GRAPHIC

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Exhibit 13.1

THE        SHARPER        IMAGEAnnual Report 2002

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To Our Shareholders

I am pleased to report outstanding results for 2002, The Sharper Image's 25th anniversary year.

By staying focused on our strategy, and executing it well, we achieved increases in sales and earnings that would be considered excellent in any
yearand were truly exceptional in 2002's difficult retail environment. The Sharper Image exceeded $500 million in sales in 2002a milestone achievement that signals we
are well on our way to growing the value of our Company to match the stature of our brand.

RESULTS

This year's gains in sales, margin and earnings are especially gratifying in light of nearly two years of a sluggish economy. I believe our consistently strong
performance in all areas of our business throughout the year proves that our strategy is a winning one. Our revenues of $523.3 million in 2002 represented an increase of 32 percent over
last year's $396.2 million. Net earnings of $15.9 million, or $1.21 earnings per share, were $14.8 million higher than last year's $1.1 million, or $0.09 earnings per
share. Store sales of $296.1 million were up 28 percent, with comparable store sales up 14 percent. Direct sales from catalogs and other advertising grew 38 percent to
$124.7 million. Internet sales increased 40 percent to $70.0 million. Corporate sales programs increased 28 percent to account for $45.4 million of our sales among
all three channels. Our gross margin rate increased 4.0 percentage points to a record 56.0 percent.

STRATEGY

Our long-term strategy is focused on three areas:

Brand NameWe continue to build on our strong nameone of America's most widely recognized and positively
perceived brands. Our multichannel, multimedia marketing has helped to make our brand name better known and better liked than ever before among a broad demographic group of men and women consumers.

Proprietary ProductsToday, three-fourths of our sales come from Sharper Image brand proprietary products, which we design
completely in-house, combined with items from other makers that we brand with our name and distinctive packaging. These appeal to men and women consumers across a range of popular prices;
exclusive merchandise differentiates us from competition and higher product margins are helping us build an enduring, profitable business.

Synergistic ChannelsWe have increased sales and customer loyalty by leveraging the inherent synergies and economies of
multiple selling channels. Our customers enjoy the highly valued convenience of being able to shop or buy in a store, by catalog and online.

Our
recent strong performance in a highly competitive multichannel retail arena has elevated the Company's stature among our peers. Our experienced management team has consistently
produced impressive brand marketing, exciting merchandising, skillful product development, superior operations and outstanding customer service. This professionalism demonstrates our ability to
achieve sales increases in all our channels as we aim for consistent earnings growth. I especially want to thank our associates for their contributions to this successful year and to thank you, our
shareholders, for your confidence and support. I am optimistic about the exciting times ahead.

|Respectfully,
  
/s/ Richard
  
Richard Thalheimer Founder, Chairman and Chief Executive Officer |  | PHOTO |  | 
|------------------------------------------------------------------------------------------------ |  | ----- |  | 

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CORPORATE PROFILE

Sharper Image Corporation is a multichannel specialty retailer that is renowned as a leading source of innovative new
products.The Sharper Image is one of the industry's strongest brandsa name that conveys fun and entertainment, design and creativity, uniqueness and
technological innovation. Sharper Image Design proprietary productscreated by the Company's development groupand private-label merchandise account for a significant
proportion of sales. The Company operates 127 Sharper Image stores and generates direct sales through The Sharper Image catalog; single-product mailers; print advertising; television infomercials; and
online atwww.sharperimage.com, its e-commerce Web site. Business-to-business wholesale operations and corporate
sales programs contribute additional revenues.

The
Sharper Image was founded in 1977 and celebrated its 25th anniversary in 2002.

FINANCIAL HIGHLIGHTS

|                                               |                      | Fiscal Year Ended January 31, |           
|---------------------------------------------- | -------------------- | ----------------------------- | ----------
|
|
|Operating Results                              |                      |                               |           
|Revenues                                       |                      | $                             | 523,294   
|Earnings before income taxes                   |                      |                               | 26,956    
|Net earnings                                   |                      | $                             | 15,907    
|Net earnings per share                        |                      |                               |           
|                                               | Basic                |                               | $         
|                                               | Diluted              |                               | $         
|Balance Sheet Data                             |                      |                               |           
|Working capital                                |                      | $                             | 70,223    
|Total assets                                   |                      |                               | 214,427   
|Long-term notes payable                        |                      |                               |          
|Stockholders' equity                           |                      | $                             | 117,384   
|Current ratio                                  |                      |                               | 1.80      
|Statistics                                     |                      |                               |           
|Number of stores at year end                   |                      |                               | 127       
|Comparable store sales increase (decrease)     |                      |                               | 13.6      
|Annualized net sales per square foot           |                      | $                             | 627       
|Number of catalogs mailed(3)                   |                      |                               | 77,772,000
|Average revenue per transaction:               |                      |                               |           
|                                               | Stores               |                               | $         
|                                               | Catalog              |                               | $         
|                                               | Internet             |                               | $         
|Return on average stockholders' equity         |                      |                               | 15.0      
|                                               | Book value per share |                               | $         
|Weighted average number of shares outstanding |                      |                               |           
|                                               | Basic                |                               |           
|                                               | Diluted              |                               |           

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Sharper Image Design, the Company's product development group, enjoyed its most successful year ever in 2002.New items and
established bestsellers play an increasingly important role in The Sharper Image being a profitable and growing enterprise. These products aim to be widely appealing to both men and women, with price
points for many that are under $100. Together with private-label items from others, Sharper Image-branded merchandise accounts for more than75%of sales.
We control the styling, features, pricing, packaging, distribution and marketing of Sharper Image Design productsdeflecting direct competition and reinforcing valued brand attributes of
fun, innovation and enthusiasm for good design and imaginative use of new technologies. The year's greatest success was the launch of the "GP" (germicidal protection) version of our
top-selling Ionic Breeze®Quadra® Silent Air Purifier. Exemplifying thestrategic
advantagesthat accrue to makers of proprietary products, we supported the "GP" launch with aggressive marketing (including the cover of our catalog); exciting
in-store graphics; millions of single-product mailers; radio and print; and millions of sneak-preview emails to our customers. Our ability to create and market a wide range of high margin,
popular,exclusiveproprietary products is moving us further ahead of competitors. We're developing new products in areas of proven appeal, such as CD/DVD
electronics, air purification, home, personal care, robotics and relaxation.

PHOTO

Ionic Breeze GP Silent Air Purifierintroduced March 2002.

PHOTO

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PHOTO

Sharper Image private-label products leverage our brand to add value and exclusivity across a range of prices within every category in our
assortment.As our sales have grown, our direct sourcing has grown even more. Today, virtually all major product programs from third-party manufacturers benefit
from branding with our distinctive packaging and the "Sharper Image" name. One of the key benefits of private branding is our ability to control allproduct
marketingpositioning, packaging,
pricing and promotion. We work directly with manufacturers to incorporate exclusive value-added styling and functionality. Our in-house creative team adds excitementand
valuewith colorful boxes featuring the same dramatic photography that illuminates our catalog. Store visual displays use these boxes to deliver persuasive marketing messages to diverse
shoppers across a range of merchandise categories. The "Sharper Image" name on products means every time someone receives a Sharper Image gift, or sees a Sharper Image item in use, it helps to build our brand. Our products are differentiated, enhanced and exclusiveattributes that have helped us achieve five straight years of
significant increases in gross margin rate. We have an experienced team sourcing and branding hundreds of itemsfrom a sleek LED mini flashlight to an impressive DVD home theater system; a
unique exercise stepper to a talking robot bank; fun toy drumsticks to beautifully styled, component-matched home stereo systems. This impressive range of exclusiveproducts at popular price points has
helped us grow our core consumer business in stores, catalog and Internet. Sharper Image brand products
also are important to our high-growth business-to-business operationswith corporate sales programs as well as with wholesale to selected department and
specialty stores.

PHOTO

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PHOTO

We circulated more than 50 million single-product mailers in 2002.

The Sharper Image Catalog is the ultimate expression of our brand and it is the most important advertising medium for all of our synergistic selling
channels.The catalog's signature approach to marketingdramatic photography, compelling voice, bold graphics and enthusiastic focus on each individual
productalso drives the creative content of our award-winning Web site, product packaging, single-product mailers, print advertising and in-store visual merchandising. In this
way, we deliver cohesive and powerful brand-building marketing messages in all of our selling channels.Catalogsand single-product mailers have been both
drivers and beneficiaries of growth; in 2002, we circulated 78 million catalogs, an 11 percent increasewith about half mailed to support store sales. We circulated
50 million single-product mailers, a 40 million increase over 2001. In addition to the company's 38 percent gain in direct marketing sales, our 12- and
24-month buyers have grown by 50 and 68 percent, respectively, as we profitably reach an ever-widening base of consumers. All of our advertising is "direct marketing"with source-coded sales
and managed return-on-investment. Purchasers from
non-source-coded venuese.g., store cash registersare matched back to our mailing list so catalog ROI can be profitably managed. Sales of Sharper Image Design
products fuel a high level of media spending and theIonic Breeze®Quadra®Silent Air Purifier television
ad is one of America's most frequently shown infomercials. Buyer surveys confirm that our TV advertising synergistically drives a high volume of sales in our stores and other channels; what's more,
direct-TV purchasers have proven to be good multichannel customers. In 2002, we benefited from lower advertising rates for media; lower costs for printing and paper fully offset postal
rate increases. With concurrent higher margins, we successfully employed a profitable direct-marketing strategy in 2002 that we expect to continue throughout 2003.

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PHOTO

Special fixtures highlight Sharper Image Design proprietary products.

Sharper Image stores are a vital, thriving channel for our brand and a prime driver of growth in sales and earnings.Total
store sales increased 28 percent this year to account for 57 percent of our business. Comparable store sales increased 14 percent in 2002truly excellent in a
difficult retail year. Opening new stores is a key part of our long-term strategy for growth. In 2002, we opened20new Sharper Image
storesthe most in our historyand exceeded our goal of a 10 to 15 percent larger store base. The 14 new stores opened in 2001 and the most recent 20 new stores,collectively, exceeded
our sales expectations and are on track to return 100 percent of our new-store investment within
24 months. Our exceptional sales growth during the retail downturn over the past two years has made The Sharper Image one of the most attractive prospective tenants to many landlords. Our
stores are so impressive anddistinctivewith an exciting selection of well-priced, broadly appealing merchandise that can be
found only at The Sharper Image. Landlords also value our aggressive multimedia advertising that drives shoppers into our stores. We believe ourpowerful
marketingand merchandising places us among the top specialty retailers that compete for the same prime store locations. Store economics continue to improve, with higher margins
and sales productivity. We haveprovensuccess in diverse locationsmajor malls, high-end centers, urban and suburban shopping
streets, downtown and tourist destinations; this balance has helped us to manage shifts in consumer spending patterns both within and across our multiple channels. We have identified a number of
excellent sites for new stores and in fiscal 2003 we expect to achieve our goal of adding 15 to 20 percent to our current base of 127 stores.

PHOTO

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PHOTO

Attractive emails are sent to more than a million of our online customers every month to introduce new products and to drive sales through both our stores
and Web site.

The Internet continues to be a high-growth sales channel for The Sharper Image.The dot-com "boom" may
be over for many, but well-managed, well-merchandised e-commerce Web sitesandwww.sharperimage.comis
among themare serving a growing online buying community in a sales channel that is increasingly robust, quick, secure, helpful and convenient. The Sharper Image has the skills and assets
to take full advantage of the Internet opportunitya brand that is known, trusted and valued; exclusive products; customers who are Internet enthusiasts; superior direct-marketing
capabilities; outstanding service; and synergistic stores and catalog. In 2002, Internet salesincreased 40%to $70 million, a trend that
accelerated in the fourth quarter, when our online sales surged 61 percent over last year's fourth quarter. These gains were helped by internal enhancements to our sitee.g.,
Catalog Quick Order, faster checkout, improved search logicand by moreeffective emailsales
campaigns to our customers. We also made better use of the most popular externalsearch enginesto direct new shoppers to our online store; and we took
advantage of the Web's improved stature as a productive and efficient direct-marketing medium to deploy high-ROI advertising on key Web portals. Our large and growing customer email list
has proved to be a low-cost, targeted medium for driving sales online as well as in our stores. To reach new audiences, we have a large, active Web affiliate program that accounts for a
significant proportion of ournew-to-filecustomers; and we sold reconditioned and close-out inventory on eBay, the
Web's most popular shopping site. Our corporate sales area takes full advantage of the Internet, including building custom e-awards Web sites; our three seamless
channelsstores, catalog and Internet,make The Sharper Image uniquely attractive to Fortune 1000 clients. Our growing European Web sites are leading us to the potential of
international markets with cost-effective programs. In 2003, we expect Internet sales to enjoy continued high growth.

PHOTO

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Management's Discussion and Analysis of Results of Operations and Financial Condition

Sharper Image Corporation

The discussion and analysis gives effect to the restatement of previously issued financial statements. See Note L to the financial statements for further
discussion.

Overview

The Sharper Image is a multichannel specialty retailer of innovative, high-quality products that are useful and entertaining and are designed to make
life easier and more enjoyable. Our unique assortment of products offers design, creativity and technological innovation, in addition to fun and entertainment. We operate our own stores and generate
direct sales through The Sharper Image catalog and other direct marketing operations, as well as over the Internet. We also market to other businesses through our corporate sales and wholesale
operations.

Our
total revenues increased 32.1% to $523.3 million in fiscal 2002 from $396.2 million in fiscal 2001. This increase was due primarily to the popularity of our Sharper
Image Design and Sharper Image branded products, including our air purification line of products, the opening of 18 net new stores, a comparable store sales increase of 13.6% and an increase in our
multimedia advertising which we believe increased sales in all selling channels. We believe that fiscal 2001 revenues were adversely affected by the onset of the economic recession, the events of
September 11, 2001, and subsequent anthrax scare, and a faster-than-expected end to the Razor Scooter fad which drove exceptional sales volumes in fiscal 2000.

During
fiscal 2002, we mailed approximately 78 million Sharper Image catalogs to approximately 16 million individuals, an increase from the 70 million catalogs
mailed to approximately 14 million individuals in fiscal 2001. The Sharper Image catalog, along with our other direct marketing operations
(which primarily consist of television infomercials, single product mailers and print ads) serves as the primary advertising vehicle both for our stores and our Internet operations.

We
continue to improve our gross margin rate by increasingly focusing on proprietary Sharper Image Design and Sharper Image branded products and by leveraging our purchasing power as a
larger percentage of our sales are derived from these categories. During fiscal 2002 and 2001, we continued the expansion of our in-house Sharper Image Design product development function.
The percentage of total revenues attributable to Sharper Image Design and Sharper Image branded products increased to approximately 76% of total revenues in fiscal 2002, compared with approximately
70% in fiscal 2001, primarily as a result of increased resources, including our multimedia advertising strategy, that we devoted to these products and the creation and development of new products, as
well as increases in sales from products introduced in prior years.

As
of January 31, 2003, we operated 127 Sharper Image stores in 32 states and the District of Columbia, and our licensee operated one store internationally. As part of our growth
strategy, we have opened 20, 14 and nine stores in fiscal 2002, 2001 and 2000, respectively. In fiscal 2002, 2001 and 2000 we closed two stores, two stores and one store, respectively, at lease
maturity.

Our
financial statements for fiscal 2002 reflect restated results for fiscal 2001 and 2000. The restated results relate to three accounting corrections:



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Results of Operations

Percentage of Total Revenues

Fiscal Year Ended January 31,2003

2002

2001(Fiscal 2002)

(Fiscal 2001)

(Fiscal 2000)Revenues:Net store sales

56.6
%
58.6
%
59.3
%Net catalog and direct marketing sales

23.8

22.8

20.6Net Internet sales

13.4

12.6

14.3Net wholesale sales

3.3

2.8

2.2Delivery

2.7

3.0

3.2List rental and licensing

0.2

0.2

0.4Total Revenues

100.0

100.0

100.0Costs and Expenses:Cost of products

44.0

47.8

50.6Buying and occupancy

9.2

10.1

7.7Advertising

18.6

17.3

13.0General, selling and administrative

23.0

24.4

22.4Operating Income

5.2

0.4

6.3Other income (expense)

(0.1
)
0.1

0.5Earnings before income tax expense and cumulative effect of accounting change

5.1

0.5

6.8Income tax expense

2.1

0.2

2.7Earnings before cumulative effect of accounting change

3.0

0.3

4.1Cumulative effect of accounting change





(0.1
)Net earnings

3.0
%
0.3
%
4.0
%


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Revenues

Fiscal Year Ended January 31,2003

2002

2001(Fiscal 2002)

(Fiscal 2001)

(Fiscal 2000)Dollars in thousandsNet store sales

$
296,068

$
232,146

$
249,449Net catalog and direct marketing sales


124,671


90,376


86,579Net Internet sales


69,981


49,828


60,044Net wholesale sales


17,507


10,893


9,426Total Net Sales


508,227


383,243


405,498Delivery


14,090


11,992


13,521List rental and licensing


977


985


1,704Total Revenues

$
523,294

$
396,220

$
420,723


Year Ended January 31, 2003 (Fiscal 2002), Compared to Year Ended January 31, 2002 (Fiscal 2001)

Revenues

Total net sales for fiscal 2002 increased $125.0 million, or 32.6%, from the prior fiscal year. Returns and allowances for fiscal 2002 represented 11.8% of
sales, as compared to 11.9% for fiscal 2001. The increase in total net sales was attributable primarily to increases in net sales from stores of $63.9 million; from catalog and direct marketing
of $34.3 million; from Internet operations of $20.2 million; and from wholesale of $6.6 million.

The
increase in total revenues for fiscal 2002 as compared to fiscal 2001 was due primarily to the popularity of our Sharper Image Design and Sharper Image branded products, which
continues to be a key factor in the increases in net sales in all selling channels. Sharper Image Design and Sharper Image branded products accounted for approximately 76% of total revenues in fiscal
2002 compared with approximately 70% in fiscal 2001. We believe that the continued development and introduction of new and popular products is a key strategic objective and important to our future
success. Contributing to the increase in total net sales was a comparable store sales increase of 13.6% over fiscal 2001 and the opening of 18 net new stores during fiscal 2002. We also believe that
the increased investment in our advertising initiatives in fiscal 2002 and 2001, including the significant increase in television infomercial advertising and single product mailers highlighting
primarily selected Sharper Image Design and Sharper Image branded products, contributed to the higher revenues in all selling channels. We believe that fiscal 2001 revenues were adversely affected by
the onset of the economic recession, the events of September 11, 2001, and subsequent anthrax scare, and a faster-than-expected end to the Razor Scooter fad which drove
exceptional sales volumes in fiscal 2000.

Net
store sales for fiscal 2002 increased $63.9 million, or 27.5%, while comparable store sales increased by 13.6% from fiscal 2001. The increase in net store sales was
attributable primarily to the opening of 20 new stores during fiscal 2002, the increased sales of Sharper Image Design and Sharper Image branded products, the 13.6% increase in comparable store sales,
and the increased television infomercial and single product mailer advertising, partially offset by the closing of two stores at lease maturity. The opening of 18 net new stores resulted in an
incremental increase to net store sales of $22.9 million from the prior fiscal year. Average net sales per square foot for fiscal 2002 increased to $627 from $578 in fiscal 2001. Average net
sales per square foot is calculated by averaging over all stores the amount of each store's net sales divided by that store's square footage under lease.

Total
store transactions for fiscal 2002 increased 16.0% and average revenue per transaction increased 8.5%, compared with fiscal 2001. The increase in average revenue per transaction
was attributable primarily to the overall product mix offered, multimedia advertising strategies, including

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infomercial advertising which highlighted products with retail prices higher than our average in the prior year, and the increased sales of Sharper Image Design and Sharper Image branded products,
particularly our air purification products. Average revenue per transaction is calculated by dividing the amount of gross sales, exclusive of delivery revenue and sales taxes, per channel by the gross
number of transactions in that channel.

Comparable
store sales is not a measure that has been defined under generally accepted accounting principles. We define comparable store sales as sales from stores where selling square
feet did not change by more than 15% in the previous 12 months and which have been open for at least 12 months. A store opened on or prior to the 15th of a month is treated as open for
the entire month. Stores generally become comparable once they have 24 months of comparable sales for our annual calculation. We believe that comparable store sales, which excludes the effect
of a change in the number of stores open, provides a more useful measure of the performance of our store sales channel than does the absolute change in aggregate net store sales.

Net
catalog and direct marketing sales for fiscal 2002, including sales generated from catalog mailings, single product mailers, print advertising and television infomercials, increased
$34.3 million, or 37.9% from fiscal 2001. This increase was due primarily to a 44.4% increase in television infomercial advertising expense, a 264.6% increase in single product mailers
circulated, a 10.9% increase in Sharper Image catalogs circulated and a 20.8% increase in Sharper Image catalog pages circulated. The increase in net catalog and direct marketing sales for fiscal 2002
reflects a 21.8% increase in transactions and an increase of 14.5% in average revenue per transaction, compared to fiscal 2001.

For
fiscal 2002 and 2001, 28.3% and 27.9% of the net catalog and direct marketing sales were generated from television infomercial direct sales. We intend to continue our aggressive
multimedia advertising programs during fiscal 2003 to attract new customers, while achieving a favorable return on advertising investment. Our goal is to achieve direct response sales resulting in
near breakeven results on all direct marketing advertising initiatives. We continually review our advertising initiatives, including the pages and number of catalogs and single product mailers
circulated, and the amount of and return on investment from television infomercial advertising, in our efforts to improve revenues from catalog and direct marketing advertising.

Net
Internet sales from our sharperimage.com Web site, which includes the Sharper Image auction site, in fiscal 2002 increased $20.2 million, or 40.4%, from fiscal 2001. This
increase was attributable primarily to a 47.0% increase in Internet advertising, a 24.4% increase in Internet transactions and a 14.2% increase in average revenue per transaction. Excluding auction
sales for this period, net Internet sales increased 53.4%, transactions increased 34.4% and average revenue per transaction increased 15.8%. We believe the decrease in auction sales for fiscal 2002
compared to fiscal 2001 was attributable primarily to our decision to raise minimum bid prices during late fiscal 2001 and to reduce the number
of products offered on our auction site, which resulted in an improved gross margin rate from auctions. We continue to utilize the auction site to increase our Internet business, broaden our customer
base and manage inventories, including closeouts, repackaged and reconditioned items.

During
fiscal 2002, we continued to refine and update our Web site in order to improve our customers' shopping experience. We expanded several gift guide categories, which arrange
products by price or type, refined our product search inquiry and included a new category for our outlet merchandise.

Net
wholesale sales for fiscal 2002 increased $6.6 million, or 60.7%, compared to fiscal 2001. The increase is attributable primarily to a wholesale marketing arrangement we
tested with Circuit City Stores. The arrangement with Circuit City Stores initially allowed for the showcase and testing of a select assortment of Sharper Image Design and Sharper Image branded
products on large dedicated fixtures in over 600 Circuit City Superstores. We will continue to evaluate this wholesale marketing arrangement in fiscal 2003.

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Cost of Products

Cost of products for fiscal 2002 increased $40.5 million, or 21.4%, from fiscal 2001. This increase is due primarily to the higher sales volume, partially
offset by the lower relative cost of products for our Sharper Image Design and Sharper Image branded products. The gross margin rate for fiscal 2002 was 56.0%, 4.0 percentage points higher than
the fiscal 2001 rate of 52.0%. This increase was due primarily to increased sales of Sharper Image Design and Sharper Image branded products, which generally carry higher margins than third party
branded products. Sharper Image Design and Sharper Image branded products as a percentage of total revenues increased to approximately 76% for fiscal 2002, as compared to approximately 70% for fiscal
2001.

We
believe that our gross margin for fiscal 2002 was negatively affected by the labor dispute between the Pacific Maritime Association, or PMA, and the International Longshore and
Warehouse Union, or ILWU, whose members are primarily responsible for the removal of cargo from container loaded shipping vessels in West Coast U.S. ports. In response to the 10-day
lockout by the PMA in October 2002 and drop in productivity during the subsequent months, we increased usage of airfreight transportation, which adversely affected our gross margins for the
third and to a greater extent the fourth quarters of fiscal 2002.

Our
gross margin rate fluctuates with changes in our merchandise mix, primarily Sharper Image Design and Sharper Image branded products, which changes as we make new items available in
various categories or introduce new proprietary products. The variation in merchandise mix from category to category from year to year is characteristic of our sales results being driven by individual
products
rather than by general product lines. Additionally, the auction sites and other selected promotional activities, such as free shipping offers, in part, tend to offset the rate of increase in our gross
margin rate. Our gross margins may not be comparable to those of other retailers, since some retailers include the costs related to their distribution network in cost of products while we, and other
retailers, exclude them from gross margin and include them instead in general, selling and administrative expenses. We cannot accurately predict future gross margin rates, although our goal is to
continue to increase sales of Sharper Image Design and Sharper Image branded products to capitalize on the higher margins realized on these products.

Buying and Occupancy

Buying and occupancy costs for fiscal 2002 increased $8.3 million, or 20.8%, from fiscal 2001. This increase reflects a full year of occupancy costs for
the 14 new stores opened in fiscal 2001, the occupancy costs associated with the 20 new stores opened in fiscal 2002 and rent increases for some existing store locations, partially offset by two
stores closed at lease maturity during fiscal 2002. Buying and occupancy costs as a percentage of total revenues decreased to 9.2% in fiscal 2002 from 10.1% for fiscal 2001. In fiscal 2002, we opened
a total of 20 new stores, exceeding our goal of a 10% - 15% increase in the number of stores opened on an annual basis. Our goal is to grow new stores by 15% - 20% in
fiscal 2003, but we cannot assure you we will achieve this goal.

Advertising

Advertising expenses for fiscal 2002 increased $28.9 million, or 42.2%, from fiscal 2001. The increase in advertising expense was attributable primarily to
a 44.4% increase in television infomercial advertising expense, a 264.6% increase in the number of single product mailers circulated, a 20.8% increase in the number of Sharper Image catalogs pages
circulated and a 10.9% increase in the number of Sharper Image catalogs circulated. During fiscal 2002, we continued our other multimedia advertising initiatives, which included radio, television and
print advertising, among others. Although we believe they contributed to the increase in sales in the stores, catalog and direct marketing and Internet channels, there can be no assurance of the
continued success of these advertising initiatives. The higher

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cost of postage on various direct marketing mailers, including the catalog and single product mailers, contributed to advertising expense increases although these increases were partially offset by
the savings from lower paper costs during fiscal 2002.

During
fiscal 2002, we increased the circulation of our single product mailer, which highlights our most popular Sharper Image Design products. We believe that the single product mailer
will continue to extend our brand name by prospecting to future Sharper Image customers at a reduced cost in comparison to mailing a Sharper Image catalog. We also increased our television media
spending on infomercials highlighting selected Sharper Image Design and Sharper Image branded products and expanded our multimedia advertising initiatives of direct marketing, television and radio.

Advertising
expenses as a percentage of total revenues increased to 18.6% in fiscal 2002 from 17.3% in fiscal 2001. Although there is a declining marginal benefit obtained by increasing
advertising expenditures, we monitor the effectiveness of our advertising in order to achieve a reasonable return on our investment in advertising.

We
believe that expansion of our advertising initiatives contributed to the sales increases for fiscal 2002 and will continue to be an important factor in our future revenue growth. As a
result, we expect advertising expenses to be higher in fiscal 2003 than in fiscal 2002.

General, Selling and Administrative

General, selling and administrative, or GS&A, expenses for fiscal 2002 increased $24.1 million, or 25.0%, from fiscal 2001. Contributing to this increase
was an increase of $5.4 million due primarily to variable expenses from increased net sales and selling expenses related to the 20 new stores opened during fiscal 2002, and a full year of
selling expenses related to the 14 stores opened in fiscal 2001, partially offset by the reduced selling expenses of two stores closed at lease maturity during fiscal 2002. Also contributing to the
increase were increases of $3.3 million for distribution shipping costs incurred for product delivery to our stores (which primarily reflects additional airfreight costs incurred in connection
with the West Coast port strike), $2.5 million related to technological system enhancements made in our operational areas and $1.1 million due to increases in health benefits and
company-wide insurance premiums.

GS&A
expenses for fiscal 2002 decreased as a percentage of total revenues to 23.0% from 24.4% in fiscal 2001. The decline in the GS&A percentage is the result of our continual review of
GS&A expenses and infrastructure combined with better leverage of fixed costs on an expanding sales base.

Other Income and Expense

The decrease in interest income is due to a reduction in the interest rate earned on invested balances. The decrease in other expense relates to the reduction in
loss on the disposal of assets.

Income Taxes

The effective tax rate was 41% for fiscal 2002, compared to 40% for fiscal 2001. Income taxes are accounted for using an asset and liability approach that
requires the recognition of deferred tax assets and liabilities for the expected future tax consequences of events that have been recognized in our
financial statements or tax returns. In estimating future tax consequences, all expected future events then known to us are considered, other than changes in the tax law or rates.

13

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Year Ended January 31, 2002 (Fiscal 2001), Compared to Year Ended January 31, 2001 (Fiscal 2000)

Revenues

Total net sales for fiscal 2001 decreased $22.3 million, or 5.5%, from fiscal 2000. Returns and allowances represented 11.9% of sales for fiscal 2001,
compared to 9.9% for fiscal 2000. The difference in the returns rate is primarily due to the increased volume of Razor Scooters sold in fiscal 2000, which had a lower than normal returns rate. The
decrease in net sales was attributable to decreases in net sales from stores of $17.3 million and Internet operations of $10.2 million, partially offset by an increase in catalog and
direct marketing net sales of $3.8 million. Excluding sales of Razor Scooters, total net sales for fiscal 2001 increased 12.9% compared to fiscal 2000. We believe that excluding Razor Scooter
sales for comparative purposes provides a useful measure of the performance of our three sales channels because of the relatively short-lived Razor Scooter sales phenomenon. Total net sales for fiscal
2000 reflect a $413,000 decrease in net sales recognized and an equivalent increase in deferred revenue resulting from our adoption of SAB 101, "Revenue Recognition in
Financial Statements," in the first quarter of fiscal 2000. Prior to adopting SAB 101, we recognized direct marketing revenues when products were shipped to the customer. Under
SAB 101, revenue is deferred until receipt of the products by the customer.

The
decrease in total net sales was due primarily to weak consumer spending during most of fiscal 2001, the general economic slowdown, the events of September 11, 2001, and the
subsequent anthrax scare, and the exceptional sales volume we experienced in fiscal 2000 related to the Razor Scooters. Total net sales from the Razor Scooter decreased to $4.7 million in
fiscal 2001 compared to $70.0 million in fiscal 2000, and we do not anticipate sales of Razor Scooters will be material in future periods. The decrease in total net sales was partially offset
by the strong sales volume experienced during the holiday season, the 14 new and four temporary stores opened, increased multimedia advertising spending and the increase in gross margin rate
attributable to the continued popularity of Sharper Image Design and Sharper Image branded products, which increased to approximately 70% of net sales in fiscal 2001 from approximately 64% in fiscal
2000.

Net
store sales for fiscal 2001 decreased $17.3 million, or 6.9%, and comparable store sales decreased 16.0% from fiscal 2000. The decrease in net store sales was due primarily to
the exceptional sales volume experienced in fiscal 2000 relating to the Razor Scooters and the closure of two stores at lease maturity. Net store sales from Razor Scooter products decreased to
$3.0 million in fiscal 2001 compared
to $48.1 million in fiscal 2000. Also contributing to the decrease in net store sales for fiscal 2001 was a 4.2% decrease in total store transactions as compared with the same prior year
period. Average revenue per transaction for net store sales in this period decreased by 1.2%. The decrease in net store sales during most of fiscal 2001 was partially offset by the strong sales volume
experienced during the holiday season, the 14 new and four temporary stores opened during fiscal 2001 and the full year of sales of nine new stores opened in fiscal 2000. The 14 new and four temporary
stores, partially offset by the two store closures in fiscal 2001, resulted in an incremental increase to net store sales of $13.6 million from the prior fiscal year. Net store sales and
comparable store sales for fiscal 2001, excluding sales of Razor Scooters, increased 13.8% and 2.0%, respectively, compared to fiscal 2000.

Net
catalog and direct marketing sales, which includes sales generated from catalog mailings, single product mailers, print advertising and television infomercials, for fiscal 2001
increased $3.8 million, or 4.4%, from fiscal 2000. The net sales increase from these catalog and direct marketing activities was due primarily to an increase of 12.7% in the number of Sharper
Image catalogs circulated, an increase of 7.9% in pages circulated and an increase of 107.6% in television infomercial advertising expense highlighting selected Sharper Image Design and Sharper Image
branded products and an 80.6% increase in single product mailers circulated. We believe the productivity of several catalogs was negatively affected by the interruption in mail service and the closure
of several post office operations because of the anthrax scare following the events of September 11, 2001, which resulted in the catalogs

14

---

being delayed or not reaching their original destination. The increase in net catalog and direct marketing sales for fiscal 2001 represents an increase of 18.3% in average revenue per transaction
offset by a 13.5% decrease in transactions, compared to the prior year. The increase in average revenue per transaction was due to increased sales from our multimedia advertising strategies, including
infomercial advertising, which highlighted products with retail prices, which are higher than our average. Net catalog and direct marketing sales from Razor Scooter products decreased to $916,000 in
fiscal 2001 compared to $14.1 million in fiscal 2000. Net catalog and direct marketing sales excluding Razor Scooter sales for fiscal 2001 increased by 23.5% over the same period in the prior
year. For fiscal 2001, 27.9% of the net catalog and direct marketing sales were generated from television infomercial direct sales, compared to 15.4% for fiscal 2000.

Our
fiscal 2001 net Internet sales, which include our auction sales, decreased $10.2 million, or 17.0%, from fiscal 2000. The fiscal 2001 decrease in net Internet sales was due
primarily to the targeted decrease in auction sales and the significant Razor Scooter sales experienced in fiscal 2000. Net Internet sales from Razor Scooter products decreased to $737,000 in fiscal
2001 compared to $7.8 million in fiscal 2000. The decrease in net Internet sales reflected a decrease of 30.1% in transactions partially offset by an 18.2% increase in average revenue per
transaction. Excluding auction sales, net Internet sales decreased 2.8% for fiscal 2001, transactions decreased 8.8% and average revenue per transaction increased 6.8% for fiscal 2001. Excluding
auction and Razor Scooter sales, net Internet sales for fiscal 2001 increased 15.7% over the prior year period.

Net
wholesale sales for fiscal year 2001 increased $1.5 million, or 15.6%, compared to fiscal 2000, primarily due to testing of new programs during fiscal 2001.

Cost of Products

Cost of products for fiscal 2001 decreased $23.2 million, or 10.9%, from fiscal 2000. The decrease in cost of products is due to the lower sales volume for
our total business, and to the increased percentage of sales of Sharper Image Design and Sharper Image branded products, which generally carry higher margins than our third party branded products. The
gross margin rate for fiscal 2001 was 52.0%, which represents a 2.8 percentage point increase over the fiscal 2000 rate of 49.2%. Sharper Image Design and Sharper Image branded products as a
percentage of total revenues, exclusive of wholesale, increased to approximately 70% in fiscal 2001 as compared to approximately 64% in fiscal 2000.

Buying and Occupancy

Buying and occupancy costs for fiscal 2001 increased $7.4 million, or 22.8%, from fiscal 2000. The increase primarily reflects a full year of occupancy
costs for nine new stores opened in fiscal 2000, the occupancy costs associated with the 14 new stores and four temporary stores opened in fiscal 2001 and rent increases for some existing store
locations, partially offset by the two stores that closed during fiscal 2001. The increase also reflects higher rent expense related to our corporate headquarters office space beginning in fiscal
2001. Buying and occupancy costs as a percentage of total revenues increased from 7.7% in fiscal 2000 to 10.1% in fiscal 2001.

Advertising

Advertising expenses for fiscal 2001 increased $13.8 million, or 25.3%, from fiscal 2000. The increase in advertising expenses was primarily attributable
to a 12.7% increase in the number of Sharper Image catalogs mailed, a 7.9% increase in catalog pages circulated and an increase of 107.6% in television infomercial advertising expense. The increase
also included higher postage costs for catalogs mailed during fiscal 2001. Additionally, we continued our other multimedia advertising initiatives, which included radio advertising and single product
mailers, among others. Although we

15

---

believe these advertising initiatives contributed to sales in the stores, catalog and Internet channels, there can be no assurance of the continued success of these advertising initiatives.
Advertising expenses as a percentage of total revenues increased from 13.0% in fiscal 2000 to 17.3% in fiscal 2001.

General, Selling and Administrative

General, selling and administrative expenses for fiscal 2001 increased $2.3 million, or 2.5%, from fiscal 2000. An increase of $2.3 million in GS&A
expenses for fiscal 2001 from fiscal 2000 was attributable to
increases in overall selling expenses related to the opening of 14 new stores and four temporary stores during fiscal 2001, and a full year of selling expenses related to the nine stores opened in
fiscal 2000, partially offset by the reduced selling expenses of two stores closed at lease maturity during fiscal 2001. Also contributing to the increase in GS&A expenses were increases of
$1.7 million due to technological system enhancements made in our operational areas, which generally have a short useful life, and $300,000 due to our continued development of Sharper Image
Design products. The increase was also partially due to compensation and benefit expenses associated with attracting and retaining key employees. Partially offsetting the increase in GS&A expenses
were cost savings achieved during fiscal 2001. These cost savings benefits were achieved as a result of our continual review of our GS&A expenses and infrastructure.

GS&A
expenses for fiscal 2001 increased as a percentage of total revenues to 24.4% from 22.4% in fiscal 2000. The increase is reflective of the lower sales volume experienced in fiscal
2001 due to weak consumer spending, the events of September 11, 2001, and the general economic slowdown. We believed that these events were temporary and retained the necessary operational
infrastructure, which resulted in higher GS&A as a percentage of net sales for fiscal 2001.

Other Income and Expense

The decrease in interest income of $2.0 million from fiscal 2001 as compared to fiscal 2000 was primarily due to the decrease in interest income earned on
lower investment balances and the reduction in interest rates on invested balances.

Income Taxes

The effective tax rate was 40% for fiscal 2002 and fiscal 2001. Income taxes are accounted for using an asset and liability approach that requires the recognition
of deferred tax assets and liabilities for the expected future tax consequences of events that have been recognized in our financial statements or tax returns. In estimating future tax consequences,
all expected future events then known to us are considered, other than changes in the tax law or rates.

Seasonality

Our business is highly seasonal, reflecting the general pattern associated with the retail industry of peak sales and earnings during the holiday shopping season.
The secondary peak period for us is the gift-giving for Father's Day and graduations. A substantial portion of our total revenues and all or most of our net earnings occur in the fourth
quarter ending January 31. We generally experience lower revenues and earnings during the other quarters and, as is typical in the retail industry, have incurred and may continue to incur
losses in these quarters.

16

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Liquidity and Capital Resources

We met our short-term liquidity needs and our capital requirements during fiscal 2002 with cash generated by operations, borrowings under our credit
facility and existing cash balances.

Net
cash provided by operating activities totaled $37.0 million for fiscal 2002, as compared to $9.2 million for fiscal 2001. The improvement in net cash provided by
operating activities of $27.8 million is due primarily to the increase in the net earnings, the timing of vendor and tax payments and the increase in depreciation and amortization expense. The
improvement was partially offset by increased merchandise inventory levels required as a result of the 20 new stores opened during fiscal 2002. The improvement was also partially offset by the
increase in accounts receivable balances due to the increases in our corporate incentive and installment plan sales and timing of collection from our third party credit card processor.

Net
cash used in investing activities, primarily capital expenditures for new stores, technological enhancements, and tooling costs for Sharper Image Design products totaled
$23.2 million in fiscal 2002 compared to $20.3 million in fiscal 2001. In fiscal 2002, we opened 20 new stores and closed two stores at lease maturity.

Net
cash provided by financing activities totaled $1.4 million during fiscal 2002, which was the result of $3.6 million in proceeds from the issuance of common stock in
connection with our stock option plan and $19.0 million borrowed under our credit facility, partially offset by $2.2 million related to the payoff of our mortgage loan and the
$19.0 million repayment on our credit facility.

The
table below presents our significant commercial credit facilities and their associated expiration dates:

Maximum Amount of Commitment Expiration Per Period

Less than
1 Year

1-3
Years

Total
Amount
Committed($ in millions)Revolving Credit Facility Oct. 1Dec. 31*



$
33.0

$
33.0Term Loans for Capital Expenditures




2.0


2.0Total Commercial Commitment



$
35.0

$
35.0


---

We
have a credit facility with an expiration date of September 2004. The credit facility allows us revolving borrowings and letters of credit up to a maximum of $33 million
for the period from October 1 through December 31 and $20 million for other times of the year, in each case based on inventory levels. The credit facility is secured by our
inventory, accounts receivable, general intangibles and certain other assets. Borrowings under this facility bear interest at either the prime rate plus a margin of 0% to 0.5% or at LIBOR plus a
margin of 1.5% to 2.25%, which margins are based on our financial performance. The credit facility limited our capital expenditures to $24.0 million for fiscal 2002, with the ability to carry
forward half of any unused portion to the following year and requires us to maintain an interest coverage ratio of not less than 2.5. The credit facility also contains certain financial covenants
pertaining to net worth and contains limitations on operating leases, other borrowings, dividend payments and stock repurchases. The highest amount of direct borrowing under the revolving loan credit
facility during fiscal 2002 was $8.9 million, which was repaid by November 25, 2002. At January 31, 2003, we had no amounts outstanding under our credit facility and letter of
credit commitments outstanding under the credit facility were $2.1 million.

17

---

In
addition, the credit facility provides for term loans up to $2.0 million for capital expenditures. Amounts borrowed under the term loans bear interest at either the prime rate
plus a margin of 0.5% to 1.0% or at LIBOR plus a margin of 2.5% to 3.0%, which margins are based on our financial performance. Each term loan is to be repaid in 36 equal monthly principal
installments. As of January 31, 2003, there were no outstanding term loans on this facility.

In
January 2003, we paid off the $2.2 million mortgage loan which was collateralized by our Little Rock, Arkansas, distribution center. This loan reflected a fixed interest
rate of 8.40%, provided for monthly payments of principal and interest in the amount of $29,367 and was scheduled to mature in January 2011.

The
table below presents our significant contractual cash obligations at the end of fiscal 2002.

Contractual Obligations

Less than
1 Year

1-3
Years

4-5
Years

After 5
Years

Total($ in millions)Revolving Credit FacilityLetters of Credit

$
2.1










$
2.1Operating Leases


27.2

$
48.1

$
35.3

$
63.1


173.7Total Contractual Cash Obligations

$
29.3

$
48.1

$
35.3

$
63.1

$
175.8


We
do not enter into any long-term purchase agreements with our vendors or third-party manufacturers.

For
fiscal 2003, we plan to continue our accelerated new store unit growth goal with a 15% to 20% increase target in the number of stores on an annual basis and to remodel five to 10 of
our existing store locations. We believe that our total capital expenditures for fiscal 2003 will be approximately $25 million to $30 million.

We
believe we will be able to fund our cash needs for fiscal 2003 and fiscal 2004 through existing cash balances, cash generated from operations and our credit facility.

New Accounting Pronouncements

In June 2001, the Financial Accounting Standards Board ("FASB") issued Statement of Financial Accounting Standards (SFAS) No. 142,
"Goodwill and Other Intangible Assets," which became effective for the Company on February 1, 2002. SFAS No. 142 specifies that goodwill
and certain intangible assets will no longer be amortized but instead will be subject to periodic impairment testing. The adoption of this standard did not have a material impact on the Company's
financial position or results of operations.

In
August 2001, the FASB issued SFAS No. 144 "Accounting for the Impairment or Disposal of Long-Lived Assets."
SFAS No. 144 establishes accounting and reporting standards for the impairment of long-lived assets and for long-lived assets to be disposed of. The Company adopted SFAS
No. 144 in the first quarter of fiscal 2002. The initial adoption of SFAS No. 144 did not have a significant impact on the Company's reporting for impairment or disposals of
long-lived assets.

In
June 2002, the FASB issued SFAS No. 146, "Accounting for Costs Associated with Exit or Disposal Activities," which
addresses accounting for restructuring and similar costs. SFAS No. 146 supersedes previous accounting guidance, principally Emerging Issues Task Force Issue No. 94-3. The
Company has adopted the provisions of SFAS No. 146 for restructuring activities initiated after December 31, 2002. SFAS No. 146 requires that the liability for costs associated
with an exit or disposal activity be recognized when the liability is incurred. Under Issue 94-3, a liability for an exit cost was recognized at the date of the Company's commitment to an
exit plan. SFAS No. 146 also establishes

18

---

that the liability should initially be measured and recorded at fair value. Accordingly, SFAS No. 146 may affect the timing of recognizing future restructuring costs as well as the amounts
recognized.

In
December 2002, the FASB issued SFAS No. 148, "Accounting for Stock-Based CompensationTransition and
Disclosure." SFAS No. 148 amends SFAS No. 123, Accounting for Stock-Based Compensation, to provide alternative methods of transition for a voluntary change to the
fair value based method of accounting for stock-based employee compensation. In addition, SFAS No. 148 amends the disclosure requirements of SFAS No. 123 to require prominent disclosures
in both annual and interim financial statements about the method of accounting for stock-based employee compensation and the effect of the method used on reported results. The transition guidance and
annual disclosure provisions of SFAS No. 148 are effective for our fiscal year ended January 31, 2003. The interim disclosure provisions are effective for the first quarter of the fiscal
year ending January 31, 2004. We continue to account for stock-based compensation using the intrinsic value method in accordance with the provisions of APB Opinion No. 25,
"Accounting for Stock Issued to Employees," as allowed by SFAS No. 123. As a result, the adoption of SFAS No. 148 did not have any impact
on the Company's financial results.

In
November 2002, the FASB issued Interpretation ("FIN") No. 45, "Guarantor's Accounting and Disclosure Requirements for Guarantees, Including
Indirect Guarantees of Indebtedness of Others." FIN No. 45 elaborates on the disclosures to be made by a guarantor in its interim and annual financial statements about
obligations under certain guarantees that it has issued. It also requires that a guarantor recognize, at the inception of a guarantee, a liability for the fair value of the obligation undertaken in
issuing the guarantee. The disclosure requirements of FIN No. 45 are effective for interim and annual periods ending after December 15, 2002, and the initial recognition and measurement
requirements are effective prospectively for guarantees issued or modified after December 31, 2002. The initial adoption of FIN No. 45 did not have a material impact on the Company's
financial position or results of operations.

In
November 2002, the Emerging Issues Task Force ("EITF") reached a consensus regarding EITF Issue No. 02-16, "Accounting by a Customer
(including a Reseller) for Certain Consideration Received from a Vendor." Issue No. 02-16 addresses the timing of recognition and classification of
consideration received from vendors, including rebates and allowances. Issue No. 02-16 is effective for certain of our vendor rebates and allowances commencing in
November 2002 and others in January 2003. The adoption of Issue No. 02-16 did not have a material impact on our financial statements.

Critical Accounting Policies and Estimates

Our discussion and analysis of our financial condition and results of operations are based upon our financial statements, which have been prepared in accordance
with accounting principles generally accepted in the United States of America. The preparation of these financial statements requires us to make estimates and judgments that affect the reported
amounts of assets, liabilities, revenues and expenses and the related disclosures. Estimates and assumptions include, but are not limited to, the carrying value of inventory, fixed asset lives,
deferred cost recovery period, income taxes and contingencies and litigation. We base our estimates on analyses of which form the basis for making judgments about the carrying values of assets and
liabilities that are not readily apparent from other sources. Actual results may differ from these estimates under different assumptions or conditions.

We
believe that the following represent our more critical estimates and assumptions used in the preparation of our financial statements.

Revenue recognitionWe recognize revenue at the point of sale at our retail stores and at the time of customer receipt for our
catalog and direct marketing sales, including the Internet. We recognize revenue for sales made on a wholesale basis to resellers when the products are shipped, which is the time title passes to the
purchaser. We record estimated reductions to revenue for customer

19

---

returns based on our historical return rate. Revenues are recorded net of sale discounts and other rebates and incentives offered to customers. Deferred revenue represents merchandise certificates,
gift cards and rewards cards outstanding and merchandise still in the delivery process at the end of the fiscal period.

Merchandise inventoriesWe write down inventory for estimated obsolescence on unmarketable inventory equal to the difference
between the cost of inventory and the estimated market value based upon assumptions about future demand and market conditions. If actual market conditions are less favorable than those projected by
management, additional inventory write-downs may be required.

Allowance for doubtful accountsAccounts receivable include amounts due from credit card issuers, corporate marketing
incentive customers, wholesale customers, installment plan customers for purchases of a limited number of products, merchandise vendors and landlords from whom we expect to receive amounts due. We
record an allowance for credit losses based on estimates of customers' ability to pay. If the financial condition of our customers was to deteriorate, additional allowances may be required.

Store closure reservesWe record reserves for closed stores based on future lease commitments, anticipated future subleases of
properties and current risk-free interest rates. If interest rates or the real estate leasing markets change, additional reserves may be required.

Other
accounting estimates inherent in the preparation of our financial statements include depreciable lives of long-lived assets, long-lived asset impairment and
estimates associated with our evaluation of the recoverability of deferred tax assets as well as those used in the determination of liabilities related to litigation, product liability and taxation.
Various assumptions and other factors underlie the determination of these significant estimates. The process of determining significant estimates is fact specific and takes into account factors such
as historical experience, current and expected economic conditions and product mix. We constantly re-evaluate these significant factors and make adjustments where facts and circumstances
dictate. Historically, actual results have not significantly deviated from those determined using the estimates described above.

As
discussed in the notes to the financial statements, we are involved in litigation incidental to our business, the disposition of which is expected to have no material effect on our
financial position or
results of operations. It is possible, however, that future results of operations for any particular quarterly or annual period could be materially affected by changes in our assumptions related to
these proceedings. We accrue our best estimates of the probable cost for the resolution of legal claims. Such estimates are developed in consultation with outside counsel handling these matters and
are based upon a combination of litigation and settlement strategies. To the extent additional information arises or our strategies change, it is possible that our best estimates of our probable
liability in these matters may change.

Quantitative and qualitative disclosure about market risk

We are exposed to market risks, which include changes in interest rates and, to a lesser extent, foreign exchange rates. We do not engage in financial
transactions for trading or speculative purposes.

The
interest payable on our credit facility is based on variable interest rates and therefore affected by changes in market interest rates. If interest rates on existing variable rate
debt increased 0.425% (10% from the bank's reference rate) as of January 31, 2003, our results from operations and cash flows would not have been materially affected. In addition, we have fixed
and variable income investments consisting of cash equivalents and short-term investments, which are also affected by changes in market interest rates. We do not use derivative financial
instruments in our investment portfolio.

20

---

We
enter into a significant amount of purchase obligations outside of the United States, which are settled in U.S. dollars and, therefore, have only minimal exposure to foreign currency
exchange risks. We do not hedge against foreign currency risks and believe that foreign currency exchange risk is immaterial.

Uncertainties and risks

This discussion and analysis should be read in conjunction with our financial statements and notes included in this report. This discussion contains
forward-looking statements that are subject to risks and uncertainties that could cause actual results to differ materially from those set forth in these forward-looking statements. These risks and
uncertainties include, without limitation, risks of changing market conditions in the overall economy and the retail industry, consumer demand, the opening of new stores, actual advertising
expenditures by us, the success of our advertising and merchandising strategy, availability of products, and other factors detailed from time to time in our annual and other reports filed with the
Securities and Exchange Commission. Readers are cautioned not to place undue reliance on these forward-looking statements, which speak only as of the date of this report. We undertake no obligations
to publicly release any revisions to these forward-looking statements or reflect events or circumstances after the date of this report.

21

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Statements of Operations        Sharper Image Corporation

|                                                                                         |                                               | Fiscal Year Ended January 31, |        
|---------------------------------------------------------------------------------------- | --------------------------------------------- | ----------------------------- | -------
|
|
|
|Revenues:                                                                                |                                               |                               |        
|                                                                                         | Net sales                                     |                               | $      
|                                                                                         | Delivery                                      |                               |        
|                                                                                         | List rental and licensing                     |                               |        
|                                                                                         |                                               |                               |        
|                                                                                         |                                               |                               | 523,294
|                                                                                         |                                               |                               |        
|Costs and Expenses:                                                                      |                                               |                               |        
|                                                                                         | Cost of products                              |                               |        
|                                                                                         | Buying and occupancy                          |                               |        
|                                                                                         | Advertising                                   |                               |        
|                                                                                         | General, selling and administrative           |                               |        
|                                                                                         |                                               |                               |        
|                                                                                         |                                               |                               | 496,145
|                                                                                         |                                               |                               |        
|Other Income and Expense:                                                                |                                               |                               |        
|                                                                                         | Interest income                               |                               |        
|                                                                                         | Interest expense                              |                               |        
|                                                                                         | Other income                                  |                               |        
|                                                                                         | Other expense                                 |                               |        
|                                                                                         |                                               |                               |        
|                                                                                         |                                               |                               | (193   
|                                                                                         |                                               |                               |        
|Earnings before income tax expense and cumulative effect of accounting change            |                                               |                               | 26,956 
|Income tax expense                                                                       |                                               |                               | 11,049 
|                                                                                         |                                               |                               |        
|Earnings before cumulative effect of accounting change                                   |                                               |                               | 15,907 
|Cumulative effect of accounting change, net of tax                                       |                                               |                               |       
|                                                                                         |                                               |                               |        
|Net earnings                                                                             |                                               | $                             | 15,907 
|                                                                                         |                                               |                               |        
|Basic earnings per common equivalent share:                                              |                                               |                               |        
|                                                                                         | Before cumulative effect of accounting change |                               | $      
|                                                                                         | Cumulative effect of accounting change        |                               |        
|                                                                                         |                                               |                               |        
|                                                                                         | Basic earnings per common equivalent share    |                               | $      
|                                                                                         |                                               |                               |        
|Diluted earnings per common equivalent share:                                            |                                               |                               |        
|                                                                                         | Before cumulative effect of accounting change |                               | $      
|                                                                                         | Cumulative effect of accounting change        |                               |        
|                                                                                         |                                               |                               |        
|                                                                                         | Diluted earnings per common equivalent share  |                               | $      
|                                                                                         |                                               |                               |        
|Weighted average shares used in the computation of earnings per common equivalent share: |                                               |                               |        
|                                                                                         | Basic                                         |                               |        
|                                                                                         |                                               |                               |        
|                                                                                         | Diluted                                       |                               |        
|                                                                                         |                                               |                               |        

See
Notes to Financial Statements.

22

---



Balance Sheets        Sharper Image Corporation

|                                     |                                                                                | January 31,                                                                     
|------------------------------------ | ------------------------------------------------------------------------------ | --------------------------------------------------------------------------------
|
|
|
|
|Assets                              
|Current Assets:                      |                                                                                |                                                                                 
|                                     | Cash and equivalents                                                           |                                                                                 
|                                     | Accounts receivable, net of allowance for doubtful accounts of $967 and $1,082 |                                                                                 
|                                     | Merchandise inventories                                                        |                                                                                 
|                                     | Prepaid catalog costs                                                          |                                                                                 
|                                     | Prepaid expenses, deferred taxes and other                                     |                                                                                 
|                                     |                                                                                |                                                                                 
|Total Current Assets                 |                                                                                |                                                                                 
|Property and Equipment, Net          |                                                                                |                                                                                 
|Deferred Taxes and Other Assets      |                                                                                |                                                                                 
|                                     |                                                                                |                                                                                 
|                                     | Total Assets                                                                   |                                                                                 
|                                     |                                                                                |                                                                                 
|Liabilities and Stockholders' Equity
|Current Liabilities:                 |                                                                                |                                                                                 
|                                     | Accounts payable                                                               |                                                                                 
|                                     | Accrued expenses                                                               |                                                                                 
|                                     | Accrued compensation                                                           |                                                                                 
|                                     | Reserve for refunds                                                            |                                                                                 
|                                     | Deferred revenue                                                               |                                                                                 
|                                     | Income taxes payable                                                           |                                                                                 
|                                     | Current portion of notes payable                                               |                                                                                 
|                                     |                                                                                |                                                                                 
|Total Current Liabilities            |                                                                                |                                                                                 
|Notes Payable                        |                                                                                |                                                                                 
|Other Liabilities                    |                                                                                |                                                                                 
|Commitments and Contingencies        |                                                                                |                                                                                 
|                                     |                                                                                |                                                                                 
|Total Liabilities                    |                                                                                |                                                                                 
|                                     |                                                                                |                                                                                 
|Stockholders' Equity                 |                                                                                |                                                                                 
|                                     | Preferred stock, $0.01 par value:                                              |                                                                                 
|                                     |                                                                                | Authorized, 3,000,000 shares: Issued and outstanding, none                      
|                                     | Common stock, $0.01 par value:                                                 |                                                                                 
|                                     |                                                                                | Authorized, 25,000,000 shares: Issued and outstanding, 12,638,952 and 11,970,684
|                                     | Additional paid-in capital                                                     |                                                                                 
|                                     | Retained earnings                                                              |                                                                                 
|                                     |                                                                                |                                                                                 
|Total Stockholders' Equity           |                                                                                |                                                                                 
|                                     |                                                                                |                                                                                 
|                                     | Total Liabilities and Stockholders' Equity                                     |                                                                                 
|                                     |                                                                                |                                                                                 

See
Notes to Financial Statements.

23

---



Statements of Stockholders' Equity        Sharper Image Corporation

|                                                                                    |  | Common
Shares |   | Stock
Amount |     | Additional
Paid-in
Capital |   | Retained
Earnings |   | Total |       
|----------------------------------------------------------------------------------- |  | ------------- | - | ------------ | --- | -------------------------- | - | ----------------- | - | ----- | ------
|
|Balance at February 1, 2000                                                         |  | 12,016,827    |   | $            | 120 |                            | $ | 43,707            |   | $     | 33,296
|Issuance of common stock for stock options exercised (including income tax benefit) |  | 71,084        |   |              | 1   |                            |   | 659               |   |       |       
|Repurchase of common stock                                                          |  | (126,000      | ) |              | (1  | )                          |   | (1,669            | ) |       |       
|Net earnings (as restated, see note L)                                              |  |               |   |              |     |                            |   |                   |   |       | 16,978
|                                                                                    |  |               |   |              |     |                            |   |                   |   |       |       
|Balance at January 31, 2001(as restated, see note L)                                |  | 11,961,911    |   |              | 120 |                            |   | 42,697            |   |       | 50,274
|Issuance of common stock for stock options exercised (including income tax benefit) |  | 108,773       |   |              | 1   |                            |   | 872               |   |       |       
|Repurchase of common stock                                                          |  | (100,000      | ) |              | (1  | )                          |   | (987              | ) |       |       
|Net earnings (as restated, see note L)                                              |  |               |   |              |     |                            |   |                   |   |       | 1,127 
|                                                                                    |  |               |   |              |     |                            |   |                   |   |       |       
|Balance at January 31, 2002(as restated, see note L)                                |  | 11,970,684    |   |              | 120 |                            |   | 42,582            |   |       | 51,401
|Issuance of common stock for stock options exercised (including income tax benefit) |  | 668,268       |   |              | 6   |                            |   | 7,368             |   |       |       
|Net earnings                                                                        |  |               |   |              |     |                            |   |                   |   |       | 15,907
|                                                                                    |  |               |   |              |     |                            |   |                   |   |       |       
|Balance at January 31, 2003                                                         |  | 12,638,952    |   | $            | 126 |                            | $ | 49,950            |   | $     | 67,308
|                                                                                    |  |               |   |              |     |                            |   |                   |   |       |       

See
Notes to Financial Statements.

24

---



Statements of Cash Flows        Sharper Image Corporation

|                                                      |                                                                                        | Fiscal Year Ended January 31,                              |        
|----------------------------------------------------- | -------------------------------------------------------------------------------------- | ---------------------------------------------------------- | -------
|
|
|
|
|Cash was Provided by (Used for) Operating Activities: |                                                                                        |                                                            |        
|                                                      | Net earnings                                                                           |                                                            | $      
|                                                      | Adjustments to reconcile net earnings to net cash provided by operating activities:    |                                                            |        
|                                                      |                                                                                        | Depreciation and amortization                              |        
|                                                      |                                                                                        | Tax benefit from stock option exercises                    |        
|                                                      |                                                                                        | Deferred rent expenses and landlord allowances             |        
|                                                      |                                                                                        | Deferred income taxes                                      |        
|                                                      |                                                                                        | Loss on sale or disposal of equipment                      |        
|                                                      | Change in operating assets and liabilities:                                            |                                                            |        
|                                                      |                                                                                        | Accounts receivable                                        |        
|                                                      |                                                                                        | Merchandise inventories                                    |        
|                                                      |                                                                                        | Prepaid catalog costs, prepaid expenses and other          |        
|                                                      |                                                                                        | Accounts payable, accrued expenses and reserve for refunds |        
|                                                      |                                                                                        | Deferred revenue and other liabilities                     |        
|                                                      |                                                                                        |                                                            |        
|Cash Provided by Operating Activities                 |                                                                                        |                                                            | 36,981 
|                                                      |                                                                                        |                                                            |        
|Cash was Provided by (Used for) Investing Activities: |                                                                                        |                                                            |        
|                                                      | Property and equipment expenditures                                                    |                                                            |        
|                                                      | Proceeds from sale of equipment                                                        |                                                            |        
|                                                      |                                                                                        |                                                            |        
|Cash Used for Investing Activities                    |                                                                                        |                                                            | (23,199
|                                                      |                                                                                        |                                                            |        
|Cash was Provided by (Used for) Financing Activities: |                                                                                        |                                                            |        
|                                                      | Proceeds from issuance of common stock, including warrants and stock options exercised |                                                            |        
|                                                      | Repurchase of common stock                                                             |                                                            |        
|                                                      | Proceeds from notes payable and revolving credit facility                              |                                                            |        
|                                                      | Principal payments on notes payable and revolving credit facility                      |                                                            |        
|                                                      |                                                                                        |                                                            |        
|Cash Provided by (Used for) Financing Activities      |                                                                                        |                                                            | 1,434  
|                                                      |                                                                                        |                                                            |        
|Net Increase (Decrease) in Cash and Equivalents       |                                                                                        |                                                            | 15,216 
|Cash and Equivalents at Beginning of Period           |                                                                                        |                                                            | 40,417 
|                                                      |                                                                                        |                                                            |        
|Cash and Equivalents at End of Period                 |                                                                                        | $                                                          | 55,633 
|                                                      |                                                                                        |                                                            |        
|Supplemental Disclosure of Cash Paid for:             |                                                                                        |                                                            |        
|                                                      | Interest expense                                                                       |                                                            | $      
|                                                      | Income taxes                                                                           |                                                            | $      

See
Notes to Financial Statements.

25

---



Notes to Financial Statements        Sharper Image Corporation

Fiscal Years Ended January 31, 2003, 2002 and 2001

Note ASummary of Significant Accounting Policies

Sharper Image Corporation (the "Company") is a leading specialty retailer that introduces and sells quality, innovative and entertaining products. These products
are sold through its retail stores, catalogs (which includes other sources of direct marketing such as single product mailers, television infomercials, radio and newspapers), and over the Internet.
The Company also markets to other businesses through its corporate sales and wholesale operations.

Accounting 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. The Company's significant accounting
judgments and estimates include depreciable lives of long-lived assets, long-lived asset impairment, reserves on inventory and sales return reserve.

Revenue Recognition:The Company recognizes revenue at the point of sale at its retail stores and at the time of customer
receipt for its catalog and direct marketing sales, including the Internet. The Company recognizes revenue for sales made on a wholesale basis to resellers when the products are shipped, which is the
time title passes to the purchaser. The Company records estimated reductions to
revenue for customer returns based upon historical return rates. Revenues are recorded net of sale discounts and other rebates and incentives offered to customers. Sales returns and allowances totaled
$68.2 million, $51.9 million and $44.3 million for the fiscal years ended January 31, 2003, 2002 and 2001, respectively. Deferred revenue represents merchandise
certificates, gift cards and rewards cards outstanding and merchandise that is still in the delivery process at the end of the fiscal period.

Cost of Products:Cost of products includes total cost of products sold, inventory shrink, letter of credit fees, inventory
write-downs, inbound freight costs, costs to refurbish products for resale, inspection costs, cost of customer accommodations and promotions and costs to deliver product to customers.

Buying and Occupancy:Buying and occupancy includes salaries for the Company's merchandise buyers, occupancy costs for all
store locations and distribution facilities including rent, utilities, real estate taxes, common area maintenance, repairs and maintenance, depreciation on leasehold improvements and fixtures,
janitorial services and waste removal.

Advertising Costs:Advertising costs are expensed as incurred and amounted to $60.0 million, $35.3 million and
$25.4 million for the fiscal years ended January 31, 2003, 2002 and 2001, respectively.

General, Selling and Administrative:General, selling and administrative includes all costs related to sales associates,
including payroll and benefits, all corporate personnel cost, including payroll and benefits, supplies, store signs, credit card fees, third party fees including telemarketing expenses, Internet
hosting charges, telephone related to the corporate offices, toll free phone numbers for catalog and other direct marketing orders, freight charges related to delivery of product from distribution
centers to stores and between distribution centers, purchasing and receiving costs, warehouse costs, corporate insurance, depreciation on corporate assets such as computers and distribution center
facilities, bad debt expense, check guarantee fees and professional fees. General, selling and administrative also includes costs related to internal distribution of products, including freight
charges related to delivery of products from distribution centers to stores and between distribution centers,

26

---

purchasing and receiving costs, warehouse costs and depreciation on distribution center facilities. Internal distribution costs totaled $17.3 million, $13.3 million and $15.
3 million for the fiscal years ended January 31, 2003, 2002 and 2001, respectively.

Start-Up Activities:All start-up and preopening costs are expensed as incurred.

Prepaid Catalog Costs:Prepaid catalog costs represent amounts paid for postage and paper inventory to be used in the
production and distribution of the Company's catalogs.

Fair Value of Financial Instruments:The carrying value of cash, accounts receivable, accounts payable and notes payable
approximates their estimated fair value.

Effects of Inflation:The effects of inflation are not material to the Company's financial position and results of
operations.

Cash and Equivalents:Cash and equivalents represent cash and short-term, highly liquid investments with original
maturities of three months or less.

Accounts Receivable:Accounts receivable represent amounts due from credit card issuers, corporate marketing incentive
customers, wholesale customers, installment plan customers for purchases of a limited number of products, merchandise vendors, and landlords from whom the Company expects to receive amounts due.
Receivables from banks related to debit and credit cards are shown in accounts receivable and totaled $2.8 million and $1.4 million at January 31, 2003, and 2002, respectively.
The Company records an allowance for credit losses based on estimates of customers' ability to pay. If the financial condition of the Company's customers were to deteriorate, additonal allowances may
be required.

Merchandise Inventories:Merchandise inventories are stated at lower of cost (first-in, first-out
method) or market. The Company provides a reserve for estimated obsolescence or unmarketable inventory equal to difference between the cost of inventory and the estimated market value based upon
assumptions about future demand and market conditions.

Property and Equipment:Property and equipment are stated at cost, net of accumulated depreciation. Depreciation is computed
using the straight-line method over the estimated useful lives of the various assets which range from three to 10 years for office furniture and equipment and transportation
equipment, and 40 years for buildings. Leasehold improvements are amortized using the straight-line method over the lesser of their estimated useful lives or the term of the
applicable leases, which range from seven to 18 years.

The
Company designs and produces its own proprietary products for sale. External costs incurred for tooling, dies, patents and trademarks are capitalized and amortized over the estimated
life of these products, which is generally two years. At January 31, 2003, and 2002, capitalized costs included in furniture, fixtures and equipment, net of related amortization, were
$2.8 million and $2.6 million, respectively.

Costs
incurred in the development of the Internet Web site and enhancements to the Company's information infrastructure are capitalized once the preliminary project stage is completed,
management authorizes and commits to funding a computer software project, and it is probable that the project will be completed and the software will be used to perform the function intended. At
January 31, 2003, and
2002, capitalized costs included in furniture, fixtures and equipment and other capitalized costs, net of related amortization, were $5.3 million and $5.6 million, respectively. Costs
incurred for training and ongoing maintenance are expensed as incurred.

The
Company reviews its long-lived assets, including identifiable intangible assets, whenever events or changes indicate the carrying amount of such assets may not be
recoverable. The Company's policy

27

---

is to review the recoverability of all assets, at a minimum, on an annual basis. Based on the Company's review at January 31, 2003, and 2002, no material adjustments were made to
long-lived assets.

Income Taxes:Income taxes are accounted for using an asset and liability approach that requires the recognition of deferred
tax assets and liabilities for the expected future tax consequences of events then known to management that have been recognized in the Company's financial statements or tax returns. In estimating
future tax consequences, all expected future events then known to management are considered other than changes in the tax law or rates.

Store Closure Reserves:Prior to January 1, 2003, the Company recorded the estimated costs associated with closing a
store during the period in which the store was identified and approved by management under a plan of termination, which included the method of disposition and the expected date of completion. These
costs include direct costs to terminate a lease, lease rental payments net of expected sublease income, and the difference between the carrying values and estimated recoverable values of
long-lived tangible and intangible assets. Severance and other employee-related costs were recorded in the period in which the closure and related severance packages were communicated to
the affected employees.

Effective
with the adoption of SFAS No. 146, "Accounting for Costs Associated with Exit or Disposal Activities," on
January 1, 2003 (see "New Accounting Pronouncements"), the Company recognizes a liability for costs associated with closing a store when the liability is incurred. The present value of expected
future lease costs and other closure costs is recorded when the store is closed. Severance and other employee-related costs are recorded in the period in which the closure and related severance
packages are communicated to the affected employees. Accretion of the discounted present value of expected future costs is recorded in operations. Store closure reserves are reviewed and adjusted
periodically based on changes in estimates.

Accounts Payable:Accounts payable represents amounts owed to third parties at the end of the period.

Deferred Rent:When a lease requires fixed escalations of the minimum lease payments, rental expense is recorded on a
straight-line basis and the difference between the average rental amount charged to expense and the amount payable under the lease is recorded as deferred rent. At January 31, 2003,
and
2002, the balance of deferred rent was $3.6 million and $3.1 million, respectively, and is included in Other Liabilities.

Stock-Based Compensation:The Company has one stock-based employee compensation plan, as described in Note G. The
Company accounts for stock-based employee compensation using the intrinsic value method in accordance with the provisions of APB Opinion No. 25, "Accounting for Stock
Issued to Employees." No compensation expense is recognized for employee stock options, because it is the Company's practice to grant stock options with an exercise price equal
to the market price of the underlying common stock on the date of grant. The following table illustrates the effect on net income

28

---

and earnings per share if the Company had applied the fair value recognition provisions of SFAS No. 123, "Accounting for Stock-Based
Compensation," to all stock-based employee compensation:

Fiscal Year Ended January 31,2003

2002

2001(Fiscal 2002)

(Fiscal 2001)

(Fiscal 2000)Dollars in thousands, except per share amountsNet earnings, as reported

$
15,907

$
1,127

$
16,978Deduct: Total stock-based employee compensation expense determined under fair value based method for all awards, net of related tax effects


1,685


1,199


1,188Pro forma net earnings (loss)

$
14,222

$
(72
)
$
15,790Basic net earnings (loss) per share:As reported

$
1.29

$
0.09

$
1.41Pro forma

$
1.15

$
(0.01
)
$
1.31Diluted net earnings (loss) per share:As reported

$
1.21

$
0.09

$
1.34Pro forma

$
1.08

$
(0.01
)
$
1.25


The
Company estimates the fair value of stock option grants using the Black-Scholes option pricing model, with the following weighted average assumptions:

Fiscal Year Ended January 31,2003

2002

2001(Fiscal 2002)

(Fiscal 2001)

(Fiscal 2000)Dividend yield





Expected volatility

59
%
37
%
66
%Risk-free interest rate

1.81
%
4.09
%
6.24
%Expected life (years)

5

5

5


Earnings Per Share:Basic earnings per share is computed by dividing net earnings by the weighted average number of common
shares outstanding during the period. Diluted earnings per share is computed by dividing net earnings by the weighted average number of common shares and dilutive common equivalent shares (stock
options) outstanding during the period. The following is a reconciliation of the number of shares used in the Company's basic and diluted earnings per share computations:

Fiscal Year January 31,2003

2002

2001(Fiscal 2002)

(Fiscal 2001)

(Fiscal 2000)Basic weighted average number of shares outstanding

12,327,157

11,904,562

12,036,569Application of treasury stock method on stock options outstanding:Assumed options exercised due to exercise price being less than average market price net of assumed stock repurchases

854,893

398,290

622,696Diluted weighted average number of shares outstanding

13,182,050

12,302,852

12,659,265


29

---

The
computations of diluted earnings per share in fiscal 2002, 2001 and 2000 exclude options to purchase 51,850, 303,500 and 54,600 common shares, respectively, because their exercise
price exceeded the average market price for the period and thus their effect would have been anti-dilutive.

Comprehensive Income:Comprehensive income consists of net earnings or loss for the current period and other comprehensive
income (income, expenses, gains and losses that currently bypass the income statement and are reported directly as a separate component of equity). Comprehensive income does not differ from net
earnings for the Company for the years ended January 31, 2003, 2002 and 2001.

New Accounting Pronouncements:In June 2001, the Financial Accounting Standards Board ("FASB") issued Statement of
Accounting Standards ("SFAS") No. 142, "Goodwill and Other Intangible Assets," which became effective for the Company on February 1, 2002.
SFAS No. 142 specifies that goodwill and certain intangible assets will no longer be amortized but instead will be subject to periodic impairment testing. The adoption of this standard did not
have a material impact on the Company's financial position or results of operations.

In
August 2001, the FASB issued SFAS No. 144 "Accounting for the Impairment or Disposal of Long-Lived Assets."
SFAS No. 144 establishes accounting and reporting standards for the impairment of long-lived assets and for long-lived assets to be disposed of. The Company adopted SFAS
No. 144 in the first quarter of fiscal 2002. The initial adoption of SFAS No. 144 did not have a significant impact on the Company's reporting for impairment or disposals of
long-lived assets.

In
June 2002, the FASB issued SFAS No. 146, "Accounting for Costs Associated with Exit or Disposal Activities," which
addresses accounting for restructuring and similar costs. SFAS No. 146 supersedes previous accounting guidance, principally Emerging Issues Task Force Issue No. 94-3. The
Company has adopted the provisions of SFAS No. 146 for restructuring activities initiated after December 31, 2002. SFAS No. 146 requires that the liability for costs associated
with an exit or disposal activity be recognized when the liability is incurred. Under Issue 94-3, a liability for an exit cost was recognized at the date of the Company's commitment to an
exit plan. SFAS No. 146 also establishes that the liability should initially be measured and recorded at fair value. Accordingly, SFAS No. 146 may affect the timing of recognizing future
restructuring costs as well as the amounts recognized.

In
December 2002, the FASB issued SFAS No. 148, "Accounting for Stock-Based CompensationTransition and
Disclosure." SFAS No. 148 amends SFAS No. 123,Accounting for Stock-Based Compensation, to provide alternative
methods of transition for a voluntary change to the fair value based method of accounting for stock-based employee compensation. In addition, SFAS No. 148 amends the disclosure requirements of
SFAS No. 123 to require prominent disclosures in both annual and interim financial statements about the method of accounting for stock-based employee compensation and the effect of the method
used on reported results. The transition guidance and annual disclosure provisions of SFAS No. 148 are effective for our fiscal year ended January 31, 2003. The interim disclosure
provisions are effective for the first quarter of the fiscal year ending January 31, 2004. We continue to account for stock-based compensation using the intrinsic value method in accordance
with the provisions of APB Opinion No. 25, "Accounting for Stock Issued to Employees," as allowed by SFAS No. 123. As a result, the
adoption of SFAS No. 148 did not have any impact on the Company's financial results.

In
November 2002, the FASB issued Interpretation ("FIN") No. 45,Guarantor's Accounting and Disclosure Requirements for Guarantees, Including
Indirect Guarantees of Indebtedness of Others.FIN No. 45 elaborates on the disclosures to be made by a guarantor in its interim and annual financial statements about
obligations under certain guarantees that it has issued. It also requires that a guarantor recognize, at the inception of a guarantee, a liability for the fair value of the obligation undertaken in
issuing the guarantee. The disclosure requirements of FIN No. 45 are effective for interim and annual periods ending after December 15, 2002, and the initial recognition and

30

---

measurement requirements are effective prospectively for guarantees issued or modified after December 31, 2002. The initial adoption of FIN No. 45 did not have a material impact on the
Company's financial position or results of operations.

In
November 2002, the Emerging Issues Task Force ("EITF") reached a consensus regarding EITF Issue No. 02-16, "Accounting by a Customer
(including a Reseller) for Certain Consideration Received from a Vendor." Issue No. 02-16 addresses the timing of recognition and classification of
consideration received from vendors, including rebates and allowances. Issue No. 02-16 is effective for certain of our vendor rebates and allowances commencing in
November 2002 and others in January 2003. The adoption of Issue No. 02-16 did not have a material impact on our financial statements.

Concentrations:The Company obtained approximately 24% and 16% of its purchases from a single supplier in the fiscal years
ended January 31, 2003, and 2002.

Reclassification:Certain reclassifications have been made to prior years' financial statements in order to conform with the
classifications of the January 31, 2003, financial statements.

Note BProperty and Equipment

Property and equipment is summarized as follows:

January 31,2003

2002Dollars in thousandsLeasehold improvements

$
33,032

$
28,645Furniture, fixtures and equipment and other capitiliized costs


86,240


71,435Land


53


53Building


2,874


2,874122,199


103,007Less accumulated depreciation and amortization


70,034


58,491$
52,165

$
44,516


Note COther Assets

The Company has an agreement under which it will advance the premiums on a split-dollar life insurance policy for its Founder, Chairman and Chief Executive
Officer. The Company has an interest in the insurance benefits equal to the amount of the premiums advanced. No premiums are expected to be advanced in the future. As of January 31, 2003, and
2002, $2.1 million and $1.9 million, respectively, are recorded as other long-term assets.

31

---

Note DRevolving Loan and Notes Payable

The Company has a revolving secured credit facility with The CIT Group/Business Credit Inc. (CIT) (formerly Tyco Capital) with an expiration date of
September 2004. The credit facility allows the Company borrowings and letters of credit to a maximum of $33 million for the period October 1 through December 31 and up to
$20 million for other times of the year based on inventory levels. The credit facility is secured by the Company's inventory, accounts receivable, general intangibles and certain other assets.
Borrowings under this facility bear interest at either the prime rate plus a margin of 0%-0.5% or at LIBOR plus a margin of 1.5%-2.25% based on the Company's financial
performance. The credit facility contains certain financial covenants pertaining to interest coverage ratio and net worth and contains limitations on operating leases, other borrowings, dividend
payments and stock repurchases.

The
highest amount of direct borrowing under the revolving loan credit facility during fiscal 2002 and 2001 was $8.9 million and $15.6 million, respectively. At
January 31, 2003, and 2002, the Company had no amounts outstanding on its revolving credit facility. Letter of credit commitments outstanding under the credit facility at January 31,
2003, and 2002 were $2.1 million and $4.5 million, respectively. The weighted average interest rate incurred on the revolving secured credit facility was 4.75% and 5.5% for fiscal 2002
and 2001, respectively.

In
addition, the revolving secured credit facility provides for term loans for capital expenditures ("Term Loans") up to $2.0 million. Amounts borrowed under the Term Loans bear
interest at a variable rate of either prime rate plus a margin of 0.5%-1.0% or at LIBOR plus a margin of 2.5%-3.0% based on the Company's financial performance. Each Term Loan
is to be repaid in 36 equal monthly principal installments. As of January 31, 2003 and 2002, there were no outstanding Term Loans on this facility.

At
January 31, 2002, notes payable included a mortgage loan collateralized by the Company's distribution center. This note bore interest at a fixed rate of 8.40%, provided for
monthly payments of principal and interest in the amount of $29,367, and was scheduled to mature in January 2011. As of January 31, 2003, the Company paid the remaining balance of this
note.

Note EIncome Taxes

Fiscal Year Ended January 31,2003

2002

2001(Fiscal 2002)

(Fiscal 2001)

(Fiscal 2000)Dollars in thousandsCurrent:Federal

$
11,422

$
746

$
8,797State


1,958


128


1,50813,380


874


10,305Deferred:Federal


(1,990
)

(105
)

1,017State


(341
)

(18
)

174(2,331
)

(123
)

1,191$
11,049

$
751

$
11,496


32

---

The
difference between the effective income tax rate and the United States federal income tax rate is summarized as follows:

Fiscal Year Ended January 31,2003

2002

2001(Fiscal 2002)

(Fiscal 2001)

(Fiscal 2000)Dollars in thousandsFederal tax rate

35.0
%
35.0
%
35.0
%State income tax, less federal benefit

6.0

6.0

6.0Other



(1.0
)
(1.0
)Effective tax rate

41.0
%
40.0
%
40.0
%


Deferred
taxes result from differences in the recognition of expense for income tax and financial reporting purposes. The principal components of deferred tax assets (liabilities) are as
follows:

January 31,2003

2002Dollars in thousandsCurrent:Nondeductible reserves

$
11,973

$
7,027Deferred catalog costs


(1,131
)

(1,465
)State taxes


(2,265
)

(1,612
)Currentnet


8,577


3,950Noncurrent:Deferred rent


1,432


1,245Depreciation


3,135


3,173Deductible software costs


(4,314
)

(2,671
)Othernet


(967
)

(165
)Noncurrentnet


(714
)

1,582Total

$
7,863

$
5,532


As
of January 31, 2003, and 2002, deferred tax assets were $16.5 million and $11.4 million, respectively, and total deferred tax liabilities were $8.7 million
and $5.9 million, respectively.

Note FLeases

The Company leases retail facilities, offices and equipment under operating leases for terms expiring at various dates through 2017. Under the terms of certain of
the leases, rents are adjusted annually for changes in the consumer price index and increases in property taxes. The aggregate minimum annual lease payments under leases in effect at
January 31, 2003, are as follows:

Fiscal year ending January 31,Dollars in thousands2004

$
27,2152005


24,8902006


23,2292007


18,4852008


16,731Later years


63,144Total minimum lease commitments

$
173,694


33

---

Many
of the Company's leases contain predetermined fixed escalations of the minimum rentals during the initial term. For these leases, the Company has recognized the related rental
expense on a straight-line basis and has recorded the difference between the expense charged to income and amounts payable under the leases as deferred rent, which is included in Other
Liabilities. Total minimum rent to be received by the Company from noncancelable sublease agreements through 2005 is approximately $408,800 as of January 31, 2003, which has not been netted
against the above amounts.

Some
store leases contain renewal options for periods ranging up to five years. Most leases also provide for payment of operating expenses, real estate taxes and for additional rent
based on a percentage of sales.

Rental
expense for all operating leases was as follows:

Fiscal Year Ended January 31,2003

2002

2001(Fiscal 2002)

(Fiscal 2001)

(Fiscal 2000)Dollars in thousandsMinimum rentals

$
25,999

$
22,941

$
18,124Percentage rentals and other charges


10,448


8,436


7,300$
36,447

$
31,377

$
25,424


Note GStockholders' Equity

In December 2000, the Board of Directors approved a stock repurchase program, which authorizes the Company to repurchase up to 800,000 shares at a per share price
of $20.00 or below. The program expired January 31, 2002. Through January 31, 2002, a total of 206,000 shares were repurchased under this stock repurchase program at an average price of
$11.48.

During
fiscal 2000, the Company adopted the 2000 Stock Incentive Plan. The Stock Incentive Plan combines the 1985 Stock Option Plan, as amended, and the 1994 Non-Employee
Director Stock Option Plan, as amended, into a single comprehensive equity incentive plan. The 2000 Stock Incentive Plan is divided into four separate equity incentive programs and will allow the
issuance of non-qualified options to key employees, non-employee Board members and consultants up to an initial aggregate of 3,147,107 shares. An automatic increase of shares
available for issuance will occur on the first trading day of each fiscal year, beginning with fiscal 2001, by an amount equal to 3% of the total number of shares of common stock outstanding on the
last trading day of the immediately preceding fiscal year. In no event will the annual increase exceed 500,000 shares.

Options
issued to key employees and consultants will generally vest over a four- to six-year period from the date of the grant and are priced at 100% of the fair
market value at the date of the grant. Options issued to non-employee Board members will be immediately exercisable, vest over one year of board service from the date of the grant and are
priced at 100% of the fair market value at the date of the grant. Options generally expire 10 years from the date of grant. Any shares purchased under the option plan will be subject to
repurchase by the Company at the exercise price paid per share, upon the optionee's cessation of Board service prior to vesting.

34

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The
following table reflects the activity under these plans:

Number of
Options

Weighted
Average
Exercise PriceBalance at February 1, 2000

2,105,988

$
6.96Granted (weighted average fair value of $8.63)

128,600


13.82Exercised

(71,084
)

4.36Cancelled

(20,617
)

6.77Balance at January 31, 2001

2,142,887

$
7.46Granted (weighted average fair value of $3.13)

800,350


7.96Exercised

(86,655
)

5.00Cancelled

(82,619
)

8.36Balance at January 31, 2002

2,773,963

$
7.65Granted (weighted average fair value of $7.60)

687,650


14.41Exercised

(665,801
)

5.42Cancelled

(100,441
)

10.33Balance at January 31, 2003

2,695,371

$
9.83Exercisable at January 31, 2001

982,430

$
6.07Exercisable at January 31, 2002

1,397,869

$
6.79Exercisable at January 31, 2003

1,272,707

$
9.10


Options Outstanding

Options ExercisableRange of Exercise Prices

Number of
Options
Outstanding

Weighted Average
Remaining Contractual
Life (Years)

Weighted
Average
Exercise Price

Number of
Options
Exercisable

Weighted
Average
Exercise Price$  1.16 - $  1.99

500

1.0

$
1.88

500

$
1.882.00 -     3.99

227,964

5.7


3.79

227,130


3.794.00 -     7.99

377,467

8.7


6.73

115,907


6.338.00 -   11.99

1,547,790

7.9


9.48

745,670


9.3912.00 -   23.99

541,650

9.7


15.53

183,500


16.31$  1.16 - $23.99

2,695,371

8.2

$
9.83

1,272,707

$
9.10


Note H401(k) Savings Plan

The Company maintains a defined contribution, 401(k) Savings Plan, covering all employees who have completed one year of service with at least 1,000 hours
and who are at least 21 years of age. The Company makes employer matching contributions at its discretion. Company contributions amounted to $176,000, $172,000, and $196,000 for the fiscal
years ended January 31, 2003, 2002 and 2001, respectively.

Note ICommitments and Contingencies

The Company is party to various legal proceedings arising from normal business activities. Management believes that the resolution of these matters will not have
a material adverse effect on the Company's financial position or results of operations.

In
October 2002 the Company entered into an employment agreement and a Supplemental Executive Retirement Plan ("SERP") with its Chief Executive Officer. The employment agreement
provides for certain severence payments in the event of termination. Under the terms of the SERP, the

35

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Company is obligated to pay its CEO an annual retirement payment of $500,000 (subject to certain inflationary increases), which may be paid either in the form of an annuity or a lump sum payment at
retirement, and to provide continued health benefits for the remainder of his life. The benefits under the SERP vest over the years and become fully vested upon a change in control.

Note JSegment Information

The Company classifies its business interests into three reportable segments: retail stores, catalog and direct marketing, and the Internet. The accounting
policies of the segments are the same as those described in the summary of significant accounting policies (Note A). The Company evaluates performance and allocates resources based on operating
contribution, which excludes unallocated corporate general and administrative costs and income taxes. The Company's reportable segments are strategic business units that offer the same products and
utilize common merchandising, distribution and marketing functions, as well as common information systems and corporate administration. The Company does not have intersegment sales, but the segments
are managed separately because each segment has different channels for selling the products.

Financial
information for the Company's business segments is as follows:

Fiscal Year Ended January 31,2003

2002

2001(Fiscal 2002)

(Fiscal 2001)

(Fiscal 2000)Dollars in thousandsRevenuesStores

$
296,068

$
232,146

$
249,449Catalog and Direct Marketing


124,671


90,376


86,579Internet


69,981


49,828


60,044Other


32,574


23,870


24,651Total Revenues

$
523,294

$
396,220

$
420,723Operating ContributionsStores

$
38,923

$
24,056

$
39,998Catalog and Direct Marketing


19,628


7,610


14,745Internet


12,031


8,833


7,460Unallocated


(43,626
)

(38,621
)

(33,464
)Earnings before income tax expense and cumulative effect of accounting change

$
26,956

$
1,878

$
28,739Depreciation and AmortizationStores

$
6,224

$
4,782

$
3,717Catalog and Direct Marketing








Internet


3,884


1,845


449Unallocated


5,348


4,933


3,464Total Depreciation and Amortization

$
15,456

$
11,560

$
7,630Capital Asset ExpendituresStores

$
13,983

$
12,296

$
6,333Catalog and Direct Marketing








Internet


2,400


2,134


3,550Unallocated


6,816


5,854


9,432Total Capital Asset Expenditures

$
23,199

$
20,284

$
19,315AssetsStores

$
35,281

$
27,613

$
20,745Catalog and Direct Marketing








Internet


3,330


4,825


4,418Unallocated(1)


175,816


130,084


154,160Total Assets

$
214,427

$
162,522

$
179,323


---

36

---

Note KQuarterly Financial Information (Unaudited)

The Company's unaudited results for the first three quarterly periods of fiscal 2002 and each of the quarterly periods in fiscal 2001 have been restated. See the
related discussion in Note L.

|                                                    |                                        | Three Months Ended |       
|--------------------------------------------------- | -------------------------------------- | ------------------ | ------
|
|
|
|Revenues                                            |                                        | $                  | 92,836
|Expenses                                            |                                        |                    |       
|                                                    | Cost of products                       |                    |       
|                                                    | Buying and occupancy(3)                |                    |       
|                                                    | Advertising                            |                    |       
|                                                    | General, selling and administrative(3) |                    |       
|Other income (expense)                              |                                        |                    | 84    
|Earnings (loss) before income tax expense (benefit) |                                        |                    | (440  
|Income tax expense (benefit)                        |                                        |                    | (180  
|Net earnings (loss)                                 |                                        | $                  | (260  
|Net earnings (loss) per share
    Basic(1)         |                                        | $                  | (0.02 
|                                                    | Diluted(2)                             |                    | $     

|                                                    |                                        | Three Months Ended |        
|--------------------------------------------------- | -------------------------------------- | ------------------ | -------
|
|
|
|Revenues                                            |                                        | $                  | 106,109
|Expenses                                            |                                        |                    |        
|                                                    | Cost of products                       |                    |        
|                                                    | Buying and occupancy(3)                |                    |        
|                                                    | Advertising                            |                    |        
|                                                    | General, selling and administrative(3) |                    |        
|Other income (expense)                              |                                        |                    | (73    
|Earnings (loss) before income tax expense (benefit) |                                        |                    | (835   
|Income tax expense (benefit)                        |                                        |                    | (342   
|Net earnings (loss)                                 |                                        | $                  | (493   
|Net earnings (loss) per share
    Basic(1)         |                                        | $                  | (0.04  
|                                                    | Diluted(2)                             |                    | $      

37

---

|                                                    |                                        | Three Months Ended |       
|--------------------------------------------------- | -------------------------------------- | ------------------ | ------
|
|
|
|Revenues                                            |                                        | $                  | 69,759
|Expenses                                            |                                        |                    |       
|                                                    | Cost of products                       |                    |       
|                                                    | Buying and occupancy(3)                |                    |       
|                                                    | Advertising                            |                    |       
|                                                    | General, selling and administrative(3) |                    |       
|Other income (expense)                              |                                        |                    | 406   
|Earnings (loss) before income tax expense (benefit) |                                        |                    | (4,594
|Income tax expense (benefit)                        |                                        |                    | (1,838
|Net earnings (loss)                                 |                                        | $                  | (2,756
|Net earnings (loss) per share
    Basic(1)         |                                        | $                  | (0.23 
|Diluted(2)                                          |                                        | $                  | (0.23 

|                                                    |                                        | Three Months Ended |       
|--------------------------------------------------- | -------------------------------------- | ------------------ | ------
|
|
|
|Revenues                                            |                                        | $                  | 77,004
|Expenses                                            |                                        |                    |       
|                                                    | Cost of products                       |                    |       
|                                                    | Buying and occupancy(3)                |                    |       
|                                                    | Advertising                            |                    |       
|                                                    | General, selling and administrative(3) |                    |       
|Other income (expense)                              |                                        |                    | (351  
|Earnings (loss) before income tax expense (benefit) |                                        |                    | (6,358
|Income tax expense (benefit)                        |                                        |                    | (2,543
|Net earnings (loss)                                 |                                        | $                  | (3,815
|Net earnings (loss) per share
    Basic(1)         |                                        | $                  | (0.32 
|                                                    | Diluted(2)                             |                    | $     

---

38

---

Note LRestatement

Subsequent to the issuance of the Company's financial statements as of and for the year ended January 31, 2002, the Company's management determined that
three errors existed in previously issued financial statements. First, for its sales on direct marketing shipments, revenues were adjusted to reflect the adoption of SAB 101,
"Revenue Recognition in Financial Statements," in the first quarter of fiscal 2000. As such, revenues were adjusted to reflect recognition at the time
of customer receipt versus time of shipment. The adoption of SAB 101 resulted in a cumulative effect adjustment of $265,000 as of February 1, 2000. Second, costs paid for package design costs,
which had been capitalized and recognized over a two-year period, were corrected to be expensed as incurred. Finally, the method for calculating diluted weighted average shares oustanding
in the earnings per share calculation was corrected to include the reduction in shares outstanding resulting from the anticipated repurchases of stock using proceeds of future income tax benefits
associated with unexercised stock options. As a result, the accompanying financial statements have been restated from the amounts previously reported. A summary of the effects of the restatement is as
follows:

|                            |  | As of January 31, 2002 |        | As of January 31, 2001
|--------------------------- |  | ---------------------- | ------ | ----------------------
|
|
|Merchandise inventories     |  | $                      | 50,151 |                       
|Property and equipment, net |  |                        | 44,862 |                       
|Deferred revenue            |  |                        | 16,982 |                       
|Income taxes payable        |  |                        | 807    |                       
|Retained earnings           |  |                        | 52,041 |                       
|Total stockholders' equity  |  |                        | 94,743 |                       

|                                                                      |                                               | Fiscal Year Ended January 31, |        
|--------------------------------------------------------------------- | --------------------------------------------- | ----------------------------- | -------
|
|
|
|Revenues                                                              |                                               | $                             | 396,199
|Cost of products                                                      |                                               |                               | 189,454
|General, selling and administrative                                   |                                               |                               | 96,258 
|Earnings before income tax and cumulative effect of accounting change |                                               |                               | 2,160  
|Income taxes                                                          |                                               |                               | 864    
|Earnings before cumulative effect of accounting change                |                                               |                               | 1,296  
|Cumulative effect of accounting change, net of tax                    |                                               |                               |       
|Net earnings                                                          |                                               | $                             | 1,296  
|Earnings per common share                                             |                                               |                               |        
|Basic earnings per common equivalent share:                           |                                               |                               |        
|                                                                      | Before cumulative effect of accounting change |                               | $      
|                                                                      | Cumulative effect of accounting change        |                               |        
|                                                                      |                                               |                               |        
|                                                                      | Basic earnings per common equivalent share    |                               | $      
|                                                                      |                                               |                               |        
|Diluted earnings per common equivalent share:                         |                                               |                               |        
|                                                                      | Before cumulative effect of accounting change |                               | $      
|                                                                      | Cumulative effect of accounting change        |                               |        
|                                                                      |                                               |                               |        
|                                                                      | Diluted earnings per common equivalent share  |                               | $      
|                                                                      |                                               |                               |        

39

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Independent Auditor's Report

Board
of Directors and Stockholders
Sharper Image Corporation
San Francisco, California

We
have audited the accompanying balance sheets of Sharper Image Corporation as of January 31, 2003 and 2002, and the related statements of operations, stockholders' equity and
cash flows for each of the three fiscal years in the period ended January 31, 2003. 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 auditing standards generally accepted in the United States of America. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the
financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.

In
our opinion, such financial statements present fairly, in all material respects, the financial position of Sharper Image Corporation as of January 31, 2003 and 2002, and the
results of its operations and its cash flows for each of the three fiscal years in the period ended January 31, 2003, in conformity with accounting principles generally accepted in the United
States of America.

As
discussed in Note L, the financial statements as of and for the fiscal years ended January 31, 2002 and 2001 have been restated.

|SIGNATURESan Francisco, California
March 28, 2003 |  |  |  | GRAPHIC
|------------------------------------------------- |  |  |  | -------

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