**SECURITIES
      AND EXCHANGE COMMISSION**


**Washington,
      D.C. 20549**





**Form
      10-KSB/A**


**Amendment
      No. 1**





x
            **Annual
                Report pursuant to Section 13 or 15 (d) of the Securities Exchange
                Act
                of****1934
                for the Fiscal Year Ended June 30,
                2006.**


**or**


o
            **Transition
                report pursuant to Section 13 or 15 (d) of the Securities Act
                of****1934
                for the transition period from ________ to****__________****.**





**Commission
      File Number**  **001-31260**





**Decorize,
      Inc.**


(Exact
      name of registrant as specified in its charter)








**Delaware**
            **43-193180**(State
                of Incorporation)
            (IRS
                Employer Identification Number)





**1938
      E. Phelps**


**Springfield,
      MO 65802**


**(417)
      879-3326**


**(Address,**  **z** **ip
      code and telephone number, including area code, of**


**registrant’s
      principal executive offices)**





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





Title
                of each class:
            
            Name
                of each exchange on which registered:Common
                Stock, $0.001 par value
            
            The
                American Stock Exchange




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


None





Check
      whether the issuer (1) filed all reports required to be filed by Section 13
      or
      15(d) of the Exchange Act during the past 12 months (or for such shorter period
      that the registrant was required to file such reports), and (2) has been subject
      to such filing requirements for the past 90 days.      
 Yes x No o





Check
      if
      there is no disclosure of delinquent filers in response to Item 405 of
      Regulation S-B contained in this form, and no disclosure will be contained,
      to
      the best of registrant’s knowledge, in definitive proxy or information
      statements incorporated by reference in Part III of this Form 10-KSB or any
      amendment of this Form 10-KSB. x





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





The
      registrant’s revenues for the fiscal year ended June 30, 2006, were
      $9,242,278.





As
      of
      September 1, 2006, the total aggregate market value of the 7,039,219 shares
      of
      voting and non-voting common equity held by non-affiliates of the registrant
      was
      $1,970,981, based upon a closing bid of the registrant’s common stock as
      reported by The American Stock Exchange on that date of $0.28 per share. The
      term “affiliates” is deemed, for this purpose only, to refer to directors,
      officers and holders of 5% or more of the common stock of the
      registrant.





At
      the
      close of business on September 10, 2006, there were issued and outstanding
      25,239,211 share of the registrant’s Common Stock.





**Documents
      Incorporated By Reference:**





Portions
      of the Registrant’s Proxy Statement for the Annual Meeting of Stockholders to be
      held on November 2, 2006 are incorporated by reference in Part III of this
      Form
      10-KSB.









**EXPLANATORY
      NOTE**





This
      Form
      10-KSB/A is being filed by Decorize, Inc., a Delaware corporation (“Decorize” or
      the “Company”), to amend its Annual Report on Form 10-KSB for the fiscal year
      ended June 30, 2006 (the “Report”) that was filed with the Securities and
      Exchange Commission on September 28, 2006. For the reader’s convenience, this
      Amendment No. 1 includes all Items included in the Report, even those not
      amended by this Amendment No. 1. The information contained in this Amendment
      No.
      1 does not reflect events occurring after the filing of the Report and does
      not
      modify or update the disclosures therein, except for information identified
      as
      being subsequent to the date of the Report. Changes from the original to the
      amended filing include the reclassification of debt totaling $430,000 from
      long
      term debt to notes payable to shareholders on the Consolidated Balance Sheet
      and
      Note 4 to the Notes to Consolidated Financial Statements , the reclassification
      of $100,000 from accumulated deficit to paid-in capital on the Consolidated
      Balance Sheets and the Consolidated Statements of Stockholders’ Equity, the
      addition of the value of the beneficial conversion feature to the loss available
      to common shareholders in the Consolidated Statement of Operations and Note
      1 to
      the Notes to Consolidated Financial Statements, and the expansion of disclosure
      related to our Critical Accounting Policies for revenue recognition and
      treatment of stock options. These reclassifications had no impact on net assets,
      results of operations or cash flows shown in the Report. Additional disclosure
      was added to Note 1 (General) regarding the impact of adopting SAB108, FIN
      48
      and SFAS No. 157, as a new Note 3 (Due to Factor and Line of Credit) to describe
      the Company’s factoring arrangements and to new Note 5 (Equity) and new Note 8
      (Stock-based Compensation) to describe the impact of SFAS No. 123(R) on the
      recognition of stock-based compensation and to provide the disclosures required
      by Appendix A of SFAS No. 123(R). The Company also expanded its discussion
      of
      internal controls in Item 3.





**DECORIZE,
      INC.**




PART
                IItem
                1.
            Description
                of Business
            1Item
                2.
            Description
                of Property
            8Item
                3.
            Legal
                Proceedings
            9Item
                4.
            Submission
                of Matters to a Vote of Security Holders
            9PART
                IIItem
                5.
            Market
                for Common Equity and Related Stockholder Matters
            10Item
                6.
            Management's
                Discussion and Analysis or Plan of Operation
            10Item
                7.
            Financial
                Statements
            17Item
                8.
            Change
                in and Disagreements with Accountants on Accounting and
                Financial Disclosure
            18Item
                8A.
            Controls
                and Procedures
            18Item
                8B.
            Other
                Information
            19PART
                IIIItem
                9.
            Directors,
                Executive Officers, Promoters and Control Persons; Compliance
                with Section 16(a) of the Exchange Act
            20Item
                10.
            Executive
                Compensation
            20Item
                11.
            Security
                Ownership of Certain Beneficial Owners and Management and
                Related Stockholder Matters
            20Item
                12.
            Certain
                Relationships and Related Transactions
            20Item
                13.
            Exhibits
            21Item
                14.
            Principal
                Accountant Fees and Services
            23SIGNATURES
            
            25




i




**FORWARD-LOOKING
      STATEMENTS**





*This
      Annual Report on Form 10-KSB contains forward-looking statements. The words
      “intend,” “anticipate,” “believe,” “estimate,” “plan” and “expect,” and similar
      expressions as they relate to us, identify these forward-looking statements.
      Forward-looking statements include those that address activities, developments
      or events that we expect or anticipate will or may occur in the future. All
      statements other than statements of historical facts contained in this Annual
      Report, including statements regarding our future financial position, business
      strategy, budgets, projected costs and plans and objectives of management for
      future operations, are forward-looking statements. The actual outcome of the
      events described in these forward-looking statements could differ materially.
      Risks, uncertainties and assumptions that could cause actual results to differ
      materially from the expectations reflected in the forward-looking statements
      include, among other things:*





*·*
            *the
                risks associated with growth;*





*·*
            *our
                failure to purchase and manufacture merchandise at attractive
                prices;*





*·*
            *changes
                in consumer demand and preferences that cause people to desire products
                other than those traditionally offered by Decorize;
                and*





*·*
            *risks
                associated with the lack of liquidity of our shares of common stock
                due to
                the limited public market for our common
                stock.*





*These
      factors expressly qualify all subsequent oral and written forward-looking
      statements attributable to us or persons acting on our behalf.*





*A
      forward-looking statement may include a statement of the assumptions or bases
      underlying the forward-looking statement. We have chosen these assumptions
      or
      bases in good faith and we believe that they are reasonable. However, we caution
      you that assumed facts or bases almost always vary from actual results, and
      the
      differences between assumed facts or bases and actual results can be material,
      depending on the circumstances. When considering forward-looking statements,
      you
      should keep in mind the risk factors and other cautionary statements in this
      Annual Report. Except for our ongoing obligations to disclose material
      information as required by the federal securities laws, we do not have any
      intention or obligation to update forward-looking statements after we distribute
      this Annual Report.*





*Readers
      are referred to the caption “Risk Factors” appearing at the end of Item 1 of
      this Annual Report for additional factors that may affect our forward-looking
      statements. In light of these risks, uncertainties and assumptions, the
      forward-looking events discussed in this Annual Report may not occur. We
      undertake no obligation to update or revise our forward-looking statements,
      whether as a result of new information, future events or
      otherwise.*








**PART
      I**




**Item
      1. DESCRIPTION OF BUSINESS**





**GENERAL**





Our
      company, headquartered in Springfield, Missouri, is a manufacturer and
      wholesaler of imported home furnishings and accessories. We founded
      decorize.com, LLC, the company that became Decorize, Inc. in March 2000 to
      create a direct “source to business” home furnishings company to serve both
      large and small retailers in the United States, with products delivered from
      Asia. The Decorize business model relies on manufacturing and importing our
      home
      furnishings products direct from Asia to our retailers' sites in the United
      States. All of the products we sold during our most recent fiscal year were
      manufactured by suppliers located in Asia. Products primarily designed and
      marketed to the independent retailer segment are marketed under the GuildMaster
      brand so that we may continue to build on customer awareness of that brand.
      Products we design and source for the large retailer segment are exclusively
      marketed under the Decorize brand name.





1




We
      use
      our “source to business” model to serve two distinct market segments, the source
      to large retailer segment and the source to independent retailer segment. The
      source to large retailer segment is comprised of customers that we believe
      can
      benefit from our pricing, delivery times and custom design capability. The
      independent retailer segment includes small retailers, high-end department
      stores, and designers or decorators, that in our experience, have paid premium
      prices and have been unable to directly source home furnishings and accents
      from
      overseas. The price of our products includes the cost of freight to the United
      States port of entry, which reduces the uncertainty about ocean freight costs
      that would otherwise be borne directly by the independent retailer. Also,
      because we have a significantly higher volume of shipments than our individual
      customers would have, we are able to negotiate lower per item shipping rates
      on
      the ocean freight, allowing us to pass through a lower cost than a small
      retailer would obtain on its own account.





During
      fiscal 2006, the revenue mix of the two business segments was approximately
      61%
      from independent retailers and 39% from large retailers, which represents a
      change in the revenue mix over prior years. Historically, large retailers
      accounted for approximately 60% to 70% of the annual revenues and independent
      retail revenues accounted for the remaining 30% to 40%. However, during fiscal
      2006, we experienced a significant shift toward the independent retail segment
      as a result of our focus of additional resources on the independent retailer
      segment as well as a soft sales year for large retailer accounts. Management
      currently expects the revenue mix between the business segments to become more
      balanced over the next fiscal year. Nevertheless, we cannot predict with
      certainty whether or how our business mix will change in the
      future.





**Decorize**





We
      source
      our products from a network of manufacturing partners in Asia, principally
      China, Indonesia, India and the Philippines. Working in concert with our
      third-party logistics providers, we stage products in facilities located in
      those countries for shipment directly to our large retailer customers in the
      United States. We are able to pass on lower prices to large retailers because
      we
      eliminate or reduce the additional costs that are required in the traditional
      model for building substantial product inventories, multiple stage warehousing
      and multiple handling levels by a third-party. The products sourced to be moved
      through our specialty retailers channel are shipped from Asia directly to our
      fulfillment center in Springfield, Missouri. Decorize has two wholly-owned
      domestic subsidiaries, GuildMaster and Faith Walk, and two wholly-owned foreign
      subsidiaries, WestWay Enterprises and P.T. Niaga Merapi.





**GuildMaster**





GuildMaster
      is our wholly-owned domestic subsidiary, which we acquired in June of 2001.
      GuildMaster was founded in 1981 and is well recognized in the industry for
      its
      design uniqueness. From its beginning, the GuildMaster brand has predominantly
      focused on custom, high-end, home accent products. We have leveraged the
      GuildMaster name to market and brand the products we sell through our specialty
      retailer channel.





**Faith
      Walk**





Faith
      Walk Designs is our wholly-owned domestic subsidiary, founded by J. Michael
      Sandel and his spouse that we acquired in July 2001. Prior to this acquisition,
      Faith Walk sourced its products in unpainted form from domestic suppliers and
      added design finishing in its Houston, Texas manufacturing facility. Under
      our
      business model, all former Faith Walk branded designs are manufactured entirely
      by our suppliers in Asia and are marketed under the GuildMaster brand
      name.





**WestWay
      Enterprises, Ltd.**





WestWay
      Enterprises, Ltd., our wholly-owned foreign subsidiary located in Shenzhen,
      China, was created in July 2003. The formation of this subsidiary was required
      because of local regulations affecting our ability to employ personnel locally.
      WestWay employs approximately twelve personnel, who primarily manage quality
      control and quality assurance for product manufactured by suppliers within
      the
      country of China.




**P.T.
      Niaga Merapi**





In
      October 2003, we created P.T. Niaga Merapi, a wholly-owned foreign subsidiary
      with offices located near Yogyakarta, Indonesia. We initially created this
      foreign subsidiary to comply with local regulations and requirements for
      Decorize to employ local residents whose primary purpose was to be responsible
      for quality control and assurance within the country of Indonesia, where a
      substantial amount of our GuildMaster products are manufactured. In April 2004,
      to further improve our product quality, we acquired a facility to conduct light
      manufacturing, final assembly, and finishing operations. This operation allows
      us to consistently provide a more unique and higher quality product than
      previously available from third party manufacturers within the country. In
      addition, through this new finishing facility, we are able to better package
      our
      finished products for shipping, thus reducing the amount of losses incurred
      during the transportation process, due to faulty or inadequate
      packaging.




2




**Business
      Strategy**





Our
      objective in evaluating and designing our business model is to enable our
      company to surpass competitors in our industry on product value, item
      uniqueness, selection and delivery options of imported home furnishings products
      by improving our use of information technology, logistics processes and our
      direct sourcing business model. We believe our customers focus on these factors
      when choosing a home furnishings supplier, and if we can exceed the offerings
      of
      our competitors, we will increase our market share at the cost of our
      competitors.





Our
      "source to business" model for the large retailers, eliminates several layers
      of
      handling and warehousing by importers and distribution centers. Products are
      sourced in Asia and shipped directly to retailers in the United States. We
      believe that a majority of our industry competitors ship product through several
      levels of warehouse facilities, which we estimate would increase the cost of
      our
      products by up to 15%.





The
      business model for our independent retailer customers leverages our unique
      design and foreign production capabilities . Our manufacturing facility in
      Indonesia allows us to maintain a higher level of product quality than
      previously found from manufacturers within that country. In addition to product
      quality, our facility also allows us to insure the quality and adequacy of
      the
      product packaging, thus reducing returns due to freight damage and increasing
      customer satisfaction.





We
      have
      developed support systems for manufacturing of our products in Asia, which
      provide product development support and quality assurance supervision in the
      production, packaging and shipping of our private label products. A very
      important element of our business model is a concentration on designing and
      customizing proprietary product lines to meet specific customer needs. This
      model enables us to provide high-volume, high quality proprietary products
      to
      large retailers at attractive prices and offers independent retailers access
      to
      a broad range of accessories and accent furniture that was previously not
      available to them.





Our
      support systems consist primarily of quality control personnel who oversee
      the
      manufacturing done by our suppliers throughout Asia. Our overseas employees
      are
      an integral part of the direct shipping method that we prefer. The oversight,
      management and first-hand knowledge of our foreign regional suppliers provided
      by our overseas manufacturing support team is integral to our business model’s
      success. Recently, Decorize has begun to expand the roles of our overseas
      support team beyond mere quality control into areas of product development
      and
      product procurement of items that are available in Asia that would not likely
      have become part of our product offerings without our overseas staff. Currently,
      our company employs approximately 297 persons overseas, and we may increase
      that
      number to suit our level of production and design. The focus will continue
      to be
      on quality control, regarding items such as consistency to design requests,
      manufacturing quality and packaging and delivery issues, but we will continue
      to
      seek opportunities for them to provide assistance on procurement and development
      of possible product offerings.




We
      are
      expanding our product sourcing, development and warehousing operations in Asia
      to support the increasing volumes of product sourced there under our business
      model. At the same time, we are continuing to build our sales and distribution
      channels in the United States in order to improve our ability to present our
      products and services to a growing customer base.





To
      improve our operational effectiveness, we continue to develop new and existing
      technological solutions. These solutions provide us the information we need
      to
      closely work with suppliers to improve our supply chain. In addition, we utilize
      technology to track customer orders, production status and deliveries so we
      may
      meet demanding customer expectations. We will continue to seek upgrades in
      our
      technological infrastructure that improve operating efficiencies, improve
      customer service capabilities and improve quality and cost control in our
      operations.





Although
      we are currently focusing our efforts on limited categories and products that
      are most productive for us, our long-term strategy includes the acquisition
      or
      in-house development of additional product categories that will enable us to
      offer a broad line of accessories, accent furniture, and related categories.
      Potential product categories into which we may expand our product offerings
      include specialty lighting, gifts, institutional furnishings, ironwork and
      florals, which are product areas in which we are not currently well-represented.
      We also intend to develop our current staff and management and operational
      infrastructure in order to pursue marketing opportunities that we have
      identified in new product areas in customer markets that we are not currently
      pursuing. In that regard, we intend for our overseas support systems to
      increasingly be responsible for developing new product offerings by researching
      items that may be available in the overseas market for which they are
      responsible. We expect that we will need to raise additional external funds
      to
      implement our growth strategy in a timely fashion. To that end, we expect to
      evaluate various financing opportunities in private or public markets and will
      arrange financing when appropriate terms are available.




**Merchandise** **;
      Research and Development**





We
      design, market and sell through our distribution chain a variety of imported
      home furnishings and home accent items such as hand-painted or traditionally
      finished armoires, chests, tables, chairs, painted furniture, paintings,
      sculpture, tapestries, other fine art pieces, various hand-made ceramics,
      candles, lamps and similar accessory items. Accent furniture includes items
      such
      as occasional tables, end tables, mirrors, wicker chairs, tables, and ottomans.
      Accessories include items such as wood, rattan, glass or ceramic bowls,
      statuettes, vases, candles and candleholders, baskets, boxes, lamps and bath
      items. Wall art includes a variety of traditional art such as framed oil
      paintings or prints, but also includes many other types of materials and designs
      including fabrics, woven materials and collages.




3




Our
      product offerings are now marketed and sold through two distinct brands,
      Decorize and GuildMaster, each of which has a slightly different product mix
      that is driven by the particular brand’s customer focus. Decorize branded
      products are typically more proprietary in nature and often developed to meet
      the specific requirements of our large retailer customers. Our large retailer
      customers market our products to their retail consumers through their brick
      and
      mortar store locations. The product mix we supply to those retailers depends
      upon their perception of their customers’ tastes and demands. Our GuildMaster
      branded products are typically marketed toward specialty retailers, high-end
      department stores, designers and decorators who market our products to consumers
      that shop at their brick and mortar store locations. The product mix is
      determined by analyzing current and future trends and tastes in the marketplace.
      We maintain approximately 1,000 unique items in our supply chain and
      periodically review, add, and drop products based upon the demand in the
      marketplace.




Utilizing
      technology, we have assembled a world wide focus group of over 100 designers,
      sales professionals, and retailers to participate in the semi-annual selection
      process of new products. We plan to increase the size of the focus group to
      over
      1,000 in the near future which we believe will give us a competitive advantage
      as we select new product designs for introduction to the marketplace.
      Furthermore, as we introduce leading edge design to the early adopters in the
      independent retail channel and collect market data we are able to take the
      ‘best’ sellers or variants thereof to the large retail segment.




Since
      our
      inception, we have not experienced any significant difficulty in manufacturing
      or otherwise obtaining quality merchandise in adequate volumes and at suitable
      prices.




**Suppliers**





We
      have
      developed a network of more than 100 supply partners in China, the Philippines,
      Indonesia and India that manufacture most of the products we sell to our
      customers. For the year ended June 30, 2006, Decorize's top ten vendors
      accounted for approximately 74% of our total purchases. The largest supplier
      accounted for approximately 28% of those purchases. During the time spent
      arranging the production of our goods with overseas manufacturers, Decorize
      and
      its supply partners are developing a better understanding of each other’s needs
      and requirements. We work closely with our overseas suppliers to ensure that
      they manufacture and ship products that meet our requirements. As our supply
      partners become more familiar with Decorize’s business model and products, they
      become more adept at meeting our design and manufacturing needs, which gives
      us
      greater confidence in continuing to direct orders to those overseas vendors
      who
      have demonstrated success in working with us and increasing our reliance on
      particular supply partners for meeting our overseas manufacturing needs.
      However, we believe that none of our suppliers are material to our business
      individually, since there are a number of alternative suppliers available to
      manufacture our products in both Asia and other parts of the world. We currently
      estimate that the largest of those suppliers will represent less than 30% of
      our
      product purchases during any fiscal year.





The
      raw
      materials used by our suppliers, such as wood products, metal, glass and
      ceramics are readily available in many places throughout the world. Because
      of
      the availability of replacement raw materials, we do not anticipate any
      significant difficulties in obtaining suitable raw materials for the manufacture
      of our products, even if there is a shortage of those materials in any
      particular country or region in which our suppliers are located.





The
      relationship with our logistics companies provides us with state-of-the-art
      staging and warehousing facilities in the countries from which we source
      products. However, if necessary, we have alternative sources for those staging
      and warehousing services.





**Customers**





The
      current customer base for our brands includes approximately twelve large
      retailers and more than a thousand small retailers, designers and decorators.
      During the year ended June 30, 2006, our customer revenues were approximately
      $9.2 million. Although our top five customers in the past year accounted for
      approximately 41% of our revenues, our business plan for growing our business
      is
      expected to result in greater revenue diversification. During fiscal 2006,
      our
      top five customers from the standpoint of revenues were, La-Z-Boy, Broyhill,
      Stein Mart, Bombay, and Neiman Marcus. Our purchase orders with our customers
      are completed on a purchase-by-purchase basis. As such, we have not entered
      into
      any long-term purchase agreements with any customers, nor do we have any formal
      volume commitments with any of them.





**Industry
      and Competition**





We
      estimate that the premium home accents and accessories market segment of the
      home furnishings industry in which we compete includes approximately 26,000
      companies that account for approximately $40 billion of sales at the wholesale
      level. We believe that there are no dominant competitors within the premium
      home
      accents and accessories market segment of the home furnishings
      industry.





4




There
      is
      intense competition in our industry. However, we believe that our low-cost
      business model, the ability to provide highly customized products, our
      successful selection/design of fashion trends, our large number of products,
      our
      low inventory requirements and our intensive customer service practices, will
      attract a growing number of customers and will allow us to increase revenues
      rapidly. Our model is not protected from duplication and it is possible that
      other companies will compete with us by using a similar approach in conducting
      their business.




**Foreign
      Market Risks**





As
      an
      importer of manufactured products from several countries in the Pacific Rim,
      our
      business is subject to political risks that are beyond our control. Since our
      inception, we have perceived the greatest risk relative to our supply chain
      to
      come from our suppliers located in China. This perception arises because most
      of
      our products are manufactured in China, as evidenced by the fact that during
      fiscal 2006, approximately 48% of the products manufactured by our third party
      suppliers were manufactured in China. However, we believe that the globalization
      movement and the recent focus on reduction of tariffs and the planned ongoing
      reductions should provide a beneficial tariff environment for importers. We
      believe that the recent entry of China into the World Trade Organization should
      substantially reduce the risk that China might take political actions that
      would
      restrict its trade with the United States or the rest of the world. Our strategy
      to minimize our exposure to the political risks of any one country has been
      to
      develop manufacturing partners in multiple countries. All of the products
      offered by Decorize are available from multiple supply sources in several
      different countries, which we believe protects us from the political risks
      of
      any one country or region.





We
      are
      also subject to governmental regulations and tariff policies, which may change
      from time to time. We believe that the increased globalization of the United
      States retail economy, which has been spurred in part by the WTO and also the
      broadened reach of consumers because of the expansion of retail capabilities
      of
      the internet, are causing a global shift in attitudes toward the preference
      for
      a more open world-wide economy. These trends should favor the reduction of
      tariffs and expansion of international trade, which should benefit our
      business.




**Warehousing
      and Distribution**





Our
      ability to reduce or eliminate warehousing of our products and the related
      direct expenses and management costs that would be required is critical to
      our
      success. The greater part of the products we sell are to large retailers. Since
      the products for these customers are shipped directly from our manufacturers
      in
      Asia to our customers’ stores or distribution centers, we do not carry any
      inventory related costs. The products we sell to the independent retailer market
      are shipped from Asia direct and through the fulfillment center in Springfield,
      Missouri. From our fulfillment center, goods are then shipped to our customers
      via common and contract carriers throughout the United States and Canada. Quick
      and efficient distribution is required to meet customer needs, and we are
      continually pursuing improvements in our delivery process.





Our
      ability to track orders and merchandise delivery in a detailed and timely manner
      is an essential requirement for us to eliminate excess warehouse and retail
      capacity under our direct ship model. In response to this need for detailed
      order information, Decorize developed a tracking system with our logistics
      provider which utilizes computer and internet technology to track the transport
      and storage of our goods down to the SKU level. The logistics technology we
      use
      lets us know in real time where our merchandise is at all times and when those
      products will be delivered to our customers. We can also track costs in the
      same
      detailed and timely fashion using this technology. Since we first began
      developing our direct ship model, we have consistently sought the services
      of
      those logistics providers which have the capabilities to make the technology
      available to us, since the ability to track our orders, merchandise and costs
      is
      such a significant benefit to that shipping model. Decorize has no intellectual
      property rights in the tracking process or the technology used in the tracking
      process; however, we believe that there are a significant number of other
      logistics suppliers that would be able to provide the same technology and,
      with
      our assistance, duplicate the tracking process that we currently
      use.




**Management
      Information Systems**





We
      maintain a corporate local area network computer system, which integrates
      purchase orders, imports, transportation, distribution, and financial systems.
      Expenditures for continuing upgrades of management information systems are
      anticipated in the foreseeable future to refine and update these
      systems.




**Trademarks
      and Tradenames**





We
      completed the registration for the service mark "The World's Décor...Right to
      your Door," on September 2, 2002, with the United States Patent and Trademark
      office. The registration for “The World’s Décor ... Right to your Door” will
      terminate in 10 years from the date of grant, or may be cancelled after 6 years
      if we do not file the appropriate documents evidencing our continued use of
      that
      mark. Our application for the service mark “Decorize” was filed in April 2002
      and registration was granted in August 2003.





In
      addition, we have common law rights to the use of “decorize.com” and “The
      World’s Décor....Right to your Store”; however, we have not chosen to complete an
      application for registration of those marks at this time.




5




**Employees**





As
      of
      June 30, 2006, our company and its subsidiaries employed 324 persons on a full
      time basis, including 297 in Asia. Our employees are not represented by any
      union. We have not experienced any work stoppage due to labor disagreements
      and
      we believe that our employee relations are good.





**RISK
      FACTORS**





*Our
      limited operating history makes it difficult for us to evaluate our future
      business prospects and make decisions based on those estimates of our future
      performance.*





The
      concept for our business model was developed in 2000. The acquisitions of our
      two operating subsidiaries were completed in June and July of 2001. Even though
      GuildMaster and Faith Walk Designs operated independently for some time, we
      have
      a limited operating history in our current combined form, which makes it
      difficult to evaluate our business on the basis of historical operations.
      Furthermore, the opportunity for significant sales growth in the large retail
      segment could dramatically impact our financial performance. As a consequence,
      our past results may not be indicative of future results. Although this is
      true
      for any business, it is particularly true for us because of our limited
      operating history. Reliance on historical results may hinder our ability to
      anticipate and timely adapt to increases or decreases in sales, revenues or
      expenses. For example, if we overestimate our future sales for a particular
      period or periods based on our historical growth rate, we may increase our
      overhead and other operating expenses to a greater degree than we would have
      if
      we correctly anticipated the lower sales level for that period and reduced
      our
      controllable expenses accordingly. If we make poor budgetary decisions as a
      result of unreliable historical data, we could be less profitable or incur
      losses, which may result in a decline in our stock price.





*We
      have incurred losses historically, and we may not be able to attain or maintain
      profitability in the future.*





We
      incurred a net loss of $2.3 million for the fiscal year ended June 30, 2006,
      which was a decrease of 12% from the $2.6 million loss in fiscal 2005. Although
      our margins improved substantially during 2005 and were maintained in 2006,
      we
      have not achieved profitability. We cannot assure you that our operating losses
      will decline, even if our sales increase dramatically. We will need to generate
      greater revenues and maintain or improve our operating margins to achieve and
      maintain profitability in the future. If our operating losses continue on a
      long-term basis, we may experience a shortage of working capital that could
      adversely affect our business or our ability to continue our business, in which
      case our stock price may decline, perhaps significantly, and you could lose
      the
      value of your investment.





*Our
      customers have no obligation to purchase from us, which may result in sudden
      declines in sales.*





Our
      customer mix currently consists of approximately twelve large retailers and
      more
      than two thousand independent retailers, department stores, designers and
      decorators. We do not have supply agreements or other volume commitments that
      are binding on our customers, and our sales originate solely from individual
      purchase orders that we negotiate with our individual customers. As a
      consequence, our customers are not obligated to purchase any amount of our
      products and they may choose to stop or decrease their level of product
      purchases from us at any time, without giving us prior notice. This could cause
      our sales to fluctuate, and we could experience a sudden and unexpected decline
      in sales. We could experience unexpected operational losses if our customer
      sales were to decline significantly without notice. Furthermore, our revenue
      projections are subject to greater uncertainty than if we had volume commitments
      from one or more of our largest customers. Although our top five customers
      in
      fiscal year 2006 accounted for approximately 41% of our revenues, we cannot
      assure you that these customers, or any of our customers, will continue to
      purchase our products in significant volume or at all.





*We
      are implementing a strategy to grow and expand our business, which is expensive
      and may not generate increases in our revenues.*





We
      intend
      to expand our business, and we are incurring expenses associated with our growth
      and expansion. Although we recently raised funds through private offerings
      to
      implement our growth strategy, these funds may not be adequate to offset all
      of
      the expenses we incur in expanding our business. We have hired additional
      employees overseas and continue upgrading our technological infrastructure
      to
      improve quality and cost controls, operating efficiency and customer service
      capabilities. We will need to generate greater revenues to offset expenses
      associated with our growth, and we may be unsuccessful in achieving greater
      revenues, despite our attempts to grow our business. If our growth strategies
      do
      not result in increased revenues, we may have to abandon our plans for further
      growth or even reduce the current size of our operations.





*We
      may need to raise additional funds, and these funds may not be available when
      we
      need them.*





Based
      on
      our current plans, we are adjusting our operating expenses so that cash
      generated from operations and from working capital financing and other short
      term financing is expected to be sufficient for the foreseeable future to fund
      our operations at our currently forecasted levels. However, if our forecasts
      are
      inaccurate, we will need to raise additional funds. In addition, we expect
      that
      we will need to raise additional funds if we decide to pursue more rapid
      expansion, the development of new or enhanced services and products, appropriate
      responses to competitive pressures, or the acquisition of complementary
      businesses or technologies, or if we must respond to unanticipated events that
      require us to make additional investments. There can be no assurance that
      additional financing will be available when needed on favorable terms, or at
      all. If these funds are not available when we need them, then we may need to
      change our business strategy and reduce our rate of growth.




6




*We
      must effectively manage the growth of our operations, or we may outgrow our
      current infrastructure.*





As
      of
      June 30, 2006, our total number of employees was 324, including 297 employees
      in
      Asia. During our initial periods of operation as a combined entity, we
      experienced a high rate of sales growth, which at times exceeded the capacity
      of
      our infrastructure and resulted in a backlog of customer orders and product
      quality issues. The decline in revenues for the current fiscal year is to some
      degree a result of our previous demand exceeding our infrastructural capacity.
      We addressed those capacity issues by hiring additional personnel and upgrading
      our technology infrastructure, and we will continue pursuing additional sales
      growth for our company. If we expand too quickly, or if our infrastructure
      does
      not improve rapidly enough, our customer orders could again outpace our ability
      to meet our customers’ needs, which could force us to delay or reduce customer
      orders. Expanding our infrastructure will be expensive, and will require us
      to
      train our workforce, and improve our financial and managerial controls to keep
      pace with the growth of our operations.





*We
      face substantial competition from numerous sources, many of which have access
      to
      greater resources.*





Competition
      in the wholesale market for home furnishings is intense. We compete with a
      diverse group of wholesalers ranging from internet businesses to traditional
      brick-and-mortar companies, many of which have greater resources than Decorize.
      We believe that barriers to entry in the wholesale furniture and home
      furnishings market are not significant and start-up costs are relatively low,
      so
      our competition may increase in the future. Our belief that there are minimal
      barriers to entry is based on our observation that operations such as ours
      do
      not require the wholesalers to own warehouses, showrooms and factories to
      operate, which we believe is because (i) our direct ship business model can
      be
      operated with minimal warehousing needs and costs, which are significantly
      less
      than traditional models, (ii) wholesale product orders can be placed after
      receipt of customer orders, in order to further reduce warehousing needs, (iii)
      samples can be shown to customers at little or no cost, without the necessity
      of
      showroom space for actual product, (iv) if a competitor wants showroom space,
      it
      is typically available for lease at competitive rates in most United States
      markets, and (v) all manufacturing can be done by third party suppliers, so
      there is no need to own or lease a manufacturing facility. New competitors
      may
      be able to launch new businesses similar to ours, and current competitors may
      replicate our business model, at a relatively low cost. If wholesalers with
      significantly greater resources than Decorize decide to replicate our business
      model, they may be able to quickly gain recognition and acceptance of their
      business methods and products through marketing and promotion. We may not have
      the resources to compete effectively with current or future competitors. If
      we
      are unable to effectively compete, we will lose sales to our competitors and
      our
      revenues will decline.








*Our
      directors have the ability to significantly influence any matters to be decided
      by the stockholders, which may prevent or delay a change in control of our
      company.*





The
      current members of our Board of Directors beneficially own, in the aggregate,
      approximately 45.9% of our common stock, on a fully diluted basis. As a result,
      if they choose to vote in concert, our directors are collectively able to
      significantly influence the outcome of any corporate matter submitted to our
      stockholders for approval, including any transaction that might cause a change
      in control, such as a merger or acquisition. It is unlikely that stockholders
      in
      favor of a matter that is opposed by the Board of Directors would be able to
      obtain the number of votes necessary to overrule the Board of
      Directors.





*Because
      we do not manufacture our products in the United States, a disruption in the
      delivery of imported products may have a greater effect on us than on our
      competitors.*





We
      import
      products that we have manufactured, purchased or had manufactured for us
      overseas. Merchandise imported directly from these overseas manufacturers
      currently accounts for all of our total purchases. Because we import all of
      our
      products and deliver them directly to our customers, we believe that disruptions
      in shipping deliveries may have a greater effect on us than on competitors
      who
      manufacture and warehouse products in the United States. Deliveries of our
      products may be disrupted through factors such as:





(i)
        raw material shortages, work stoppages, strikes and political
      unrest;


(ii)
        problems with ocean shipping, including work stoppages and shipping
      container shortages;


(iii)
        increased inspections of import shipments or other factors causing delays
      in shipments; and


(iv)
        economic crises, international disputes and wars.





For
      example, we experienced significant delays in shipments due to a dockworkers
      dispute on the West Coast in fiscal 2003. The delays from this dispute resulted
      in the cancellation of some customer orders, since we could not obtain products
      from overseas in a timely manner. Although we managed to minimize the impact
      of
      the delays, a longer dispute could have placed us at a serious disadvantage
      to
      some of our competitors. Most of our competitors warehouse products they import
      from overseas, which allows them to continue delivering their products for
      the
      near term, despite overseas shipping disruptions. If our competitors are able
      to
      deliver products when we cannot, our reputation may be damaged and we may lose
      customers to our competitors.




7




*If
      we
      were required to purchase our imported products in foreign currencies instead
      of
      United States dollars, we would be subject to currency rate
      fluctuations.*





Currently,
      the products we buy abroad are priced in United States dollars, so we are not
      directly affected by changes in foreign exchange rates. If we are required
      to
      pay for goods in foreign currencies in the future, we would be affected by
      fluctuating currency exchange rates. In that event, we would attempt to enter
      into foreign currency exchange contracts with major financial institutions
      to
      hedge the overseas purchase transactions and limit our exposure to those
      fluctuations. If we were not able to successfully protect ourselves against
      those currency rate fluctuations, then our profits on the products subject
      to
      those fluctuations would also fluctuate and could cause us to be less profitable
      or incur losses, even if our business is doing well.





*We
      may need to substantially increase our marketing efforts in order to grow our
      business, which is expensive.*





In
      order
      to grow our business, we will need to develop and maintain widespread
      recognition and acceptance of Decorize, our business model, and our products.
      We
      believe that we have presented our product offering to only a small percentage
      of the large and medium sized retailer market. Currently, we rely primarily
      on
      word of mouth from our existing customers and contacts we develop personally
      through industry events to promote and market Decorize. In order to successfully
      grow Decorize, we may need to significantly increase our financial commitment
      to
      creating awareness and acceptance of Decorize among retailers, which would
      be
      expensive. In fiscal year 2006, marketing and advertising expenses were
      approximately $303,000, which is 7.3% of our operational expenses for that
      year.
      If we fail to successfully market and promote our business, we could lose
      current customers to our competitors, or our growth efforts may be ineffective.
      If we incur significant expenses promoting and marketing Decorize, it could
      cause our profitability to decline.





*Our
      businesses are not diversified, which could result in significant fluctuations
      in our operating results.*




All
      of
      our business is involved in the retail and wholesale marketing of furniture
      and
      other home products, and accordingly is dependent upon trends in the home
      furnishings sector. Downturns in the home furnishings sector could have a
      material adverse effect on our business. A downturn in the home furnishings
      sector may reduce our stock price, even if our business is
      successful.




**Item
      2. DESCRIPTION OF PROPERTY**





Our
      corporate headquarters are based in a single leased building of approximately
      9,600 square feet located in Springfield, Missouri. The rent for this space
      is
      $3,766 per month and the facilities are in good condition. The current term
      of
      the lease for our corporate headquarters ends in April 2007, and we have options
      to annually renew the lease until April 2008. We anticipate that if additional
      space is required within the next 12 months for our headquarters, then such
      space will be available in the Springfield area on a reasonable commercial
      basis.





We
      lease
      and operate a 41,250 square foot fulfillment center located in Springfield,
      Missouri. The lease agreement currently provides for a monthly rent payment
      of
      $9,860. The lease on the building terminates on November 30, 2006, and the
      lease
      provides for options to renew the lease for two additional five-year periods.
      The Springfield facility is in good condition, and we believe the space is
      adequate for our operations in the foreseeable future. We are looking at
      alternatives to this facility in the Springfield area. If we don’t find a
      suitable alternative, we believe we can lease the current facility at rates
      comparable to the previous lease.





We
      also
      lease additional design studio and office space of approximately 1,950 square
      feet located in Houston, Texas. We continue to lease this facility on a month
      to
      month basis.





We
      lease
      and operate our own showroom of approximately 8,951 square feet located in
      High
      Point, North Carolina. The High Point showroom lease terminates on October
      31,
      2009. The rent for the period ending October 31, 2008 is $9,866.30 per month,
      and from November 1, 2008 to October 31, 2009 is $10,162.00 per month. We have
      an option to renew the lease for one five-year period.




Pursuant
      to agreements with independent sales representative groups, we lease varying
      amounts of floor space at eight regional showrooms throughout the United States.
      The monthly rental payments vary between $500 and $2,440.




We
      maintain insurance for physical loss on all properties described above, and
      we
      believe that the amount of this insurance coverage provides adequate
      protection.




8





**Item
      3. LEGAL PROCEEDINGS**





We
      are
      subject to certain legal proceedings and claims that arise in the ordinary
      course of and are incidental to the business. In the opinion of management,
      the
      amount of ultimate liability with respect to these actions, individually or
      in
      the aggregate, will not materially affect our consolidated results of operations
      or our financial condition.





**Item
      4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS**





No
      matters were submitted to a vote of our security holders during the fourth
      quarter of the year ended June 30, 2006.




9




**PART
      II**





**Item
      5. MARKET FOR COMMON EQUITY AND RELATED STOCKHOLDER
      MATTERS**





Shares
      of
      our common stock are traded on The American Stock Exchange under the symbol
      “DCZ”. The following table summarizes the highest and lowest reported sales
      price per share for all fiscal quarters of 2006 and 2005.




**High**
            
            **Low**Fourth
                Quarter 2006
            
            $
            0.51
            
            $
            0.23Third
                Quarter 2006
            
            
            0.62
            
            
            0.32Second
                Quarter 2006
            
            
            0.81
            
            
            0.46First
                Quarter 2006
            
            
            0.79
            
            
            0.45Fourth
                Quarter 2005
            
            
            0.75
            
            
            0.45Third
                Quarter 2005
            
            
            0.82
            
            
            0.40Second
                Quarter 2005
            
            
            0.85
            
            
            0.51First
                Quarter 2005
            
            
            0.85
            
            
            0.50




We
      had
      approximately 636 beneficial owners of our common stock, 89 of which were
      holders of record, as of September 19, 2006.





We
      have
      not paid cash dividends on our common stock since our inception. The Board
      of
      Directors does not anticipate payment of any cash dividends in the foreseeable
      future and intends to continue its present policy of retaining earnings for
      reinvestment in our operations.





The
      following table summarizes as of June 30, 2006, the shares of common stock
      authorized for issuance under our equity compensation plans:





**Equity
      Compensation Plan Information**





Plan
                category
            
            Number
                of securities
              to
                be issued upon exercise of
              outstanding
                options,
              warrants
                and rights
            
            Weighted
                average
              exercise
                price of
              outstanding
                options,
              warrants
                and rights
            
            Number
                of securities
              remaining
                available for
              future
                issuance under
              equity
                compensation plansEquity
                compensation plans approved by security holders
            
            
            708,500
            
            
            0.56
            
            
            2,291,500Equity
                compensation plans not approved by security holders
            
            
            -
            
            
            -
            
            
            -Total
            
            
            708,500
            
            
            0.56
            
            
            2,291500





**Item
      6. MANAGEMENT’S DISCUSSION AND ANALYSIS**





**Critical
      Accounting Policies**





The
      preparation of financial statements in conformity with accounting principles
      generally accepted in the United States requires management to make estimates
      and assumptions that affect the amounts reported in the accompanying financial
      statements and related footnotes. Management bases its estimates and assumptions
      on historical experience, observance of industry trends and various other
      sources of information and factors. Actual results could differ from these
      estimates. Critical accounting policies are defined as those that are reflective
      of significant judgments and uncertainties, and potentially could result in
      materially different results under differing assumptions and conditions.
      Decorize believes the following critical accounting policies require
      management's most difficult, subjective and complex judgments.





*Goodwill* -
      Effective July 2001, we adopted the provisions of Statement of Financial
      Accounting Standards (SFAS) No. 142, *Goodwill
      and Other Intangible Assets* , (“SFAS
      No. 142”) which was issued by the Financial Accounting Standards Board (FASB) in
      July 2001. SFAS No. 142 required that an intangible asset that is acquired
      shall
      be initially recognized and measured based on its fair value. SFAS No. 142
      also
      provided that goodwill should not be amortized, but shall be tested for
      impairment annually, or more frequently if circumstances indicate potential
      impairment, through a comparison of fair value to its carrying amount. As of
      June 30, 2006, Decorize did not identify or record any impairment.




10




*Revenue
      Recognition* -
      Our
      revenue is generated through the sale of merchandise to customers for prices
      that are fixed at the time the order is placed. We recognize revenue when
      pervasive evidence of the sale exists, the earnings process is complete and
      the
      risks and rewards of ownership of the goods have transferred to the customer,
      which is considered to have occurred when the customer receives title to the
      products. Depending upon the specific terms of the transaction, title may
      transfer upon shipment of the products to the customer or upon receipt of the
      products by the customer. Sales are billed and our services are complete upon
      receipt of title by the customer. Collectibility of the amounts billed to
      customers is reasonably assured. We provide an allowance for expected sales
      returns, which is estimated based upon our historical experience.





*Allowances
      for Doubtful Accounts* - We
      maintain allowances for doubtful accounts for estimated losses resulting from
      the inability of our customers to make required payments. We perform ongoing
      credit evaluation of our customers’ financial condition. If the financial
      condition of our customers were to deteriorate, which resulted in an impairment
      of their ability to make payments, additional allowances would likely be
      required. Actual collections could differ materially from our
      estimates.





*Stock
      Options* - Prior
      to July 1, 2005, we accounted for our stock option plan under the
      recognition and measurement principles of APB Opinion No. 25, *Accounting
      for Stock Issued to Employees* ,
      and
      related Interpretations. We used the intrinsic value-based method for measuring
      stock-based compensation cost with required pro forma disclosures of
      compensation expense determined under the fair value method of SFAS No. 123, *Accounting
      for Stock-based Compensation.* The
      Company generally did not recognize stock-based compensation cost in its
      statement of operations for periods prior to July 1, 2005, as most options
      granted had an exercise price equal to the market value of the underlying common
      stock on the date of grant. However, compensation expense was recognized under
      APB Opinion No. 25 for certain options based upon the intrinsic value (the
      difference between the exercise price and the deemed fair value of the common
      stock at the date of grant).





Effective
      July 1, 2005, Decorize adopted the fair value recognition provisions of SFAS
      No.
      123R, *Share-Based
      Payment* ,
      and we
      applied the modified prospective method of application. Accordingly, after
      July
      1, 2005, we began expensing the fair value of stock options granted, modified,
      repurchased or cancelled. Our valuation methodologies and assumptions after
      adoption of SFAS No. 123R are the same as those used prior to adoption for
      measuring pro-forma stock based compensation expense as required under SFAS
      No.
      123 except that the effects of future forfeitures are estimated when determining
      compensation cost under SFAS No. 123R. There was no one-time effect of adopting
      SFAS No. 123R as of July 1, 2005 because there was no compensation cost related
      to non-vested awards not yet recognized. The Company’s loss from operations,
      loss before income taxes, net loss, basic and diluted loss per share available
      to common stockholders were not different as a result of the adoption of SFAS
      123R for the year ended June 30, 2006 than if it had continued to account for
      share-based compensation under the recognition and measurement provisions of
      APBO 25, and related Interpretations, as permitted by SFAS 123.





No
      options were granted during the year ended June 30, 2006. The fair value of
      options granted during the year ended June 30, 2005 was estimated on the date
      of
      the grant using the Black-Scholes-Merton option-pricing model with the following
      weighted average assumptions: Dividends per share, $0; Risk-free interest rate,
      3.72%; Weighted-average expected life of options, 3 years; Expected volatility,
      55.43%. For the year ended June 30, 2004, the following weighted average
      assumptions were used: Dividends per share, $0; Risk-free interest rate, 3.26%;
      Weighted-average expected life of options, 4 to 5 years; Expected volatility,
      73.0%.





Partially
      in anticipation of adopting SFAS No. 123R, on May 4, 2005 the Company replaced
      all of its unvested and many of its vested employee stock options by issuing
      new
      stock option awards. The new and modified options were fully vested and had
      substantially lower exercise prices than the previously outstanding options.
      This change was made to provide an increased incentive to our employees and
      encourage exercise of employee stock options and resulted in additional
      disclosed pro-forma stock based compensation expense during fiscal 2005. Had
      these modifications and new awards been made after adopting SFAS No. 123R,
      it
      would have resulted in additional recognized compensation expense




**Results
      of Operations and Comparison of Prior Year Periods**





The
      following table presents certain items included in Decorize’s consolidated
      statements of operations, a copy of which is included in this Annual Report,
      and
      the percentage of total revenues for the periods indicated. All such data should
      be read in conjunction with, and is qualified in their entirety by reference
      to,
      our financial statements and accompanying notes.




**Fiscal
      Years Ended June 30, 2006 and 2005**





**2006**
            
            **2005**
            
            **Change**Sales
                (net)
            
            $
            9,242,278
            
            
            100.0
            %
            $
            10,800,288
            
            
            100.0
            %
            $
            (1,558,010
            )Cost
                of sales
            
            
            6,744,131
            
            
            73.0
            %
            
            7,890,280
            
            
            73.1
            %
            
            (2,480,844
            )
            
            (0.1
            )%Gross
                profit
            
            
            2,498,147
            
            
            27.0
            %
            
            2,910,008
            
            
            26.9
            %
            
            (1,224,276
            )
            
            0.1
            %Operating
                expenses
            
            
            4,110,090
            
            
            44.5
            %
            
            4,422,774
            
            
            41.0
            %
            
            (312,684
            )
            
            3.5
            %Operating
                loss
            
            
            (1,611,943
            )
            
            (17.4
            )%
            
            (1,512,766
            )
            
            (14.0
            )%
            
            (99,177
            )
            
            (3.4
            )%Total
                other expense
            
            
            629,795
            
            
            6.8
            %
            
            1,106,102
            
            
            10.2
            %
            
            476,307
            
            
            3.4
            %Net
                loss
            
            $
            (2,241,738
            )
            
            (24.3
            )%
            $
            (2,618,868
            )
            
            (24.2
            )%
            $
            375,130
            
            
            (0.1
            )%




11




Sales





Our
      sales
      are derived primarily from the sale of home furnishing and home décor products
      to large and specialty retailers. Sales for fiscal 2006 decreased $1.6 million
      or 14.4% to $9.2 million compared to $10.8 million for fiscal 2005. Although
      total revenues were down for fiscal 2006, reflecting a decrease in revenues
      derived from large retail customers, revenues from our independent retail
      customers increased over the previous year by $1.2 million or 26.5%. We believe
      our revenue growth from the independent retailer group is the result of a
      continued focus on sales efforts and constant improvements to our product
      selection. Returns and allowances from both large and small retail customers
      increased to 6.8% of gross revenues for fiscal 2006 compared to returns and
      allowances of 5.5% on gross revenues for fiscal 2005. The increase can be
      directly attributed to quality issues on proprietary product for large
      retailers. Returns and allowances for independent retailers decreased to 6.0%
      as
      a percentage of revenues for fiscal 2006 compared to 7.4% for fiscal 2005.
      The
      decrease in revenues from fiscal 2005 to fiscal 2006 was wholly due to a reduced
      level of sales to our large retail customers. The sales cycle for the large
      retail sector is significantly longer than for the independent retail customer.
      We believe that we have presented our product and services to only a small
      portion of a vast number of large and medium sized retailers who would find
      our
      offerings attractive and would order product from us. We intend to continue
      marketing our goods aggressively to current retail customers, and we expect
      that
      as a result, we will increase our sales to them substantially on a
      dollar-to-dollar comparative basis. In addition, we are implementing our plan
      to
      market our products to new customers, with the intent to develop a broader
      customer base and diminish the effect of one or more large retail customers
      on
      our results of operations.





Our
      company has existed in its present form only since July 2001, and, accordingly,
      we do not have an extensive history of sales information as a combined entity.
      In the past, approximately 55% of our sales came during the first two quarters
      of our fiscal year and the remaining 45% shipped in the second half of the
      year.
      For fiscal 2006, only 40% of our sales shipped in the first two quarters, while
      nearly 60% was shipped during quarters three and four. The reason for this
      shift
      was due to the soft revenues from our large retailers during the first half
      of
      fiscal 2006. Furthermore, during the second half of our fiscal year shipments
      to
      independent retailers increased significantly and we began to experience an
      upswing in shipments to large retail customers as well. We do believe that
      generally, there is a slight increase in sales for the quarters ending September
      30 and December 31, compared to the two following quarters, due to the buying
      patterns of large retailers in preparation for the holiday months. However,
      this
      slight seasonal pattern can easily be negated by revenue growth or retraction
      as
      was the case during fiscal 2006.




Cost
      of Sales





The
      cost
      of sales for fiscal 2006 decreased slightly as a percentage of sales to 73.0%
      compared to 73.1% for fiscal 2005. We believe that the percentage decrease
      in
      costs for fiscal 2006 compared to the prior year was the result of management’s
      concerted efforts to run efficient manufacturing facilities in Asia and
      successful vendor negotiations. In addition, we eliminated slow moving product
      offerings and improved our designs, providing faster inventory turnover and
      fewer markdowns on aging inventory.




Operating
      margins, pricing in our industry is very competitive. We must focus on selling
      more goods to more customers at very competitive prices in order to increase
      our
      revenues. Greater sales volumes, especially from large retailers, may come
      at
      the expense of some gross margin.





Operating
      Expenses





During
      fiscal 2006, our operating expenses decreased by $0.3 million to $4.1 million,
      compared to $4.4 million for fiscal 2005. The dollar decrease in operating
      expenses for fiscal 2006 was due to the net effect of decreases in certain
      expenses partially offset by increases in others. The increases were
      predominantly related to the $0.1 million of increased selling costs associated
      with the growth in sales to the independent retail sector. We reduced payroll,
      payroll taxes and benefits by approximately $0.3 million during fiscal 2006.
      Furthermore, reductions in professional fees, shipping and delivery expense
      and
      depreciation accounted for another $0.1 million. As a percentage of sales,
      our
      operating expenses increased to 44.5% of sales for fiscal 2006, up 3.5% from
      fiscal 2005, primarily as a result of the decrease in sales.





Other
      Expense





Other
      expense for fiscal 2006 decreased to $0.6 million compared to $1.1 million
      for
      fiscal 2005. The decrease during fiscal 2006 was primarily due to a $0.8 million
      non-cash charge related to the amortization of debt discount and financing
      costs
      for fiscal 2005, as compared to less than $0.1 million for fiscal 2006. However,
      due to the move from a more traditional bank line of credit to a factoring
      facility and the rise in interest rates throughout the year, actual interest
      expense increased $0.3 million compared to fiscal 2005.




12


Net
      Loss





Loss
      from
      operations was $1.6 million in fiscal 2006, a $0.1 million increase over fiscal
      2005. The slight increase in the loss from operations was a direct result of
      the
      decrease in sales.





We
      recorded a net loss of $2.2 million in fiscal 2006, as compared to a loss of
      $2.6 million in fiscal 2005. Non-cash charges accounted for a significant
      portion of our loss in fiscal 2005. In fiscal years 2006 and 2005, expenses
      of
      $0.1 million and $0.8 million, respectively, were recorded for the amortization
      of debt discount and financing costs.





Basic
      and
      diluted loss per share decreased $0.08 per share to $0.12 per share for fiscal
      2006, compared to $0.20 per share in fiscal 2005.





Inflation





We
      do not
      believe our business is materially affected by inflation. We anticipate that
      any
      increase in costs of goods sold and operating costs caused by inflation will
      be
      passed on to our customers through increases in price per unit. However, an
      increase in inflation could decrease customer demand for retail products
      resulting in lower sales volume as retailers adjust to decreased
      demand.




**Liquidity
      and Capital Resources**





We
      had
      working capital of approximately $(0.8) million at June 30, 2006, compared
      with
      $(0.9) million at June 30, 2005. Cash and cash equivalents and short-term
      investments were $0.1 million at June 30, 2006, compared to $0.8 million at
      June
      30, 2005. Cash used in operating activities increased from $1.0 million in
      fiscal year 2005 to $2.3 million in fiscal year 2006. The principal operating
      uses of cash during fiscal year 2006 were attributable to the net loss of $2.2
      million, and a $0.4 million increase in receivables. Inventories and prepaid
      expenses consumed an additional $0.1 million. The amount of cash used during
      the
      current fiscal year was reduced by a $0.2 million increase in payables and
      accrued expenses. Furthermore, $0.2 million in depreciation and the amortization
      of financing costs did not require cash.





Investing
      activities during the year ended June 30, 2006, provided $0.7 million in cash.
      This amount related primarily to the liquidation of a $750,000 depository
      account at Bank of America. In addition, the acquisition of computer equipment
      and improvements in our technological infrastructure consumed approximately
      $50,000.




During
      the year ended June 30, 2006, net cash provided from financing activities were
      $1.7 million. We raised $0.9 million from the issuance of common stock and
      $1.2
      million from short term notes payable. Our credit facility with Bibby Financial
      Services (Midwest), Inc. (“BFS”)   provided an additional $0.9 million.
      Upon entering into our credit facility with BFS, we terminated our line of
      credit with Bank of America and used $1.2 million to pay off the outstanding
      loan balance. We also disbursed $0.1 million for principal payments on long-term
      debt and capital lease obligations.





Factoring
      and Credit Arrangements





On
      March
      31, 2006, Decorize and BFS entered into a new Master Purchase and Sale Agreement
      (the “Factoring Agreement”) to govern the exclusive global factoring
      arrangements provided by BFS to Decorize and its subsidiaries, Guildmaster,
      Inc., and Faith Walk Designs, Inc. The new agreement replaces the Master
      Purchase and Sale Agreement entered into between Decorize and BFS in August
      2005. The factoring arrangements continue to provide Decorize with a maximum
      credit facility of $2,000,000.





Under
      the
      Factoring Agreement, Decorize submits accounts receivable to be purchased by
      BFS, and BFS pays Decorize up to 90% of the aggregate net face value of accounts
      receivable purchased, less applicable fees charged by BFS and a reserve withheld
      by BFS to serve as security in the event that BFS receives less than full
      payment for accounts purchased due to returns, allowances, deductions, disputes
      or chargebacks. All accounts submitted for purchase must be approved by BFS.
      Accounts are purchased on a recourse basis, and BFS has the right to charge
      back
      accounts purchased from Decorize at any time. The Factoring Agreement requires
      Decorize and its subsidiaries to grant BFS a first lien security interest in
      all
      their accounts receivable, inventory, equipment and all cash held in bank
      accounts and certain related intangibles.





BFS
      charges Decorize interest on amounts advanced to Decorize under the Factoring
      Agreement at a rate of 1.00% above the prime rate of interest as published
      in
      the Wall Street Journal. BFS receives a factoring administration fee equal
      to
      1.00% of the gross invoice amount of each account submitted. If total
      receivables are more than 60% for any one account debtor, BFS may charge
      Decorize an additional 0.5% discount for accounts from that specific account
      debtor.





The
      Factoring Agreement requires Decorize to maintain a level of accounts submitted
      for purchase each month that is equal to $500,000, on average, during each
      calendar quarter. If the level of purchased accounts falls below the $500,000
      minimum average requirement in any calendar month, Decorize is required to
      pay
      BFS a monthly purchase fee equal to the amount by which the fees paid to BFS
      for
      each month that does not meet the minimum requirements on average during a
      calendar quarter is less than $10,000, and Decorize shall not pay less than
      $10,000 in such fees on average for any month in a calendar
      quarter.




13




The
      initial term of the Factoring Agreement is twelve months and will be
      automatically extended for successive periods of twelve months unless terminated
      by Decorize more than 60 but less than 90 days prior to the end of the term.
      BFS
      may terminate the Factoring Agreement at any time on 30 days prior notice to
      Decorize. If Decorize terminates the Factoring Agreement more than 60 days
      prior
      to the end of the then-current term, Decorize will pay a termination fee equal
      to $10,000 for each month remaining during the term.





Decorize
      believes that the factoring arrangements will enhance its working capital
      situation. It is possible, however, that Decorize will continue to require
      additional equity and debt financing in order to provide it sufficient operating
      capital until such time as it can become sufficiently cash flow positive to
      fund
      operations on a stand-alone basis.





On
      May 5,
      2006, Decorize entered into a Commercial Security Agreement with Quest
      Commercial Finance, L.L.C. (“Quest Commercial”), which provides for Quest
      Commercia l to make a revolving credit line in the amount of up to $750,000
      available to Decorize (the “Credit Facility”). The Credit Facility matures on
      May 5, 2009, and is evidenced by a promissory note dated May 5, 2006 , issued
      by
      Decorize to Quest Commercia l . In consideration of Quest Commercia l providing
      the Credit Facility, Decorize paid Quest Commercial a commitment fee of $30,000.
      Outstanding principal that is due from time to time will bear interest at a
      rate
      that is equal to the prime rate of interest plus a margin of 5%, but the
      interest rate shall not be less than 10% per annum at any time. Accrued interest
      is payable monthly on the last day of each calendar month, beginning May 31,
      2006. Any payments that are more than 5 days late shall be assessed a late
      fee
      equal to 5% of the late payment.




Subject
      to the provisions of the related promissory not e , Decorize can borrow, repay
      and reborrow principal under the Credit Facility from time to time during its
      term. If a default occurs under this promissory not e as a result of Decorize
      failing to pay any amount when due or any other event of default, the unpaid
      outstanding principal balance will thereafter accrue interest at a rate equal
      to
      3% per annum over the interest rate that would otherwise apply, and Quest
      Commercial may declare all amounts due under the Credit Facilit y to be due
      and
      payable immediately.





Decorize’s
      obligations under the Credit Facility are secured by a security interest granted
      to Quest Commercia l in Decorize’s inventory. In this regard, Quest Commercial
      shall have an equal priority of interest in this inventory relative to the
      rights of SRC Holdings Corporation (“SRC”), which has loaned amounts to the
      Company under a convertible promissory note originally issued in April 2004,
      as
      most recently amended on June 15, 2005. Quest Commercia l shall have a prior
      right in the inventory relative to Decorize’s factor, BFS, except for any
      proceeds of the collateral.





As
      of
      June 30, 2006, our working capital was approximately $(0.8) million. Decorize
      believes that the factoring arrangements will enhance its working capital
      situation and increase the likelihood that it may expand its current operations
      in Asia. However, we first require cash to fund the purchase and manufacturing
      of products for shipment to customers. It is possible that Decorize will
      continue to require additional equity and debt financing in order to provide
      it
      sufficient operating capital until such time as it can become sufficiently
      cash
      flow positive to fund operations on a stand-alone basis. There is no assurance
      that such financing will be available on terms that will be acceptable to us.
      The inability to secure such financing could have a material adverse effect
      on
      our ability to maintain our business or to achieve our growth
      objectives.





Subsequent
      Events





On
      September 11, 2006, Decorize issued a promissory note (the “Promissory Note”),
      payable to the order of Quest Capital Alliance II, L.L.C. (the “Quest Capital
      II”), in the original principal amount of $750,000. Quest Capital II charged a
      $41,250 origination fee in connection with the loan, and discounted the
      principal amount funded to Decorize under the Promissory Note by the amount
      of
      the origination fee. Stephen W. Fox, who is the general manager of Quest Capital
      II, is also a director of Decorize.





Interest
      on the outstanding principal under the Promissory Note accrues commencing on
      January 9, 2007, at a rate of (i) eighteen percent (18%) per annum, if the
      Promissory Note is paid in full during the period commencing January 9, 2007
      and
      ending on February 12, 2007, or (ii) twenty-one percent (21%) per annum, if
      the
      Promissory Note is paid in full during the period commencing on February 13,
      2007 and ending on March 15, 2007. The Promissory Note matures, and all
      outstanding principal and accrued interest is due and payable in full, on the
      earliest of (i) the date Decorize has delivered invoices to customers related
      to
      certain Decorize purchase orders identified by Decorize and Quest Capital II,
      or
      (ii) March 15, 2007. The default interest rate is equal to twenty-one percent
      (21%) per annum.





The
      Promissory Note is secured by a security interest in Decorize’s inventory and
      proceeds from inventory pursuant to the terms and conditions of a Commercial
      Security Agreement (the “Security Agreement”) entered into between Decorize and
      Quest Capital II on September 11, 2006. The Security Agreement provides
      that upon an event of default, Quest Capital II may accelerate the
      indebtedness owed under the Promissory Note, assemble and sell the collateral,
      have a receiver appointed to take possession of any or all of the collateral,
      collect remedies, obtain a deficiency judgment, and exercise all other rights
      and remedies available to Quest Capital II.




14




On
      August
      17, 2006, Decorize issued a three-month promissory note, payable to the order
      of
      Quest Capital II, in the original principal amount of $75,000. The maturity
      date
      for the Promissory Note is November 17, 2006. Outstanding principal due under
      the Promissory Note and shall accrue interest until the date of maturity at
      a
      rate equal to 13.25% per annum. In consideration of Quest Capital
      II providing the Promissory Note, Decorize paid Quest Capital II a
      loan fee of $250. If a default occurs under the Promissory Note as a result
      of
      Decorize’s failure to pay any amount when due or because of any other event of
      default, the unpaid outstanding principal balance will thereafter accrue
      interest at a rate equal to 16.25% per annum, and Quest Capital II may declare
      the Promissory Note to be due and payable immediately.





Note
      Payable





On
      December 13, 2005, Decorize obtained a four-month $500,000 revolving line of
      credit. The maturity date for the line of credit is April 13, 2006. The line
      of
      credit is evidenced by a promissory note dated December 13, 2005, issued to
      Quest Capital II in the principal amount of $500,000. In consideration of
      providing the line of credit, Decorize paid Quest Capital II a commitment fee
      of
      $33,333.33. After April 13, 2006, any outstanding principal and interest become
      convertible into the Company’s common stock at a rate of $0.20 per share at the
      sole option of Quest Capital II. The note was converted into 2,500,000 shares
      of
      common stock on May 5, 2006.





On
      October 21, 2005, Decorize issued promissory notes to Quest Capital Alliance,
      L.L.C. (“Quest”) and Nest USA, Inc. (“Nest USA”) for $125,000 each. Both
      promissory notes bore interest at 10% to December 18, 2005 and at 13%
      thereafter. The proceeds were used for working capital purposes, and were repaid
      on March 7, and January 9, 2006, respectively.





On
      October 5, 2004, Decorize borrowed $250,000 from SRC which was used for working
      capital purposes. The $250,000 was in addition to $500,000 which we had borrowed
      from SRC in May 2004 pursuant to a promissory note. We issued a new demand
      note
      to SRC in the aggregate amount of $750,000 in substitution for the promissory
      note previously issued. The note bears interest at a rate of prime plus 0.5%,
      and requires monthly payments of interest. All amounts outstanding under the
      note are payable upon demand from SRC. In consideration of SRC’s additional
      loan, we issued warrants to SRC exersicable for 250,000 shares of common stock,
      which had an initial exercise price equal to $1.40 per share and an estimated
      aggregate fair value of $5,000 on October 5, 2004. The warrants expire ratably
      on September 30, 2007, 2008 and 2009.




Private
      Placements





On
      May 5,
      2006, the Company entered into agreements to convert an aggregate $900,000
      that
      was owed to a principal stockholder and one of the Company’s executive officers
      into 3,333,000 shares of common stock. The Company issued 2,500,000 shares
      of
      common stock to Quest as payment in full of an existing convertible term note,
      in the original principal amount of $500,000, which was issued by the Company
      on
      December 13, 2005. The shares were issued at a price of $0.20 per share, which
      was the conversion price under the December 2005 promissory note. In addition,
      James K. Parsons, a director and the Executive Vice President of the Company,
      exchanged $400,000 in principal owed to him under an existing promissory note,
      which was last amended in August 2004, for 833,333 shares of common stock issued
      to him on May 5, 2006. The exchange was made in accordance with a stock exchange
      agreement entered into on May 5, 2006. As a result of the exchange, the
      outstanding principal amount of Mr. Parson's note was reduced to $609,468,
      which
      is reflected in an amended note issued to him at the closing.





During
      the fiscal year ended June 30, 2006, we received an aggregate $1,160,629 upon
      the exercise of outstanding warrants held by certain of our stockholders. Nest
      USA exercised warrants for an aggregate 996,000 shares of common stock at an
      aggregate price of $199,200, or $0.20 per share; SRC exercised warrants for
      an
      aggregate 3,000,000 shares of common stock at an aggregate price of $600,000,
      or
      $0.20 per share; and Quest exercised warrants for an aggregate 1,807,143 shares
      of common stock at an aggregate price of $361,429, or $0.20 per
      share.





On
      June
      15, 2005, the Company completed the private placement of 1,875,000 shares of
      its
      common stock pursuant to the terms of a Securities Purchase Agreement entered
      into between Decorize, SRC and Quest on that same date. Under the agreement,
      Decorize agreed to issue 1,250,000 shares to SRC and 625,000 shares to Quest.
      Decorize also agreed to amend certain outstanding warrants held by SRC and
      Quest, which are exercisable for an aggregate 3,000,000 shares of common stock
      and 1,807,143 shares of common stock, respectively, in order to reduce the
      exercise price of the amended warrants to $0.20 per share and extend the period
      during which some of the amended warrants are exercisable. The private placement
      proceeds were be used by Decorize for general corporate purposes including
      general working capital initiatives. The total purchase price paid by SRC and
      Quest for the shares and the amended warrants was $750,000.





On
      May
      31, 2005, we completed the private placement of 1,000,000 shares of our common
      stock to Nest USA pursuant to the terms of a Securities Purchase Agreement
      entered into between Decorize and Nest USA on that same date. Under the terms
      of
      the agreement, Decorize agreed to issue the shares and to amend certain
      outstanding warrants held by Nest USA, which are exercisable for an aggregate
      996,000 shares of common stock, in order to reduce the exercise price of the
      amended warrants to $0.20 per share and extend the period during which the
      amended warrants are exercisable. We used the private placement proceeds for
      general corporate purposes . The total purchase price for the shares and the
      amended warrants was $400,000.




15





In
      each
      of the private placements, the investors represented that they were “accredited
      investors” for purposes of the Securities Act, and indicated that they were
      acquiring the shares for investment and not with a view to distribution. We
      provided each investor with appropriate financial and operating information.
      Each of the investors was an existing stockholder of Decorize. Accordingly,
      we
      believe this offering was made in compliance with the “safe harbor” requirements
      of Rule 506 under Regulation D of the Securities Act, which we have relied
      upon
      in taking the position that the private placements were exempt from registration
      under the Securities Act.





In
      consideration of SRC providing a commercial guarantee (the “Guarantee”) for a
      new bank line of credit (see *Note
      4* to the
      consolidated financial statements *)* on
      January 12, 2005, Decorize entered into a letter agreement with SRC and Quest
      (the “Letter Agreement”), which requires Decorize to (i) issue warrants
      exercisable for shares of Decorize’s common stock to SRC and Quest, (ii) reduce
      the exercise and conversion prices of outstanding warrants and securities held
      by SRC and Quest, (iii) amend an existing promissory note payable by Decorize
      to
      SRC to permit the note to be converted into common stock, (iv) obtain life
      insurance policies on Steve Crowder, the President and Chief Executive Officer
      of Decorize, with SRC, Quest and Decorize as the beneficiaries under those
      policies, (v) agree to register under the Securities Act of 1933, as amended,
      (the “Securities Act”), all common stock issued to SRC and Quest, including but
      not limited to the common stock issued pursuant to the Letter Agreement, and
      (vi) agree to further reduce the exercise and conversion prices of the warrants
      and securities convertible into common stock, if any amount is paid to Bank
      of
      America, N.A. by SRC or Quest under the Guarantee or if the Guarantee is
      required to extend past June 30, 2006.




Under
      the
      terms of the Letter Agreement, Decorize agreed to issue warrants to SRC to
      acquire 1,500,000 shares of Decorize’s common stock, and warrants to Quest to
      acquire 750,000 shares of common stock (the “New Warrants”). The New Warrants
      have an initial exercise price of $0.40 per share and are exercisable for five
      years from the date of the Letter Agreement. Decorize also agreed to reduce
      the
      exercise price of warrants currently outstanding in favor of SRC and Quest
      that
      are exercisable for an aggregate 1,500,000 shares of common stock and an
      aggregate 1,057,143 shares of common stock, respectively (the “Existing
      Warrants”), to $0.40 per share. The exercise period of the Existing Warrants
      will be reduced such that 50% will expire six months from the date of issuance
      and the remaining 50% shall expire one year from the date of issuance. Decorize
      also reduced the applicable conversion price of all outstanding shares of its
      Series A Convertible Preferred Stock, $.001 par value (the “Series A
      Preferred”), to a conversion price of $0.40 per share. Decorize also agreed to
      issue to SRC, a second amended and restated promissory note in the principal
      amount of $750,000 (the “Amended Note”), in replacement of a first amended and
      restated promissory note in the same principal amount, which was issued on
      September 30, 2004. Amounts outstanding under the Amended Note are convertible
      into shares of common stock at an initial conversion price of $0.40. Interest
      is
      due monthly on the first day of each calendar month commencing on February
      1,
      2005. The outstanding principal amount of the Amended Note is due upon SRC’s
      demand. The Amended Note bears interest at a rate equal to the prime rate plus
      one-half percent.




The
      fair
      value of the new warrants and the beneficial conversion feature of the second
      amended and restated promissory note, combined with the relative increase in
      the
      fair value of the modified outstanding warrants represents the aggregate fair
      value of the guarantees provided by SRC and Quest, $410,000. This asset was
      to
      be amortized to expense on the straight-line method over the term of the
      guarantee.





**Total
      Contractual Cash and Other Obligations**





The
      following table summarizes our long-term debt, capital lease obligations, and
      operating lease obligations as of June 30, 2006.





**Total**
            
            **Less
                than**
              **1
                Year**
            
            **1-3
                Years**
            
            **4
                - 5 Years**
            
            **After
                5**
              **Years**Aggregate
                amount of principal to be
              paid
                on the outstanding long-term
              debt
            
            
            436,015
            
            
            6,015
            
            
            430,000
            
            
            -
            
            
            -Principal
                payments due on notes
              payable
                to stockholders
            
            
            2,440,194
            
            
            830,726
            
            
            1,609,428
            
            
            -
            
            
            -Future
                minimum lease payments
              under
                capital leases
            
            
            27,674
            
            
            18,913
            
            
            8,766
            
            
            -
            
            
            -Future
                minimum lease payments
              under
                noncancelable operating leases
            
            
            481,057
            
            
            163,588
            
            
            317,469
            
            
            -
            
            
            -Totals
            
            
            3,384,945
            
            
            1,019,242
            
            
            2,356,703
            
            
            -
            
            
            -




**Off-Balance
      Sheet Arrangements**


We
        have
        no off-balance sheet arrangements that have or are reasonably likely to have
        a
        current or future effect on our financial condition, revenues, expenses,
        results
        of operations, liquidity, capital expenditures or capital resources that
        are
        material to our stockholders.





16





**Item
      7. FINANCIAL STATEMENTS**




**DECORIZE,
      INC.**


**INDEX
      TO FINANCIAL STATEMENTS**


**JUNE
      30, 2006 and 2005**




PageIndependent
                Accountants Report
            F-1Consolidated
                Balance Sheets
              for
                June 30, 2006 and 2005
            F-2Consolidated
                Statements of Operations
              for
                the Years Ended June 30, 2006 and 2005
            F-4Consolidated
                Statements of Stockholders’ Equity
              for
                the Years Ended June 30, 2006 and 2005
            F-5Consolidated
                Statements of Cash Flows
              For
                the Years Ended June 30, 2006 and 2005
            F-6Notes
                to the Consolidated Financial Statements
              For
                the Years Ended June 30, 2006 and 2005
            F-8




17


**Report
      of Independent**  **Registered
      Public Accounting Firm**





Audit
      Committee, Board of Directors


and
      Stockholders


Decorize,
      Inc.


Springfield,
      Missouri





We
      have
      audited the accompanying consolidated balance sheets of Decorize, Inc. as of
      June 30, 2006 and 2005, and the related consolidated statements of operations,
      stockholders’ equity and cash flows for the years then ended. These financial
      statements are the responsibility of the Company’s management. Our
      responsibility is to express an opinion on these financial statements based
      on
      our audits.





We
      conducted our audits in accordance with the standards of the Public Company
      Accounting Oversight Board (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 consolidated financial statements referred to above present fairly,
      in all material respects, the financial position of Decorize, Inc. as of June
      30, 2006 and 2005, and the results of its operations and its cash flows for
      the
      years then ended in conformity with accounting principles generally accepted
      in
      the United States of America.





/s/ **BKD,**  **LLP**





Springfield,
      Missouri


September
      27, 2007


F-1





**Decorize,
      Inc.**


**Consolidated
      Balance Sheets**


**June
      30, 2006 and 2005**




**Assets**




**2006**
            
            **2005****Current
                Assets**Cash
                and cash equivalents
            
            $
            102,337
            
            $
            43,892Certificate
                of deposit
            
            
            —
            
            
            750,000ReceivablesTrade
                accounts receivable, net of allowance 2006 - $250,000, 2005 -
                $60,066
            
            
            1,494,103
            
            
            1,139,018Other
            
            
            11,146
            
            
            6,549Inventories
            
            
            822,285
            
            
            736,209Prepaid
                expenses and other
            
            
            212,342
            
            
            113,157Total
                current assets
            
            
            2,642,213
            
            
            2,788,825Property
                and equipment, net of accumulated depreciation 2006 - $730,132, 2005
                -
                $601,725
            
            
            207,328
            
            
            328,733Goodwill
            
            
            3,258,938
            
            
            3,258,938Other
            
            
            35,824
            
            
            30,4243,502,090
            
            
            3,618,095$
            6,144,303
            
            $
            6,406,920





*See
      Notes to Consolidated Financial Statements*


F-2





**Decorize,
      Inc.**


**Consolidated
      Balance Sheets**


**June
      30, 2006 and 2005**





**Liabilities
      and Stockholders**  **’
      Equity**




**2006**
            
            **2005****Current
                Liabilities**Accounts
                payable
            
            $
            1,450,925
            
            $
            1,308,671Accrued
                salaries and commissions
            
            
            44,457
            
            
            30,778Other
                accrued expenses
            
            
            130,303
            
            
            227,187Due
                to factor
            
            
            921,506
            
            
            —Revolving
                line of credit
            
            
            —
            
            
            1,193,478Current
                portion of capital lease obligations
            
            
            16,741
            
            
            31,749Current
                portion of long-term debt
            
            
            6,015
            
            
            34,184Current
                portion of stockholders’ notes
            
            
            830,726
            
            
            860,064Total
                current liabilities
            
            
            3,400,673
            
            
            3,686,111**Capital
                Lease Obligations, Less Current Portion**
            
            
            8,514
            
            
            25,251**Long-term
                Debt, Less Current Portion**
            
            
            —
            
            
            6,060**Notes
                Payable to Stockholders, Less Current Portion**
            
            
            2,039,468
            
            
            1,844,460Total
                liabilities
            
            
            5,448,655
            
            
            5,561,882**Preferred
                Stock, 8% Cumulative, Convertible, Redeemable**$.001
                Par Value; authorized 10,000,000 shares; issued and outstanding 500,000
                shares
            
            
            595,121
            
            
            555,123**Stockholders’
                Equity**Common
                stock, $.001 par value; 50,000,000 shares authorized; issued and
                outstanding 2006 - 25,239,208 shares, 2005 - 16,041,735
                shares
            
            
            25,239
            
            
            16,042Additional
                paid-in capital
            
            
            12,730,735
            
            
            10,687,582Accumulated
                deficit
            
            
            (12,655,447
            )
            
            (10,413,709
            )Total
                stockholders’ equity
            
            
            100,527
            
            
            289,915$
            6,144,303
            
            $
            6,406,920





*See
      Notes to Consolidated Financial Statements*


F-3





**Decorize,
      Inc.**


**Consolidated
      Statements of Operations**


**Years
      Ended June 30, 2006 and 2005**




**2006**
            
            **2005****Net
                Sales**
            
            $
            9,242,278
            
            $
            10,800,288**Cost
                of Goods Sold**
            
            
            6,744,131
            
            
            7,890,280**Gross
                Profit**
            
            
            2,498,147
            
            
            2,910,008**Operating
                Expenses**Selling,
                general and administrative
            
            
            4,002,653
            
            
            4,272,626Depreciation
                and amortization
            
            
            107,437
            
            
            150,1484,110,090
            
            
            4,422,774**Operating
                Loss**
            
            
            (1,611,943
            )
            
            (1,512,766
            )**Other
                Income (Expense)**Interest
                income
            
            
            1,467
            
            
            1,829Interest
                expense
            
            
            (571,894
            )
            
            (271,210
            )Amortization
                of debt discount and financing cost
            
            
            (57,934
            )
            
            (832,515
            )Other
            
            
            (1,434
            )
            
            (4,206
            )(629,795
            )
            
            (1,106,102
            )**Loss
                Before Income Taxes**
            
            
            (2,241,738
            )
            
            (2,618,868
            )**Provision
                for Income Taxes**
            
            
            —
            
            
            —**Net
                Loss**
            
            
            (2,241,738
            )
            
            (2,618,868
            )**Add:
                Increase in Fair Value of Beneficial Conversion Feature of Preferred
                Stock**
            
            
            —
            
            
            (100,000
            )**Add:
                Dividends Declared on Preferred Stock**
            
            
            (40,000
            )
            
            (40,000
            )**Loss
                Available to Common Shareholders**
            
            $
            (2,281,738
            )
            $
            (2,758,868
            )**Basic
                and Diluted Loss Per Common Share**
            
            $
            (0.12
            )
            $
            (.21
            )**Basic
                and Diluted Weighted Average Common Shares
                Outstanding**
            
            
            18,866,739
            
            
            13,183,543





*See
      Notes to Consolidated Financial Statements*


F-4





**Decorize,
      Inc.**


**Consolidated
      Statements of Stockholders**  **’
      Equity**


**Years
      Ended June 30, 2006 and 2005**











**Additional****Common
                Stock**
            
            **Paid-in**
            
            **Accumulated****Shares**
            
            **Par
                Value**
            
            **Capital**
            
            **Deficit**
            
            **Total****Balances,
                June 30, 2004**
            
            
            13,136,735
            
            $
            13,137
            
            $
            9,067,808
            
            $
            (7,794,841
            )
            $
            1,286,104Issuance
                of common stock and warrants
            
            
            2,905,000
            
            
            2,905
            
            
            1,179,596
            
            
            —
            
            
            1,182,501Fees
                associated with the registration of outstanding common
                stock
            
            
            —
            
            
            —
            
            
            (84,822
            )
            
            —
            
            
            (84,822
            )Dividends
                declared
            
            
            —
            
            
            —
            
            
            (40,000
            )
            
            —
            
            
            (40,000
            )Fair
                value of conversion options added to preferred stock and note
                payable
            
            
            —
            
            
            —
            
            
            150,000
            
            
            
            
            
            150,000Discount
                recorded on stockholder note
            
            
            —
            
            
            —
            
            
            5,000
            
            
            —
            
            
            5,000Warrants
                issued for debt guarantee
            
            
            —
            
            
            —
            
            
            410,000
            
            
            —
            
            
            410,000Net
                loss
            
            
            —
            
            
            —
            
            
            —
            
            
            (2,618,868
            )
            
            (2,618,868
            )**Balances,
                June 30, 2005**
            
            
            16,041,735
            
            
            16,042
            
            
            10,687,582
            
            
            (10,413,709
            )
            
            289,915Issuance
                of common stock in exchange for debt
            
            
            3,333,333
            
            
            3,333
            
            
            896,666
            
            
            —
            
            
            899,999Exercise
                of common stock warrants and options
            
            
            5,864,143
            
            
            5,864
            
            
            1,186,487
            
            
            —
            
            
            1,192,351Dividends
                declared
            
            
            —
            
            
            —
            
            
            (40,000
            )
            
            —
            
            
            (40,000
            )Net
                loss
            
            
            —
            
            
            —
            
            
            —
            
            
            (2,241,738
            )
            
            (2,241,738
            )**Balances,
                June 30, 2006**
            
            
            25,239,211
            
            $
            25,239
            
            $
            12,730,735
            
            $
            (12,655,447
            )
            $
            100,527




*See
      Notes to Consolidated Financial Statements*


F-5





**Decorize,
      Inc.**


**Consolidated
      Statements of Cash Flows**


**Years
      Ended June 30, 2006 and 2005**





**2006**
            
            **2005****Operating
                Activities**Net
                loss
            
            $
            (2,241,738
            )
            $
            (2,618,868
            )Items
                not requiring cashDepreciation
                and amortization
            
            
            129,094
            
            
            162,630Compensatory
                issuance of common stock and stock options
            
            
            —
            
            
            32,500Amortization
                of debt discount and financing cost
            
            
            57,934
            
            
            832,515(Gain)
                loss on disposal of property and equipment
            
            
            (127
            )
            
            8,480Changes
                inTrade
                accounts receivable
            
            
            (359,682
            )
            
            (1,061,497
            )Due
                from factor
            
            
            —
            
            
            1,314,716Inventories
            
            
            (86,076
            )
            
            33,367Prepaid
                expenses and other current assets
            
            
            (60,501
            )
            
            (18,886
            )Accounts
                payable
            
            
            142,254
            
            
            416,984Accrued
                expenses and other
            
            
            81,802
            
            
            (98,112
            )Net
                cash used in operating activities
            
            
            (2,337,040
            )
            
            (996,171
            )**Investing
                Activities**Purchase
                of property and equipment
            
            
            (43,609
            )
            
            (89,537
            )Redemption
                (purchase) of certificate of deposit
            
            
            750,000
            
            
            (673,267
            )Proceeds
                from disposal of property and equipment
            
            
            2,060
            
            
            3,550Net
                cash provided by (used in) investing activities
            
            
            708,451
            
            
            (759,254
            )**Financing
                Activities**Principal
                payments on long-term debt
            
            
            (63,616
            )
            
            (137,223
            )Proceeds
                from issuance of stockholders’ notes payable
            
            
            750,000
            
            
            250,000Proceeds
                from issuance of long-term debt
            
            
            430,000
            
            
            —Net
                advances (repayments on) revolving line of credit
            
            
            (1,193,478
            )
            
            1,193,478Deferred
                fees associated with bank financing
            
            
            (63,333
            )
            
            (42,933
            )Principal
                payments on capital lease obligations
            
            
            (36,393
            )
            
            (48,507
            )Issuance
                of common stock, net of related expenses
            
            
            942,348
            
            
            1,150,000Advances
                from (repayments to) factor, net
            
            
            921,506
            
            
            (980,398
            )Net
                cash provided by financing activities
            
            
            1,687,034
            
            
            1,384,417**Increase
                (Decrease) in Cash and Cash Equivalents**
            
            
            58,445
            
            
            (371,008
            )**Cash
                and Cash Equivalents, Beginning of Year**
            
            
            43,892
            
            
            414,900**Cash
                and Cash Equivalents, End of Year**
            
            $
            102,337
            
            $
            43,892





*See
      Notes to Consolidated Financial Statements*


F-6


**Decorize,
      Inc.**


**Consolidated
      Statements of Cash Flows**


**Years
      Ended June 30, 2006 and 2005**




**2006**
            
            **2005****Supplemental
                Cash Flows Information**Interest
                paid
            
            $
            496,392
            
            $
            202,628Common
                stock warrants issued in connection with note payable
            
            
            —
            
            $
            5,000Fair
                value of beneficial conversion option added to note
                payable
            
            
            —
            
            $
            150,000Fair
                value of beneficial conversion option added to Series A Convertible
                Preferred Stock
            
            
            —
            
            $
            100,000Capital
                lease obligations incurred for property and equipment
            
            $
            4,698
            
            $
            13,000Fair
                value of warrants and beneficial conversion options issued for guarantee
                line of credit
            
            
            —
            
            $
            410,000Fair
                value of warrants issued as compensation for investor relations
                services
            
            
            —
            
            $
            13,000Dividend
                accrued on preferred stock
            
            $
            40,000
            
            $
            40,000Accrued
                fees associated with stock registration
            
            
            —
            
            $
            84,822Debt
                and accrued interest converted to common stock
            
            $
            1,146,667
            
            
            —





*See
      Notes to Consolidated Financial Statements*


F-7





**Decorize,
      Inc.**


**Notes
      to Consolidated Financial Statements**


**June
      30, 2006 and 2005**





**Note
      1:**  **Nature
      of Operations and Summary of Significant Accounting
      Policies**




***Nature
      of Operations***




Decorize,
      Inc. (“Decorize”) and its subsidiaries, collectively (the “Company”), is a
      manufacturer and wholesaler of imported home furnishings and home accent items.
      Products are sold primarily to retailers in the United States.




***Principles
      of Consolidation***




The
      consolidated financial statements include the accounts of Decorize and its
      wholly owned subsidiaries, P.T. Niaga Merapi, Westway Enterprises Limited,
      GuildMaster, Inc. and Faith Walk Designs, Inc. All significant intercompany
      accounts and transactions have been eliminated in consolidation.




***Use
      of Estimates***




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




***Cash
      Equivalents***




The
      Company considers all liquid investments with original maturities of three
      months or less to be cash equivalents. At June 30, 2006 and 2005, the Company
      had no cash equivalents.




***Accounts
      Receivable***




Accounts
      receivable are stated at the amount billed to customers. The Company provides
      an
      allowance for doubtful accounts, which is based upon a review of outstanding
      receivables, historical collection information and existing economic conditions.
      Accounts receivable are ordinarily due 30 to 60 days after the issuance of
      the
      invoice. Delinquent receivables are written off based on individual credit
      evaluation and specific circumstances of the customer. Provision (credit) for
      bad debts was $212,336 and $(13,902) for the years ended June 30, 2006 and
      2005,
      respectively.




The
      Company has established relationships with several major customers. Sales to
      the
      Company’s top two customers accounted for 32% of total sales for the year ended
      June 30, 2006. Sales to one customer accounted for 50.5% for the year ended
      June
      30, 2005. The Company grants credit to customers who meet the Company’s
      preestablished credit requirements and generally does not require collateral
      to
      secure payment of accounts receivable.




***Inventory
      Pricing***




Inventories
      consist primarily of finished and unfinished home furnishings and accessories.
      Inventories are stated at the lower of cost or market. Cost is determined using
      the first-in, first-out (FIFO) method and includes the cost of ocean freight
      and
      duties.


F-8





**Decorize,
      Inc.**


**Notes
      to Consolidated Financial Statements**


**June
      30, 2006 and 2005**


***Property
      and Equipment***




Property
      and equipment are stated at cost less accumulated depreciation and are
      depreciated over the estimated useful life of each asset. Leasehold improvements
      are amortized over the shorter of the lease term or the estimated useful lives
      of the improvements. Depreciation has been computed by applying the
      straight-line method to each asset category over their estimated lives, as
      follows:




**Category**
            
            **Estimated
                Life**
            
            **Balance
                at**
              **June
                30, 2006**
            
            **Balance
                at**
              **June
                30, 2005**Automobiles
            
            
            5
                years
            
            $
            34,728
            
            $
            34,728Warehouse
                and production equipment
            
            
            5-7
                years
            
            
            55,668
            
            
            46,611Computer
                software
            
            
            3
                years
            
            
            178,482
            
            
            178,482Office
                and computer equipment
            
            
            3-7
                years
            
            
            523,395
            
            
            512,127Leasehold
                improvements
            
            
            Lease
                term
            
            
            145,187
            
            
            108,479Construction
                in progress
            
            
            
            
            
            —
            
            
            50,031Total
            
            
            
            
            
            937,460
            
            
            930,458Less
                accumulated depreciation
            
            
            
            
            
            730,132
            
            
            601,725Property
                and equipment, net
            
            
            
            
            $
            207,328
            
            $
            328,733




***Impairment
      of Long-lived Assets***




Long-lived
      assets are reviewed for impairment whenever events or changes in circumstances
      indicate the carrying amount of an asset may not be recoverable. When events
      or
      changes in circumstances indicate an asset may not be recoverable, the Company
      estimates the future cash flows expected to result from the use of the asset.
      If
      the sum of the expected undiscounted future cash flows is less than the carrying
      value of the asset, an impairment loss is recognized. The impairment loss is
      recognized by measuring the difference between the carrying value of the assets
      and the estimated fair value of the assets. The Company’s estimates of fair
      values are based on the best information available and require the use of
      estimates, judgments and projections as considered necessary. The actual results
      may vary significantly. No impairment losses have been recorded in 2006 and
      2005.




***Goodwill***




The
      Company applies the provisions of Statement of Financial Accounting Standards
      No. 142, *Goodwill
      and Other Intangible Assets* (SFAS
      No. 142). SFAS No. 142 requires that an intangible asset that is acquired shall
      be initially recognized and measured based on its fair value.  SFAS
      No.
      142 also provides that goodwill should not be amortized, but shall be tested
      for
      impairment using a two-step process annually, or more frequently if
      circumstances indicate potential impairment, through a comparison of fair value
      to its carrying amount. The Company consists of a single reporting unit as
      defined in SFAS No. 142. As the first step in the process, management compares
      the estimated fair value of the Company based upon the market price of its
      common stock to the carrying value of its equity to determine whether a
      potential impairment of goodwill exists. The Company’s evaluations have not
      indicated a potential impairment, so the Company did not record a charge to
      reduce the carrying value of goodwill during 2006 or 2005.




F-9





**Decorize,
      Inc.**


**Notes
      to Consolidated Financial Statements**


**June
      30, 2006 and 2005**





***Income
      Taxes***




Deferred
      tax assets and liabilities are recognized for the tax effects of differences
      between the financial statement and tax bases of assets and liabilities. A
      valuation allowance is established to reduce deferred tax assets if it is more
      likely than not that a deferred tax asset will not be realized. Decorize, Inc.
      files consolidated income tax returns with its subsidiaries.




***Revenue
      Recognition***


The
        Company’s revenue is generated through the sale of merchandise to customers for
        prices that are fixed at the time the order is placed. Revenue is recognized
        when pervasive evidence of the sale exists, the earnings process is complete
        and
        the risks and rewards of ownership of the goods have transferred to the
        customer, which is considered to have occurred when the customer receives
        title
        to the products. Depending upon the specific terms of the transaction, title
        may
        transfer upon shipment of the products to the customer or upon receipt of
        the
        products by the customer. Sales are billed and our services are complete
        upon
        receipt of title by the customer. Collectibility of the amounts billed to
        customers is reasonably assured. The Company provides an allowance for expected
        sales returns, which is estimated based upon our historical experience. Deposits
        received in advance for orders from customers are recorded as deferred revenue
        and are not recognized in income until title to the products passes to the
        customer.




****** **Advertising
      Costs**




The
      Company expenses advertising costs as they are incurred. Advertising and
      marketing expenses for the years ended June 30, 2006 and 2005, totaled $303,346
      and $265,962, respectively.




***Amounts
      Due To and From Related Parties***




Accounts
      payable included amounts due to employees and stockholders totaling $52,607
      and
      $74,342 as of June 30, 2006 and 2005, respectively. Other accounts receivable
      from employees totaled $11,146 and $6,549 as of June 30, 2006 and 2005,
      respectively.




***Loss
      Per Share***




Basic
      and
      diluted loss per share are computed by dividing the net loss increased by
      dividends declared on preferred stock by the weighted average number of common
      shares outstanding during the period and excludes the otherwise dilutive effects
      of outstanding stock options and warrants as their effects would be
      antidilutive.




**June
                30, 2006**
            
            **June
                30, 2005**Net
                loss, as reported
            
            $
            (2,241,738
            )
            $
            (2,618,868
            )Add:
                Increase in fair value of beneficial conversion feature of preferred
                stock
            
            
            —
            
            
            (100,000
            )Add:
                Dividends declared on preferred stock
            
            
            (40,000
            )
            
            (40,000
            )Loss
                available to common shareholders
            
            
            (2,281,738
            )
            
            (2,758,868
            )Divided
                by weighted average shares outstanding
            
            
            18,866,739
            
            
            13,183,543Basic
                and diluted loss per share
            
            $
            (0.12
            )
            $
            (0.21
            )




F-10





**Decorize,
      Inc.**


**Notes
      to Consolidated Financial Statements**


**June
      30, 2006 and 2005**




**Stock-based
      Compensation**




At
      June
      30, 2006 and 2005, the Company had a stock-based employee compensation plan,
      which is described more fully in *Note
      8* . Prior
      to July 1, 2005, the Company accounted for this plan under the recognition
      and
      measurement principles of APB Opinion No. 25, *Accounting
      for Stock Issued to Employees* , and
      related Interpretations. Accordingly, for the fiscal year ended June 30, 2005,
      and prior years the only stock-based employee compensation cost reflected in
      net
      income was recognized on the intrinsic value method.




Effective
      July 1, 2005, the Company adopted the fair value recognition provisions of
      Statement of Financial Accounting Standards (SFAS) No. 123(R), *Share-Based
      Payment* . The
      Company selected the modified prospective application method. Accordingly,
      after
      July 1, 2005, the Company began expensing the fair value of any stock options
      granted, modified, repurchased or cancelled.




The
      following table illustrates the effect on net income and net income per share
      if
      the Company had applied the fair value recognition provisions of SFAS 123 to
      options granted under the Company’s stock-based compensation plans prior to
      July 1, 2005. For purposes of this pro forma disclosure, the value of the
      options was estimated using a Black-Scholes-Merton option-pricing formula and
      amortized on a straight-line basis over the respective vesting periods of the
      awards.





**Year
                Ended****June
                30,****2005**Loss
                available to common shareholders
            
            $
            (2,758,868
            )Add:
                Stock-based employee compensation expense included in reported net
                loss
            
            
            —Less:
                Total stock-based employee compensation expense determined under
                the fair
                value based method
            
            
            (214,738
            )Pro
                forma net loss available to common shareholders
            
            $
            (2,973,606
            )Net
                loss per share available to common shareholdersBasic
                and diluted - as reported
            
            $
            (0.21
            )Basic
                and diluted - pro forma
            
            $
            (0.22
            )





Disclosures
      for the year ended June 30, 2006, are not presented because stock-based payments
      were accounted for under SFAS 123(R)’s fair value method during this period (see *Note
      8* ).




***Preferred
      Stock***




During
      2004, the Company issued 500,000 shares of Series A Convertible Preferred Stock.
      Each preferred share is convertible into one common share (subject to certain
      antidilution provisions). Conversion is at the shareholder’s option, or
      mandatory if the market price of the common stock exceeds $2.50 for ten
      consecutive trading days with a sufficient daily trading volume. Dividends
      are
      cumulative and accrue 8% per year, payable in arrears. Preferred shares may
      be
      redeemed at the shareholder’s option for $1.00 each plus accrued dividends in
      three equal annual payments beginning February 13, 2007, or earlier at the
      option of the Company (subject to a redemption premium). The Company carries
      its
      Series A Convertible Preferred Stock on its balance sheet at the current
      redemption amount. Holders of Series A Convertible Preferred Stock are entitled
      to elect up to two of the Company’s Board of Directors while 500,000 or more
      shares of Series A Convertible Preferred Stock are outstanding. All accrued
      preferred stock dividends must be paid before any dividends may be distributed
      to common shareholders and in the event of liquidation the Series A Convertible
      Preferred Stock ranks prior to common to the extent of its redemption value.
      In
      January 2005, a conversion feature was added to the Series A Convertible
      Preferred Stock, enabling it to be converted to the Company common stock at
      a
      rate of $0.40 per share for an aggregate of 1,250,000 common shares. In June
      2005, the conversion price was amended to $0.20 per share, for an aggregate
      totaling 2,500,000 shares (see *Note
      6* ).




F-11


**Decorize,
      Inc.**


**Notes
      to Consolidated Financial Statements**


**June
      30, 2006 and 2005**




***Financial
      Instruments***




The
      carrying amounts of the Company’s financial instruments, which consist
      principally of cash, certificate of deposit, accounts receivable, accounts
      payable and notes payable approximate fair value.




***Reclassifications***




Certain
      reclassifications have been made to the 2005 financial statements to conform
      to
      fiscal 2006 presentation. These reclassifications have no effect upon net
      loss.




***Recent
      Accounting Standards***




In
      November 2004, the FASB issued SFAS 151, *Inventory
      Costs, an amendment of Accounting Research Bulletin (ARB) No. 43, Chapter
      4* . SFAS
      151 amends the guidance in ARB No. 43, Chapter 4, *Inventory
      Pricing* , to
      clarify the accounting for abnormal amounts of idle facility expense, freight
      handling costs and wasted material (spoilage). SFAS 151 requires that those
      items be recognized as current-period charges regardless of whether they meet
      the criterion of “so abnormal.” In addition, SFAS 151 requires that allocation
      of fixed production overhead to the costs of conversion be based on the normal
      capacity of the production facilities. The Company adopted SFAS 151 effective
      July 1, 2005. The adoption of SFAS 151 did not have a material impact on
      the Company’s financial condition, results of operations or
      liquidity.




In
      December 2004, the FASB issued SFAS 123(R), *Share-Based
      Payment* .
 SFAS 123(R) replaces Statement of Financial Accounting Standards
      No. 123, *Accounting
      for Stock Issued to Employees* and
      supersedes Accounting Principles Board (APB) Opinion No. 25, *Accounting
      for Stock Issued to Employees* .
 SFAS 123(R) requires that compensation costs relating to share-based
      payment transactions be recognized in the consolidated financial statements.
      Compensation costs will be measured based on the fair value of the equity or
      liability instruments issued. SFAS 123(R) is effective as of the first annual
      reporting period that begins after June 15, 2005. The adoption of SFAS
      123(R) did not have a material impact upon the Company’s financial condition,
      results of operations or liquidity ( *Note
      8* ).




F-12





**Decorize,
      Inc.**


**Notes
      to Consolidated Financial Statements**


**June
      30, 2006 and 2005**




In
      December 2004, the FASB issued SFAS 153, *Exchange
      of Nonmonetary Assets, an amendment of APB Opinion No. 29, Accounting for
      Nonmonetary Transactions* . SFAS
      153 is based on the principle that exchange of nonmonetary assets should be
      measured based on the fair value of the assets exchanged. SFAS 153 eliminates
      the exception of nonmonetary exchanges of similar productive assets and replaces
      it with a general exception for exchanges of nonmonetary assets that do not
      have
      commercial substance. The Company adopted SFAS 153 effective July 1, 2005.
      The
      adoption SFAS 153 did not have a material impact on the Company’s financial
      condition, results of operations or liquidity.




In
      March
      2005, the FASB issued FASB Interpretation No. 47 (FIN 47), *Accounting
      for Conditional Asset Retirement Obligations.* FIN 47
      clarifies that the term conditional asset retirement obligation as used in
      FASB
      Statement No. 143, *Accounting
      for Asset Retirement Obligations* , refers
      to a legal obligation to perform an asset retirement activity in which the
      timing and (or) method of settlement are conditional on a future event that
      may
      or may not be within the control of the entity. The obligation to perform the
      asset retirement activity is unconditional even though uncertainty exists about
      the timing and (or) method of settlement. Uncertainty about the timing and
      (or)
      method of settlement of a conditional asset retirement obligation should be
      factored into the measurement of the liability when sufficient information
      exists. FIN 47 also clarifies when an entity would have sufficient information
      to reasonably estimate the fair value of an asset retirement obligation. FIN
      47
      is effective no later than the end of fiscal years ending after
      December 15, 2005. The Company adopted FIN 47 effective July 1, 2005. 
The adoption of FIN 47 did not have a material impact on the Company’s financial
      condition, results of operations or liquidity.




In
      May
      2005, the FASB issued SFAS 154, *Accounting
      Changes and Error Corrections* . SFAS
      154 replaces Accounting Principles Board Opinions No. 20, *Accounting
      Changes,* and
      SFAS 3, *Reporting
      Accounting Changes in Interim Financial Statements* .
      SFAS 154 provides guidance on the accounting for and reporting of
      accounting changes and error corrections. It establishes retrospective
      application to prior periods’ financial statements of changes in accounting
      principle, unless it is impracticable to determine either the period-specific
      effects or the cumulative effect of the change. When it is impracticable to
      determine the period-specific effects of an accounting change, SFAS 154
      requires application of the new accounting principle as of the earliest period
      for which retrospective application is practicable. When it is impracticable
      to
      determine the cumulative effect of applying a change in accounting principle
      to
      all prior periods, SFAS 154 requires application as if the accounting
      principle were adopted prospectively from the earliest date practicable. The
      Company has adopted the provisions of SFAS No. 154 which are effective for
      accounting changes and corrections of errors beginning after December 15, 2005.
      The adoption did not have a material effect.




In
      March
      2006, the FASB issued SFAS No. 155, *Accounting
      for Certain Hybrid Financial Instruments.* SFAS 155
      resolves certain accounting issues related to various hybrid financial
      instruments. The Company expects to adopt the provisions of SFAS No. 155
      effective for its fiscal year beginning July 1, 2007. The Company is still
      evaluating the impact of this standard, but does not expect its adoption to
      have
      a material effect.





F-13




**Decorize,
      Inc.**


**Notes
      to Consolidated Financial Statements**


**June
      30, 2006 and 2005**





In
      June 2006, the FASB issued FASB Interpretation 48, *Accounting
      for Uncertainty in Income Taxes* (Interpretation 48). Interpretation 48 provides clarifying guidance on the
      accounting for uncertainty in income taxes recognized in financial statements
      in
      accordance with SFAS 109, *Accounting
      for Income Taxes* , and
      prescribes recognition and measurement guidance in determining amounts to be
      recorded in the financial statements. This Interpretation applies to all income
      based tax items and is effective for fiscal years beginning after
      December 15, 2006. The Company expects to adopt Interpretation 48 on
      July 1, 2006. The Company is currently evaluating the effect that the
      adoption of Interpretation 48 will have but does not expect it to be
      material.





In
      September 2006, the Securities and Exchange Commission issued Staff Accounting
      Bulletin No. 108, *“Considering
      the Effects of Prior Year Misstatements in Current Year Financial
      Statements,”* which
      requires registrants to consider the effect of all carryover and reversing
      effects or prior year misstatements when quantifying errors in current year
      financial statements. The cumulative effective of initial application is to
      be
      reported in the carrying amount of assets and liabilities as of the beginning
      of
      the fiscal year, and the offsetting is to be made to the opening balance of
      retained earnings for that year. The provisions of SAB 108 are effective for
      the
      Company’s fiscal year ending June 30, 2007. The Company expects to adoption of
      SAB 108 during the first quarter of its fiscal year ended June 30, 2007, and
      does not expect that its will have a material impact on the Company's
      consolidated financial statements.





**Note
      2:**  **Inventories**




**2006**
            
            **2005**Raw
                materials
            
            $
            33,234
            
            $
            54,440Work
                in process
            
            
            8,500
            
            
            34,868Finished
                units
            
            
            780,551
            
            
            646,901$
            822,285
            
            $
            736,209




**Note
      3:**  **Due
      from Factor and Line of Credit**




On
      March
      31, 2006, the Company and Bibby Financial Services (Midwest), Inc. (BFS) entered
      into a new Master Purchase and Sale Agreement (the “Factoring Agreement”) to
      govern the exclusive global factoring arrangements provided by BFS. The new
      agreement replaces the Master Purchase and Sale Agreement (as amended, the
      “Factoring Agreement”) entered into between the Company and BFS in August 2005.
      The factoring arrangements provide the Company with a maximum credit facility
      of
      $2,000,000.




Under
      the
      Factoring Agreement, the Company submits accounts receivable to be purchased
      by
      BFS, and BFS pays the Company up to 90% of the aggregate net face value of
      accounts receivable purchased, less applicable fees charged by BFS and a reserve
      withheld by BFS to serve as security in the event that BFS receives less than
      full payment for accounts purchased due to returns, allowances, deductions,
      disputes or chargebacks. All accounts submitted for purchase must be approved
      by
      BFS. Accounts are purchased on a recourse basis, and BFS has the right to charge
      back accounts purchased from the Company at any time. The Factoring Agreement
      requires the Company to grant BFS a first lien security interest in all of
      its
      accounts receivable, inventory, equipment and all cash held in bank accounts
      and
      certain related intangibles.





The
      Company accounts for this arrangement as a secured borrowing. The Factoring
      Agreement requires the Company to grant BFS a first lien security interest
      in
      all of its accounts receivable, inventory, equipment and all cash held in bank
      accounts and certain related intangibles. BFS charges interest on amounts
      advanced to the Company under the Factoring Agreement at a rate of 1.00% above
      the prime rate of interest as published in the Wall Street Journal. BFS receives
      a factoring administration fee equal to 1.00% of the gross invoice amount of
      each account submitted. If total receivables are more than 60% for any one
      account debtor, BFS may charge the Company an additional 0.5% discount for
      accounts from that specific account debtor. Receivables assigned to BFS totaled
      $1,027,719 and $0 as of June 30, 2006 and 2005, respectively, and were included
      in accounts receivable on the balance sheet. Assigned receivables continue
      to be
      serviced by the Company. All risk related to collection of assigned receivables
      remains with the Company. The balance due to factor on the Company’s balance
      sheets of $921,506 and $0 as of June 30, 2006 and 2005, respectively, represents
      outstanding advances from BFS against assigned receivables.





F-14





**Decorize,
      Inc.**


**Notes
      to Consolidated Financial Statements**


**June
      30, 2006 and 2005**





The
      Factoring Agreement requires the Company to maintain a level of accounts
      submitted for purchase each month that is equal to $500,000, on average, during
      each calendar quarter. If the level of purchased accounts falls below the
      $500,000 minimum average requirement in any calendar month, the Company is
      required to pay BFS a monthly purchase fee equal to the amount by which the
      fees
      paid to BFS for each month that does not meet the minimum requirements on
      average during a calendar quarter is less than $10,000, and the Company shall
      not pay less than $10,000 in such fees on average for any month in a calendar
      quarter.




The
      initial term of the Factoring Agreement is 12 months and will be automatically
      extended for successive periods of 12 months unless terminated by the Company
      more than 60 but less than 90 days prior to the end of the term. BFS may
      terminate the Factoring Agreement at any time on 30 days prior notice to the
      Company. If the Company terminates the Factoring Agreement more than 60 days
      prior to the end of the then-current term, the Company will pay a termination
      fee equal to $10,000 for each month remaining during the term.




On
      January 12, 2005, the Company obtained a line of credit from Bank of America,
      N.A. (the “Bank”) in the amount of up to $4,000,000 through May 31, 2005, and
      then decreasing to $3,000,000 from June 1, 2005, through maturity on December
      31, 2005. Interest was payable monthly at the average of daily fluctuating
      interest rates offered by major banks in London for U.S. dollar deposits, as
      determined by the Bank, plus two percentage points. The interest rate as of
      June 30, 2005, was 5.69%. The line of credit was secured by substantially
      all of the assets of the Company and its subsidiaries pursuant to a commercial
      security agreement.




The
      line
      of credit was guaranteed by a shareholder, SRC Holdings Corporation, in an
      amount limited to $750,000 pursuant to a commercial guarantee. Quest Capital
      Alliance, L.L.C. (Quest), also a shareholder of the Company, agreed to provide
      a
      supplemental guarantee for $250,000 of the amount guaranteed by SRC, pursuant
      to
      an agreement between Quest and SRC. In addition, SRC and James K. Parsons,
      a
      director, officer and shareholder of the Company, each agreed to subordinate
      all
      present and future indebtedness owed to them by the Company to the Bank,
      pursuant to subordination agreements entered into by each of them in favor
      of
      the Bank.




In
      June
      2005, the Company established a certificate of deposit with Bank of America,
      N.A. in the amount of $750,000 in exchange for termination of the guarantee.
      This certificate of deposit was liquidated in August 2005 when the Bank of
      America line of credit was terminated.





**Note
      4:**  **Notes
      Payable**




**2006**
            
            **2005**Note
                payable, bank (A)
            
            $
            6,015
            
            $
            40,244Less
                current maturities
            
            
            6,015
            
            
            34,184$
            0
            
            $
            6,060


(A)
              Note
                  payable to bank in monthly installments of $2,951, including interest
                  at
                  the bank’s prime rate plus 1% (9.25% at June 30, 2006) through August
                  2006, secured by inventories and accounts receivable. This loan
                  requires
                  the Company to maintain certain covenants, the more important of
                  which
                  restrict certain capital transactions and payment of
                  dividends.




F-15




**Decorize,
      Inc.**


**Notes
      to Consolidated Financial Statements**


**June
      30, 2006 and 2005**




The
      aggregate
      annual maturities of notes payable at June 30, 2006, are as
      follows:





**Year
                Ended June 30****,**
            
            **Aggregate**
              **Principal**
              **Maturities**2007
            
            $
            6,0152008
            
            
            —2009Total
                principal due
            
            
            6,015Less
                current portion
            
            
            6,015




Notes
      payable
      to stockholders at June 30, 2006, consists of the following unsecured
      notes:


**2006**
              
              **2005**Inventory
                  line of credit (B)
              
              $
              430,000
              
              $
              —Note
                  payable (C)
              
              
              24,275
              
              
              53,687Note
                  payable (D)
              
              
              609,468
              
              
              844,460Note
                  payable (E)
              
              
              56,451
              
              
              56,451Note
                  payable (F)
              
              
              1,000,000
              
              
              1,000,000Note
                  payable (G)
              
              
              750,000
              
              
              750,000$
              2,870,194
              
              $
              2,704,598


(B)
              Revolving
                  credit line of up to $750,000 due on May 5, 2009, to Quest Commercial
                  Finance L.L.C. with monthly interest at prime plus 5%, subject
                  to a
                  minimum of 10% (13.25% at June 30, 2006) secured by
                  inventories.
 (C)
              The
                  Company issued a convertible term note in the amount of $750,000
                  and three
                  year warrants to purchase an aggregate of 300,000 shares of common
                  stock
                  to Nest USA, Inc. (Nest USA) on February 26,
                  2002.




The
      estimated fair value of the warrants and beneficial conversion terms related
      to
      this convertible note payable amounted to $276,515 and $473,485, respectively,
      and were recorded as a discount on the note. The discount was amortized to
      interest expense over the two-year term of the convertible note payable using
      the interest method.




F-16





**Decorize,
      Inc.**


**Notes
      to Consolidated Financial Statements**


**June
      30, 2006 and 2005**





On
      January 1, 2003, an amended and restated convertible term note was issued which
      created new payment terms, extended the conversion option and required issuance
      of three year warrants for an additional 216,000 shares of the Company’s common
      stock at an exercise price of $2.80 per share that expire February 26, 2005.
      Principal and interest at 6% per annum were payable monthly in the amount of
      $17,500 commencing on January 31, 2003, continuing until January 31, 2004,
      when the monthly payments were scheduled to increase to $53,351. In April 2003,
      the note holder agreed to defer $5,000 of the monthly payments of principal
      for
      April, May and June, which were paid as additional $5,000 principal payments
      in
      July, August and September of 2003.




As
      of
      January 1, 2003, the estimated fair values of the warrants and beneficial
      conversion terms related to this convertible note were recognized as additional
      discounts to the carrying value of the note of $113,126 and $199,374,
      respectively, with an offsetting credit to paid-in capital. The aggregate
      discount on the convertible note as of January 1, 2003, was equal to its
      $750,000 face value. This discount is being amortized to interest expense over
      the revised note term using the interest method.




In
      February 2004, the Company issued 409,700 shares of common stock to Nest USA
      in
      exchange for a $409,700 principal reduction in the existing convertible term
      note. The second amended and restated convertible note to Nest USA had an
      initial principal balance of $210,497, bears interest at 6% and provides for
      monthly payments of $10,000 each beginning February 1, 2004, with the balance
      due December 31, 2005. The balance due on the note is convertible into common
      stock at $1.00 per share for the term of the note. In connection with this
      transaction, the Company also amended certain outstanding warrants held by
      Nest
      USA to extend their expiration date to December 31, 2005, and issued another
      set
      of warrants to Nest USA exercisable for 400,000 shares of common stock at $1.40
      per share, that expire on December 31, 2006. The fair value of the new and
      extended warrants was recorded as a discount, reducing the carrying value of
      the
      note to zero. The discount is being amortized to interest expense over the
      revised term of the note using the interest method. During the years ended
      June
      30, 2006 and 2005, the amortization of discounts on this convertible note
      resulted in noncash interest expense of $0 and $119,190,
      respectively.


(D)
              Stockholder
                  note payable, monthly interest at prime plus 1%, due July 31,
                  2008.
  (E)
              Stockholder
                  note payable, matured December 31, 2004. Interest is paid monthly
                  at prime
                  plus 1%.
  (F)
              Stockholder
                  note payable, interest at prime plus 1.25%, due July 31, 2006.
                  On July 31,
                  2006, this note was amended and restated with a due date of July
                  31,
                  2008.
  (G)
              Stockholder
                  note payable, interest at prime plus .5%, due upon demand. During
                  2005,
                  this note was amended to allow the holder to convert outstanding
                  principal
                  and unpaid interest into the Company’s common stock for $0.20 per share.
                  This note is convertible for 3,750,000 shares of common
                  stock.




F-17





**Decorize,
      Inc.**


**Notes
      to Consolidated Financial Statements**


**June
      30, 2006 and 2005**





The
      prime
      rate of interest at June 30, 2006, was 8.25%. The aggregate annual maturities
      of
      stockholder notes payable at June 30, 2006, are as follows:




**Year
                Ended June 30****,**
            
            **Aggregate**
              **Principal**
              **Maturities**2007
            
            $
            830,7262008
            
            
            —2009
            
            
            2,039,468Total
                principal due on stockholder notes payable
            
            
            2,870,194Less
                current portion
            
            
            830,726Long-term
                stockholder notes payable
            
            $
            2,039,468




**Note
      5:**  **Leases**




The
      Company leases various plant, office and showroom facilities and certain other
      equipment under agreements accounted for as operating leases. These leases
      expire through November 2007 and certain leases contain renewal
      options.




The
      Company also leases equipment under agreements accounted for as capital leases.
      The assets under capital leases are amortized on a straight-line basis over
      the
      term of the lease and lease amortization is included in depreciation expense.
      Property and equipment included $226,968 and $223,254 of assets under capital
      lease less $179,476 and $145,119 of accumulated depreciation at June 30, 2006
      and 2005, respectively.




Future
      minimum payments for noncancellable capital and operating leases with initial
      or
      remaining terms of one year or more at June 30, 2006, are as
      follows:





**Operating**
              **Leases**
            
            **Capital**
              **Leases**2007
            
            $
            163,588
            
            $
            18,9132008
            
            
            156,056
            
            
            8,7662009
            
            
            120,764
            
            
            —2010
            
            
            40,649
            
            
            —$
            481,057
            
            
            27,679Less
                amount representing interest
            
            
            
            
            
            2,424Present
                value of future minimum lease payments
            
            
            
            
            
            25,255Less
                current portion
            
            
            
            
            
            16,741$
            8,514





Total
      rent expense incurred under operating leases amounted to $420,527 and $434,410
      for the years ended June 30, 2006 and 2005, respectively.




F-18





**Decorize,
      Inc.**


**Notes
      to Consolidated Financial Statements**


**June
      30, 2006 and 2005**




**Note
      6:**  **Stockholders** **’
      Equity**




In
      consideration of SRC providing a commercial guarantee (the “Guarantee”) for a
      bank line of credit on January 12, 2005 (see *Note
      3)* , the
      Company agreed to obtain life insurance policies on Steve Crowder, the President
      and Chief Executive Officer of the Company, with SRC, Quest and the Company
      as
      the beneficiaries under those policies. The Company also issued warrants to
      SRC
      to acquire 1,500,000 shares of the Company’s common stock and warrants to Quest
      to acquire 750,000 shares (the “New Warrants”). The New Warrants had an initial
      exercise price of $0.40 per share and were exercisable for five years. The
      Company also agreed to reduce the exercise price of warrants currently
      outstanding in favor of SRC and Quest that were exercisable for an aggregate
      1,500,000 shares of common stock and an aggregate 1,057,143 shares of common
      stock, respectively (the “Existing Warrants”), to $0.40 per share. The exercise
      period of the Existing Warrants was reduced such that 50% would have expired
      six
      months from the date of issuance and the remaining 50% would have expired one
      year from the date of issuance. The Company also reduced the applicable
      conversion price of all outstanding shares of its Series A Convertible Preferred
      Stock, $.001 par value (the “Series A Preferred”), to a conversion price of
      $0.40 per share.




Also
      in
      connection with the Guarantee, the Company issued a second amended and restated
      promissory note to SRC in the principal amount of $750,000 (the “Amended Note”),
      in replacement of a first amended and restated promissory note issued on
      September 30, 2004. Amounts outstanding under the Amended Note were convertible
      into shares of common stock at an initial conversion price of
      $0.40.




The
      fair
      value of the new warrants and the beneficial conversion feature of the second
      amended and restated promissory note, combined with the relative increase in
      the
      fair value of the modified outstanding warrants represented the aggregate fair
      value of the guarantees provided by SRC and Quest, $410,000. This asset was
      to
      be amortized to expense on the straight-line method over the term of the
      guarantee.




On
      May
      31, 2005, the Company completed the private placement of 1,000,000 shares of
      its
      common stock to Nest USA. In connection with this transaction, the Company
      agreed to amend certain outstanding warrants held by Nest USA exercisable for
      an
      aggregate 996,000 shares of common stock, in order to reduce the exercise price
      of the warrants to $0.20 per share and extend the period during which the
      warrants were exercisable to May 31, 2007. The total purchase price for the
      shares and the amended warrants was $400,000.




On
      June
      15, 2005, the Company completed the private placement of 1,875,000 shares of
      its
      common stock pursuant to the terms of a Securities Purchase Agreement (the
      “Purchase Agreement”) entered into between the Company, SRC Holdings Corporation
      and Quest on that same date. The Purchase Agreement provides for the Company
      to
      issue 1,250,000 of the shares to SRC and 625,000 of the shares to Quest. The
      Company also agreed to amend certain outstanding warrants held by SRC and Quest
      (the “Amended Warrants”), which are exercisable for an aggregate 3,000,000
      shares of common stock and 1,807,143 shares of common stock, respectively,
      in
      order to reduce the exercise price of the Amended Warrants to $0.20 per share
      and extend the period during which some the Amended Warrants are
      exercisable.





At
      the
      closing of the sale of the shares, SRC received certificates representing
      Amended Warrants that were exercisable, in whole or in part, for 1,500,000
      shares of common stock, which terminate on May 31, 2007, and a second set of
      Amended Warrants that were exercisable, in whole or in part, for another
      1,500,000 shares of common stock, which terminate on April 11, 2010. Quest
      also
      received certificates representing Amended Warrants that were exercisable,
      in
      whole or in part, for 1,807,143 shares of common stock, which terminate on
      May
      31, 2007, and a second set of Amended Warrants that were exercisable, in whole
      or in part, for another 750,000 shares of common stock, which terminate on
      April
      11, 2010. The initial exercise price of the Amended Warrants is $0.20 per
      share.




A
      further
      condition to closing under the Purchase Agreement was for the Company to obtain
      a release of a $750,000 commercial guarantee executed by SRC in connection
      with
      the bank line of credit (see *Note
      3* ).
      Decorize obtained the release of the commercial guarantee in connection with
      the
      termination of its line of credit with Bank of America. The unamortized balance
      of the asset representing the fair value of the guarantee was charged to
      interest expense when the guarantee was released.




As
      a condition to closing the sale of the shares, the Company agreed to file an
      amendment to its Certificate of Designation for its Series A Convertible
      Preferred Stock, $.001 par value per share, in order to reduce the applicable
      conversion price of all outstanding shares of its preferred stock to a
      conversion price of $0.20 per share. Of the Series A Convertible Preferred
      Stock, 500,000 shares were outstanding as of June 30, 2006, which are
      convertible into an aggregate 2,500,000 shares of common stock.




The
      increase in the value of the beneficial conversion feature of the second amended
      and restated promissory note of $150,000 was charged to interest expense. The
      increase in the value of the beneficial conversion feature of the Company’s
      Series A Convertible Preferred Stock of $100,000 was recognized as a
      constructive dividend and charged against paid-in-capital in the quarter ended
      June 30, 2005.




On
      November 16, 2005, SRC Holdings Corporation exercised stock purchase warrants
      for 1,500,000 shares of the common stock of the Company at a price of $0.20
      per
      share, for a total purchase price of $300,000.




On
      December 13, 2005, the Company obtained a four-month revolving line of credit
      from Quest Capital Alliance II, L.L.C., in an amount up to $500,000. In
      consideration of providing the line of credit, the Company paid Quest Capital
      Alliance II, L.L.C. a commitment fee of $33,333. After April 13, 2006, any
      outstanding principal and interest became convertible into the Company’s common
      stock at a rate of $0.20 per share at the sole option of Quest Capital Alliance
      II, L.L.C. The note was converted into 2,500,000 shares of common stock on
      May
      5, 2006.




On
      January 9, 2006, Nest USA, Inc. exercised common stock purchase warrants for
      625,000 shares of common stock at a price of $0.20 per share, for a total
      purchase price of $125,000.




On
      March
      7, 2006, Quest Capital Alliance, L.L.C. exercised common stock purchase warrants
      for an aggregate 1,807,143 shares of common stock at a price of $0.20 per share,
      for a total purchase price of $361,429.





F-19





**Decorize,
      Inc.**


**Notes
      to Consolidated Financial Statements**


**June
      30, 2006 and 2005**




On
      March
      14, 2006, SRC Holdings Corporation exercised warrants for the purchase of an
      aggregate 1,500,000 shares of the common stock at a price of $0.20 per share,
      for a total purchase price of $300,000.




On
      March
      20, 2006, Nest USA exercised warrants for the purchase of 371,000 shares of
      common stock at a price of $0.20 per share, for a total purchase price of
      $74,200.




James
      K.
      Parsons, a director and the Executive Vice President of the Company, exchanged
      $400,000 in principal owed to him under an existing promissory note, which
      was
      last amended in August 2004, for 833,333 shares of common stock issued to him
      on
      May 5, 2006. The exchange was made in accordance with a stock exchange agreement
      entered into on May 5, 2006. As a result of the exchange, the outstanding
      principal amount of Mr. Parson’s note was reduced to $609,468.




Also
      on
      May 5, 2006, the Company completed a private placement of 2,500,000 shares
      of
      its common stock to Quest Capital Alliance II, L.L.C. for an aggregate price
      of
      $500,000. The proceeds were used to pay off a short-term note that the Company
      owed to Quest Capital Alliance II, L.L.C.




**Note
        7:**  **Income
        Taxes**




The
      provision for income taxes includes these components:




**2006**
            
            **2005**Taxes
                currently payable
            
            $
            —
            
            $
            —Deferred
                income taxes
            
            
            —
            
            
            —Income
                tax expense
            
            $
            0
            
            $
            0





A
      reconciliation of income tax expense at the statutory rate to the Company’s
      actual income tax expense is shown below:





**2006**
            
            **2005**Computed
                at the statutory rate (34%)
            
            $
            (762,191
            )
            $
            (890,415
            )Increase
                (decrease) resulting fromNondeductible
                expenses
            
            
            201,895
            
            
            216,182State
                income taxes
            
            
            (9,309
            )
            
            (82,061
            )Changes
                in the deferred tax asset valuation allowance including adjustments
                to
                prior net operating loss carryforwards
            
            
            630,298
            
            
            728,922Other
            
            
            (60,693
            )
            
            27,372Actual
                tax expense
            
            $
            0
            
            $
            0




F-20




**Decorize,
      Inc.**


**Notes
      to Consolidated Financial Statements**


**June
      30, 2006 and 2005**




The
      tax
      effects of temporary differences related to deferred taxes shown on the balance
      sheets were:




**2006**
            
            **2005**Deferred
                tax assetsAllowance
                for doubtful accounts
            
            $
            95,000
            
            $
            22,825Accrued
                compensated absences
            
            
            9,500
            
            
            9,500Reserve
                for obsolete inventories
            
            
            19,000
            
            
            19,000Net
                operating loss carryforwards
            
            
            3,456,572
            
            
            2,912,148Property
                and equipment
            
            
            7,257
            
            
            4,667Charitable
                contribution carryforwards and other
            
            
            5,844
            
            
            21,6003,593,173
            
            
            2,989,740Deferred
                tax liabilitiesPrepaid
                insurance
            
            
            (15,728
            )
            
            (20,501
            )Inventory
                adjustments
            
            
            (10,386
            )
            
            (32,478
            )(26,114
            )
            
            (52,979
            )Net
                deferred tax asset before valuation allowance
            
            
            3,567,059
            
            
            2,936,761Valuation
                allowanceBeginning
                balance
            
            
            (2,936,761
            )
            
            (2,417,196
            )Increase
                during the period
            
            
            (630,298
            )
            
            (519,565
            )Ending
                balance
            
            
            (3,567,059
            )
            
            (2,936,761
            )Net
                deferred tax asset
            
            $
            0
            
            $
            0





For
      the
      years ended June 30, 2006 and 2005, the Company recorded a valuation allowance
      for the full amount of the net deferred tax asset otherwise recorded due to
      the
      losses causing uncertainty as to the realizability of the deferred tax assets
      in
      future years. As of June 30, 2006 and 2005, the Company had approximately
      $9,100,000 and $7,600,000, respectively, of net operating loss carryforwards
      available to offset future federal income taxes. The carryforwards expire in
      varying amounts from 2021 to 2026, if unused. Utilization of the net operating
      loss carryforwards may be subject to certain limitations as a result of changes
      in ownership of the Company.




F-21





**Decorize,
      Inc.**


**Notes
      to Consolidated Financial Statements**


**June
      30, 2006 and 2005**




**Note
      8:**  **Stock-based
      Compensation**




***Adoption
      of SFAS 123(R)***




Prior
      to
      July 1, 2005, the Company’s stock-based employee compensation plan was
      accounted for under the recognition and measurement provisions of Accounting
      Principles Board Opinion (APBO) No. 25, *Accounting
      for Stock Issued to Employees* (APBO
      25), and related Interpretations, as permitted by FASB Statement No. 123, *Accounting
      for Stock-Based Compensation* , (SFAS
      123). The Company generally did not recognize stock-based compensation cost
      in
      its statement of operations for periods prior to July 1, 2005, as most
      options granted had an exercise price equal to the market value of the
      underlying common stock on the date of grant. However, compensation expense
      was
      recognized under APBO 25 for certain options based upon the intrinsic value
      (the
      difference between the exercise price and the deemed fair value of the common
      stock at the date of grant).




Effective
      July 1, 2005, the Company adopted the fair value recognition provisions of
      SFAS No. 123 (Revised 2004), *Share-Based
      Payment* ,
      (SFAS
      123(R)), using the modified-prospective-transition method. Results for prior
      periods have not been restated.




The
      Company’s loss from operations, loss before income taxes, net loss, basic and
      diluted loss per share available to common stockholders were not different
      as a
      result of the adoption of SFAS 123(R) for the year ended June 30, 2006, than
      if
      it had continued to account for share-based compensation under the recognition
      and measurement provisions of APBO 25, and related Interpretations, as permitted
      by SFAS 123.




***Equity
      Incentive Plan***




The
      Company’s 1999 Equity Incentive Plan (the “Plan”), which is shareholder
      approved, permits the grant of nonqualified options to its employees,
      consultants and directors for up to 3 million shares of common stock. The
      Company believes that such awards better align the interests of its employees
      with those of its shareholders. Option awards are generally granted with an
      exercise price equal to the market price of the Company’s stock at the date of
      grant; those option awards generally vest based on three years of continuous
      service and typically have seven-year contractual terms. All outstanding stock
      options were fully vested as of June 30, 2005.




The
      fair
      value of each option award is estimated on the date of grant using a
      Black-Scholes-Merton option valuation model that uses the assumptions noted
      in
      the following table. Expected volatility is based on historical volatility
      of
      the Company’s stock. The Company uses historical data to estimate option
      exercise and employee termination within the valuation model. The expected
      term
      of options granted represents the period of time that options granted are
      expected to be outstanding. The risk-free rate for periods within the
      contractual life of the option is based on the implied yield available on the
      grant date for U.S. Treasury zero-coupon issues with an equivalent remaining
      term. Where the expected term of the Company’s stock-based awards does not
      correspond with the terms for which interest rates are quoted, the Company
      uses
      a straight-line interpolation to determine the rate from the available term
      maturities.




F-22





**Decorize,
      Inc.**


**Notes
      to Consolidated Financial Statements**


**June
      30, 2006 and 2005**




No
      options were granted during the year ended June 30, 2006. The fair value of
      options granted during the years ended June 30, 2005 and 2004 was estimated
      on
      the date of the grant using the Black-Scholes-Merton option-pricing model with
      the following weighted average assumptions:




**2005**
            
            **2004**Dividend
                per share
            
            $
            —
            
            $
            —Risk-free
                interest rate
            
            
            3.72
            %
            
            3.26
            %Weighted
                average expected life of options
            
            
            3
                years
            
            
            4
                to 5 yearsExpected
                volatility of the Company’s common stock market price
            
            
            59.6
            %
            
            60
            %Weighted
                average fair value of options granted during the year
            
            $
            0.21
            
            $
            0.69





On
      May 4,
      2005, the Board of Directors approved the cancellation of 805,000 options
      granted on various dates with various vesting periods, held by employees and
      directors of the Company. The exercise prices of the cancelled options ranged
      between $0.80 and $1.40 per share. In exchange, the Company granted many of
      the
      same employees a total of 758,500 options at $0.52 per share, the closing price
      of the Company’s common stock on that date. The options were granted under the
      1999 Equity Incentive Plan, have a seven-year life and were fully vested and
      exercisable when granted. No compensation cost has been recognized for these
      options under the intrinsic value method allowed by APBO 25 for all periods
      presented, as the amounts thereof are immaterial. The Company’s pro-forma
      compensation expense for the year ended June 30, 2006 includes a charge of
      $83,160 for the increase in fair value of the replacement options compared
      to
      the cancelled options. This replacement of the outstanding option awards was
      done to bring the exercise price of these options closer to the current market
      price and to make them immediately exercisable. Had this change been made after
      the Company adopted SFAS 123(R) on July 1, 2005, it would have resulted in
      a
      charge to compensation expense.





Also
      on
      May 4, 2005 the Company granted 102,000 new options at $0.52 per share, the
      closing price of the Company’s common stock on that date. The options were
      granted under the 1999 Equity Incentive Plan, have a seven-year life and were
      fully vested and exercisable when granted. No compensation cost was recognized
      for this grant under the intrinsic value method allowed by APBO 25. The weighted
      average grant date fair value of options granted and modified during the year
      ended June 30, 2005, was $.21 per share.





A
      summary
      of option activity under the Plan as of June 30, 2006 and 2005, and changes
      during the years then ended, is presented below:





**2006**
            
            **2005****Shares**
            
            **Weighted**
              **Average**
              **Exercise Price**
            
            **Shares**
            
            **Weighted**
              **Average**
              **Exercise Price**Outstanding,
                beginning of year
            
            
            916,207
            
            $
            0.56
            
            
            923,261
            
            $
            1.18Granted
            
            
            —
            
            
            —
            
            
            858,000
            
            
            .52Exercised
            
            
            (61,000
            )
            
            .52
            
            
            —
            
            
            —Forfeited
            
            
            (146,707
            )
            
            .78
            
            
            (865,054
            )
            
            1.18Outstanding,
                end of year
            
            
            708,500
            
            
            .52
            
            
            916,207
            
            
            .56Options
                exercisable, end of year
            
            
            708,500
            
            
            .52
            
            
            916,207
            
            
            .56





No
      stock-based compensation cost recognized in connection with the Plan for the
      years ended June 30, 2006 and 2005. No income tax benefits were recognized
      and
      no stock-based compensation was capitalized as part of the cost of an asset
      during the years ended June 30, 2006 and 2005.





The
      aggregate intrinsic value of options outstanding and exercisable as of June
      30,
      2006 and 2005, was $0 and $128,700, respectively. The aggregate intrinsic value
      is calculated as the difference between the exercise price of the underlying
      awards and the quoted price of the Company’s common stock for the options that
      were in-the-money.




F-23




**Decorize,
      Inc.**


**Notes
      to Consolidated Financial Statements**


**June
      30, 2006 and 2005**








The
      total
      intrinsic value of options exercised during years ended June 30, 2006 and 2005,
      was $100 and $0, respectively.




Cash
      generated through the exercise of stock options totaled $31,720 and $0 for
      the
      years ended June 30, 2006 and 2005, respectively. No cash was used in the
      settlement of shared-based obligations during 2006 and 2005.





The
      Company had no nonvested shares as of June 30, 2006 and 2005.




As
      of
      June 30, 2006, there was no unrecognized compensation cost related to nonvested
      share-based compensation arrangements granted under the Plan. The total fair
      value of shares vested during the years ended June 30, 2006 and 2005, was $0
      and
      $214,738, respectively.




Prior
      to
      the adoption of SFAS 123(R), the Company presented all tax benefits of
      deductions resulting from the exercise of stock options as operating cash flows
      in its statement of cash flows. In accordance with guidance in SFAS 123(R),
      the
      cash flows resulting from excess tax benefits (tax benefits related to the
      excess of proceeds from employee’s exercises of stock options over the
      stock-based compensation cost recognized for those options) are classified
      as
      financing cash flows. The Company recorded no excess tax benefits as financing
      cash inflows during the years ended June 30, 2006 and 2005, because of the
      full
      valuation allowance established against the Company’s deferred tax
      assets.




The
      following table summarizes information about stock options under the Plan
      outstanding at June 30, 2006:





**Options
                Outstanding**
            
            **Options
                Exercisable****Range
                of**
              **Exercise Prices**
            
            **Number**
              **Outstanding**
            
            **Weighted Average**
              **Remaining**
              **Contractual Life**
            
            **Weighted Average**
              **Exercise
                Price**
            
            **Number**
              **Exercisable**
            
            **Weighted Average**
              **Exercise
                Price**$0.52
            
            
            708,500
            
            
            5.8
                years
            
            
            $0.52
            
            
            708,000
            
            
            0.52




**Note
      9:**  **Significant
      Estimates and Concentrations**




Accounting
      principles generally accepted in the United States of America require disclosure
      of certain significant estimates and current vulnerabilities due to certain
      concentrations. Those matters include the following:




***Major
      Supplier***




The
      Company purchased approximately 28% and 40% of its principal products from
      one
      supplier during the years ending June 30, 2006 and 2005, respectively. There
      are
      a limited number of suppliers for these products.




***Foreign
      Assets***




As
      of
      June 30, 2006, net assets located outside the United States totaled
      approximately $524,000. These assets consisted principally of the inventory
      and
      equipment of Pt. Niaga Merapi facility in Indonesia totaling approximately
      $167,000 and products in transit from Indonesia to the United States of
      approximately $345,000. The equipment located in China totaled approximately
      $12,000.




F-24





**Decorize,
      Inc.**


**Notes
      to Consolidated Financial Statements**


**June
      30, 2006 and 2005**





As
      of
      June 30, 2005, net assets located outside the United States totaled
      approximately $343,000. These assets consisted principally of the inventory
      and
      equipment of Pt. Niaga Merapi facility in Indonesia totaling approximately
      $151,000 and products in transit from Indonesia to the United States of
      approximately $173,000. The equipment located in China totaled approximately
      $19,000.




**Note
      10:**  **Profit-sharing
      Plan**




***Profit-sharing
      Plan***




The
      Company has a 401(k) profit-sharing plan covering substantially all employees.
      The Company’s contributions to the plan are determined annually by the Board of
      Directors. There were no Company contributions to the plan for 2006 or
      2005.




**Note
      11:**  **Future
      Liquidity Needs**




The
      Company has incurred losses and recurring negative cash flows since formation.
      Management is continuing to evaluate and implement strategies to mitigate these
      conditions during the next fiscal year. These include establishing and expanding
      relationships with key customers, renewed focus on specialty retail customers,
      better margin management through improved operational processes, selective
      reductions of operating overhead and seeking additional sources of equity and
      debt financing.




Management
      believes that additional financing may be needed to meet the capital
      requirements associated with the Company’s growth objectives or to retire
      existing debt. Management is evaluating alternatives for obtaining new debt
      and
      equity financing to meet future capital requirements, or to retire debt as
      deemed appropriate.




As
      described in *Note
      12* ,
      subsequent to year end the Company established new short-term working capital
      facilities which provided additional liquidity of approximately
      $750,000.





**Note
      12:**  **Subsequent
      Events**




On
      August
      17, 2006, the Company issued a three-month promissory note payable to Quest
      Capital Alliance II, L.L.C. in the original principal amount of $75,000 which
      matures on November 17, 2006, with interest at 13.25%. If a default occurs
      the
      unpaid outstanding principal balance will become due immediately and thereafter
      accrue interest at a rate equal to 16.25%.





F-25





**Decorize,
      Inc.**


**Notes
      to Consolidated Financial Statements**


**June
      30, 2006 and 2005**





On
      September 11, 2006, the Company issued a promissory note payable to Quest
      Capital Alliance II, L.L.C. in the amount of $750,000. Principal funded to
      the
      Company was discounted by an origination fee of $41,500 which will be amortized
      to interest expense over the term of the note. Stephen W. Fox, who is the
      general manager of the Lender, is also a director of the Company. Interest
      on
      the outstanding principal commencing on January 9, 2007, at a rate of (i)
      eighteen percent (18%) per annum, if the balance is paid in full during the
      period commencing January 9, 2007, and ending on February 12, 2007, or (ii)
      twenty-one percent (21%) per annum, if the note is paid in full during the
      period commencing on February 13, 2007, and ending on March 15, 2007. The note
      matures, and all outstanding principal and accrued interest is due and payable
      in full, on the earliest of (i) the date of the Company has delivered invoices
      to customers related to certain Company purchase orders or (ii) March 15, 2007.
      The default interest rate is equal to twenty-one percent (21%) per annum. The
      note is secured by a security interest in the Company’s inventory and proceeds
      from inventory.





F-26




**Item
      8. CHANGE IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL
      DISCLOSURE**


None.




**Item
      8A. CONTROLS AND PROCEDURES.**


We
        carried out an evaluation of the effectiveness of the design and operation
        of
        our disclosure controls and procedures pursuant to Exchange Act Rules 13a-15
        and
        15d-15 as of June 30, 2006, the end of our fourth fiscal quarter, which is
        the
        last period presented in this report. The evaluation was carried out under
        the
        supervision of our Chief Executive Officer and Principal Financial Officer
        and
        with the participation of our management group and our audit committee. Our
        disclosure controls and procedures are designed to ensure that information
        that
        is required to be included in our filings with the SEC is recorded, processed,
        summarized and reported within the time periods specified by the SEC, and
        that
        such information is accumulated and communicated to our management, including
        our Chief Executive Officer and Principal Financial Officer, as appropriate
        to
        allow timely decisions regarding required disclosure. Based on that evaluation,
        our Chief Executive Officer and Principal Financial Officer concluded that
        Decorize’s disclosure controls and procedures were not effective as of June 30,
        2006 for the reasons described below.
  The
        audit
        committee of our Board of Directors held a special meeting on September 23,
        2005, which was also attended by the Principal Financial Officer and Chief
        Executive Officer, in order to discuss issues that had been raised by Decorize’s
        independent registered public accountants, BKD, LLP (“BKD”), with respect to
        Decorize’s historical balance sheet treatment of its outstanding shares of
        Series A Convertible Preferred Stock. During the meeting, BKD also presented
        the
        audit committee with written notice that its audit of the fiscal year ended
        June
        30, 2005 revealed certain matters which BKD considered to be control
        deficiencies, significant deficiencies or material weaknesses in Decorize’s
        internal control over financial reporting. The items noted included the failure
        to document accounting processes and policies, the inability to segregate
        accounting duties due to lack of available personnel, the lack of resources
        available to apply new and complex accounting standards, and the need for
        improvement to overhead allocation and inventory accounting. The audit committee
        instructed management to review the control deficiencies, significant
        deficiencies and material weaknesses that BKD communicated and to determine
        the
        appropriate corrective actions to be taken.
  After
        BKD
        completed its audit procedures for the fiscal year ended June 30, 2006, BKD
        sent
        written notice to the audit committee advising that its audit had again revealed
        certain matters that BKD considered to be control deficiencies, significant
        deficiencies or material weaknesses in Decorize’s internal control over
        financial reporting. The notice referenced material weakness with respect
        to our
        failure to segregate accounting duties and the lack of resources, research
        tools
        and personnel to evaluate the proper application of new and complex accounting
        standards, and significant deficiencies with respect to our failure to properly
        document accounting processes and policies, and the failure to segregate
        accounting duties at our Indonesian production facility. The audit committee
        again requested that management review the control deficiencies, significant
        deficiencies and material weaknesses that BKD communicated and discuss possible
        remedial actions with BKD, with the goal of determining what appropriate
        corrective actions could be implemented to address those issues.
  Management
        has begun taking steps to attempt to address the deficiencies and weaknesses
        noted by BKD; however, it has not successfully resolved all matters raised
        by
        BKD. Management is addressing the documentation of accounting policies and
        procedures by approving the hiring of additional personnel in the accounting
        department. Management has also approved adding personnel to address the
        weaknesses in overhead allocation and inventory accounting at our Indonesian
        production facility. We anticipate that these additions will help alleviate
        the
        pressures on current accounting personnel.
  Management
        and our audit committee believe that the segregation of duties is extremely
        difficult in a small company with limited financial resources such as Decorize,
        and, consequently, we are unlikely to be able to eliminate all of those risks
        entirely while Decorize continues to develop its operations and improve its
        financial position. We are currently evaluating certain compensating controls
        that we intend to put into place before the end of calendar year 2006 in
        order
        to minimize these risks. In addition, we assign duties to our personnel in
        a
        manner that we feel provides the best segregation possible; however, our
        limited
        resources require that our personnel be cross-trained in order to provide
        adequate coverage at all times. This cross coverage results in system access
        being available to individuals to an extent that may violate segregation
        of
        duties principles. The lack of segregation of duties that results from our
        limited personnel resources has been identified by BKD as a material weakness
        in
        our internal control over financial reporting.
  The
        impact on segregation of duties caused by our policy of allowing cross coverage
        of financial reporting by our personnel creates a risk that cash or other
        assets
        may be misappropriated, which could be concealed by an expense misstatement
        or
        the misstatement of one or more balance sheet entries. In order to compensate
        for the potential risk of cash being misappropriated, Decorize initially
        put the
        following detective controls in place:





(i)
            the
                requirement that checks drawn against Decorize’s operating account have a
                physical signature for any amount and two signatures for amounts
                in excess
                of $10,000;




18




(ii)
            the
                policy of having our accounting personnel located overseas provide
                our
                domestic accounting department with bank reconciliations that tie
                to the
                corresponding cash payments made from the United States; and





(iii)
            the
                practice of our management team reviewing the financial statements
                and
                selected general ledger transaction detail each month.


We
        believe that management’s review of our financial statements and general ledger,
        in particular, provides a strong detective control because of the small size
        of
        Decorize’s business operations. Decorize has relatively few revenue sources, and
        our expenses from period to period are predictable, which makes it easier
        for
        management to recognize any discrepancies in the expected revenues or expenses
        during its review of a particular period. We believe that in a small business
        such as ours, management can be much more informed of what details to expect
        in
        the financials than would be true in a larger organization with more varied
        revenue sources and expenses.




Another
      material weakness identified by BKD is a lack of adequate resources, research
      tools or personnel with experience or time to devote to reviewing and ensuring
      the proper application of new accounting standards and for analysis of complex
      accounting issues. Specifically, BKD has suggested that our current staff would
      have difficulty completing our financial statements in accordance with GAAP
      without outside assistance. As a consequence, there is a risk that we might
      have
      an unintentional misstatement or omission in our financial statements as a
      result of the misapplication of GAAP.




Management
      has committed to provide the audit committee with documented policies and
      procedures that have identified controls for all areas affecting the financial
      statements by the end of the calendar year 2007, which will be the end of the
      second quarter of our 2008 fiscal year. Within that same time period, management
      intends to develop written policies regarding the valuation of reserves and
      documented controls within the invoicing process. Specifically, we intend that
      the policies for valuation will allow for development of a consistent allowance
      that is supported by all available evidence and is in compliance with GAAP.
      Decorize intends to incorporate additional detective controls, and ultimately
      preventative controls, as it determines to be appropriate during the development
      and testing of policies, procedures and related controls to address any existing
      or potential internal control weaknesses over the next several fiscal quarters.
      Testing of any controls we develop will take place during calendar year 2008.
      Each policy will be developed after the analysis of operations data over a
      24-month period ending in 2007.




Personnel
      that we have been adding to our foreign business units in the first fiscal
      quarter ending September 30, 2006, and additional personnel expected to be
      added
      during the second fiscal quarter, are anticipated to result in an improvement
      in
      controls within those entities, including more timely and accurate reporting.
      The principal change in our overseas accounting department resulting from those
      additions was the employment of a local plant controller. One of the roles
      of
      this position is to begin monthly inventories prior to the month end close
      each
      month, which we anticipate will result in more accurate and consistent costing
      information. Prior to hiring this controller, we have encountered a high level
      of problems with the reporting of the costing information from our overseas
      entities, and we anticipate that this risk has been addressed by the creation
      of
      this position. We filled the plant controller position with an accountant who
      has an understanding of GAAP, our accounting policies and the accrual method
      of
      accounting. Our overseas clerks previously had trouble understanding the accrual
      method, which resulted in swings between the financial months that did not
      properly reflect the operating results of the overseas entities for the same
      period. We also anticipate that the additional personnel will relieve some
      of
      the segregation of duties issues, such as the cash disbursement and bank
      reconciliations for that department, which can now be separated.




Progress
      is continuing and the development of procedures and controls has continued
      through the filing date of this report. Management reports the progress on
      the
      improvements in its control procedures to the audit committee on a monthly
      basis.




**Item
      8B. OTHER INFORMATION.**





None.




19




**PART
      III**





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





**Code
      of Ethics**


Our
        Board
        of Directors has adopted a code of ethics that applies to our Chief Executive
        Officer (our principal executive officer) and our Chief Financial Officer
        (our
        principal financial officer and principal accounting officer). We will provide
        to any person, without charge and upon request, a copy of this code of ethics.
        All such requests should be mailed to: Decorize, Inc., 1938 E. Phelps,
        Springfield, MO 65802, Attention: Gaylen Ball.
  All
        other
        information required by this Item 9 is incorporated by reference to the
        disclosure under the captions “Election of Directors - Nominees,” “Election of
        Directors - Audit Committee,” “Election of Directors - Management” and
“Executive Compensation - Section 16(a) Beneficial Ownership Reporting
        Compliance” in our Proxy Statement to be filed pursuant to Regulation 14A of the
        Exchange Act in connection with our Annual Meeting of Stockholders to be
        held on
        November 3, 2006.





**Item
      10. EXECUTIVE COMPENSATION**


The
        information required by this Item 10 is incorporated by reference to the
        disclosure under the captions “Executive Compensation” and “Election of
        Directors - Attendance and Compensation” in our Proxy Statement to be filed
        pursuant to Regulation 14A of the Exchange Act in connection with our Annual
        Meeting of Stockholders to be held on November 3, 2006.





**Item
      11. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND RELATED
      STOCKHOLDER MATTERS**


The
        information required by this Item 11 is incorporated by reference to the
        disclosure under the caption “Security Ownership of Certain Beneficial Owners
        and Management” in our Proxy Statement to be filed pursuant to Regulation 14A of
        the Exchange Act in connection with our Annual Meeting of Stockholders to
        be
        held on November 3, 2006.





**Item
      12. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS**


The
        information required by this Item 12 is incorporated by reference to the
        disclosure under the caption “Executive Compensation - Certain Relationships and
        Related Transactions” in our Proxy Statement to be filed pursuant to Regulation
        14A of the Exchange Act in connection with our Annual Meeting of Stockholders
        to
        be held on November 3, 2006.




20





**Item
      13. EXHIBITS**




The
      exhibits listed below are filed with or incorporated by reference into this
      Annual Report. Exhibits denominated with numbered footnotes are incorporated
      by
      reference to the other filings with the Commission set forth below. Items listed
      in boldface are management contracts or compensatory plans or arrangements
      required to be filed pursuant to Item 15(c) of this Annual Report.




Exhibit
              Number
            
            Description3.1
            
            Certificate
                of Incorporation of Decorize, Inc., State of Delaware, dated June
                27,
                2001. (1)3.2
            
            Bylaws
                of Decorize, Inc. (1)4.1
            
            Securities
                Purchase Agreement dated as of May 31, 2005, between Decorize, Inc.
                and
                Nest USA, Inc. (3)4.2
            
            Registration
                Rights Agreement, dated as of May 31, 2005, between Decorize, Inc.
                and
                Nest USA, Inc. (3)4.3
            
            Securities
                Purchase Agreement dated as of June 15, 2005, by and among Decorize,
                Inc.,
                SRC Holdings Corporation and Quest Capital Alliance, L.L.C.
                (4)4.4
            
            Registration
                Rights Agreement dated as of May 31, 2005, between Decorize, Inc.,
                SRC
                Holdings Corporation and Quest Capital Alliance, L.L.C.
                (4)4.5
            
            Second
                Amended and Restated Certificate of Designation of the Series A
                Convertible Preferred Stock of Decorize, Inc. (4)4.6
            
            Warrant
                Certificate dated as of May 2, 2005, for the purchase of 120,000
                shares of
                Common Stock, issued by December 17 in the name of Blodnick Gordon
                Fletcher & Sibell, P.C. (5)4.7
            
            Securities
                Purchase Agreement dated as of February 13, 2004, among Decorize,
                Inc.,
                SRC Holdings Corporation and Quest Capital Alliance, L.L.C.
                (6)4.8
            
            Registration
                Rights Agreement dated as of February 13, 2004, among Decorize, Inc.,
                SRC
                Holdings Corporation and Quest Capital Alliance, L.L.C.
                (6)4.9
            
            Voting
                Agreement and related Proxy, dated February 13, 2004, by and between
                SRC
                Holdings Corporation and James K. Parsons
                (6)




21





Exhibit
              Number
            
            Description4.10
            
            Stock
                Exchange Agreement dated as of January 21, 2004, between Decorize,
                Inc.
                and NEST USA, Inc. (6)4.11
            
            Registration
                Rights Agreement dated as of January 21, 2004, between Decorize, Inc. and
                NEST USA, Inc. (6)4.12
            
            Second
                Amended and Restated Promissory Note dated January 21, 2004, issued
                by
                Decorize, Inc. in the name of NEST USA, Inc. (6)4.13
            
            Stock
                Purchase Agreement dated as of January 16, 2004, between Decorize,
                Inc.
                and James K. Parsons (6)4.14
            
            Stock
                Purchase Agreement dated as of January 16, 2004, among Decorize,
                Inc.,
                John Michael Sandel and Kitty Sandel (6)4.15
            
            Stock
                Purchase Agreement dated as of January 30, 2004, between Decorize,
                Inc.
                and Jon T. Baker (6)4.16
            
            Subordinated
                Promissory Note dated as of January 30, 2004, made by Decorize, Inc.
                in
                favor of Jon T. Baker (6)4.17
            
            Amended
                and Restated Promissory Note dated December 10, 2003, issued by Decorize,
                Inc. in the name of James K. Parsons (7)4.18
            
            Subordinated
                Security Agreement dated as of December 10, 2003, between Decorize,
                Inc.
                and James K. Parsons (7)4.19
            
            Stock
                Purchase Agreement, dated as of December 9, 2003, by and between
                James K.
                Parsons, each of the purchasers listed thereon, and Decorize, Inc.
                (8)4.20
            
            Letter
                agreement dated April 29, 2004, by and between Decorize, Inc. and
                SRC
                Holdings Corporation (9)4.21
            
            Securities
                Purchase Agreement, dated as of February 26, 2002, by and between
                Decorize, Inc. and NEST USA, Inc., together with all exhibits and
                schedules (10)4.22
            
            Form
                of Decorize, Inc. Stock Certificate (11)10.1
            
            Promissory
                Note dated June 15, 2001 between Decorate, Inc. and Jon T. Baker.
                (1)10.2
            
            Promissory
                Note dated June 15, 2001 between Decorate, Inc. and James K. Parsons.
                (1)10.3
            
            Employment
                Agreement between Decorate, Inc. and James K. Parsons dated June
                15, 2001.
                (1)10.4
            
            Employment
                Agreement between Decorize, Inc. and John Michael Sandel dated July
                31,
                2001. (2)10.5
            
            Decorize,
                Inc. 1999 Stock Option Plan. (12)10.6
            
            Form
                of Employee Incentive Stock Option Notice and Agreement.
                (12)10.7
            
            Master
                Purchase and Sale Agreement between Decorize, Inc. and Bibby Financial
                Services (Midwest) Inc. dated March 31, 2006. (13)10.8
            
            Commercial
                Security Agreement dated May 5, 2006, by and between Decorize, Inc.
                and
                Quest Commercial Finance, L.L.C. (14)10.9
            
            Revolving
                Line of Credit Promissory Note in the Principal Amount of up to $750,000,
                issued to Quest Commercial Finance, L.L.C. on May 5, 2006.
                (14)10.10
            
            Third
                Amended and Restated Promissory Note, issued by Decorize, Inc. to
                James K.
                Parsons on May 5, 2006. (14)10.11
            
            Stock
                Exchange Agreement, dated May 5, 2006, by and between Decorize, Inc.
                and
                James K. Parsons. (14)10.12
            
            Stock
                Exchange Agreement, dated May 5, 2006, by and between Decorize, Inc.
                and
                Quest Capital Alliance II, L.L.C.
                (14)




22





Exhibit
              Number
            
            Description21.1
            
            Subsidiaries
                of the Registrant. (15)23.1
            
            Consent
                of Registered Public Accounting Firm. (15)31.1
            
            Certification
                by Stephen Crowder, President and Chief Executive Officer of the
                Registrant, pursuant to 17 CFR 240.13a - 14(a) or 17 CFR 240.15d
                - 14(a).
                (16)31.2
            
            Certification
                by Brent Olson, Vice President of Finance and Treasurer of the Registrant,
                pursuant to 17 CFR 240.13a - 14(a) or 17 CFR 240.15d - 14(a).
                (16)32.1
            
            Certification
                of CEO pursuant to 18 U.S.C. Section 1350 as adopted pursuant to
                Section
                906 of the Sarbanes-Oxley Act of 2002. (16)32.2
            
            Certification
                of CFO pursuant to 18 U.S.C. Section 1350 as adopted pursuant to
                Section
                906 of the Sarbanes-Oxley Act of 2002. (16)99.1
            
            Proxy
                Statement for the 2006 Annual Meeting of Stockholders
                (15)





(1)
            Incorporated
                by reference to the exhibits to the Annual Report on Form 10-KSB
                filed by
                Registrant on September 28, 2001.(2)
            Incorporated
                by reference to the exhibits to the Current Report on Form 8-K filed
                by
                Registrant on August 15, 2001.(3)
            Filed
                previously as an exhibit to the Current Report on Form 8-K filed
                by
                Decorize, Inc. on June 6, 2005.(4)
            Filed
                previously as an exhibit to the Current Report on Form 8-K filed
                by
                Decorize, Inc., on June 21, 2005.(5)
            Filed
                previously as an exhibit to the Registration Statement on Form S-3
                (File
                No. 333-127070) on July 29, 2005.(6)
            Filed
                previously as an exhibit to the Current Report on Form 8-K filed
                by
                Decorize, Inc. on February 17, 2004.(7)
            Filed
                previously as an exhibit to the Quarterly Report on Form 10-QSB filed
                by
                Decorize, Inc. on February 17, 2004.(8)
            Filed
                previously as an exhibit to the Registration Statement on Form S-3
                (File
                No. 333-113356) field by Decorize, Inc. on March 5,
                2004.(9)
            Filed
                previously as an exhibit to the Quarterly Report on Form 10-QSB filed
                by
                Decorize, Inc. on May 14, 2004.(10)
            Incorporated
                by reference to the exhibits to the Current Report on Form 8-K filed
                by
                Registrant on March 19, 2002.(11)
            Filed
                previously as an exhibit to the Annual Report on Form 10-KSB filed
                by
                Decorize, Inc. on September 28, 2001.(12)
            Incorporated
                by reference to the exhibits to the Registration Statement on Form
                SB-2
                filed by Guidelocator.com on September 29, 1999 (File no.
                000-88083).(13)
            Incorporated
                by reference to Exhibit 10.1 to the Current Report on Form 8-K filed
                by
                Decorize, Inc. on April 6, 2006.(14)
            Incorporated
                by reference to the exhibits filed with the Current Report on Form
                8-K
                filed by Decorize, Inc. on May 11, 2006.(15)
            Previously
                filed.(16)
            Filed
                herewith.




**Item
      14.**  **PRINCIPAL
      ACCOUNTANT FEES AND SERVICES.**





BKD,
      LLP **** Certified Public Accountants audited our consolidated financial statements
      as of
      June 30, 2006, 2005, 2004, and 2003.





**Audit
      Fees**





The
      aggregate fees billed during the years ended June 30, 2006 and 2005 by BKD,
      LLP **** for
      professional services rendered in connection with the audit of our June 30,
      2005
      and 2004 consolidated financial statements were $71,015 and $66,600,
      respectively.





Fees
      billed by BKD, LLP **** for
      reviews of our interim financial statements for inclusion with quarterly reports
      on Form 10QSB totaled $23,075 and $17,950 during the fiscal years ended June
      30,
      2006 and 2005, respectively.





Fees
      billed by BKD, LLP for professional services rendered in connection with various
      registration statements during fiscal years ended June 30, 2006 and 2005 of
      $4,035 and $11,775, respectively.





**Audit-Related
      Fees**





During
      the fiscal years ended June 30, 2006 and 2005, we incurred professional fees
      for
      other audit-related assurance services from BKD, LLP **** totaling
      $16,630 and $15,750, respectively.





23




**Tax
      Fees**





Fees
      billed by BKD, LLP **** for
      professional services rendered in connection with tax compliance, tax advice
      and
      tax planning were $11,890 and $20,425 for the fiscal years ended June 30, 2006
      and 2005, respectively.





**All
      Other Fees**





We
      did
      not pay for any other professional accounting services during the fiscal years
      ended June 30, 2006 and 2005, respectively.





**Audit
      Committee**





The
      audit
      committee approves all audit, tax and other consulting services to be rendered
      by outside accountants prior to the work being performed, and evaluates the
      impact that provision of such services has upon the independence of Decorize's
      auditors.




24





**SIGNATURES**





In
      accordance with Section 13 or 15(d) of the Securities Exchange Act of 1934,
      the
      registrant caused this Annual Report to be signed on its behalf by the
      undersigned, thereunto duly authorized.




**DECORIZE,
                INC.**Date: October
                9, 2007
            By:
            /s/
                Stephen R. Crowder
              Stephen
                R. CrowderChief
                Executive Officer and President





In
      accordance with the Securities Exchange Act of 1934, this Annual Report has
      been
      signed below by the following persons on behalf of the registrant and in the
      capacities indicated on October 9, 2007.




Name
            
            Title/s/
                Stephen R. CrowderStephen
                R. Crowder
            
            
            President,
                Chief Executive Officer and Director
              (principal
                executive officer)/s/
                Billie J. MontleBillie
                J. Montle
            
            
            Interim
                Vice President of Finance and Corporate Controller
              (principal
                financial officer and principal accounting officer)/s/
                Richard B. ChalkerRichard
                B. Chalker
            
            
            Director/s/
                Steven W. FoxSteven
                W. Fox
            
            
            Director/s/
                Marwan M. Atalla
            
            
            DirectorMarwan
                M. Atalla




25