<PAGE>

                       SECURITIES AND EXCHANGE COMMISSION
                              Washington, DC 20549

                                   FORM 10-QSB

(X)   QUARTERLY REPORT PURSUANT SECTION 13 OF 15(d) OF THE SECURITIES
      EXCHANGE ACT OF 1934

For the quarterly period ended March 31, 2000.

( )   TRANSITION REPORT PURSUANT SECTION 13 OF 15(d) OF THE SECURITIES
      EXCHANGE ACT OF 1934

For the transition period from          to
                               --------    --------

Commission file number 0-26573

                           PHYSICAL SPA & FITNESS INC.
           (Exact name of small business as specified in its charter)


               Delaware                              98-0203281
   --------------------------------              ------------------
   (State or other jurisdiction                  (IRS Employer
   of incorporation or organization)             Identification No.)


                          12/F - 15/F Lee Theatre Plaza
                          99 Percival St., Causeway Bay
                                    Hong Kong
                    (Address of principal executive offices)

                              (011) (852) 2572-8888
                           (Issuer's telephone number)

Check whether the issuer (1) filed all reports required to be filed by Section
13 or 15(d) of the Securities 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
                                  ----        ----

State the number of shares outstanding of each of the issuer's classes of common
equity, as of the latest practicable dated : March 31, 2000, 10,000,000 shares.

Transitional Small Business Disclosure Format (check one) :
                              Yes          No   X
                                  ----        ----


<PAGE>

                                TABLE OF CONTENTS



PART I  -  FINANCIAL INFORMATION                                    PAGE
                                                                    ----
   ITEM 1   -   FINANCIAL STATEMENTS

     Consolidated Statements of Operations                            1
     for the three months ended March
     31, 2000 and 1999 (Unaudited)

     Consolidated Balance Sheets at March 31, 2000                    2
     and December 31,1999 (Unaudited)

     Consolidated Statements of Cash Flows                            3
     for the three months ended March 31,
     2000 and 1999 (Unaudited)

     Notes to Consolidated Financial Statements                       4

   ITEM 2   -   MANAGEMENT'S DISCUSSION AND ANALYSIS                  11
                OR PLAN OF OPERATION


PART II  -   OTHER INFORMATION

   ITEM 1   -   LEGAL PROCEEDINGS                                     15

   ITEM 2   -   CHANGE IN SECURITIES                                  15

   ITEM 3   -   DEFAULTS UPON SENIOR SECURITIES                       15

   ITEM 4   -   SUBMISSION OF MATTERS TO A VOTE                       15
                OF SECURITY HOLDERS

   ITEM 5   -   OTHER INFORMATION                                     15

   ITEM 6   -   EXHIBITS AND REPORTS ON FORM 8-K                      15


<PAGE>

<TABLE>

                  PHYSICAL SPA & FITNESS INC. AND SUBSIDIARIES
                  --------------------------------------------

                   UNAUDITED CONSOLIDATED STATEMENTS OF INCOME
                   -------------------------------------------
           FOR THE THREE MONTHS FROM JANUARY 1, 1999 TO MARCH 31, 1999
                      AND JANUARY 1, 2000 TO MARCH 31, 2000
<CAPTION>
                                                  (Amounts in thousands)

                                                   Three Months Ended
                                                       March 31,
                                               1999               2000
                                           -----------  ------------------------
                                               HK$          HK$          US$
                                           (Unaudited)  (Unaudited)  (Unaudited)
<S>                                            <C>          <C>          <C>
Operating Revenues
Fitness service                                36,915       43,600        5,612
Beauty treatments                              17,099       23,777        3,060
Others                                              5            1            1
                                           -----------  -----------  -----------

Total operating revenues                       54,019       67,378        8,673
                                           -----------  -----------  -----------

Operating Expenses
Salaries and commissions                       12,849       20,138        2,593
Rent and related expenses                      12,527       16,857        2,170
Depreciation                                    6,902        9,348        1,203
Other selling and administrative expenses      15,323       14,942        1,923
                                           -----------  -----------  -----------

Total operating expenses                       47,601       61,285        7,889
                                           -----------  -----------  -----------

Income from operations                          6,418        6,093          784
                                           -----------  -----------  -----------

Non-operating (income) expenses

Other (income), net                               (53)        (154)         (20)
Interest expenses                                 735          972          125
                                           -----------  -----------  -----------

Total non-operating (income) expenses             682          818          105
                                           -----------  -----------  -----------

Income before income taxes and
minority interests                              5,736        5,275          679

Provision for income taxes                        997        1,059          136
                                           -----------  -----------  -----------

Income before minority interests                4,739        4,216          543

Minority interests                                266          127           17
                                           -----------  -----------  -----------

Net income                                      4,473        4,089          526
                                           ===========  ===========  ===========

Earnings per common share                        0.45         0.41         0.05
                                           ===========  ===========  ===========

Number of shares outstanding (in thousands)    10,000       10,000       10,000
                                           ===========  ===========  ===========
</TABLE>


Translation of amounts from Hong Kong Dollars ("HK$") into United States Dollars
("US$") for the convenience of the reader has been made at the exchange rate of
US$1.00 = HK$7.769. No representation is made that the Hong Kong Dollar amounts
could have been, or could be, converted into United States Dollars, at that rate
on March 31, 2000 or at any other certain rate.


                                      -1-
<PAGE>
<TABLE>
                  PHYSICAL SPA & FITNESS INC. AND SUBSIDIARIES
                  --------------------------------------------
                       AUDITED CONSOLIDATED BALANCE SHEET
                       -----------------------------------
                             AS OF DECEMBER 31, 1999
                                       AND
                      UNAUDITED CONSOLIDATED BALANCE SHEET
                      ------------------------------------
                              AS OF MARCH 31, 2000
<CAPTION>
         (Amounts in thousands, except number of shares and share data)
                                                                                       As of
                                                               -------------------------------------------------------
                                                               December 31, 1999                  March 31, 2000
                                                                            HK$                HK$                US$
<S>                                                                     <C>                <C>                 <C>
ASSETS

Current assets
Cash and cash equivalents                                                 2,896              7,005                902
Trade receivables                                                         3,895              3,808                490
Rental and utility deposits                                              11,654             11,687              1,504
Prepayments to vendors and suppliers and other current assets             7,727              8,762              1,128
Inventories                                                               2,551              2,541                327
Due from related companies                                                8,373              6,037                777
Due from a stockholder                                                    4,110              4,730                609
                                                               -----------------  -----------------  -----------------

Total current assets                                                     41,206             44,570              5,737
                                                               -----------------  -----------------  -----------------

Bank deposits, collateralized                                             3,522              3,522                453
Prepayments for construction-in-progress                                    467              3,651                470
Property, plant and equipment, net                                      140,936            132,476             17,052
                                                               -----------------  -----------------  -----------------

Total assets                                                            186,131            184,219             23,712
                                                               =================  =================  =================

LIABILITIES AND STOCKHOLDERS' EQUITY

Current liabilities
Short-term bank loans                                                     8,606              7,044                907
Long-term bank loans - current portion                                    1,851              1,836                236
Accounts payable and accrued expenses                                    18,300             13,741              1,769
Obligations under finance leases - current portion                        4,747              4,463                574
Deferred income - current portion                                        22,828             24,981              3,215
Deferred liabilities - current portion                                    2,304              3,008                387
Income taxes payable                                                      5,991              5,450                702
Taxes other than income                                                   3,182              3,208                413
                                                               -----------------  -----------------  -----------------

Total current liabilities                                                67,809             63,731              8,203
                                                               -----------------  -----------------  -----------------

Deferred income - non-current portion                                       999              1,235                159
Deferred liabilities -  non-current portion                               5,533              4,776                615
Long-term bank loans -  non-current portion                               5,587              5,157                664
Loans from minority stockholders of subsidiaries                          4,200              4,200                541
Obligations under finance leases - non-current portion                   12,114             11,003              1,416
Deferred taxation                                                         5,661              5,661                729
Minority interests                                                        5,721              5,849                753

Stockholders' equity:
Common stock, par value US$0.001 each,
   100 million shares of stock authorized;
   10 million shares of stock issued and outstanding                         78                 78                 10
Cumulative translation adjustments                                          119                130                 16
Retained earnings                                                        78,310             82,399             10,606
                                                               -----------------  -----------------  -----------------

Total stockholders' equity                                               78,507             82,607             10,632
                                                               -----------------  -----------------  -----------------

Total liabilities and stockholders' equity                              186,131            184,219             23,712
                                                               =================  =================  =================
</TABLE>

Translation of amounts from Hong Kong Dollars ("HK$") into United States Dollars
("US$") for the convenience of the reader has been made at the exchange rate of
US$1.00 = HK$7.769. No representation is made that the Hong Kong Dollar amounts
could have been, or could be, converted into United States Dollars, at that rate
on March 31, 2000 or at any other certain rate.

                                      -2-
<PAGE>
<TABLE>

                  PHYSICAL SPA & FITNESS INC. AND SUBSIDIARIES
                  --------------------------------------------
                 UNAUDITED CONSOLIDATED STATEMENTS OF CASH FLOWS
                 -----------------------------------------------
           FOR THE THREE MONTHS FROM JANUARY 1, 1999 TO MARCH 31, 1999
                      AND JANUARY 1, 2000 TO MARCH 31, 2000
<CAPTION>

                                                                                           Three Months Ended March 31
                                                                                  ----------------------------------------------
                                                                                         1999           2000           2000
                                                                                          HK$            HK$            US$

<S>                                                                                      <C>             <C>              <C>
Cash flows from operating activities:
Net income                                                                                4,473           4,089             526

Adjustments to reconcile net income to net cash provided by operating
   activities:
    Minority interests                                                                      266             127              17
    Depreciation                                                                          6,902           9,348           1,203
    Loss on disposal of property, plant and equipment                                        18             196              25
                                                                                  --------------  --------------  --------------
Changes in working capital:
    Trade receivables                                                                        97              87              11
    Deposits, prepayments and other current assets                                          616          (1,068)           (137)
    Inventories                                                                              10              10               1
    Due form related companies                                                           (1,166)          2,336             301
    Due from a stockholder                                                                    -            (620)            (80)

    Accounts payable and accrued expenses                                                  (303)         (4,559)           (587)
    Deferred income                                                                       2,835           2,389             308
    Deferred liabilities                                                                   (186)            (53)             (7)
    Income taxes payable                                                                   (472)           (541)            (70)
    Taxes other than income                                                                   9              26               3
    Deferred taxation                                                                         -               -               -
                                                                                  --------------  --------------  --------------

Net cash provided by operating activities                                                13,099          11,767           1,514
                                                                                  --------------  --------------  --------------

Cash flows from investing activities:
    Prepayments for construction-in-progress                                             (5,223)         (3,184)           (410)
    Acquisition of property, plant and equipment                                         (1,837)         (1,906)           (245)
    Sales proceeds from disposal of property, plant and equipment                           401             823             106
                                                                                  --------------  --------------  --------------

Net cash used in investing activities                                                    (6,659)         (4,267)           (549)
                                                                                  --------------  --------------  --------------

Cash flows from financing activities:
    Increase in bank deposits                                                                 -               -               -
    (Settlement) Proceeds of short-term bank loans                                          (36)         (1,562)           (201)
    Decrease (Increase) in due from a stockholder                                          (533)              -               -
    Proceeds form long-term bank loans                                                        -               -               -
    Repayment of long-term bank loans                                                      (456)           (445)            (57)
    Proceeds form (Settlement of) long-term loans from third parties                          -               -               -
    Assumption of finance lease obligations                                                   -               -               -
    Capital element of finance lease rental payments                                     (1,256)         (1,395)           (180)
    Repayment of loans from minority shareholders of subsidiaries                             -               -               -
                                                                                  --------------  --------------  --------------

Net cash provided by (used in) financing activities                                      (2,281)         (3,402)           (438)
                                                                                  --------------  --------------  --------------

Net (decrease) increase in cash and cash equivalents                                      4,159           4,098             527

Cash and cash equivalents at beginning of year                                            1,721           2,896             373

Cumulative translation adjustments                                                           (8)             11               2
                                                                                  --------------  --------------  --------------

Cash and cash equivalents at end of year                                                  5,872           7,005             902
                                                                                  ==============  ==============  ==============
</TABLE>

Translation of amounts from Hong Kong Dollars ("HK$") into United States Dollars
("US$") for the convenience of the reader has been made at the exchange rate of
US$1.00 = HK$7.769. No representation is made that the Hong Kong Dollar amounts
could have been, or could be, converted into United States Dollars, at that rate
on March 31, 2000 or at any other certain rate.


                                      -3-
<PAGE>
                  PHYSICAL SPA & FITNESS INC. AND SUBSIDIARIES
                  --------------------------------------------

              NOTES TO UNAUDITED CONSOLIDATED STATEMENTS OF INCOME
              ----------------------------------------------------
           FOR THE THREE MONTHS FROM JANUARY 1, 1999 TO MARCH 31, 1999
                      AND JANUARY 1, 2000 TO MARCH 31, 2000


1.       ORGANIZATION AND PRINCIPAL ACTIVITIES

         Physical Spa & Fitness Inc. ("the Company") was incorporated on
         September 21, 1988 under the laws of the United States of America under
         the name of Foreclosed Realty Exchange Inc. The Company was
         incorporated with a share capital of 100 million common stocks with par
         value of US$0.001 each. The Company is a U.S. public company listed on
         the National Association of Securities Dealers Over-the-Counter
         Bulletin Board.

         Physical Beauty & Fitness Holdings Limited ("Physical Holdings") was
         incorporated on March 8, 1996 under the laws of the British Virgin
         Islands ("BVI") with a capital of one common stock being held by a
         stockholder ("the Stockholder"). Physical Holdings has interests in
         various companies ("Operating Subsidiaries") operating fitness and
         beauty centres ("Fitness Centres") and other related businesses in Hong
         Kong ("HK") and the People's Republic of China ("PRC").

         Pursuant to a Share Exchange Agreement entered into between the Company
         and Physical Holdings on August 8, 1996, the Stockholder transferred
         his controlling interest in the outstanding stock of Physical Holdings
         in exchange for 80% of the outstanding common stocks of the Company.
         The transaction was completed on October 21, 1996 when the Company
         became the ultimate holding company of Physical Holdings and the
         Operating Subsidiaries.

         As part of the above transaction, certain stockholders of the Company
         also transferred 990,000 common shares to Goodchild Investments Limited
         ("Goodchild"). Accordingly, the Stockholder and Goodchild became the
         major shareholders of the Company. In February, 1998, Goodchild sold
         all its common shares of the Company in a private transaction to a
         Japanese institutional investor.

         On November 27, 1996, the Company changed its name to Physical Spa &
         Fitness Inc.

         The transfer of the Stockholder's interests in Physical Holdings and
         the Operating Subsidiaries was a reorganization of companies under
         common control and has been accounted for effectively as a pooling of
         interests, and the consolidated financial statements of the Company
         have been presented as if the Operating Subsidiaries had been owned by
         the Company since their date of incorporation or acquisition by the
         Stockholder whichever is later.

         The details of Physical Holdings and the Operating Subsidiaries and
         their principal activities as of the date of this report are summarized
         below:

<TABLE>
<CAPTION>
                                      DATE OF                                    EQUITY INTEREST
                                      ACQUISITION /     PLACE OF                  OWNED BY THE            PRINCIPAL
        NAME OF COMPANY               FORMATION         INCORPORATION                COMPANY              ACTIVITIES
                                                                             Direct        Indirect
                                                                             ------        --------
        <S>                           <C>               <C>                   <C>            <C>          <C>

        Physical Holdings             March 8, 1996     BVI                   100%             -          Investment
                                                                                                          holding

        Ever Growth Limited ("Ever    September 29,     HK                      -            100%         Property holding
          Growth")                    1994

        Global Resources Limited      December 1,       HK                      -            100%         Inactive
                                      1998

        Jade Regal Holdings           March 15, 1996    BVI                     -            100%         Investment
          Limited                                                                                         holding

        Mighty System Limited         December 15,      BVI                     -            100%         Provision of
                                      1994                                                                marketing
                                                                                                          services for
                                                                                                          cosmetics sales
</TABLE>

                                      -4-
<PAGE>

1.       ORGANIZATION AND PRINCIPAL ACTIVITIES (CONTINUED)

<TABLE>
<CAPTION>
                                      DATE OF                                  EQUITY INTEREST
                                      ACQUISITION /     PLACE OF                 OWNED BY THE         PRINCIPAL
        NAME OF COMPANY               FORMATION         INCORPORATION              COMPANY            ACTIVITIES
                                                                             Direct       Indirect
                                                                             ------       --------

        <S>                           <C>               <C>                     <C>         <C>       <C>
        Physical Health Centre        March 15, 1996    HK                      -           100%      Investment
          (Dalian) Limited                                                                            holding
          ("Physical Dailan")

        Physical Health Centre        March 21, 1997    HK                      -           100%      Investment
          (Macau) Limited                                                                             holding

        Physical Health Centre        April 15, 1996    HK                      -           100%      Investment
          (Shenzhen) Limited                                                                          holding
          ("Physical Shenzhen")

        Physical Health Centre        November 18,      HK                      -           100%      Operating a
          (TST) Limited ("Physical    1998                                                            Fitness Centre
          TST")                                                                                       in Hong Kong

        Physical Health Centre        September 8,      HK                      -           100%      Operating a
          (Tsuen Wan) Limited         1997                                                            Fitness Centre
          ("Physical Tsuen Wan")                                                                      in Hong Kong

        Physical Health Centre        September 29,     HK                      -           100%      Will operate a
          (Tuen Mun) Limited          1994                                                            Fitness Centre
          ("Physical Tuen Mun")                                                                       in Hong Kong
          (formerly known as
          Physical Health Centre
          (Zhong Shan) Limited)

        Physical Health Centre        March 2, 1990     HK                     -           91.4%      Operating 5
          Hong Kong Limited                                                                           Fitness Centres
                                                                                                      in Hong Kong

        Proline Holdings Limited      September 28,     BVI                     -          92.5%      Investment
                                      1994                                                            holding

        Regent Town Holdings          September 20,     BVI                    -           92.5%      Investment
          Limited ("Regent Town")     1993                                                            holding

        Shanghai Physical Ladies'     September 28,     HK                      -          92.5%      Investment
          Club Company Limited        1994                                                            holding
          ("Physical Shanghai")

        Star Perfection Holdings      April 15, 1996    BVI                     -           100%      Investment
          Limited                                                                                     holding

        Supreme Resources Limited     September 29,     HK                     -            70%       Operating a
                                      1994                                                            beauty treatment
                                                                                                      centre in Hong
                                                                                                      Kong
</TABLE>


                                      -5-
<PAGE>

1.      ORGANIZATION AND PRINCIPAL ACTIVITIES (CONTINUED)

        The Group also operates Fitness Centres in the PRC through some of its
        Operating Subsidiaries which are Sino-foreign joint ventures ("JV")
        established in the PRC. In the opinion of the directors, the Group is
        able to govern and control the financial and operating policies and the
        board of directors of the JV. Therefore, the JV have been accounted for
        as subsidiaries. Detailed information in connection with these JV is as
        follows:

         a)      Shanghai Physical Ladies' Club Co., Ltd., a Sino-foreign
                 co-operative JV ("the Shanghai JV"), was established on
                 September 7, 1993 in Shanghai, the PRC. The original total
                 investment and registered capital of the Shanghai JV was US$1
                 million each and was increased to US$2 million each in 1995.
                 The capital contributions were to be made in cash. The JV
                 period is for 10 years starting from the date of the business
                 licence issued on September 7, 1993.

                 According to the provisions of the JV contract, Physical
                 Shanghai contributed 100% of the registered capital of the JV
                 while the Chinese JV partner provided the premises in which the
                 Fitness Centres are located. Upon dissolution of the JV, all
                 the property, plant and equipment ("PPE") of Shanghai JV will
                 be taken over by the Chinese JV partner while the Group will
                 assume all the working capital, debts and outstanding
                 obligations and commitments.

                 For the first three years of the Shanghai JV, the Chinese JV
                 partner will be entitled only to a rent of RMB950,000 per
                 annum. Thereafter, the rental payment will be increased by 10%
                 per annum unless the inflation rate in the PRC is higher than
                 16%. The Chinese JV partner has no further entitlement to the
                 profits of the Shanghai JV.

         b)      Dalian Physical Ladies' Club Co., Ltd. is a Sino-foreign equity
                 JV ("the Dalian JV") established on April 11, 1995 in Dalian,
                 the PRC. The total registered capital of the Dalian JV was
                 Reminbi (RMB) 10 million. The JV period is 12 years from the
                 date of issue of the business license on April 11, 1995.
                 Physical Dalian held a 90% equity interest in the Dalian JV and
                 the profits or losses of the Dalian JV are to be shared by the
                 venturers in proportion to their equity interests in the JV.

                 Physical Dalian contributed its share of the registered capital
                 in the form of PPE and renovation materials and the Chinese
                 venturer contributed in cash. Both venturers had fulfilled
                 their respective capital contributions as of December 31, 1996.
                 The JV commenced operation in 1996.

         c)      Under the JV contract between Physical Shenzhen and a Chinese
                 enterprise, Physical Shenzhen is required to contribute
                 HK$4,140,000 in the form of cash and PPE as capital into
                 Shenzhen Physical Ladies' Club Co. Ltd. within six months from
                 the issuance of the business licence.

                 As of the date of this report, both JV partners have not
                 contributed the required capital according to the requirements
                 of the contract. Such default in the funding obligations will
                 require renegotiations between the two partners and may also
                 trigger default remedies as specified in the JV contract.
                 Further, a failure to meet regulatory time limits set by the
                 State Administration of Industry and Commerce for capital
                 contributions could result in the cancellation of the approval
                 of the JV's business license.

                 According to the directors, the Group is negotiating with the
                 Chinese enterprise to terminate the JV contract and the default
                 remedies are unlikely to be imposed on the Group.


         d)      Under the JV contract between Physical Health Centre (Zhong
                 Shan) Limited (former name of Physical Tuen Mun) and a Chinese
                 enterprise, Physical Zhongshan is required to contribute
                 US$500,000 in the form of cash and PPE as capital into the JV
                 within six months from the issuance of the business licence.

                 As of the date of this report, both JV partners have not
                 contributed the required capital according to the requirements
                 of the contract. Such default in the funding obligations will
                 require renegotiations between the two partners and may also
                 trigger default remedies as specified in the JV contract.
                 Further, a failure to meet regulatory time limits set by the
                 State Administration of Industry and Commerce for capital
                 contributions could result in the cancellation of the approval
                 of the JV's business license.


                                      -6-
<PAGE>

                 According to the directors, the Group is negotiating with the
                 Chinese enterprise to terminate the joint venture contract and
                 the default remedies are unlikely to be imposed on the Group.


2.       BASIS OF PRESENTATION

         The financial statements are presented in Hong Kong dollars and have
         been prepared in accordance with generally accepted accounting
         principles in the United States of America. This basis of accounting
         differs from that used in the statutory financial statements of the BVI
         and Hong Kong Operating Subsidiaries and the PRC JV, which were
         prepared in accordance with generally accepted accounting principles in
         Hong Kong and the accounting principles and the relevant financial
         regulations applicable to enterprises with foreign investments as
         established by the Ministry of Finance of China respectively.


3.       SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

         a)       PRINCIPLES OF CONSOLIDATION
                  The consolidated financial statements include the financial
                  information of the Company, its majority-owned and controlled
                  subsidiaries and joint ventures. All material intercompany
                  balances and transactions have been eliminated on
                  consolidation.

         b)       CONTRACTUAL JOINT VENTURE
                  A contractual JV is an entity established between the Group
                  and one or more other parties with the rights and obligations
                  of the JV partners governed by a contract. In case the Group
                  owns more than 50% of the JV and is able to govern and control
                  its financial and operating policies and its board of
                  directors, such JV is considered as a de facto subsidiary and
                  is accounted for as a subsidiary.

         c)       STATEMENT OF CASH FLOWS
                  For the purposes of the statement of cash flows, the Company
                  considers all highly liquid debt instruments with an original
                  maturity within three months to be cash equivalents.


         d)       INVENTORIES
                  Inventories are stated at the lower of cost and net realizable
                  value. Cost, which comprises all costs of purchase and, where
                  applicable, costs of conversion and other costs that have been
                  incurred in bringing the inventories to their present location
                  and condition, is calculated using the first-in, first-out
                  method. Net realizable value represents the estimated selling
                  price in the ordinary course of business less the estimated
                  costs of completion and the estimated costs necessary to make
                  the sale.

         e)       PROPERTY, PLANT AND EQUIPMENT AND DEPRECIATION
                  PPE is stated at cost less accumulated depreciation. The cost
                  of an asset consists of its purchase price and any directly
                  attributable costs of bringing the asset to its present
                  working condition and location for its intended use.
                  Expenditure incurred after the assets have been put into
                  operation, such as repairs and maintenance, is charged to the
                  statement of operations in the period in which it is incurred.
                  In situations where it can be clearly demonstrated that the
                  expenditure has resulted in an increase in the future economic
                  benefits expected to be obtained from the use of the assets,
                  the expenditure is capitalized.

                  When assets are sold or retired, their costs or valuation and
                  accumulated depreciation are removed from the accounts and any
                  gain or loss resulting from their disposal is included in the
                  statement of operations.

                  When assets are transferred between PPE and other classes of
                  assets, the cost of such an asset on transfer is deemed to be
                  the carrying amount of the asset as stated under its original
                  classification. Any previous revaluation reserve on the asset
                  is frozen upon the transfer until the retirement or disposal
                  of the asset. On the retirement or disposal of the asset, the
                  frozen revaluation reserve is transferred directly to retained
                  earnings.

                  Depreciation is calculated to write off the cost of PPE over
                  their estimated useful lives from the date on which they
                  become fully operational using the straight line method at the
                  following annual rates:


                                      -7-
<PAGE>

3.       SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)

                  Leasehold land held under long-term lease  Over the lease term
                  Buildings                                  20 to 50 years
                  Leasehold improvements                     Over the lease term
                  Machinery and equipment                    5 to 10 years
                  Furniture and fixtures                     5 years
                  Computers                                  4 to 5 years
                  Motor vehicles                             4 to 5 years

                  The Group recognizes an impairment loss on PPE when evidence,
                  such as the sum of expected future cash flows (undiscounted
                  and without interest charges), indicates that future
                  operations will not produce sufficient revenue to cover the
                  related future costs, including depreciation, and when the
                  carrying amount of asset cannot be realized through sale.
                  Measurement of the impairment loss is based on the fair value
                  of the assets.

         f)       REVENUE RECOGNITION
                  Revenue represents membership fees and service income in
                  connection with the provision of physical fitness and beauty
                  treatment services and other related income, net of the
                  related sales tax, if any. The non-refundable admission fee is
                  recognized as revenue on a pro-rata basis over the estimated
                  membership term whereas the monthly dues, service income and
                  other related income are recognized as revenue when services
                  are rendered.

         g)       DEFERRED INCOME
                  Deferred income represents unamortized non-refundable
                  admission fees, membership fees, and service fees billed but
                  for which the related services, or portion of the services
                  have not yet been rendered.

         h)       FINANCE LEASES
                  Leases that substantially transfer to the Group all the
                  rewards and risks of ownership of assets, other than legal
                  title, are accounted for as finance leases.

                  PPE held under finance leases are initially recorded at the
                  present value of the minimum lease payments at the inception
                  of the leases, with equivalent liabilities categorized as
                  appropriate under current or non-current liabilities.

                  Depreciation is provided on the cost of the assets on a
                  straight line basis over their estimated useful lives as set
                  out in note 3(e) above. Finance charges implicit in the
                  purchase payments are charged to the statement of operations
                  over the periods of the contracts so as to produce an
                  approximately constant periodic rate of charge on the
                  remaining balances of the obligations for each accounting
                  period.

         i)       OPERATING LEASES
                  Leases where substantially all the rewards and risks of
                  ownership of assets remain with the leasing company are
                  accounted for as operating leases. Rentals payable under
                  operating leases are recorded in the statement of operations
                  on a straight-line basis over the lease term.

         j)       DEFERRED LIABILITIES
                  Deferred liabilities represent the benefit arose from the
                  rent-free period of the operating leases. The deferred
                  liabilities are amortized within the lease term, and the
                  amortization is recorded in the statement of operations.

         k)       INCOME TAXES
                  No provision for withholding or U.S. federal income taxes or
                  tax benefits on the undistributed earnings and / or losses of
                  the Company and its Operating Subsidiaries has been provided
                  as the earnings of the Operating Subsidiaries, in the opinion
                  of the management, will be reinvested indefinitely.

                  Provision for income and other related taxes have been
                  provided in accordance with the tax rates and laws in effect
                  in the various countries of operations.

                                      -8-
<PAGE>

3.       SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)

                  The Group provides for deferred income taxes using the
                  liability method, by which deferred income taxes are
                  recognized for all significant temporary differences between
                  the tax and financial statement bases of assets and
                  liabilities. The tax consequences of those differences are
                  classified as current or non-current based upon the
                  classification of the related assets or liabilities in the
                  financial statements. A valuation allowance is provided for
                  the portion of deferred tax assets that is not currently
                  realizable, since the realization of these benefits depends
                  upon the ability of the relevant entity to generate income in
                  future years.

         l)       FOREIGN CURRENCY TRANSLATION
                  The Company and its subsidiaries maintain their accounting
                  books and records in Hong Kong Dollars ("HK$"), except for the
                  PRC JV which maintain their accounting books and records in
                  RMB. Foreign currency transactions during the year are
                  translated to HK$ at the approximate rates of exchange on the
                  dates of transactions. Monetary assets and liabilities
                  denominated in foreign currencies at year end and translated
                  at the approximate rates of exchange ruling at the balance
                  sheet date. Non-monetary assets and liabilities are translated
                  at the rates of exchange prevailing at the time the asset or
                  liability was acquired. Exchange gains or losses are recorded
                  in the statements of operations.

                  On consolidation, the financial statements of the PRC JV are
                  translated into HK$ using the closing rate method, whereby the
                  balance sheet items are translated into HK$ using the unified
                  exchange rates at the respective balance sheet dates. The
                  share capital and retained earnings are translated at
                  historical unified exchange rates prevailing at the time of
                  the transactions while income and expenses items are
                  translated at the average unified exchange rate for the year.

                  All exchange differences arising on the consolidation are
                  recorded within equity. Historically, foreign exchange
                  transactions have not been material to the financial
                  statements.

                  For the purpose of these financial statements, the exchange
                  rate adopted for the presentations of financial information as
                  of and for the three months ended March 31, 2000 has been made
                  at HK$7.769 to US$1.00. No representation is made that the HK$
                  amount could have been, or could be, converted into United
                  States Dollars at that rate on March 31, 2000 or at any other
                  rates.

         m)       RELATED PARTIES
                  Parties are considered to be related if one party has the
                  ability, directly or indirectly, to control the other party,
                  or exercise significant influence over the other party in
                  making financial and operating decisions. Parties are also
                  considered to be related if they are subject to common control
                  or common significant influence.

         n)       EARNINGS PER SHARE
                  Earnings per share is based on net income attributable to
                  stockholders and the weighted average number of common shares
                  of stock outstanding during the year.

                  Diluted earnings per share is not shown because the impact of
                  any dilution is not material.

         o)       USES OF ESTIMATES
                  The preparation of the Company's financial statements in
                  conformity with generally accepted accounting principles
                  requires the Company's management to make estimates and
                  assumptions that affect the amounts reported in these
                  financial statements and accompanying notes. Actual amounts
                  could differ from those estimates.


                                      -9-
<PAGE>

4.       SHORT-TERM BANK LOANS

         The short-term bank loans are collateralized and repayable within one
         year.

5.       LONG-TERM BANK LOANS

         The Group obtained various lines of credit under banking facilities
         from creditworthy commercial banks in HK to finance its operations.
         These loans were collateralized by certain of the assets of the Group
         and its stockholders. The collateral of the loans include:

         (i)      leasehold property in Hong Kong owned by Ever Growth;

         (ii)     fixed deposits owned by Physical TST and Physical Tsuen Wan;

         (iii)     leasehold property in Hong Kong owned by relatives of the
                   principal stockholders;

         (vi)     leasehold property in Hong Kong owned by a related company;
                  and

         (v)      personal guarantees from the principal stockholders and their
                  relatives.


6.       OBLIGATIONS UNDER FINANCE LEASES

         Physical HK leases fitness equipment and motor vehicles under several
         finance leases.


7.       DISTRIBUTION OF PROFIT

         In the opinion of management, any undistributed earnings of Physical
         Holdings and the Operating Subsidiaries will be reinvested
         indefinitely.


8.       STOCK OPTION PLAN

         The Company has a Stock Option Plan which was adopted by the Company's
         stockholders and its Board of Directors on April 23, 1997. Under the
         Plan, the Company may issue incentive stock options, non-qualified
         options, restricted stock grants, and stock appreciation rights to
         selected directors, officers, advisors and employees of the Company. A
         total of 500,000 shares of Common Stock of the Company are reserved for
         issuance under the Plan. Stock options may be granted as non-qualified
         or incentive options. Incentive stock options may not be granted at a
         price less than the fair market value of the stock as of the date of
         grant while non-qualified stock options may not be granted at a price
         less than 85% of the fair market value of the stock as of the date of
         grant. The plan will be administered by an Option Committee which is to
         be composed of two or more disinterested directors of the Board of
         Directors. The option can be exercised during a period of time fixed by
         the Committee except that no option may be exercised more than ten
         years after the date of grant of three years after death or disability,
         whichever is later. As of the date of this report, no stock options
         have been granted by the Company under the Plan.


                                      -10-
<PAGE>

 ITEM 2 - MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
          RESULTS OF OPERATIONS


              PRELIMINARY NOTE REGARDING FORWARD-LOOKING STATEMENTS

ALL FORWARD-LOOKING STATEMENTS CONTAINED HEREIN ARE DEEMED BY THE COMPANY TO BE
COVERED BY AND TO QUALIFY FOR THE SAFE HARBOR PROTECTION PROVIDED BY THE PRIVATE
SECURITIES LITIGATION REFORM ACT OF 1995 THE 1995 ACT SHAREHOLDERS AND
PROSPECTIVE SHAREHOLDERS SHOULD UNDERSTAND THAT SEVERAL FACTORS GOVERN WHETHER
ANY FORWARD - LOOKING STATEMENT CONTAINED HEREIN WILL BE OR CAN BE ACHIEVED. ANY
ONE OF THOSE FACTORS COULD CAUSE ACTUAL RESULTS TO DIFFER MATERIALLY FROM THOSE
PROJECTED HEREIN. THESE FORWARD - LOOKING STATEMENTS INCLUDE PLANS AND
OBJECTIVES OF MANAGEMENT FOR FUTURE OPERATIONS, INCLUDING PLANS AND OBJECTIVES
RELATING TO THE PRODUCTS AND THE FUTURE ECONOMIC PERFORMANCE OF THE COMPANY.
ASSUMPTIONS RELATING TO THE FOREGOING INVOLVE JUDGMENTS WITH RESPECT TO, AMONG
OTHER THINGS, FUTURE ECONOMIC, COMPETITIVE AND MARKET CONDITIONS, FUTURE
BUSINESS DECISIONS, AND THE TIME AND MONEY REQUIRED TO SUCCESSFULLY COMPLETE
DEVELOPMENT PROJECTS, ALL OF WHICH ARE DIFFICULT OR IMPOSSIBLE TO PREDICT
ACCURATELY AND MANY OF WHICH ARE BEYOND THE CONTROL OF THE COMPANY. ALTHOUGH THE
COMPANY BELIEVES THAT THE ASSUMPTIONS UNDERLYING THE FORWARD - LOOKING
STATEMENTS CONTAINED HEREIN ARE REASONABLE, ANY OF THOSE ASSUMPTIONS COULD PROVE
INACCURATE AND, THEREFORE, THERE CAN BE NO ASSURANCE THAT THE RESULTS
CONTEMPLATED IN ANY OF THE FORWARD - LOOKING STATEMENTS CONTAINED HEREIN WILL BE
REALIZED. BASED ON ACTUAL EXPERIENCE AND BUSINESS DEVELOPMENT, THE COMPANY MAY
ALTER ITS MARKETING, CAPITAL EXPENDITURE PLANS OR OTHER BUDGETS, WHICH MAY IN
TURN AFFECT THE COMPANY'S RESULTS OF OPERATIONS. IN LIGHT OF THE SIGNIFICANT
UNCERTAINTIES INHERENT IN THE FORWARD - LOOKING STATEMENTS INCLUDED THEREIN, THE
INCLUSION OF ANY SUCH STATEMENT SHOULD NOT BE REGARDED AS A REPRESENTATION BY
THE COMPANY OR ANY OTHER PERSON THAT THE OBJECTIVES OR PLANS OF THE COMPANY WILL
BE ACHIEVED.


Overview of Company's Business:

         The Company, through its predecessor companies and its subsidiaries,
has been an established commercial operator of fitness and spa centers in Hong
Kong and China since 1986. The Company currently operates eleven facilities: six
in Hong Kong and three in China. Management believes that the Company is one of
the top providers of fitness facilities and spa and beauty treatment services in
Hong Kong and China, with approximately 60,000 members. The Company offers to
its customers, at each location, access to a wide range of U.S.- styled fitness
and spa services.

          The Company was incorporated on September 21, 1988 in the state of
Delaware under the name of "Foreclosed Realty Exchange, Inc", a development
stage company seeking acquisitions with no material assets or liabilities. Prior
to acquisition of Physical Beauty & Fitness Holdings Limited, a British Virgin
Islands corporation ("Physical Limited"), the Company had no revenue producing
operations, but planned to enter into joint ventures and/or acquisitions
originally in the area of real estate, to expand its operations. In October,
1996, the Company closed a transaction with Ngai Keung Luk (Serleo), a 100%
shareholder of Physical Limited, whereby the Company entered into a Share
Exchange Agreement with Ngai Keung Luk (Serleo), pursuant to which the Company
issued 8,000,000 pre-split (6,000,000 post-split) shares of its Common Stock to
Ngai Keung Luk (Serleo) in exchange for all of the outstanding shares of
Physical Limited (the "Closing"). At the Closing, the then current management of
the Company resigned and was replaced by the current management of the Company.
See "Management."


                                      -11-
<PAGE>

RESULTS OF OPERATIONS

        The Company's revenues are derived from its two main lines of business
of fitness and spa services in three principal ways: sale of memberships to
fitness facilities, monthly membership fees and the sale of beauty treatments.
The sale of beauty products and exercise clothing also contributes an
insignificant amount to the total revenues. In respect to fitness services,
customers are invited to join as a member at a fee currently set at
HK$800(US$103) for one person. (A current promotion allows a special fee of
HK$500 (US$64) at a particular booth). A monthly subscription fee of HK$299
(US$38) is charged to each customer for the usage of the fitness center and spa
area.

        In respect to beauty treatments, the customers may purchase single
treatments, or in packages of ten or more treatments, with quantity discounts
available. There is a wide range of beauty treatments available at prices
ranging from HK$400 (US$51) to HK$13,000 (US$1,673).

        The following table sets forth selected income data as a percentage of
total operating revenue for the periods indicated.


RESULTS OF OPERATIONS

<TABLE>
<CAPTION>

                                                           Three Months Ended
                                                                 March 31
                                                            1999         2000
                                                        -----------  -----------

<S>                                                         <C>          <C>
Operating Revenues                                          100.00%      100.00%

Total operating expenses                                     88.12%       90.96%

Operating income                                             11.88%        9.04%

Income before income taxes and minority
interests                                                    10.62%        7.83%

Provision for income and deferred taxes                       1.85%        1.57%

Minority interests                                            0.49%        0.19%

Net income                                                    8.28%        6.07%
                                                        ===========  ===========
</TABLE>


THREE MONTHS ENDED MARCH 31, 2000 (UNAUDITED) COMPARED TO THREE MONTHS ENDED
MARCH 31, 1999 (UNAUDITED).
----------------------------------------------------------------------------

         OPERATING REVENUES. The Company's operating revenues showed the
continuous growth in the first three months of 2000 as compared to the first
three months of 1999. Operating revenues for the first three months of 2000
totaled HK$67,378,000 (US$8,673,000) compared to HK$54,019,000 (US$6,953,000) in
the first three months of 1999, representing an increase of 25%. Operating
revenues derived by the Company's fitness services increased 18% to
HK$43,600,000 (US$5,612,000) compared to HK$36,915,000 (US$4,752,000) in the
first three months of 1999. Fitness revenues as a percentage of total revenues
were 65% in the first three months of 2000 as compared to 68% in the first three
months of 1999.

         Operating revenues from the Company's beauty treatment business totaled
HK$23,777,000 (US$3,060,000) compared to HK$17,099,000 (US$2,201,000) in the
first three months of 1999, representing an increase of 39%. Beauty treatment
revenues as a percentage of total revenues were 35% in the first three months of
2000 as compared to 32% in the first three months of 1999.


                                      -12-
<PAGE>

       Operating revenues derived from the Company's Hong Kong locations remain
an important contributor to the Company's business, generating HK$63,492,000
(US$8,172,000), or 94% of total operating revenues in the three months ended
March 31, 2000 as compared to HK$49,332,000 (US$6,350,000) or 91% of total
operating revenues in the three months ended March 31, 1999.

        Operating revenues derived from the Company's China locations generated
HK$3,886,000 (US$500,000), or 6% of total operating revenues in the three months
ended March 31, 2000 as compared to HK$4,687,000 (US$603,000) or 9% of total
operating revenues in the three months ended March 31, 1999.


        OPERATING EXPENSES. The Company's operating expenses for the first
three months of 2000 totaled HK$61,285,000 (US$7,889,000) compared to
HK$47,601,000 (US$6,127,000) in the first three months of 1999, representing an
increase of 29%. Total operating expenses, after taking into account all
corporate expenses, were 91% of total operating revenue as compared to 88% of
last year. This reflects the additional costs incurred by the Company in
following its business expansion plan.

        Operating expenses associated with the Company's Hong Kong locations
were HK$56,057,000 (US$7,216,000) in the three months ended March 31, 2000,
representing an increase of HK$13,548,000 (US$1,744,000) or 32% as compared to
HK$42,529,000 (US$5,474,000) in 1999. Hong Kong operating expenses represented
91% of total operating expenses in the three months ended March 31, 2000 as
compared to 89% in 1999. The increase was primarily due to additional expenses
of HK$12,103,000 (US$1,558,000) incurred by a new branch in Sheraton Hotel, Hong
Kong which opened in July 1999.

        Operating expenses associated with the Company's China locations were
HK$5,228,000 (US$673,000) in the three months ended March 31, 2000, representing
a moderate increase of 3% as compared to HK$5,072,000 (US$653,000) in 1999 due
to inflation. Operating expenses in China represented 9% of total operating
expenses in the three months ended March 31, 2000 as compared to 11% in 1999.

         TOTAL NON-OPERATING EXPENSES (INCOME). Total non-operating expenses
(income) for the first three months of 2000 totaled a net expense of HK$818,000
(US$105,000) compared to a net expense of HK$682,000 (US$88,000) in the first
three months of 1999, representing an increase of 20%. The increase was mainly
due to higher interest costs incurred during the period.

         PROVISION FOR INCOME TAXES. Provision for income taxes for the first
three months of 2000 totaled HK$1,059,000 (US$136,000) compared to HK$997,000
(US$128,000) in the first three months of 1999, representing an increase of 6%.
The effective tax rate of operating income was 20% as compared to 17% of last
year.

         NET INCOME. The Company's net income for the first three months of 2000
totaled HK$4,089,000 (US$526,000) compared to HK$4,473,000 (US$576,000) for the
first three months of 1999, representing a decrease of 9%. The net income margin
in the first three months of 2000 was 6% compared to 8% in the first three
months of 1999, representing a decrease of 25%. The major reason for the
decrease is reflects the additional overhead associated with the opening of
Sheraton Hotel center not yet recovered by its additional contribution

LIQUIDITY AND CAPITAL RESOURCES

         The Company has financed its operations primarily through cash
generated from operations, short-term bank credit, long-term bank loans, long
term loans from minority shareholders of subsidiaries, advances from customers
relating to prepaid fitness and spa income, and leasing arrangements with
financial institutions.

         Cash and cash equivalent balances for the respective periods ended
March 31, 2000 and December 31, 1999 were HK$7,005,000 (US$902,000) and
HK$2,896,000 (US$373,000), while total indebtedness at March 31, 2000 was
HK$33,703,000 (US$4,338,000) and HK$37,105,000 (US$4,776,000) at December 31,
1999.

         Net cash provided by operating activities were HK$42,618,000
(US$5,486,000) and 11,767,000 (US$1,514,000) for Fiscal Year 1999, and the
three-month period ended March 31, 2000, respectively. The Company's operating
activities are historically financed by cash flows from operations. Net cash
used in investing activities were HK$44,612,000 (US$5,742,000) and HK$4,267,000
(US$549,000) for Fiscal Year 1999 and the three-month period ended March 31,
2000, primarily as a result of expenditures for property, plant and equipment.
Net cash provided by (used in) financing activities, which mainly include
proceeds from bank loans, net interest and repayment, were HK$3,166,000
(US$408,000) and HK$(3,402,000) (US$(438,000)) in Fiscal Year 1999 and the
three-month period ended March 31, 2000, respectively.


                                      -13-
<PAGE>

        The Company's long-term loans bear interest rates varying from 10% to
12% per annum. The total balance outstanding as of March 31, 2000 on such loans
was HK$6,993,000 (US$900,000). The last repayment on the loans is due in 2006.
The Company also had various banking facilities available from financial
institutions amounting to approximately HK$15,000,000 (US$1,931,000). These
facilities were secured by certain leasehold property in Hong Kong owned by the
Company's subsidiary (Ever Growth Limited), fixed deposits owned by the
Company's subsidiaries (Physical Health Centre (TST) Limited and Physical Health
Centre (Tsuen Wan) Limited), relatives of Mr. Luk, related company and personal
guarantees from Mr. Luk and his relatives, respectively.

         Consistent with the general practice of the fitness and spa industry,
the Company receives prepaid memberships to fitness facilities, which are
non-refundable, and spa treatment dues from its customers. This practice creates
working capital that the Company generally utilizes for working capital
purposes. However, the unused portion of the pre-paid membership and spa
treatment dues is characterized as deferred income, a current liability, for
accounting purposes.

         The Company's trade receivable balance at March 31, 2000, was
HK$3,808,000 (US$490,000). The Company has never experienced any significant
problems with collection of accounts receivable from its customers.

         Capital expenditure for Fiscal Year 1999, and the three-month period
ended March 31, 2000, were HK$44,863,000 (US$5,775,000) and HK$5,090,000
(US$655,000) respectively. The Company believes that cash flow generated from
its operations and its existing credit facilities should be sufficient to
satisfy its working capital and capital expenditure requirements for at least
the next 12 months.

        YEAR 2000 DISCLOSURE

         The Year 2000 Issue is the result of computer programs being written
using two digits rather than four digits to define the applicable year. Computer
programs that have sensitive software may recognize a date using "00" as the
year 1900 rather than the year 2000. This could result in a system failure or
miscalculations causing disruptions of operations, including, among other
things, a temporary inability to process transactions, send invoices or engage
in similar normal business activities.

         The Company underwent a system redevelopment project to improve the
efficiency of the system with respect to changing its computer programs to
properly identify a year in the year field. The new system which is year 2000
compliant was implemented by July 1, 1999.


                                      -14-
<PAGE>

PART II - OTHER INFORMATION

ITEM 1  - LEGAL PROCEEDINGS

          NONE

ITEM 2  - CHANGES IN SECURITIES

          NONE

ITEM 3  - DEFAULTS UPON SENIOR SECURITIES

          NONE

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

          NONE

ITEM 5  - OTHER INFORMATION

          NONE

ITEM 6  - EXHIBITS AND REPORTS ON FORM 8-K

          The Company filed a report on FORM 8-K during the quarter ending
March 31, 2000 with respect to Item 4.


                                      -15-
<PAGE>

                                   SIGNATURES

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




                                    PHYSICAL SPA & FITNESS, INC.
                                    (Registrant)

Date: May 10, 2000                  /s/Ngai Keung Luk
                                    ------------------------------------
                                    Ngai Keung Luk,
                                    Chairman and Chief Executive Officer

Date: May 10, 2000                  /s/ Robert Chui
                                    ------------------------------------
                                    Robert Chui,
                                    Chief Financial Officer