Facility"). The Term Financing
Facility bears interest based on "A-1" commercial paper rates existing at the
time of each borrowing. As of December 25, 1999, the Company had $16.0 million
of outstanding borrowings under the Term Financing Facility bearing applicable
rates of interest ranging from 5.3% to 6.0%. The Company was required to make
annual principal payments of approximately $1.6 million under the Term Financing
Facility for each of the next ten years.

     As of December 25, 1999, letters of credit, issued by UBS AG ("UBS") and
guaranteed by Richemont Finance S.A. ("Richemont"), supported both the Term
Financing Facility and the Industrial Revenue Bonds (see below). Originating in
December 1996 and renewed in 1998 and 1999, the arrangement relating to the
guarantee of the UBS letters of credit, which were scheduled to expire on March
31, 2000, required the Company to pay to Richemont an annual facility fee equal
to 9.5% of the $25.8 million principal amount, or $2.4 million. The principal
amount of the UBS letters of credit approximated the combined outstanding
borrowings under the Term Financing Facility and the Industrial Revenue Bonds at
the time of renewal.

     The Company has not extended or renewed the UBS letters of credit
supporting the Term Financing Facility and the Industrial Revenue Bonds, and,
accordingly, the $16.0 million of outstanding borrowings under the Term
Financing Facility and the $8.0 million of outstanding borrowings under the
Industrial Revenue Bonds were required to be redeemed. On March 24, 2000, the
Trustees under the Term Financing Facility and the Industrial Revenue Bonds made
drawings under the UBS letters of credit, and used the proceeds of the drawings
to redeem the Term Financing Facility and the Industrial Revenue Bonds. The
Company borrowed approximately $24.0 million under the Congress Credit Facility
on March 24, 2000 to reimburse UBS for the drawings on these letters of credit.
As a result, both the Term Financing Facility and the Industrial Revenue Bonds
have been paid in full, and the Company has paid all amounts payable to UBS and
Richemont relating to the letters of credit.

     Industrial Revenue Bonds due 2003 -- The Industrial Revenue Bonds ("IRB's")
of $8.0 million were due on December 1, 2003. The IRB's are secured by all
assets purchased with the proceeds thereof and, as of December 25, 1999, were
supported by an $8.0 million letter of credit issued by UBS and guaranteed by
Richemont. The Industrial Revenue Bonds were redeemed on March 24, 2000 (see
above).

     Richemont Lines of Credit -- On March 24, 2000, the Company entered into a
new $10.0 million unsecured line of credit (the "Richemont $10.0 Million Line of
Credit") with Richemont. Borrowings under the Richemont $10.0 Million Line of
Credit bear interest at a rate of 0.125% per month (an annualized rate of 1.5%)
on the average monthly balance outstanding. In addition, the Company will pay
Richemont a monthly facility fee of approximately $0.1 million each month during
the term of the Richemont $10.0 million Line of Credit. The maximum amount
available to be drawn under the Richemont $10.0 million Line of Credit (the
"Maximum Amount") was initially $10.0 million and will be reduced on a
dollar-for-dollar basis for each dollar of equity contributed to the Company or
any of its subsidiaries after March 24, 2000 by Richemont or any subsidiary or
affiliate of Richemont. If the excess availability under the Congress Revolving
Line of Credit facility is less than $3.0 million, the Company will be required
to borrow under the Richemont $10.0 Million Line of Credit, and pay to Congress,
the amount such that the excess availability under the Congress Revolving Line
of Credit after such payment will be $3.0 million. The Company may also borrow
under the Richemont $10.0 Million Line of Credit up to $5.0 million to pay trade
creditors in the ordinary course of business. The Richemont $10.0 Million Line
of Credit will remain in place until the Congress facility is terminated or the
Maximum Credit is reduced to zero. As of March 24, 2000, there were no
borrowings outstanding under the Richemont $10.0 Million Line of Credit.

     On March 1, 2000, the Company negotiated a new $25.0 million unsecured Line
of Credit (the "Richemont $25.0 Million Line of Credit") with Richemont.
Borrowings under the Richemont $25.0 Million Line of Credit bear interest at a
rate of 0.583% per month (an annualized rate of 7.0%) on the average monthly
balance outstanding. In addition, the Company will pay Richemont a monthly fee
of approximately $0.1 million each month from March 1, 2000 up to the Maturity
Date. The Richemont $25.0 Million Line of Credit will mature on the earlier of
December 30, 2000 or the date on which Richemont makes an equity infusion in the
Company or any of the Company's subsidiaries (such earlier date, the "Maturity
Date"). As of March 24, 2000, there were $5.0 million of borrowings outstanding
under the Richemont $25.0 Million Line of Credit.

                                       28
<PAGE>   31
           NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

     YEARS ENDED DECEMBER 25, 1999, DECEMBER 26, 1998 AND DECEMBER 27, 1997

     General -- Aggregate annual principal payments required on debt
instruments, which reflect the effects of the March 2000 refinancing of the
Congress Credit Facility and the negotiated Richemont lines of credit, are as
follows (in thousands): 2000 -- $8,243; 2001 -- $3,763; 2002 -- $3,571;
2003 -- $7,054; 2004 -- $32,547; and thereafter -- $6,376.

9.  RIGHTS OFFERINGS AND ADDITIONAL INVESTMENTS

1997 RIGHTS OFFERING

     The Company commenced a $50 million rights offering (the "1997 Rights
Offering") on April 29, 1997. Holders of record of the Company's Common Stock
and Series B Convertible Additional Preferred Stock as of April 28, 1997, the
record date, were eligible to participate in the 1997 Rights Offering. The
Rights were exercisable at $.90 per share. The 1997 Rights Offering expired on
May 30, 1997, with 55,654,623 rights to purchase shares exercised, and it closed
on June 6, 1997.

     Richemont Finance S.A. entered into a standby purchase agreement to
purchase all shares not subscribed for by shareholders of record at the
subscription price. Richemont purchased 40,687,970 shares in the 1997 Rights
Offering and, as a result, then owned approximately 20.3% of the Company. The
Company paid in cash, from the proceeds of the 1997 Rights Offering, to
Richemont on the closing date approximately $1.8 million, which represented an
amount equal to 1% of the aggregate offering price of the aggregate number of
shares issuable upon closing of the 1997 Rights Offering other than with respect
to the shares of Common Stock held by NAR Group Limited ("NAR"), a company
jointly owned by Richemont and the family of Alan G. Quasha, Chairman of the
Board of the Company, or its affiliates plus an amount equal to one-half of one
percent of the aggregate number of shares acquired by NAR upon exercise of their
rights (Standby Fee) plus an amount equal to 4% of the aggregate offering price
in respect to all unsubscribed shares (Take-Up Fee).

     On April 26, 1997, NAR irrevocably agreed with the Company, subject to and
upon the consummation of the 1997 Rights Offering, to exercise certain of the
rights distributed to it for the purchase of 11,111,111 shares of Common Stock
that had an aggregate purchase price of approximately $10 million. NAR agreed to
pay, and the Company agreed to accept as payment, for the exercise of such
rights the surrender by NAR of the principal amount due under the
Intercontinental Mining & Resources Limited ("IMR") Promissory Note dated
September 1996 in the principal amount of $10 million and cancellation thereof.

     In order to facilitate vendor shipments and to permit the commencement of
the Company's plan to consolidate certain of its warehousing facilities,
Richemont advanced $30 million as of April 23, 1997 against its commitment to
purchase all of the unsubscribed shares pursuant to the standby purchase
agreement. The Company executed a subordinated promissory note in the amount of
$30 million to evidence this indebtedness (the "Richemont Promissory Note").

     The gross cash proceeds from the 1997 Rights Offering of $40 million (after
giving effect to the acquisition and exercise by NAR of rights having an
aggregate purchase price of $10 million which were paid for by surrender and
cancellation of the $10 million IMR Promissory Note) were used to repay the $30
million principal amount outstanding under the Richemont Promissory Note and the
balance of the proceeds were used for working capital and general corporate
purposes, including repayment of amounts outstanding under the Company's
Revolving Credit Facility with Congress.

ADDITIONAL INVESTMENTS

     In November 1997, the Company announced that SMALLCAP World Fund, Inc.
("SMALLCAP"), a mutual fund and substantial investor in the Company, agreed to
purchase 3.7 million shares of the Company's Common Stock at $1.41 per share,
which represented fair market value, for an aggregate purchase price of
approximately $5.2 million in a private placement. This transaction was
consummated on November 6, 1997. These shares were restricted and were
subsequently registered under the Securities Act of 1933, as amended, pursuant
to a registration rights agreement with SMALLCAP.

     On July 31, 1998, Richemont acquired 5,646,490 additional shares of Common
Stock of the Company pursuant to the exercise of certain common stock purchase
warrants with exercise prices from $1.95 to $2.59 per share and an aggregate
total exercise price of $13.6 million. The Company used the proceeds of the
warrant exercise to reduce the amounts outstanding under the Congress Credit
Facility.

10.  CAPITAL STOCK

     Series B Convertible Additional Preferred Stock -- In February 1995, the
Company issued 634,900 shares of its Class B Convertible Additional Preferred
Stock ("Series B Stock") to acquire the remaining 80% of the outstanding common
stock of Aegis Safety Holdings, Inc. ("Aegis"), publisher of The Safety Zone
catalog. The Series B Stock had a stated value of $10 per share. Non-cumulative
dividends were to accrue and be paid at 5% per annum during each of the first
three years after the February 1995 closing if Aegis attained at least $1.0
million in earnings before interest and taxes each year. In years four and five,
dividends, which became cumulative and were to accrue and be paid at 7% per
annum, were no longer contingent upon the achievement of any earnings target.
Dividends were not accrued or paid during the first three years after closing
based on The Safety Zone catalog's operating results for

                                       29
<PAGE>   32
           NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

     YEARS ENDED DECEMBER 25, 1999, DECEMBER 26, 1998 AND DECEMBER 27, 1997

each respective year. During the Company's 1999 and 1998 fiscal years, no
dividends were paid; however, the Company accrued $0.4 million during each year
in order to recognize its cumulative dividend payment obligations.

     The Series B Stock was convertible at any time, at $6.66 per share, subject
to antidilution, at the option of the holder and was convertible at the
Company's option if the market value of the Company's Common Stock was greater
than $6.66 per share, subject to antidilution, for 20 trading days in any
consecutive 30 day trading period. If, after five years, the Series B Stock was
not converted, it was mandatorily redeemable, at the Company's option, in cash
or for 952,352 shares of the Company's Common Stock provided the market value of
the stock was at least $6.33 per share, subject to antidilution. If the market
value of the Company's Common Stock did not meet this minimum, the redemption
rate was subject to adjustment which would increase the number of shares for
which the Series B Stock was redeemed.

     The fair value of the Series B Stock, which was based on an independent
appraisal, was $0.9 million less than the stated value at February 1995. This
discount was amortized over a five year period and resulted in a charge of
approximately $0.2 million to preferred stock dividends in the consolidated
statements of income (loss) from fiscal years 1995 through 1999, respectively.

     In February 2000, the Series B Stock was redeemed via the issuance of
2,193,317 shares of the Company's Common Stock. The increase in common shares
issued upon redemption reflected a market value for the Company's shares on the
date of redemption of $2.75 per share versus the $6.66 per share amount
specified on the closing date. The Company also made a $0.9 million payment for
all unpaid cumulative preferred dividends.

     Weighted average common shares outstanding as of December 25, 1999 would
have been 212,911,863 versus a reported 210,718,546, assuming conversion of the
Series B Stock at the beginning of 1999. Reported quarterly and total year net
(loss) per common share amounts would not have been affected by the pro-forma
increase in weighted average common shares outstanding.

     General -- At December 25, 1999, there were 210,866,959 shares of Common
Stock issued and outstanding. Additionally, an aggregate of 14,780,984 shares of
Common Stock were reserved for issuance pursuant to the exercise of outstanding
options.

     Treasury stock consisted of 652,552 and 358,303 shares of common stock at
December 25, 1999 and December 26, 1998, respectively. In December 1999, the
Company retained 294,249 shares of outstanding common stock held in escrow on
behalf of certain participants of the Company's Executive Equity Incentive Plan
whose rights, under the terms of the plan, expired during 1999.

     Dividend Restrictions -- The Company is restricted from paying dividends on
its Common Stock or from acquiring its capital stock by certain debt covenants
contained in agreements to which the Company is a party.

11.  SEGMENT REPORTING

     Effective June 26, 1999, the Company adopted SFAS No. 131, "Disclosures
about Segments of an Enterprise and Related Information." The adoption of SFAS
No. 131 coincides with the Company's decision to realign its business structure
into two separate operating and reporting segments: direct commerce and
business-to-business ("B-to-B") services. This reflects the Company's strategic
initiative to reposition itself as both a specialty direct marketer and as a
provider of B-to-B e-commerce transaction services.

     The direct commerce segment is comprised of the Company's portfolio of
branded specialty mail-order catalogs and connected Internet Web sites, as well
as its retail operations, all of which market products directly to the consumer.
Revenues are derived primarily from the sale of merchandise through the
Company's catalogs and related Internet product offerings and its retail
outlets. Other sources of revenue are derived from various upsell initiatives
and other catalog related revenue. The B-to-B services segment represents the
Company's e-commerce support and fulfillment operations as well as the Company's
corporate administration function. Revenues are derived primarily from
e-commerce transaction services, which include order processing, customer care,
and shipping and distribution services. The B-to-B services segment provides the
aforementioned services to the direct commerce segment pursuant to an
intercompany service agreement.

     The Company's management reviews income (loss) from operations to evaluate
performance and allocate resources. As income taxes are centrally managed at the
corporate level, deferred tax assets are not allocated by segment. The
accounting policies of the segments are the same as those described in the
Summary of Significant Accounting Policies.

                                       30
<PAGE>   33
           NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

     YEARS ENDED DECEMBER 25, 1999, DECEMBER 26, 1998 AND DECEMBER 27, 1997

     Reportable segment data were as follows (in thousands of dollars):

<TABLE>
<CAPTION>
                                                  DIRECT      B-TO-B     ELIMINATIONS/
                                                 COMMERCE    SERVICES        OTHER        CONSOLIDATED
                                                 --------    --------    -------------    ------------
<S>                                              <C>         <C>         <C>              <C>
RESULTS FOR THE FISCAL YEAR ENDED
DECEMBER 25, 1999:
Revenue From External Customers................  $534,978    $ 14,874      $      --        $549,852
Intersegment Revenues..........................        --     102,923       (102,923)             --

Income/(Loss) before Interest and Taxes........    10,445     (18,881)           (10)         (8,446)
Interest Income/(Expense)......................    (1,971)     (5,313)           (54)         (7,338)
                                                 --------    --------      ---------        --------
Income/(Loss) before Income Taxes..............  $  8,474    $(24,194)     $     (64)       $(15,784)
                                                 ========    ========      =========        ========
RESULTS FOR THE FISCAL YEAR ENDED
DECEMBER 26, 1998:
Revenue From External Customers................  $543,994    $  2,120      $      --        $546,114
Intersegment Revenues..........................        --     105,344       (105,344)             --

Income/(Loss) before Interest and Taxes........   (12,685)     (3,721)          (401)        (16,807)
Interest Income/(Expense)......................    (2,576)     (4,647)          (555)         (7,778)
                                                 --------    --------      ---------        --------
Income/(Loss) before Income Taxes..............  $(15,261)   $ (8,368)     $    (956)       $(24,585)
                                                 ========    ========      =========        ========
RESULTS FOR THE FISCAL YEAR ENDED
DECEMBER 27, 1997:
Revenue From External Customers................  $557,638    $     --      $      --        $557,638
Intersegment Revenues..........................        --     117,373       (117,373)             --

Income/(Loss) before Interest and Taxes........        90      (1,376)          (563)         (1,849)
Interest Income/(Expense)......................    (1,947)     (6,271)           190          (8,028)
                                                 --------    --------      ---------        --------
Income/(Loss) before Income Taxes..............  $ (1,857)   $ (7,647)     $    (373)       $ (9,877)
                                                 ========    ========      =========        ========
</TABLE>

     Income/(loss) before interest and taxes for the direct commerce segment
included (income)/loss from the write-down of inventory of discontinued catalogs
of $(1.9) million and $3.7 million for years ended December 25, 1999 and
December 26, 1998, respectively. Fiscal year results for the direct commerce
segment also include $4.3 million and $1.0 million related to the gain on sale
of The Shopper's Edge and the gain on sale of the Company's non-core Austad's
catalog, respectively.

     The aforementioned intercompany service agreement between the Company's two
operating segments was effective as of December 27, 1998. Had the provisions of
the intercompany service agreement been in effect in 1998, intersegment revenues
for the B-to-B services segment would have been approximately $107.1 million for
the year ended December 26, 1998. Income/(loss) before interest and taxes would
have been approximately $(14.5) million and $(1.9) million for the direct
commerce and B-to-B services segments, respectively, for the year ended December
26, 1998.

                                       31
<PAGE>   34
           NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

     YEARS ENDED DECEMBER 25, 1999, DECEMBER 26, 1998 AND DECEMBER 27, 1997

<TABLE>
<CAPTION>
                                                                (IN THOUSANDS OF DOLLARS)
                                                      DIRECT      B-TO-B
                                                     COMMERCE    SERVICES     OTHER     CONSOLIDATED
                                                     --------    --------    -------    ------------
<S>                                                  <C>         <C>         <C>        <C>
FOR THE FISCAL YEAR ENDED
DECEMBER 25, 1999:
Depreciation and amortization......................  $  2,525    $ 6,791     $    66      $  9,382
Provision for doubtful accounts....................     1,958        801          58         2,817
Stock compensation expense.........................     2,115        775          --         2,890

Total assets.......................................  $126,686    $47,451     $17,282      $191,419
Capital expenditures...............................       792      3,751         287         4,830
FOR THE FISCAL YEAR ENDED
DECEMBER 26, 1998:
Depreciation and amortization......................  $  3,034    $ 6,444     $    --      $  9,478
Provision for doubtful accounts....................     3,228         50          --         3,278
Stock compensation expense.........................     2,009        675          --         2,684

Total assets.......................................  $161,143    $42,118     $15,609      $218,870
Capital expenditures...............................     1,352      4,759          --         6,111
FOR THE FISCAL YEAR ENDED
DECEMBER 27, 1997:
Depreciation and amortization......................  $  2,606    $ 5,621     $    --      $  8,227
Provision for doubtful accounts....................     3,973         --          --         3,973
Compensation expense related to stock options......     1,362        438          --         1,800

Total assets.......................................  $159,821    $55,297     $15,181      $230,299
Capital expenditures...............................     1,074      3,148          --         4,222
</TABLE>

12.  STOCK BASED COMPENSATION PLANS

     The Company has established several stock based compensation plans for the
benefit of its officers and employees. As discussed in the Summary of
Significant Accounting Policies (Note 1), the Company applies the fair
value-based methodology of SFAS No. 123 and, accordingly, has recorded stock
compensation expense of $2.9 million, $2.7 million and $1.8 million for fiscal
1999, 1998 and 1997, respectively. The effects of applying SFAS No. 123 for
recognizing compensation costs are not indicative of future amounts. SFAS No.
123 does not apply to awards prior to 1996 and additional awards in the future
are anticipated. The information below details each of the Company's stock
compensation plans, including any changes during the years presented.

     1978 Stock Option Plan -- Pursuant to the Company's 1978 Stock Option Plan,
an aggregate of 2,830,519 shares were approved for issuance to employees and
consultants of the Company. The option price and the period over which an option
is exercisable is determined by the Compensation Committee of the Board of
Directors.

     Options expire five years from the date of grant and generally vest over
three to four years. Payment for shares purchased upon the exercise of an option
shall be in cash or stock of the Company. If paid in cash, a partial payment may
be made with the remainder in installments evidenced by promissory notes at the
discretion of the Compensation Committee. Changes in options outstanding,
expressed in numbers of shares, are as follows:

                             1978 STOCK OPTION PLAN

<TABLE>
<CAPTION>
                                                                     1999                   1998                  1997
                                                              -------------------    ------------------    -------------------
                                                                         WEIGHTED              WEIGHTED               WEIGHTED
                                                                         AVERAGE               AVERAGE                AVERAGE
                                                                         EXERCISE              EXERCISE               EXERCISE
                                                              SHARES      PRICE      SHARES     PRICE      SHARES      PRICE
                                                              ------     --------    ------    --------    ------     --------
<S>                                                           <C>        <C>         <C>       <C>         <C>        <C>
Options outstanding, beginning of period....................   30,000     $ 2.25     30,000     $2.25       70,000     $2.11
Granted.....................................................       --         --         --        --           --        --
Exercised...................................................       --         --         --        --           --        --
Forfeited...................................................  (30,000)    $ 2.25         --        --      (40,000)    $2.00
Expired.....................................................       --         --         --        --           --        --
                                                              -------                ------                -------
Options outstanding, end of period..........................       --     $   --     30,000     $2.25       30,000     $2.25
                                                              =======     ======     ======     =====      =======     =====
Options exercisable, end of period..........................       --     $   --     30,000     $2.25       20,000     $2.25
                                                              =======     ======     ======     =====      =======     =====
</TABLE>

                                       32
<PAGE>   35
           NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

     YEARS ENDED DECEMBER 25, 1999, DECEMBER 26, 1998 AND DECEMBER 27, 1997

     As of December 25, 1999, there were no stock options outstanding or
exercisable under the 1978 Stock Option Plan and the Company does not anticipate
any further issuances under this plan.

     Director Options -- In June 1994, one director was granted non-qualified
stock options to purchase 50,000 common shares at an exercise price of $6.125
per share. These options, which remain outstanding and exercisable as of
December 25, 1999, are due to expire in March 2000.

     In February 1996, four directors were granted options to purchase 5,000
shares each at an exercise price of $1.44. Of the 20,000 total options granted,
5,000 options were exercised and 5,000 were canceled leaving 10,000 options
outstanding and exercisable at December 25, 1999. The remaining options are due
to expire in February 2001.

     Executive Equity Incentive Plan -- In December 1992, the Board of Directors
adopted the 1993 Executive Equity Incentive Plan (the "Incentive Plan"). The
Incentive Plan was approved by shareholders at the 1993 Annual Meeting. Pursuant
to the Incentive Plan, options to purchase shares of the Company's Common Stock
were to be granted from time to time by the Compensation Committee of the Board
of Directors to selected executives of the Company or its affiliates. For each
option granted, up to a maximum of 250,000, the selected executive will receive
the right to purchase on a specified date (the "Tandem Investment Date") a
number of shares of the Company's Common Stock ("Tandem Shares") equal to
one-half the maximum number of shares of the Company's Common Stock covered by
such option. Company financing is available under the Incentive Plan to pay for
the purchase price of the Tandem Shares. Changes in shares and options
outstanding, expressed in numbers of shares, for the Incentive Plan are as
follows:

                        EXECUTIVE EQUITY INCENTIVE PLAN

<TABLE>
<CAPTION>
                                                                 1999                     1998                     1997
                                                         ---------------------    ---------------------    ---------------------
                                                                      WEIGHTED                 WEIGHTED                 WEIGHTED
                                                                      AVERAGE                  AVERAGE                  AVERAGE
                                                                      EXERCISE                 EXERCISE                 EXERCISE
                                                          SHARES       PRICE       SHARES       PRICE       SHARES       PRICE
                                                          ------      --------     ------      --------     ------      --------
<S>                                                      <C>          <C>         <C>          <C>         <C>          <C>
Shares outstanding, beginning of period................  1,102,496                1,104,496                1,062,496
Shares purchased.......................................         --                       --                   47,000
Shares forfeited.......................................   (294,249)                  (2,000)                  (5,000)
                                                         ---------                ---------                ---------
Shares outstanding, end of period......................    808,247                1,102,496                1,104,496
                                                         =========                =========                =========
Options outstanding, beginning of period...............    614,000     $1.44        664,000     $1.53        640,498     $1.73
Granted................................................         --        --             --        --         94,000     $1.00
Exercised..............................................    (60,000)    $2.67             --        --             --        --
Forfeited..............................................   (100,000)    $2.11        (50,000)    $2.50        (70,498)    $2.60
                                                         ---------                ---------                ---------
Options outstanding, end of period.....................    454,000     $1.13        614,000     $1.44        664,000     $1.53
                                                         =========     =====      =========     =====      =========     =====
Options exercisable, end of period.....................    454,000     $1.13        170,000     $2.65        130,000     $2.58
                                                         =========     =====      =========     =====      =========     =====
</TABLE>

     The fair value of each option granted is estimated on the date of grant
using the Black-Scholes option-pricing model with the following weighted average
assumptions for grants in 1997: risk free interest rate of 6.37%, expected lives
of 6 years, expected volatility of 40.81%, and no expected dividends.

     The following table summarizes information about stock options outstanding
under the Incentive Plan at December 25, 1999:

<TABLE>
<CAPTION>
                                                           OPTIONS OUTSTANDING                OPTIONS EXERCISABLE
                                                  --------------------------------------    -----------------------
                                                                  WEIGHTED
                                                    NUMBER         AVERAGE      WEIGHTED      NUMBER       WEIGHTED
RANGE OF                                          OUTSTANDING     REMAINING     AVERAGE     EXERCISABLE    AVERAGE
EXERCISE                                              AT         CONTRACTUAL    EXERCISE        AT         EXERCISE
PRICES                                             12/25/99         LIFE         PRICE       12/25/99       PRICE
--------                                          -----------    -----------    --------    -----------    --------
<S>                                               <C>            <C>            <C>         <C>            <C>
$ .69 to $1.00..................................    414,000          2.8         $0.97        414,000        0.97
$2.75...........................................     40,000          1.6         $2.75         40,000        2.75
                                                    -------                                   -------
          Total.................................    454,000          2.7         $1.13        454,000        1.13
                                                    =======          ===         =====        =======        ====
</TABLE>

     Options granted under the Incentive Plan become exercisable three years
after the dates of grant and expire six years from the dates of grant. The
purchase price is payable in full at the time of purchase in cash or shares of
the Company's Common Stock valued at their fair market value or in a combination
thereof.

     Under the terms of the Incentive Plan, the purchase price for shares is
based upon the market price at the date of purchase, and payment is made in the
form of a 20% cash down payment and a six year note that bears interest at the
mid-term applicable federal rate, as determined by the Internal Revenue Service,
as of the month of grant of such shares. The Incentive Plan participants
purchased shares at prices ranging from $0.69 to $4.94, with the Company
accepting notes bearing interest at rates ranging from 5.00% to 7.75%.

                                       33
<PAGE>   36
           NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

     YEARS ENDED DECEMBER 25, 1999, DECEMBER 26, 1998 AND DECEMBER 27, 1997

     Changes to the notes receivable principal balances related to the Incentive
Plan are as follows:

<TABLE>
<CAPTION>
                                                               1999          1998          1997
                                                            ----------    ----------    ----------
<S>                                                         <C>           <C>           <C>
Notes receivable balance, beginning of period.............  $1,690,500    $1,721,500    $1,742,000
Additions.................................................          --            --        32,000
Payments..................................................    (262,000)      (31,000)      (40,000)
Tandem Share Forfeitures..................................    (773,000)           --       (12,500)
                                                            ----------    ----------    ----------
Notes receivable, end of period...........................  $  655,500    $1,690,500    $1,721,500
                                                            ==========    ==========    ==========
</TABLE>

     In December 1999, the rights of certain participants in the Incentive Plan
expired. These participants had cumulative promissory notes of approximately
$1.0 million payable to the Company, comprised of $0.8 million of principal and
$0.2 million of interest, on the expiration date. Accordingly, collateral
encompassing 294,249 shares of the Company's common stock, held in escrow on
behalf of each participant, was transferred to and retained by the Company in
satisfaction of the aforementioned promissory notes, which were no longer
required to be settled. The Company recorded these shares as treasury stock.
Furthermore, these participants forfeited their initial 20% cash down payment,
which was required for entry into the Incentive Plan. The Incentive Plan has
been terminated.

     All Employee Equity Investment Plan -- In December 1992, the Board of
Directors adopted the 1993 All Employee Equity Investment Plan, which was
approved by the shareholders at the 1993 Annual Meeting. Each full-time or
permanent part-time employee of the Company or its affiliates who has attained
the age of 18, has met certain standards of continuous service with the Company
or an affiliate of the Company and is not covered by a collective bargaining
agreement may participate in this plan. The plan was terminated on July 31, 1996
and closed to any future purchases.

     Under this plan, employees were given the opportunity to purchase shares of
the Company's Common Stock at a 40% discount from the average market value of a
share of stock over a 20-day period prior to subscription. Shares became vested
over a three-year period and, upon termination, any unvested shares were
forfeited.

     Changes in shares outstanding expressed in numbers of shares for the
Investment Plan were as follows:

<TABLE>
<CAPTION>
                                                               1999       1998       1997
                                                              -------    -------    -------
<S>                                                           <C>        <C>        <C>
Shares outstanding, beginning of period.....................  472,339    482,771    521,032
Shares purchased............................................       --         --         --
Shares forfeited............................................     (270)   (10,432)   (38,261)
                                                              -------    -------    -------
Shares outstanding, end of period...........................  472,069    472,339    482,771
                                                              =======    =======    =======
</TABLE>

     1996 Stock Option Plan -- Pursuant to the Company's 1996 Stock Option Plan,
an aggregate of 7,000,000 shares of the Company's Common Stock were approved for
issuance to employees of the Company. The option exercise price is the fair
market value as of the date of grant. The exercise price of incentive stock
options granted to an employee who owns more than 10% of the total combined
voting power of all classes of stock of the Company is equal to 110% of the fair
market value of the Company's Common Stock on the date of grant. Options granted
may be performance based and all options granted must be specifically identified
as incentive stock options or nonqualified options, as defined in the Internal
Revenue Code. No employee may be granted stock options in excess of 500,000
shares of the Company's Common Stock and the aggregate fair market value of
Common Stock for which an employee is granted incentive stock options that first
became exercisable during any given calendar year shall be limited to $100,000.
To the extent such limitation is exceeded, the option shall be treated as
nonqualified. Stock options may be granted for terms not to exceed 10 years and
shall be exercisable in accordance with the terms and conditions specified in
each option agreement. In the case of an employee who owns stock possessing more
than 10% of the total combined voting power of all classes of stock, the options
must become exercisable within 5 years. Payment for shares purchased upon
exercise of options shall be in cash or stock of the Company.

                                       34
<PAGE>   37
           NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

     YEARS ENDED DECEMBER 25, 1999, DECEMBER 26, 1998 AND DECEMBER 27, 1997

     Changes in options outstanding, granted and the weighted average exercise
prices are as follows:

                             1996 STOCK OPTION PLAN

<TABLE>
<CAPTION>
                                                     1999                      1998                      1997
                                            ----------------------    ----------------------    ----------------------
                                                          WEIGHTED                  WEIGHTED                  WEIGHTED
                                                          AVERAGE                   AVERAGE                   AVERAGE
                                                          EXERCISE                  EXERCISE                  EXERCISE
                                              SHARES       PRICE        SHARES       PRICE        SHARES       PRICE
                                            ----------    --------    ----------    --------    ----------    --------
<S>                                         <C>           <C>         <C>           <C>         <C>           <C>
Options outstanding, beginning of
  period..................................   5,301,400     $1.66       4,451,249     $1.10       3,445,000     $0.98
Granted...................................   2,010,000      2.53       1,550,000      3.07       1,765,000      1.29
Exercised.................................    (693,821)     1.01        (363,949)     1.01              --        --
Forfeited.................................    (689,595)     1.95        (335,900)     1.52        (758,751)     1.01
Expired...................................          --        --              --        --              --        --
                                            ----------                ----------                ----------
Options outstanding, end of period........   5,927,984     $1.99       5,301,400     $1.66       4,451,249     $1.10
                                            ==========     =====      ==========     =====      ==========     =====
Options exercisable, end of period........   2,620,344     $1.41       1,749,232     $1.07         855,443     $0.98
                                            ==========     =====      ==========     =====      ==========     =====
Weighted average fair value of options
  granted.................................  $     1.21                $     1.50                $     0.66
                                            ==========                ==========                ==========
</TABLE>

     The fair value of each option granted is estimated on the date of grant
using the Black-Scholes option-pricing model with the following weighted average
assumptions for grants in fiscal 1999, 1998 and 1997: risk free interest rate of
5.83%, 5.64% and 6.21%, respectively, expected lives of 4 years and expected
volatility of 53.81%, 55.82% and 59.40%, respectively, and no expected
dividends. The following table summarizes information about stock options
outstanding at December 25, 1999:

<TABLE>
<CAPTION>
                                                          OPTIONS OUTSTANDING                OPTIONS EXERCISABLE
                                                 --------------------------------------    -----------------------
                                                                 WEIGHTED
                                                   NUMBER         AVERAGE      WEIGHTED      NUMBER       WEIGHTED
RANGE OF                                         OUTSTANDING     REMAINING     AVERAGE     EXERCISABLE    AVERAGE
EXERCISE                                             AT         CONTRACTUAL    EXERCISE        AT         EXERCISE
PRICES                                            12/25/99         LIFE         PRICE       12/25/99       PRICE
--------                                         -----------    -----------    --------    -----------    --------
<S>                                              <C>            <C>            <C>         <C>            <C>
$ .69 to $1.00.................................   1,781,809         3.9         $0.96       1,584,680      $0.97
$1.43 to $1.75.................................   1,011,165         4.6         $1.46         655,385      $1.46
$2.38 to $2.94.................................   1,860,010         6.5         $2.46          80,176      $2.72
$3.00 to $3.50.................................   1,275,000         5.5         $3.17         300,103      $3.23
                                                  ---------                                 ---------
                                                  5,927,984         5.2         $1.99       2,620,344      $1.41
                                                  =========         ===         =====       =========      =====
</TABLE>

     The Chief Executive Officer (the "CEO") Stock Option Plans -- The
information below details each of the stock-based plans granted in 1996 for the
benefit of the CEO. In each of the plans: (1) the option price represents the
average of the low and high fair market values of the Common Stock on August 23,
1996, the date of the closing of the 1996 Rights Offering, (2) the options
outstanding at December 25, 1999 have an exercise price of $1.16, and (3)
payment for shares purchased upon the exercise of the option shall be in cash or
stock of the Company.

     The details of the plans are as follows:

     The CEO Tandem Plan -- Pursuant to the Company's Tandem Plan (the "Tandem
Plan"), the right to purchase an aggregate of 1,000,000 shares of Common Stock
and an option to purchase 2,000,000 shares of Common Stock was approved for
issuance to the CEO. The option is subject to antidilution provisions and due to
the Company's 1996 Rights Offering was adjusted to 1,510,000 shares of Common
Stock and 3,020,000 options. The options expire 10 years from the date of grant
and vest over four years. The options outstanding at December 25, 1999 have a
weighted average contractual life of 6.25 years.

     The CEO Performance Year Plan -- Pursuant to the Company's Performance Year
Plan (the "Performance Plan"), an option to purchase an aggregate of 1,000,000
shares of Common Stock was approved for issuance to the CEO in 1996. The options
are based upon performance as defined by the Compensation Committee of the Board
of Directors. Should a performance target not be attained, the option is carried
over to the succeeding year in conjunction with that year's option until the
expiration date. The options expire 10 years from the date of grant and vest
over four years. Payment for shares purchased upon the exercise of the options
shall be in cash or stock of the Company. The options outstanding at December
25, 1999 have a weighted average contractual life of 6 years.

     The CEO Closing Price Option Plan -- Pursuant to the Company's Closing
Price Option Plan (the "Closing Price Plan"), an option to purchase an aggregate
of 2,000,000 shares of Common Stock was approved for issuance to the CEO in
1996. The options expire 10 years from the date of grant and will become vested
upon the Company's stock price reaching a specific target over a consecutive 91
calendar day period as defined by the Compensation Committee of the Board of
Directors. In May 1998, the

                                       35
<PAGE>   38
           NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

     YEARS ENDED DECEMBER 25, 1999, DECEMBER 26, 1998 AND DECEMBER 27, 1997

Compensation Committee of the Board of Directors reduced the target per share
market price at which the Company's Common Stock had to trade in consideration
of the dilutive effect of the increase in outstanding shares from the date of
the grant. The performance period has a range of 6 years beginning August 23,
1996, the date of the closing of the 1996 Rights Offering. The options
outstanding at December 25, 1999 have a weighted average contractual life of
6.25 years.

     The CEO Six Year Stock Option Plan -- Pursuant to NAR's Six Year Stock
Option Plan (the "Six Year Plan"), an option to purchase an aggregate of 250,000
shares of Common Stock was granted to the CEO by NAR. The option is subject to
antidilution provisions and due to the Company's 1996 Rights Offering was
adjusted to 377,500 option shares. The options expire 6 years from the date of
grant and vest after one year. The options outstanding at December 25, 1999 have
a weighted average contractual life of 2.25 years.

     The CEO Seven Year Stock Option Plan -- Pursuant to NAR's Seven Year Stock
Option Plan (the "Seven Year Plan"), an option to purchase an aggregate of
250,000 shares of Common Stock was granted to the CEO by NAR. The option is
subject to antidilution provisions and due to the Company's 1996 Rights Offering
was adjusted to 377,500 option shares. The options expire 7 years from the date
of grant and vest after two years. The options outstanding at December 25, 1999
have a weighted average contractual life of 3.25 years.

     The CEO Eight Year Stock Option Plan -- Pursuant to NAR's Eight Year Stock
Option Plan (the "Eight Year Plan"), an option to purchase an aggregate of
250,000 shares of Common Stock was granted to the CEO by NAR. The option is
subject to antidilution provisions and due to the Company's 1996 Rights Offering
was adjusted to 377,500 option shares. The options expire 8 years from the date
of grant and vest after three years. The options outstanding at December 25,
1999 have a weighted average contractual life of 4.25 years.

     The CEO Nine Year Stock Option Plan -- Pursuant to NAR's Nine Year Stock
Option Plan (the "Nine Year Plan"), an option to purchase an aggregate of
250,000 shares of common stock was granted to the CEO by NAR. The option was
subject to antidilution provisions and due to the Company's 1996 Rights Offering
was adjusted to 377,500 option shares. The options expire 9 years from the date
of grant and vest after four years. The options outstanding at December 25, 1999
have a weighted average contractual life of 5.25 years.

     For the combined CEO plans, options outstanding, granted and the weighted
average exercise prices are as follows:

                             CEO STOCK OPTION PLANS

<TABLE>
<CAPTION>
                                               1999                     1998                     1997
                                       ---------------------    ---------------------    ---------------------
                                                    WEIGHTED                 WEIGHTED                 WEIGHTED
                                                    AVERAGE                  AVERAGE                  AVERAGE
                                                    EXERCISE                 EXERCISE                 EXERCISE
                                        SHARES       PRICE       SHARES       PRICE       SHARES       PRICE
                                       ---------    --------    ---------    --------    ---------    --------
<S>                                    <C>          <C>         <C>          <C>         <C>          <C>
Options outstanding, beginning of
  period.............................  7,530,000     $1.16      7,530,000     $1.16      7,530,000     $1.16
Granted..............................         --        --             --        --             --        --
Exercised............................         --        --             --        --             --        --
Forfeited............................         --        --             --        --             --        --
Expired..............................         --        --             --        --             --        --
                                       ---------                ---------                ---------
Options outstanding, end of period...  7,530,000     $1.16      7,530,000     $1.16      7,530,000     $1.16
                                       =========     =====      =========     =====      =========     =====
Options exercisable, end of period...  4,147,500     $1.16      2,765,000     $1.16      1,382,500     $1.16
                                       =========     =====      =========     =====      =========     =====
</TABLE>

                                       36
<PAGE>   39
           NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

     YEARS ENDED DECEMBER 25, 1999, DECEMBER 26, 1998 AND DECEMBER 27, 1997

     The fair value of the options granted in 1996 for each of the CEO Stock
Option Plans was estimated on the date of grant using the Black-Scholes
option-pricing model with the following weighted average assumptions:

<TABLE>
<CAPTION>
                                                              RISK-FREE                              EXPECTED
                                                              INTEREST      EXPECTED     DIVIDEND      LIFE
                                                                RATE       VOLATILITY     YIELD      (YEARS)
                                                              ---------    ----------    --------    --------
<S>                                                           <C>          <C>           <C>         <C>
CEO Tandem Plan.............................................    6.79%        45.02%        0.00%       9.85
CEO Performance Plan........................................    6.79%        45.02%        0.00%       9.85
CEO Closing Price Plan (1)..................................    6.79%        45.02%        0.00%       9.85
CEO Six Year Plan...........................................    6.42%        45.02%        0.00%       5.85
CEO Seven Year Plan.........................................    6.53%        45.02%        0.00%       6.85
CEO Eight Year Plan.........................................    6.62%        45.02%        0.00%       7.85
CEO Nine Year Plan..........................................    6.73%        45.02%        0.00%       8.85
</TABLE>

---------------
(1)The CEO Closing Price Option Plan used the Black-Scholes option-pricing model
in conjunction with a Monte Carlo simulation.

     The following table summarizes information about stock options outstanding
at December 25, 1999.

<TABLE>
<CAPTION>
                            OPTIONS OUTSTANDING             OPTIONS EXERCISABLE
                    ------------------------------------   ----------------------
                                   WEIGHTED
                      NUMBER        AVERAGE     WEIGHTED     NUMBER      WEIGHTED
                    OUTSTANDING    REMAINING    AVERAGE    EXERCISABLE   AVERAGE
RANGE OF EXERCISE       AT        CONTRACTUAL   EXERCISE       AT        EXERCISE
PRICES               12/25/99        LIFE        PRICE      12/25/99      PRICE
-----------------   -----------   -----------   --------   -----------   --------
<S>                 <C>           <C>           <C>        <C>           <C>
$1.16                7,530,000        5.7        $1.16      4,147,500     $1.16
</TABLE>

OTHER STOCK AWARDS

     During 1997, the Company granted, and the Compensation Committee approved,
non-qualified options to certain employees for the purchase of an aggregate of
1,000,000 shares of the Company's Common Stock. The options become vested over
three years and expire in 2003.

     The options have an exercise price of $1.00 and a remaining contractual
life of 3.2 years. The fair value of the options at the date of grant was
estimated to be $.52 based on the following weighted average assumptions: risk
free interest rate of 6.48%, expected life of 4 years, expected volatility of
59.40% and no expected dividends. As of December 25, 1999, there were 809,000
options outstanding and 475,664 options exercisable.

13.  EMPLOYEE BENEFIT PLANS

     The Company maintains several defined contribution (401K) plans that
collectively cover all employees of the Company and provide employees with the
option of investing in the Company's stock. The Company matches a percentage of
employee contributions to the plans up to $10,000. Matching contributions for
all plans were $0.6 million, $0.6 million and $0.7 million for fiscal 1999, 1998
and 1997, respectively.

14.  INCOME TAXES

     At December 25, 1999, the Company had net operating loss carryforwards
("NOLs") totalling $306.7 million which expire as follows: In the year
2001 -- $18.1 million, 2003 -- $14.6 million, 2004 -- $14.3 million,
2005 -- $20.6 million, 2006 - $46.9 million, 2007 -- $27.7 million,
2010 -- $24.6 million, 2011 -- $64.9 million 2012 -- $30.0 million,
2018 -- $24.4 million and 2019 -- $20.6 million. The Company also has $0.8
million of general business tax credit carryforwards that expire in 2000 through
2009. The Company's available NOLs for tax purposes consist of $92.2 million of
NOLs subject to a $4.0 million annual limitation under Section 382 of the
Internal Revenue Code of 1986 and $214.5 million of NOLs not subject to a
limitation. The unused portion of the $4.0 million annual limitation for any
year may be carried forward to succeeding years to increase the annual
limitation for those succeeding years.

     SFAS No. 109, "Accounting for Income Taxes," requires that the future tax
benefit of such NOLs be recorded as an asset to the extent that management
assesses the utilization of such NOLs to be "more likely than not." Despite
incurring additional NOLs of $20.6 million in 1999, management believes that the
Company will be able to utilize up to $15.0 million of NOLs based upon the
Company's assessment of numerous factors, including its future operating plans.

     For the years ended December 25, 1999 and December 26, 1998, the Company
maintained its deferred tax asset of $15.0 million (net of a valuation allowance
of $97.5 million in 1999 and $94.7 million in 1998). Management believes that
the $15.0 million net deferred tax asset still represents a reasonable estimate
of the future utilization of the NOLs and the reversal of timing items and will
continue to routinely evaluate the likelihood of future profits and the
necessity of future adjustments to the deferred tax asset valuation allowance.

                                       37
<PAGE>   40
           NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

     YEARS ENDED DECEMBER 25, 1999, DECEMBER 26, 1998 AND DECEMBER 27, 1997

     Realization of the future tax benefits is dependent on the Company's
ability to generate taxable income within the carryforward period and the
periods in which net temporary differences reverse. Future levels of operating
income and taxable income are dependent upon general economic conditions,
competitive pressures on sales and margins, postal and other delivery rates, and
other factors beyond the Company's control. Accordingly, no assurance can be
given that sufficient taxable income will be generated for utilization of NOLs
and reversals of temporary differences.

     The Company's Federal income tax provision was zero for fiscal 1999, 1998
and 1997. The Company's provision for state income taxes was $0.5 million in
1999, $1.0 million in 1998 and $1.0 million in 1997.

     A reconciliation of the Company's net loss for financial statement purposes
to taxable loss for the years ended December 25, 1999, December 26, 1998 and
December 27, 1997 is as follows (in thousands):

<TABLE>
<CAPTION>
                                                                1999          1998          1997
                                                                ----          ----          ----
<S>                                                           <C>           <C>           <C>
(Loss) before income taxes..................................  $(15,784)     $(24,585)     $ (9,877)
Differences between income before taxes for financial
  statement purposes and taxable income:
State income taxes..........................................      (530)       (1,000)         (999)
Permanent differences.......................................     1,681           376           413
Net change in temporary differences.........................    (5,986)          839       (19,543)
                                                              --------      --------      --------
     Taxable (loss).........................................  $(20,619)     $(24,370)     $(30,006)
                                                              ========      ========      ========
</TABLE>

     The components of the net deferred tax asset at December 25, 1999 are as
follows (in millions):

<TABLE>
<CAPTION>
                                                                            NON-
                                                              CURRENT      CURRENT      TOTAL
                                                              -------      -------      -----
<S>                                                           <C>          <C>          <C>
Federal tax NOL and business tax credit carry forwards......   $  --       $107.4       $107.4
Allowance for doubtful accounts.............................     1.4           --          1.4
Inventories.................................................     0.2           --          0.2
Prepaid catalog costs.......................................    (2.3)          --         (2.3)
Property and equipment......................................      --          2.3          2.3
Excess of net assets of acquired business...................      --         (2.2)        (2.2)
Mailing lists...............................................      --          1.0          1.0
Accrued liabilities.........................................     2.2           --          2.2
Customer prepayments and credits............................     1.2           --          1.2
Deferred credits............................................      --          0.7          0.7
Tax basis in net assets of discontinued operations in excess
  of financial statement amount.............................     0.5           --          0.5
Other.......................................................     2.4         (2.3)         0.1
                                                               -----       ------       ------
Deferred tax asset..........................................     5.6        106.9        112.5
Valuation allowance.........................................     2.3         95.2         97.5
                                                               -----       ------       ------
Deferred tax asset, net.....................................   $ 3.3       $ 11.7       $ 15.0
                                                               =====       ======       ======
</TABLE>

     The Company has established a valuation allowance for a portion of the
deferred tax asset due to the limitation on the utilization of the NOLs and its
estimate of the future utilization of the NOLs.

     The Company's tax returns for years subsequent to 1984 have not been
examined by the Internal Revenue Service ("IRS"). Availability of the NOLs might
be challenged by the IRS upon examination of such returns which could affect the
availability of the NOLs. The Company believes however, that IRS challenges that
would limit the utilization of the NOLs will not have a material adverse effect
on the Company's financial position.

                                       38
<PAGE>   41
           NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

     YEARS ENDED DECEMBER 25, 1999, DECEMBER 26, 1998 AND DECEMBER 27, 1997

     Total tax expense for each of the three fiscal years presented differ from
the amount computed by applying the Federal statutory tax rate due to the
following:

<TABLE>
<CAPTION>
                                                                 1999          1998           1997
                                                               PERCENT       PERCENT        PERCENT
                                                              OF PRE-TAX    OF PRE-TAX     OF PRE-TAX
                                                                 LOSS          LOSS           LOSS
                                                              ----------    ----------     ----------
<S>                                                           <C>           <C>           <C>
Tax (benefit) at Federal statutory rate.....................    (35.0)%       (35.0)%        (35.0)%
State and local taxes.......................................      2.2           2.6            6.6
Net increase in (reversal of) temporary differences
  Depreciation and amortization.............................      9.7           3.1          (10.3)
  Deferred compensation.....................................     11.4           0.9            7.3
  Restructuring reserves....................................     (3.4)         (7.8)         (44.8)
  Customer allowance and return reserves....................     (5.4)         (0.5)          (9.4)
  Inventory.................................................     (9.5)          4.8          (11.5)
  Prepaid catalog costs.....................................     (3.9)          2.0            7.6
  Allowance for doubtful accounts...........................      1.6          (1.2)          (9.4)
  Gain on asset disposal....................................    (11.5)           --             --
  Other.....................................................     (2.3)         (0.1)           1.2
  Tax NOLs for which no benefit could be recognized.........     45.7          34.7          106.4
  Permanent differences.....................................      3.7           0.5            1.5
                                                                -----         -----          -----
                                                                  3.3%          4.0%          10.2%
                                                                =====         =====          =====
</TABLE>

15.  LEASES

     Certain leases to which the Company is a party provide for payment of real
estate taxes and other expenses. Most leases are operating leases and include
various renewal options with specified minimum rentals. Rental expense for
operating leases related to continuing operations were as follows (in
thousands):

<TABLE>
<CAPTION>
                                                               1999         1998        1997
                                                               ----         ----        ----
<S>                                                           <C>          <C>         <C>
Minimum rentals.............................................  $10,168      $9,297      $12,013
                                                              -------      ------      -------
</TABLE>

     Future minimum lease payments under noncancelable operating and capital
leases relating to continuing operations that have initial or remaining terms in
excess of one year, together with the present value of the net minimum lease
payments as of December 25, 1999, are as follows (in thousands):

<TABLE>
<CAPTION>
                                                              OPERATING      CAPITAL
YEAR ENDING                                                    LEASES        LEASES
-----------                                                   ---------      -------
<S>                                                           <C>            <C>
2000........................................................   $10,766        $157
2001........................................................     8,798         169
2002........................................................     7,379          67
2003........................................................     5,379          --
2004........................................................     4,946          --
Thereafter..................................................    12,270          --
                                                               -------        ----
          Total minimum lease payments......................   $49,538         393
                                                               =======
Less amount representing interest (a).......................                   (44)
                                                                              ----
Present value of minimum lease payments (b).................                  $349
                                                                              ====
</TABLE>

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

(a) Amount necessary to reduce net minimum lease payments to present value
    calculated at the Company's incremental borrowing rate at the inception of
    the leases.

(b) Reflected in the balance sheet as current and noncurrent capital lease
    obligations of $157 and $192 at December 25, 1999 and $73 and $4 at December
    26, 1998, respectively.

     The future minimum lease payments under noncancelable leases that remain
from the discontinued restaurant operations as of December 25, 1999 are as
follows: 2000 -- $0.8 million; 2001 -- $0.7 million; 2002 -- $0.5 million;
2003 -- $0.4 million; 2004 -- $0.4; million and thereafter $0.3 million. The
above amounts exclude annual sublease income from subleases which have the same
expiration as the underlying leases as follows: 2000 -- $0.6 million;
2001 -- $0.6 million; 2002 -- $0.4 million; 2003 -- $0.3 million; 2004 -- $0.3;
and thereafter $0.2 million.

                                       39
<PAGE>   42
           NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

     YEARS ENDED DECEMBER 25, 1999, DECEMBER 26, 1998 AND DECEMBER 27, 1997

16.  CHANGES IN MANAGEMENT AND EMPLOYMENT AGREEMENTS

     On March 7, 1996, Rakesh K. Kaul was named President and Chief Executive
Officer and elected to the Board of Directors of the Company. Effective that
date, Mr. Kaul entered into an Executive Employment Agreement (the "Employment
Agreement") which provides for an "at will" term commencing on March 7, 1996 at
a base salary of $525,000 per year. The Employment Agreement also provides for
Mr. Kaul's participation in the Short-Term Incentive Plan for Rakesh K. Kaul.
That plan, which was approved by the shareholders at the June 20, 1996
shareholders meeting, provides for an annual bonus of between 0% and 125% of Mr.
Kaul's base salary, depending on the attainment of various performance
objectives as determined in accordance with objective formulae or standards to
be adopted by the Compensation Committee as part of the performance goals for
each such year. The Employment Agreement also provides for Mr. Kaul's
participation in the Long-Term Incentive Plan for Rakesh K. Kaul. That plan,
which was approved by the shareholders at the June 20, 1996 shareholders
meeting, provides for the purchase by Mr. Kaul of 1,000,000 shares of Common
Stock at their fair market value; an option expiring March 7, 2006 for the
purchase of 2,000,000 shares of Common Stock (the "Tandem Plan"); an option
expiring March 7, 2006 to purchase 2,000,000 shares of Common Stock (the
"Closing Price Plan") exercisable only upon satisfaction of the condition that
the closing price of the Common Stock has attained an average of $7.00 per
share, subsequently amended to $4.50 per share, during a 91-day period ending on
or before March 7, 2002; an option expiring March 7, 2006 to purchase 1,000,000
shares of Common Stock at their fair market value, subject to the attainment of
certain objective performance goals to be set by the Compensation Committee; and
four options expiring March 7, 2002, and the first three anniversaries thereof,
respectively, for the purchase of 250,000 shares of Common Stock each, granted
by NAR, the Company's former largest shareholder (the "NAR Options"). As a
result of the 1996 Rights Offering, Mr. Kaul was granted an additional .51
shares for each share of Common Stock he was granted under the Tandem Stock
Purchase Right, the Tandem Option, and the NAR Options (collectively, the "Award
Shares") which resulted in his being granted 1,510,000 shares, 3,020,000 options
and 1,510,000 options, respectively. The Employment Agreement also provides for
the grant of registration rights under the Securities Act of 1933, as amended
(the "Securities Act"), for shares of Common Stock owned by Mr. Kaul. Pursuant
to the Employment Agreement, the Company will make Mr. Kaul whole, on an
after-tax basis, for various relocation and temporary living expenses related to
his employment with the Company. In the event that Mr. Kaul's employment is
actually or constructively terminated by the Company, other than for cause, he
will be entitled for a 12-month period commencing on the date of his termination
to (i) a continuation of his base salary, (ii) continued participation in the
Company's medical, dental, life insurance and retirement plans offered to senior
executives of the Company, and (iii) a bonus, payable in 12 equal installments,
equal to 100% of his base salary (at the rate in effect immediately prior to
such termination). In addition, Mr. Kaul will be entitled to receive (i) to the
extent not previously paid, the short-term bonus payable to Mr. Kaul for the
year preceding the year of termination and (ii) for the year in which Mr. Kaul's
employment is terminated, an additional bonus equal to his annual base salary
for such year, pro-rated to reflect the portion of such year during which Mr.
Kaul is employed. Mr. Kaul's employment will be deemed to be constructively
terminated by the Company in the event of a change in control (as defined in the
Employment Agreement), the Company's bankruptcy, a material diminution of his
responsibilities, or a relocation of the Company's headquarters outside the New
York metropolitan area without his prior written consent. In the event that Mr.
Kaul's employment terminates other than as a result of a termination by the
Company, Mr. Kaul will not be entitled to any payment or bonus, other than any
short-term bonus he is entitled to receive from the year prior to termination.

17.  RELATED PARTY TRANSACTIONS

     At December 25, 1999, current and former officers and executives of the
Company, excluding Rakesh K. Kaul, owed the Company approximately $0.7 million,
excluding accrued interest, under the Executive Equity Incentive Plan. These
amounts due to the Company bear interest at rates ranging from 5.00% to 7.75%
and are due from 2000 to 2002. An additional $1.0 million, excluding accrued
interest, relates to a receivable under the CEO Incentive ("Tandem") Plan for
Rakesh K. Kaul and is included in Notes Receivable from Sale of Common Stock in
the accompanying consolidated balance sheet.

     Richemont Finance S.A.("Richemont"), a Luxemburg company, owns
approximately 48.2% of the Company's common stock through direct ownership.
Richemont also holds an irrevocable proxy to vote approximately 4.3 million
shares currently held by the third party. Accordingly, Richemont has voting
control of approximately 50.2% of the Company.

18.  COMMITMENTS AND CONTINGENCIES

     A class action lawsuit was commenced on March 3, 2000 entitled Edwin L.
Martin v. Hanover Direct, Inc. and John Does 1 through 10, bearing case no.
CJ2000-177 in the State Court of Oklahoma (District Court in and for Sequoyah
County). Plaintiff commenced the action on behalf of himself and a class of
persons who have at any time purchased a product from the Company and paid for
an "insurance charge." The complaint sets forth claims for breach of contract,
unjust enrichment, recovery of money paid absent consideration, fraud and a
claim under the New Jersey Consumer Fraud Act. The complaint alleges that the
Company charges its customers for delivery insurance even though, among other
things, the Company's common carriers already provide insurance and the
insurance charge provides no benefit to the Company's customers. Plaintiff also
seeks a declaratory judgment as to the validity of the delivery insurance. The
damages sought are (i) an order directing the Company to return to plaintiff and
class members the "unlawful revenue" derived from the insurance charges, (ii)
declaring the rights of the parties, (iii) permanently enjoining the

                                       40
<PAGE>   43
           NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)

     YEARS ENDED DECEMBER 25, 1999, DECEMBER 26, 1998 AND DECEMBER 27, 1997

Company from imposing the insurance charge, (iv) awarding threefold damages of
less than $75,000 per plaintiff and per class member, and (v) attorney's fees
and costs. The Company has not yet been required to file an answer to the
complaint.

     At the end of January, 2000, the Company received a letter from the Federal
Trade Commission ("FTC") conducting an inquiry into the marketing of The
Shopper's Edge club to determine whether, in connection with such marketing, any
entities have engaged in (1) unfair or deceptive acts or practices in violation
of Section 5 of the FTC Act and/or (2) deceptive or abusive telemarketing acts
or practices in violation of the FTC's Telemarketing Sales Rule. The inquiry was
undertaken pursuant to the provisions of Section 6, 9, and 10 of the FTC Act.
Following such an investigation, the FTC may initiate an enforcement action if
it finds "reason to believe" that the law is being violated. When there is
"reason to believe" that a law violation has occurred, the FTC may issue a
complaint setting forth its charges. If the respondent elects to settle charges,
it may sign a consent agreement (without admitting liability) by which it
consents to entry of a final order and waives all right to judicial review. If
the FTC accepts such a proposed consent, it places the order on the record for
sixty days of public comment before determining whether to make the order final.
The Company believes that it complied with all enumerated aspects of the
investigation. It has not received notice of an enforcement action or a
complaint against it.

     The Company is involved in various routine lawsuits of a nature which are
deemed customary and incidental to its business. In the opinion of management,
the ultimate disposition of such actions will not have a material adverse effect
on the Company's financial position or results of operations.

     In connection with several sublease agreements related to the Company's
discontinued restaurant operations, the Company remains contingently liable for
all lease related obligations should the sublessees fail to comply with all
conditions of their sublease agreements.

19.  SELECTED QUARTERLY FINANCIAL INFORMATION (UNAUDITED)

<TABLE>
<CAPTION>
                                                              FIRST       SECOND      THIRD       FOURTH
                                                             QUARTER     QUARTER     QUARTER     QUARTER
                                                             --------    --------    --------    --------
                                                               (IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
<S>                                                          <C>         <C>         <C>         <C>
1999
Net Revenues...............................................  $127,714    $131,237    $121,656    $169,245
(Loss) Before Interest and Taxes...........................    (2,884)     (3,260)       (800)     (1,502)
Net (loss).................................................    (4,224)     (5,794)     (2,688)     (3,608)
Preferred stock dividends..................................      (159)       (158)       (159)       (158)
Net (loss) applicable to common shareholders...............  $ (4,383)   $ (5,952)   $ (2,847)   $ (3,766)
                                                             ========    ========    ========    ========
Net (loss) per share -basic and diluted....................  $   (.02)   $   (.03)   $   (.01)   $   (.02)
                                                             ========    ========    ========    ========
1998
Net Revenues...............................................  $124,535    $134,562    $123,417    $163,600
(Loss) Before Interest and Taxes...........................    (2,964)     (2,367)       (763)    (10,713)
Net (loss).................................................    (4,649)     (4,859)     (2,836)    (13,241)
Preferred stock dividends..................................      (122)       (158)       (158)       (140)
Net (loss) applicable to common shareholders...............  $ (4,771)   $ (5,017)   $ (2,994)   $(13,381)
                                                             ========    ========    ========    ========
Net (loss) per share -basic and diluted....................  $   (.02)   $   (.02)   $   (.01)   $   (.06)
                                                             ========    ========    ========    ========
</TABLE>

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

     None

                                       41
<PAGE>   44

                                    PART III

ITEM 10.  DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT

     (a) Identification of Directors:

     The information required by this item is incorporated by reference from the
Company's definitive proxy statement to be filed by the Company pursuant to
Regulation 14A.

     (b) Identification of Executive Officers:

<TABLE>
<CAPTION>
                                                                                               OFFICE HELD
NAME                    AGE                   TITLE AND OTHER INFORMATION(A)                      SINCE
----                    ---                   ------------------------------                   -----------
<S>                     <C>    <C>                                                             <C>
Rakesh K. Kaul          48     President, Chief Executive Officer and Director since March        1996
                               7, 1996. From 1995 until February 1996, Mr. Kaul served as
                               the Vice Chairman and Chief Operating Officer of Fingerhut
                               Companies, Inc. From January 1992 until March 1995, Mr. Kaul
                               was the Executive Vice President and Chief Administrative
                               Officer of Fingerhut. Prior to January 1992, Mr. Kaul served
                               as the Senior Vice President, Strategy and Finance and a
                               director at Shaklee Corporation.
Michael Lutz            57     Executive Vice President-Chief Operating Officer since March       1998
                               1998. From September 1994 to March 1998, Mr. Lutz was
                               Executive Vice President -- Operations of the Company. Prior
                               to September 1994, Mr. Lutz held various positions with New
                               Hampton, Inc./Avon Direct Response.
Brian C. Harriss        51     Senior Vice President and Chief Financial Officer since June       1999
                               1999. From 1998 to 1999, Mr. Harriss was a Managing Director
                               of Dailey Capital Management, L.P., a venture capital fund,
                               and Chief Operating Officer of E-Bidding Inc., an internet
                               e-commerce freight Website. From 1997 to 1998, Mr. Harriss
                               served as the Vice President of Corporate Development at The
                               Reader's Digest Association, Inc. From 1994 to 1996, Mr.
                               Harriss was the Chief Financial Officer of The Thompson
                               Minwax Company. Prior thereto, Mr. Harriss held various
                               financial positions with Cadbury Schweppes PLC, Tambrands,
                               Inc. and Pepsico, Inc.
Richard B. Hoffmann     53     President and Chief Operating Officer of Hanover Brands            1999
                               since August 1999 and Senior Vice President and Chief
                               Marketing Officer of the Company since March 1998. Prior to
                               March 1998, Mr. Hoffmann was engaged in private marketing
                               consulting from March 1997. Mr. Hoffmann was President and
                               Chief Operating Officer of Jayhawk Acceptance Corporation
                               from February 1996 to March 1997. Prior to February 1996,
                               Mr. Hoffmann was a Senior Vice President at Fingerhut
                               Companies, Inc.
Michael D. Contino      39     Senior Vice President and Chief Information Officer since          1996
                               December 1996. Mr. Contino joined the Company in 1995 as
                               Director of Computer Operations and Telecommunications.
                               Prior to 1995, Mr. Contino was the Senior Manager of I.S.
                               Operations at New Hampton, Inc., a subsidiary of Spiegel,
                               Inc.
Ralph Bulle             50     Senior Vice President -- Human Resources since June 1996.          1996
                               Mr. Bulle joined the Company in 1993 as Vice
                               President -- Human Resources. Prior to 1993, Mr. Bulle was
                               Senior Vice President -- Operations & Human Resources for
                               Seaman Furniture Company.
Curt B. Johnson         44     Senior Vice President and General Counsel since December           1999
                               1999 and Secretary since March 2000. From 1998 to 1999, Mr.
                               Johnson was the General Counsel of PharMerica, Inc., a
                               Tampa-based institutional pharmacy company. From 1995 to
                               1998, Mr. Johnson was the General Counsel of Counsel Corp.,
                               a Toronto-based venture capital company. For ten years prior
                               thereto, he held various legal positions with American
                               Express, including head of the Technology Law Group.
William C. Kingsford    53     Vice President and Corporate Controller since May 1997.            1997
                               Prior to May 1997, Mr. Kingsford was Vice President and
                               Chief Internal Auditor at Melville Corporation.
</TABLE>

---------------
(a) All references to dates and positions held by such executive officers prior
    to September 1993 refer to the Company's predecessor, The Horn & Hardart
    Company ("H&H"). H&H merged with and into the Company in September 1993,
    with the Company surviving.

     Pursuant to the Company's By-Laws, its officers are chosen annually by the
Board of Directors and hold office until their respective successors are chosen
and qualified.

                                       42
<PAGE>   45

ITEM 11.  EXECUTIVE COMPENSATION

     The information required by this item is incorporated by reference from the
Company's definitive proxy statement to be filed by the Company pursuant to
Regulation 14A.

ITEM 12.  SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT

     The information required by this item is incorporated by reference from the
Company's definitive proxy statement to be filed by the Company pursuant to
Regulation 14A.

ITEM 13.  CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS

     The information required by this item is incorporated by reference from the
Company's definitive proxy statement to be filed by the Company pursuant to
Regulation 14A.

                                       43
<PAGE>   46

                                    PART IV

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

     (a) The following documents are filed as part of this report:

<TABLE>
<CAPTION>
                                                                           PAGE
                                                                           NO.
                                                                           ----
        <C>  <S>                                                           <C>
         1.  Index to Financial Statements
             Report of Independent Public Accountants -- Hanover Direct,
             Inc. and Subsidiaries Financial Statements..................    18
             Consolidated Balance Sheets as of December 25, 1999 and
             December 26, 1998...........................................    19
             Consolidated Statements of Income (Loss) for the years ended
             December 25, 1999, December 26, 1998 and December 27,
             1997........................................................    20
             Consolidated Statements of Cash Flows for the years ended
             December 25, 1999, December 26, 1998 and December 27,
             1997........................................................    21
             Consolidated Statements of Shareholders' Equity for the
             years ended December 27, 1997, December 26, 1998 and
             December 25, 1999...........................................    22
             Notes to Consolidated Financial Statements for the years
             ended December 25, 1999, December 26, 1998 and December 27,
             1997........................................................    23
             Supplementary Data:
             Selected quarterly financial information (unaudited) for the
             two fiscal years ended December 25, 1999 and December 25,
             1998........................................................    41
         2.  Index to Financial Statement Schedule
             Schedule II -- Valuation and Qualifying Accounts for the
             years ended December 25, 1999, December 26, 1998 and
             December 27, 1997...........................................    52
             Schedules other than that listed above are omitted because
             they are not applicable or the required information is shown
             in the financial statements or notes thereto.
         3.  Exhibits
             The exhibits required by Item 601 of Regulation S-K filed as
             part of, or incorporated by reference in, this report are
             listed in the accompanying Exhibit Index.
</TABLE>

     (b) Reports on Form 8-K:  None.

     (c) Exhibits required by Item 601 of Regulation S-K:

         See Exhibit Index.

     (d) Financial Statement Schedules:

         See (a) 2. above.

                                       44
<PAGE>   47

                                   SIGNATURES

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

Date:  March 23, 2000                 HANOVER DIRECT, INC.
                                      (registrant)

                                      By: /s/ RAKESH K. KAUL
                                        ----------------------------------------
                                             Rakesh K. Kaul
                                             President and Chief
                                             Executive Officer

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

PRINCIPAL FINANCIAL OFFICER:

<TABLE>
<S>                                                               <C>
                   /s/ BRIAN C. HARRISS
  ------------------------------------------------------
                     Brian C. Harriss
                 Senior Vice President and
                  Chief Financial Officer
</TABLE>

Board of Directors:

<TABLE>
<S>                                                               <C>

/s/ RALPH DESTINO                                                 /s/ SHAILESH J. MEHTA
  --------------------------------------------------------        ------------------------------------------------------
       Ralph Destino, Director                                    Shailesh J. Mehta, Director
  /s/ J. DAVID HAKMAN                                             /s/ JAN P. DU PLESSIS
  --------------------------------------------------------        ------------------------------------------------------
         J. David Hakman, Director                                Jan P. du Plessis, Director
  /s/ RAKESH K. KAUL
  --------------------------------------------------------        ------------------------------------------------------
         Rakesh K. Kaul, Director                                 Alan G. Quasha, Director
  /s/ JUNE R. KLEIN                                               /s/ BASIL P. REGAN
  --------------------------------------------------------        ------------------------------------------------------
         June R. Klein, Director                                  Basil P. Regan, Director
  /s/ THEODORE H. KRUTTSCHNITT
  --------------------------------------------------------        ------------------------------------------------------
      Theodore H. Kruttschnitt, Director                          Howard M.S. Tanner, Director
  /s/ KENNETH KRUSHEL                                             /s/ ROBERT F. WRIGHT
  --------------------------------------------------------        ------------------------------------------------------
        Kenneth Krushel, Director                                 Robert F. Wright, Director
</TABLE>

Date:  March 23, 2000

                                       45
<PAGE>   48

                                 EXHIBIT INDEX

<TABLE>
<CAPTION>
EXHIBIT NUMBER
 ITEM 601 OF                                                                               PAGE
REGULATION S-K  DESCRIPTION OF DOCUMENT AND INCORPORATION BY REFERENCE WHERE APPLICABLE    NO.
--------------  -----------------------------------------------------------------------    ----
<C>             <S>                                                                        <C>
     2.1        Asset Purchase Agreement dated as of December 1, 1994 among the
                Company, LWI Holdings, Inc., Bankers Trust Company, Leichtung, Inc. and
                DRI Industries, Inc. Incorporated by reference to the Company's Annual
                Report on Form 10-K for the year ended December 31, 1994.
     2.2        Stock Purchase Agreement dated as of February 16, 1995 among the
                Company, Hanover Holdings, Inc., Aegis Safety Holdings, Inc., F.L.
                Holdings, Inc., Roland A.E. Franklin, Martin E. Franklin, Jonathan
                Franklin, Floyd Hall, Frederick Field, Homer G. Williams, Frank
                Martucci, Norm Thompson Outfitters, Inc. and Capital Consultants, Inc.
                (as agent) (collectively, the "Aegis Sellers"). Incorporated by
                reference to the Company's Annual Report on Form 10-K for the year
                ended December 31, 1994.
     2.3        Stock Purchase Agreement dated as of May 19, 1995 by and among the
                Company, Austad Holdings, Inc. ("AHI"), The Austad Company ("TAC"),
                David B. Austad ("DBA"), Denise Austad ("DA"), David Austad, as
                custodian ("DBAC"), Oscar Austad, Dorothy Austad, Randall Austad,
                Kristi Austad, Lori Miller, Robin Miller, Kerri Derenge, Sharon Stahl,
                Lori Miller, as custodian, Dorothy Austad, as attorney-in-fact, and
                Kara Miller (collectively, the "Austad Individuals"). Incorporated by
                reference to the Company's Annual Report on Form 10-K for the year
                ended December 30, 1995.
     2.4        Agreement and Plan of Corporate Separation and Reorganization dated as
                of February 16, 1996 by and among the Company, AHI, TAC, DBA, DBAC, and
                DA. Incorporated by reference to the Company's Annual Report on Form
                10-K for the year ended December 30, 1995.
     2.5        Asset Sale Agreement, dated as of August 19, 1999, and First Amendment
                dated October 5, 1999 between the Company, AHI and TAC and Euclid
                Logistics, Inc. FILED HEREWITH.
     2.6        Intentionally Omitted.
     2.7        The Shopper's Edge, LLC Purchase Agreement, dated as of December 25,
                1999, between Hanover Brands, Inc. and Far Services, LLC. FILED
                HEREWITH.
     3.1        Restated Certificate of Incorporation. Incorporated by reference to the
                Company's Annual Report on Form 10-K for the year ended December 28,
                1996.
     3.2        Certificate of Correction filed to correct a certain error in the
                Restated Certificate of Incorporation. Incorporated by reference to the
                Company's Annual Report on Form 10-K for the year ended December 26,
                1998.
     3.3        Certificate of Amendment to Certificate of Incorporation dated May 28,
                1999. FILED HEREWITH.
     3.4        Certificate of Correction Filed to Correct a Certain Error in the
                Restated Certificate of Incorporation dated August 26, 1999. FILED
                HEREWITH.
     3.5        By-laws. Incorporated by reference to the Company's Quarterly Report on
                Form 10-Q for the quarterly period ended September 27, 1997.
     4.1        Warrant Agreement dated as of October 25, 1991 ("NAR Warrant") between
                the Company* and NAR Group Limited ("NAR") for 279,110 shares of Common
                Stock. FILED HEREWITH.
     4.2        Registration Rights Agreement dated as of July 8, 1991 among the
                Company*, NAR and Intercontinental Mining & Resources Limited ("IMR").
                FILED HEREWITH.
     4.3        Warrant Agreement dated as of January 1, 1994 between the Company and
                Sears Shop At Home Services, Inc. ("Sears"). Incorporated by reference
                to the Company's Annual Report on Form 10-K for the year ended December
                31, 1994.
     4.4        Registration Rights Agreement dated as of February 16, 1995 among the
                Company and the Aegis Sellers. Incorporated by reference to the
                Company's Annual Report on Form 10-K for the year ended December 31,
                1994.
     4.5        Warrant Agreement dated as of July 8, 1991 between the Company and IMR
                for 1,750,000 shares of Common Stock. FILED HEREWITH
     4.6        Warrant Agreement dated as of October 25, 1991 between the Company and
                NAR for 931,791 shares of Common Stock. FILED HEREWITH
     4.7        Second Amendment to Warrant Agreement and Warrant Certificate for
                931,791 shares of Common Stock, between the Company and NAR dated as of
                November 13, 1995. Incorporated by reference to the Company's Annual
                Report on Form 10-K for the year ended December 30, 1995.
     4.8        First Amendment to Warrant Agreement and Warrant Certificate for
                1,750,000 shares of Common Stock, between the Company and IMR dated as
                of November 13, 1995. Incorporated by reference to the Company's Annual
                Report on Form 10-K for the year ended December 30, 1995.
     4.9        First Amendment to Warrant Agreement and Warrant Certificate for
                279,110 shares of Common Stock, between the Company and NAR dated as of
                November 13, 1995. Incorporated by reference to the Company's Annual
                Report on Form 10-K for the year ended December 30, 1995.
</TABLE>

                                       46
<PAGE>   49

<TABLE>
<CAPTION>
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--------------  -----------------------------------------------------------------------    ----
<C>             <S>                                                                        <C>
     4.10       Second Amendment to Warrant Agreement between the Company and IMR dated
                as of August 23, 1996. Incorporated by reference to the Company's
                Annual Report on Form 10-K for the year ended December 28, 1996.
     4.11       Second Amendment to Warrant Agreement between the Company and NAR dated
                as of August 23, 1996. Incorporated by reference to the Company's
                Annual Report on Form 10-K for the year ended December 28, 1996.
     4.12       Third Amendment to Warrant Agreement between the Company and NAR dated
                as of August 23, 1996. Incorporated by reference to the Company's
                Annual Report on Form 10-K for the year ended December 28, 1996.
     10.1       Stock Option Plan, as amended. Incorporated by reference to the
                Company's* Annual Report on Form 10-K for the fiscal year ended
                December 28, 1991.
     10.2       Account Purchase Agreement dated as of December 21, 1992 among the
                Company*, Hanover Direct Pennsylvania, Inc. ("HDPI"), Brawn of
                California, Inc. ("Brawn") and General Electric Capital Corporation
                ("GECC"). Incorporated by reference to the Company's* Annual Report on
                Form 10-K for the fiscal year ended December 26, 1992.
     10.3       Amendment No. 1 to the Account Purchase Agreement dated as of July 12,
                1993 among the Company*, HDPI, Brawn, Gump's By Mail, Gump's, Gump's
                Holdings and GECC. FILED HEREWITH.
     10.4       Amendment No. 2 to the Account Purchase Agreement dated as of June 1,
                1995 among the Company, HDPI, Brawn, Gump's, Gump's By Mail, Gump's
                Holdings and GECC. Incorporated by reference to the Company's Annual
                Report on Form 10-K for the year ended December 30, 1995.
     10.5       Waiver and Amendment No. 3 to the Account Purchase Agreement dated as
                of December 14, 1995 among the Company, HDPI, Brawn and GECC.
                Incorporated by reference to the Company's Annual Report on Form 10-K
                for the year ended December 30, 1995.
     10.6       Amendment No. 4 to the Amended and Restated Account Purchase Agreement
                dated as of June 28, 1996 among the Company, HDPI, Brawn, Gump's,
                Gump's by Mail, Gump's Holdings and GECC. Incorporated by reference to
                the Company's Annual Report on Form 10-K for the year ended December
                28, 1996.
     10.7       Form of Stock Option Agreement between the Company* and certain
                Directors of the Company, as amended. Incorporated by reference to the
                Company's* Annual Report on Form 10-K for the fiscal year ended
                December 28, 1991.
     10.8       Termination of Employment Agreement and Employment and Consulting
                Agreement dated as of December 31, 1995 between the Company and Jack E.
                Rosenfeld. Incorporated by reference to the Company's Annual Report on
                Form 10-K for the year ended December 28, 1996.
     10.9       Registration Rights Agreement between the Company and Rakesh K. Kaul,
                dated as of August 23, 1996. Incorporated by reference to the Company's
                Annual Report on Form 10-K for the year ended December 28, 1996.
    10.10       Form of Indemnification Agreement among the Company* and each of the
                Company's directors and executive officers. FILED HEREWITH.
    10.11       Letter Agreement dated May 5, 1989 among the Company*, Theodore H.
                Kruttschnitt, J. David Hakman and Edmund R. Manwell. Incorporated by
                reference to the Company's* Current Report on Form 8-K dated May 10,
                1989.
    10.12       Hanover Direct, Inc. Savings Plan as amended. FILED HEREWITH.
    10.13       Restricted Stock Award Plan. FILED HEREWITH.
    10.14       All Employee Equity Investment Plan. FILED HEREWITH.
    10.15       Executive Equity Incentive Plan, as amended. Incorporated by reference
                to the Company's Annual Report on Form 10-K for the year ended December
                28, 1996.
    10.16       Form of Supplemental Retirement Plan. FILED HEREWITH.
    10.17       1996 Stock Option Plan, as amended. Incorporated by reference to the
                Company's 1997 Proxy Statement.
    10.18       Stock Option Agreement dated as of February 9, 1996 between the Company
                and Ralph Destino. FILED HEREWITH.
    10.19       Stock Option Agreement dated as of February 9, 1996 between the Company
                and Elizabeth Valk Long. FILED HEREWITH.
    10.20       Stock Option Agreement dated as of February 9, 1996 between the Company
                and Robert F. Wright. FILED HEREWITH.
</TABLE>

                                       47
<PAGE>   50

<TABLE>
<CAPTION>
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--------------  -----------------------------------------------------------------------    ----
<C>             <S>                                                                        <C>
    10.21       1999 Stock Option Plan for Directors. FILED HEREWITH.
    10.22       Intentionally omitted.
    10.23       Loan and Security Agreement dated as of November 14, 1995 by and among
                Congress Financial Corporation ("Congress"), Hanover Direct
                Pennsylvania, Inc. ("HDPA"), Brawn of California, Inc. ("Brawn"),
                Gump's by Mail, Inc. ("Gump's by Mail"), Gump's Corp.("Gump's"), The
                Company Store, Inc. ("The Company Store") , Tweeds, Inc. ("Tweeds"),
                LWI Holdings, Inc.("LWI"), Aegis Catalog Corporation ("Aegis"), Hanover
                Direct Virginia, Inc. ("HDVA") and Hanover Realty Inc. ("Hanover
                Realty"). Incorporated by reference to the Company's Annual Report on
                Form 10-K for the year ended December 30, 1995.
    10.24       First Amendment to Loan and Security Agreement dated as of February 22,
                1996 by and among Congress, HDPA, Brawn, Gump's by Mail, Gump's, The
                Company Store, Tweeds, LWI, Aegis, HDVA, Hanover Realty and TAC.
                Incorporated by reference to the Company's Annual Report on Form 10-K
                for the year ended December 28, 1996.
    10.25       Second Amendment to Loan and Security Agreement dated as of April 16,
                1996 by and among Congress, HDPA, Brawn, Gump's by Mail, Gump's, The
                Company Store, Tweeds, LWI, Aegis, HDVA, Hanover Realty and Austad.
                Incorporated by reference to the Company's Annual Report on Form 10-K
                for the year ended December 28, 1996.
    10.26       Third Amendment to Loan and Security Agreement dated as of May 24, 1996
                by and among Congress, HDPA, Brawn, Gump's by Mail, Gump's, The Company
                Store, Tweeds, LWI, Aegis, HDVA, Hanover Realty and Austad.
                Incorporated by reference to the Company's Annual Report on Form 10-K
                for the year ended December 28, 1996.
    10.27       Fourth Amendment to Loan and Security Agreement dated as of May 31,
                1996 by and among Congress, HDPA, Brawn, Gump's by Mail, Gump's, The
                Company Store, Tweeds, LWI, Aegis, HDVA, Hanover Realty and Austad.
                Incorporated by reference to the Company's Annual Report on Form 10-K
                for the year ended December 28, 1996.
    10.28       Fifth Amendment to Loan and Security Agreement dated as of September
                11, 1996 by and among Congress, HDPA, Brawn, Gump's by Mail, Gump's,
                The Company Store, Tweeds, LWI, Aegis, HDVA, Hanover Realty and Austad.
                Incorporated by reference to the Company's Annual Report on Form 10-K
                for the year ended December 28, 1996.
    10.29       Sixth Amendment to Loan and Security Agreement dated as of December 5,
                1996 by and among Congress, HDPA, Brawn, Gump's by Mail, Gump's, The
                Company Store, Tweeds, LWI, Aegis, HDVA, Hanover Realty and Austad.
                Incorporated by reference to the Company's Annual Report on Form 10-K
                for the year ended December 28, 1996.
    10.30       Seventh Amendment to Loan and Security Agreement dated as of December
                18, 1996 by and among Congress, HDPA, Brawn, Gump's by Mail, Gump's,
                The Company Store, Tweeds, LWI, Aegis, HDVA, Hanover Realty and Austad.
                Incorporated by reference to the Company's Annual Report on Form 10-K
                for the year ended December 28, 1996.
    10.31       Eighth Amendment to Loan and Security Agreement dated as of March 26,
                1997 by and among Congress, HDPA, Brawn, Gump's by Mail, Gump's, The
                Company Store, Tweeds, LWI, Aegis, HDVA, Hanover Realty and Austad.
                Incorporated by reference to the Company's Annual Report on Form 10-K
                for the year ended December 26, 1998.
    10.32       Ninth Amendment to Loan and Security Agreement dated as of April 18,
                1997 by and among Congress, HDPA, Brawn, Gump's by Mail, Gump's, The
                Company Store, Tweeds, LWI, Aegis, HDVA, Hanover Realty and Austad.
                Incorporated by reference to the Company's Annual Report on Form 10-K
                for the year ended December 26, 1998.
    10.33       Tenth Amendment to Loan and Security Agreement dated as of October 31,
                1997 by and among Congress, HDPA, Brawn, Gump's by Mail, Gump's, The
                Company Store, Tweeds, LWI, Aegis, HDVA, Hanover Realty and Austad.
                Incorporated by reference to the Company's Annual Report on Form 10-K
                for the year ended December 26, 1998.
    10.34       Eleventh Amendment to Loan and Security Agreement dated as of March 25,
                1998 by and among Congress, HDPA, Brawn, Gump's by Mail, Gump's, The
                Company Store, Tweeds, LWI, Aegis, HDVA, Hanover Realty and Austad.
                Incorporated by reference to the Company's Annual Report on Form 10-K
                for the year ended December 26, 1998.
    10.35       Twelfth Amendment to Loan and Security Agreement dated as of September
                30, 1998 by and among Congress, HDPA, Brawn, Gump's by Mail, Gump's,
                The Company Store, Tweeds, LWI, Aegis, HDVA, Hanover Realty and Austad.
                FILED HEREWITH.
    10.36       Thirteenth Amendment to Loan and Security Agreement dated as of
                September 30, 1998 by and among Congress, HDPA, Brawn, Gump's by Mail,
                Gump's, The Company Store, Tweeds, LWI, Aegis, HDVA, Hanover Realty and
                Austad. FILED HEREWITH.
</TABLE>

                                       48
<PAGE>   51

<TABLE>
<CAPTION>
EXHIBIT NUMBER
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--------------  -----------------------------------------------------------------------    ----
<C>             <S>                                                                        <C>
    10.37       Fourteenth Amendment to Loan and Security Agreement dated as of
                February 28, 2000 by and among Congress, HDPA, Brawn, Gump's by Mail,
                Gump's, The Company Store, Tweeds, LWI, Aegis, HDVA, Hanover Realty and
                Austad. FILED HEREWITH.
    10.38       Subordination Agreement, dated as of November 14, 1995, among Congress,
                IMR, and the Trustee. Incorporated by reference to the Company's Annual
                Report on Form 10-K for the year ended December 30, 1995.
    10.39       Long-Term Incentive Plan for Rakesh K. Kaul. Incorporated by reference
                to the Company's Annual Report on Form 10-K for the year ended December
                28, 1996.
    10.40       Short-Term Incentive Plan for Rakesh K. Kaul. Incorporated by reference
                to the Company's Annual Report on Form 10-K for the year ended December
                28, 1996.
    10.41       Employment Agreement dated as of March 7, 1996 between the Company and
                Rakesh K. Kaul. Incorporated by reference to the Company's Annual
                Report on Form 10-K for the year ended December 28, 1996.
    10.42       Tandem Option Plan dated as of August 23, 1996 between the Company and
                Rakesh K. Kaul. Incorporated by reference to the Company's Annual
                Report on Form 10-K for the year ended December 28, 1996.
    10.43       Closing Price Option dated as of August 23, 1996 between the Company
                and Rakesh K. Kaul. Incorporated by reference to the Company's Annual
                Report on Form 10-K for the year ended December 28, 1996.
    10.44       Performance Price Option dated as of August 23, 1996 between the
                Company and Rakesh K. Kaul. Incorporated by reference to the Company's
                Annual Report on Form 10-K for the year ended December 28, 1996.
    10.45       Six-Year Stock Option dated as of August 23, 1996 between NAR and
                Rakesh K. Kaul. Incorporated by reference to the Company's Annual
                Report on Form 10-K for the year ended December 28, 1996.
    10.46       Seven-Year Stock Option dated as of August 23, 1996 between NAR and
                Rakesh K. Kaul. Incorporated by reference to the Company's Annual
                Report on Form 10-K for the year ended December 28, 1996.
    10.47       Eight-Year Stock Option dated as of August 23, 1996 between NAR and
                Rakesh K. Kaul. Incorporated by reference to the Company's Annual
                Report on Form 10-K for the year ended December 28, 1996.
    10.48       Nine-Year Stock Option dated as of August 23, 1996 between NAR and
                Rakesh K. Kaul. Incorporated by reference to the Company's Annual
                Report on Form 10-K for the year ended December 28, 1996.
    10.49       Letter of Credit, dated December 18, 1996, from Swiss Bank Corporation,
                New York Branch in favor of Fleet National Bank, as trustee.
                Incorporated by reference to the Company's Annual Report on Form 10-K
                for the year ended December 28, 1996.
    10.50       Substitute Letter of Credit, dated February 18, 1998, from Swiss Bank
                Corporation, Stamford Branch ("Swiss Bank") in favor of State Street
                Bank and Trust Company, as trustee. Incorporated by reference to the
                Company's Annual Report on Form 10-K for the year ended December 26,
                1998.
    10.51       Amendment dated as of March 26, 1999, to Letter of Credit. FILED
                HEREWITH.
    10.52       Reimbursement Agreement, dated as of December 18, 1996, by and between
                Swiss Bank and the Company. Incorporated by reference to the Company's
                Annual Report on Form 10-K for the year ended December 28, 1996.
    10.53       First Amendment, dated as of February 18, 1998, to Reimbursement
                Agreement, by and between Swiss Bank and the Company. Incorporated by
                reference to the Company's Annual Report on Form 10-K for the year
                ended December 26, 1998.
    10.54       Second Amendment, dated as of March 26, 1999, to Reimbursement
                Agreement between the Company and UBS AG. FILED HEREWITH.
    10.55       Hanover Indemnity Agreement, dated as of December 18, 1996, between
                Richemont Finance S.A. ("Richemont") and the Company, HDPI, Brawn,
                Gump's, Gump's by Mail, The Company Store, Tweeds, LWI, Aegis, HDVA and
                Hanover Realty. Incorporated by reference to the Company's Annual
                Report on Form 10-K for the year ended December 28, 1996.
    10.56       First Amendment, dated as of February 18, 1998, to Indemnity Agreement
                between the Company and Richemont. FILED HEREWITH.
    10.57       Second Amendment, dated as of March 26, 1999, to Indemnity Agreement
                between the Company and Richemont. FILED HEREWITH.
    10.58       Subordination Agreement, dated as of December 18, 1996, between
                Congress and Swiss Bank. Incorporated by reference to the Company's
                Annual Report on Form 10-K for the year ended December 28, 1996.
</TABLE>

                                       49
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<TABLE>
<CAPTION>
EXHIBIT NUMBER
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--------------  -----------------------------------------------------------------------    ----
<C>             <S>                                                                        <C>
    10.59       Subordination Agreement, dated as of December 18, 1996 between Congress
                and Richemont. Incorporated by reference to the Company's Annual Report
                on Form 10-K for the year ended December 28, 1996.
    10.60       Series A Note Agreement, dated as of November 9, 1994, between the
                Company and Norwest Bank Minnesota, N.A. ("Norwest"), as trustee.
                Incorporated by reference to the Company's Annual Report on Form 10-K
                for the year ended December 28, 1996.
    10.61       First Supplemental Series A Note Agreement, dated as of December 29,
                1995, between the Company and Norwest. Incorporated by reference to the
                Company's Annual Report on Form 10-K for the year ended December 28,
                1996.
    10.62       Second Supplemental Series A Note Agreement, dated as of December 18,
                1996, between the Company and Norwest. Incorporated by reference to the
                Company's Annual Report on Form 10-K for the year ended December 28,
                1996.
    10.63       $10,000,000 Series A Note, dated as of November 9, 1994 and made by the
                Company. Incorporated by reference to the Company's Annual Report on
                Form 10-K for the year ended December 28, 1996.
    10.64       First Amendment, dated as of December 29, 1995, to Series A Note made
                by the Company. Incorporated by reference to the Company's Annual
                Report on Form 10-K for the year ended December 28, 1996.
    10.65       Second Amendment, dated December 18, 1996, to Series A Note made by the
                Company. Incorporated by reference to the Company's Annual Report on
                Form 10-K for the year ended December 28, 1996.
    10.66       Placement Agreement, dated as of November 9, 1994, by and between the
                Company and NationsBank of North Carolina, N.A. Incorporated by
                reference to the Company's Annual Report on Form 10-K for the year
                ended December 28, 1996.
    10.67       First Amendment, dated as of December 29, 1995, to Placement Agreement
                by and between the Company and NationsBank of North Carolina, N.A.
                Incorporated by reference to the Company's Annual Report on Form 10-K
                for the year ended December 28, 1996.
    10.68       Second Amendment, dated as of December 18, 1996, to Placement Agreement
                by and between the Company and NationsBank of North Carolina, N.A.
                Incorporated by reference to the Company's Annual Report on Form 10-K
                for the year ended December 28, 1996.
    10.69       Remarketing and Interest Services Agreement, dated as of November 9,
                1994, by and between the Company and NationsBank of North Carolina,
                N.A. Incorporated by reference to the Company's Annual Report on Form
                10-K for the year ended December 28, 1996.
    10.70       First Amendment, dated as of December 29, 1995, to Remarketing and
                Interest Services Agreement by and between the Company and NationsBank
                of North Carolina, N.A. Incorporated by reference to the Company's
                Annual Report on Form 10-K for the year ended December 28, 1996.
    10.71       Second Amendment, dated as of December 18, 1996, to Remarketing and
                Interest Services Agreement by and between the Company and NationsBank
                of North Carolina, N.A. Incorporated by reference to the Company's
                Annual Report on Form 10-K for the year ended December 28, 1996.
    10.72       Series A Letter of Credit, dated as of December 18, 1996, issued by
                Swiss Bank. Incorporated by reference to the Company's Annual Report on
                Form 10-K for the year ended December 28, 1996.
    10.73       Amendment, dated as of February 18, 1998, to Series A Letter of Credit
                between Swiss Bank and Norwest. Incorporated by reference to the
                Company's Annual Report on Form 10-K for the year ended December 26,
                1998.
    10.74       Second Amendment, dated as of March 26, 1999, to Series A Letter of
                Credit. FILED HEREWITH.
    10.75       Series B Note Agreement, dated as of April 25, 1995, between the
                Company and Norwest. Incorporated by reference to the Company's Annual
                Report on Form 10-K for the year ended December 28, 1996.
    10.76       First Supplemental Series B Note Agreement, dated as of December 29,
                1995. Incorporated by reference to the Company's Annual Report on Form
                10-K for the year ended December 28, 1996.
    10.77       Second Supplemental Series B Note Agreement, dated as of December 18,
                1996, between the Company and Norwest Bank. Incorporated by reference
                to the Company's Annual Report on Form 10-K for the year ended December
                28, 1996.
    10.78       $10,000,000 Series B Note, dated as of April 27, 1995 and made by the
                Company. Incorporated by reference to the Company's Annual Report on
                Form 10-K for the year ended December 28, 1996.
    10.79       First Amendment, dated December 29, 1995, to Series B Note made by the
                Company. Incorporated by reference to the Company's Annual Report on
                Form 10-K for the year ended December 28, 1996.
    10.80       Second Amendment, dated December 18, 1996, to Series B Note made by the
                Company. Incorporated by reference to the Company's Annual Report on
                Form 10-K for the year ended December 28, 1996.
</TABLE>

                                       50
<PAGE>   53

<TABLE>
<CAPTION>
EXHIBIT NUMBER
 ITEM 601 OF                                                                               PAGE
REGULATION S-K  DESCRIPTION OF DOCUMENT AND INCORPORATION BY REFERENCE WHERE APPLICABLE    NO.
--------------  -----------------------------------------------------------------------    ----
<C>             <S>                                                                        <C>
    10.81       Series B Letter of Credit, dated as of December 18, 1996, issued by
                Swiss Bank. Incorporated by reference to the Company's Annual Report on
                Form 10-K for the year ended December 28, 1996.
    10.82       Amendment, dated as of February 18, 1998, to Series B Letter of Credit
                between Swiss Bank and Norwest. Incorporated by reference to the
                Company's Annual Report on Form 10-K for the year ended December 26,
                1998.
    10.83       Second Amendment, dated as of March 26, 1999, to Series B Letter of
                Credit. FILED HEREWITH.
    10.84       NAR Promissory Note dated as of September 11, 1996. Incorporated by
                reference to the Company's Annual Report on Form 10-K for the year
                ended December 28, 1996.
    10.85       Stock Purchase Agreement, dated as of November 4, 1997, by and between
                the Company and SMALLCAP World Fund, Inc. ("SMALLCAP") Incorporated by
                reference to the Company's Annual Report on Form 10-K for the year
                ended December 26, 1998.
    10.86       Registration Rights Agreement, dated as of November 4, 1997, by and
                between the Company and SMALLCAP. Incorporated by reference to the
                Company's Annual Report on Form 10-K for the year ended December 26,
                1998.
    10.87       Richemont Extension of Guaranty. Incorporated by reference to the
                Company's Annual Report on Form 10-K for the year ended December 26,
                1998.
    10.88       Unsecured Line of Credit and Promissory Note dated March 1, 2000 given
                by the Company to Richemont. FILED HEREWITH.
    10.89       Agreement, dated March 26, 1999, between the Company and Richemont.
                FILED HEREWITH.
    10.90       Letter Agreement, dated February 4, 1999, between the Company and UBS
                AG. FILED HEREWITH.
     21.1       Subsidiaries of the Registrant. FILED HEREWITH.
     23.1       Consent of Independent Public Accountants. FILED HEREWITH.
     27.1       Financial Data Schedule. **/FILED HEREWITH.
</TABLE>

---------------
 * Hanover Direct, Inc., a Delaware corporation, is the successor by merger to
   The Horn & Hardart Company and The Hanover Companies.

** EDGAR filing only.

                                       51
<PAGE>   54

                                                                     SCHEDULE II

                              HANOVER DIRECT, INC.

                       VALUATION AND QUALIFYING ACCOUNTS
                YEARS ENDED DECEMBER 25, 1999, DECEMBER 26, 1998
                             AND DECEMBER 27, 1997
                           (IN THOUSANDS OF DOLLARS)

<TABLE>
<CAPTION>
                      COLUMN A                         COLUMN B             COLUMN C              COLUMN D       COLUMN E
                      --------                         --------             --------             ----------     ----------
                                                                            ADDITIONS
                                                                   ---------------------------
                                                      BALANCE AT   CHARGED TO     CHARGED TO                    BALANCE AT
                                                      BEGINNING    COSTS AND    OTHER ACCOUNTS   DEDUCTIONS       END OF
DESCRIPTION                                           OF PERIOD     EXPENSES       DESCRIBE       DESCRIBE        PERIOD
-----------                                           ----------   ----------   --------------   ----------     ----------
<S>                                                   <C>          <C>          <C>              <C>            <C>
1999:
Allowance for Doubtful Accounts Receivable, Current    $ 4,035      $ 2,817                       $ 2,940(1)    $    3,912
Reserves for Discontinued Operations                       982                                        133(2)           849
Restructuring Reserve                                    3,286          607                         1,594(3)         2,299
Reserves for Sales Returns                               4,778        9,915                        10,013(2)         4,680
Deferred Tax Asset Valuation                            94,700                       2,800(4)

1998:
Allowance for Doubtful Accounts Receivable, Current      4,755        3,278                         3,998(1)         4,035
Reserves for Discontinued Operations                     1,354                                        372(2)           982
Restructuring Reserve                                    5,424                                      2,138(2)         3,286
Reserves for Sales Returns                               6,043       14,755                        16,020(2)         4,778
Deferred Tax Asset Valuation Allowance                  80,100                      14,600(4)                       94,700

1997:
Allowance for Doubtful Accounts Receivable, Current      6,419        3,973                         5,637(1)         4,755
Reserves for Discontinued Operations                     1,722                                        368(2)         1,354
Restructuring Reserve                                    9,504         (400)                        3,680(2)         5,424
Reserves for Sales Returns                               9,036       76,507                        79,500(2)         6,043
Deferred Tax Asset Valuation Allowance                  82,600                     (2,500)(4)                       80,100
Allowance for Net Unrealized Losses on Convertible
  Debt Securities                                        1,888                                      1,888(1)            --
</TABLE>

---------------
(1) Accounts written-off.

(2) Utilization of reserves.

(3) Utilization of reserves ($1,131) and reversal of reserves ($463).

(4) Represents the change in the valuation allowance offset by the change in the
    gross tax asset.

                                       52