**SECURITIESAND EXCHANGE COMMISSION**

**Washington, D.C. 20549**

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**FORM 10-Q**

| **(Mark One)**                                                                                                                                                                                                                                                          |
|-------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
| ** **                                                                                                                                                                                                                                                              | ** ** |
| **x**                                                                                                                                                                                                                                                                   | **QUARTERLY REPORT PURSUANT TO SECTION 12 OR 15(d)  OF THE SECURITIES EXCHANGE ACT OF 1934** |
| ** **                                                                                                                                                                                                                                                              | ** ** |
| **For the  quarterly period ended April 1, 2007**                                                                                                                                                                                                                  |
| ** **                                                                                                                                                                                                                                                              | ** ** |
| **o**                                                                                                                                                                                                                                                                   | **TRANSITION REPORT PURSUANT TO SECTION 13 OR  15(d) OF THE SECURITIES EXCHANGE ACT OF 1934** |
| ** **                                                                                                                                                                                                                                                              | ** ** |
| **For the  transition period from                       to                  ** |

 

**Commission File No. 000-50593**

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**CherokeeInternational Corporation**

(Exact name of Registrantas specified in its charter)

 

| **Delaware**                                                     |   | **95-4745032**                           |
|------------------------------------------------------------------|--------|------------------------------------------|
| (State or Other  Jurisdiction of  Incorporation of Organization) |   | (I.R.S. Employer  Identification Number) |
|                                                             |   |                                     |
| **2841  Dow Avenue Tustin, California**                          |   | **92780**                                |
| (address of the  principal executive offices)                    |   | (zip code)                               |

 

Registrant’s telephone number, including area code **(714) 544-6665**

Securitiesregistered pursuant to Section 12(b) of the Act:

| Title of Class                  | ** ** | **Name of Exchange on which Registered** |
|---------------------------------|------------|------------------------------------------|
| Common Stock,  $0.001 par value |       | The NASDAQ Stock  Market, LLC            |

 

Securities registeredpursuant to Section 12(g) of the Act:

**None**

Indicate by check mark whether the registrant;(1) has filed all reports required to be filed by Section 13 or15(d) of the Securities Exchange Act of 1934 during the preceding12 months (or for such shorter period that the Registrant was required tofile such reports), and (2) has been subject to such filing requirementsfor the past 90 days.   (1) Yes o  No x    (2) Yes x  No o

Indicate by check mark whether the registrant is alarge accelerated filer, an accelerated filer, or a non-accelerated filer. Seedefinition of “accelerated filer” and “large accelerated filer” inRule 12b-2 of the Exchange Act. (Check one):

| Large Accelerated Filer  o | Accelerated  Filer  o | Non-Accelerated Filer  x |
|--------------------------------------|---------------------------------|------------------------------------|

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

As of May 31, 2007, 19,346,959 shares of theregistrant’s common stock, $0.001 par value, were outstanding.

 

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**TABLE OF CONTENTS**
| PART I FINANCIAL  INFORMATION                                                                   |   |
|------------------------------------------------------------------------------------------------------|--------|
| Item 1. Financial Statements:                                                                        |   |
| Condensed Consolidated  Balance Sheets (unaudited)                                                   |   |
| Condensed Consolidated  Statements of Operations (unaudited)                                         |   |
| Condensed  Consolidated Statements of Comprehensive Operations (unaudited)                           |   |
| Condensed  Consolidated Statements of Cash Flows (unaudited)                                         |   |
| Notes to Condensed  Consolidated Financial Statements (unaudited)                                    |   |
| Item 2.  Management’s Discussion and Analysis of Financial Condition and Results of  Operations |   |
| Item 3.  Quantitative and Qualitative Disclosures About Market Risk                                  |   |
| Item 4. Controls and Procedures                                                                      |   |
| PART II OTHER INFORMATION                                                                       |   |
| Item 1. Legal Proceedings                                                                            |   |
| Item  1A. Risk Factors                                                                               |   |
| Item  6. Exhibits                                                                                    |   |
| Signatures                                                                                           |   |

 

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**PART I.   FINANCIAL INFORMATION**

**Item1.   FINANCIAL STATEMENTS.**

**CHEROKEEINTERNATIONAL CORPORATION AND SUBSIDIARIES**

**CONDENSEDCONSOLIDATED BALANCE SHEETS**

**(InThousands, Except Share and Per Share Data)(Unaudited)**
| ** **                                                                                                                                                                                   | ** ** | **April 1, 2007** | ** ** | **December 31, 2006** | ** ** |
|----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|------------|-----------------------------|------------|---------------------------------|------------|
| **ASSETS**                                                                                                                                                                                   | ** ** | ** **                  | ** ** | ** **                      | ** ** |
| **CURRENT  ASSETS:**                                                                                                                                                                         | ** ** | ** **                  | ** ** | ** **                      | ** ** |
| Cash and cash  equivalents                                                                                                                                                                   |       | $                           | 10,836     |                            | $          | 8,881 |   |
| Accounts receivable,  net of allowance for doubtful accounts of $293 and $292 at April 1, 2007  and December 31, 2006, respectively                                                     |       | 22,848                      |       | 27,403                          |       |
| Inventories, net                                                                                                                                                                             |       | 32,424                      |       | 29,991                          |       |
| Prepaid expenses and  other current assets                                                                                                                                                   |       | 2,434                       |       | 2,503                           |       |
| Total  current assets                                                                                                                                                                        |       | 68,542                      |       | 68,778                          |       |
| Property and equipment,  net                                                                                                                                                                 |       | 19,145                      |       | 19,888                          |       |
| Deposits and other  assets                                                                                                                                                                   |       | 1,433                       |       | 1,376                           |       |
| Deferred financing  costs, net of accumulated amortization of $396 and $364 at April 1, 2007  and December 31, 2006, respectively                                                       |       | 184                         |       | 216                             |       |
| Deferred income  taxes-long-term portion                                                                                                                                                     |       | 322                         |       | 318                             |       |
| Goodwill                                                                                                                                                                                     |       | 6,317                       |       | 6,317                           |       |
| Assets held for sale                                                                                                                                                                         |       | 716                         |       | —                          |       |
| Total Assets                                                                                                                                                                                 |       | $                           | 96,659     |                            | $          | 96,893 |   |
| ** **                                                                                                                                                                                   | ** ** | ** **                  | ** ** | ** **                      | ** ** |
| **LIABILITIES  AND STOCKHOLDERS’ EQUITY**                                                                                                                                               | ** ** | ** **                  | ** ** | ** **                      | ** ** |
| **CURRENT  LIABILITIES:**                                                                                                                                                                    | ** ** | ** **                  | ** ** | ** **                      | ** ** |
| Accounts payable                                                                                                                                                                             |       | $                           | 12,963     |                            | $          | 13,944 |   |
| Accrued liabilities                                                                                                                                                                          |       | 4,847                       |       | 4,968                           |       |
| Accrued compensation  and benefits                                                                                                                                                           |       | 9,008                       |       | 7,882                           |       |
| Accrued restructuring  costs                                                                                                                                                                 |       | 595                         |       | 879                             |       |
| Borrowings under  revolving line of credit                                                                                                                                                   |       | 1,297                       |       | —                          |       |
| Total  current liabilities                                                                                                                                                                   |       | 28,710                      |       | 27,673                          |       |
| Long-term debt                                                                                                                                                                               |       | 24,485                      |       | 24,485                          |       |
| Long-term debt payable  to affiliates                                                                                                                                                        |       | 22,145                      |       | 22,145                          |       |
| Total  long-term debt                                                                                                                                                                        |       | 46,630                      |       | 46,630                          |       |
| Other long-term  liabilities                                                                                                                                                                 |       | 7,051                       |       | 6,715                           |       |
| Total Liabilities                                                                                                                                                                            |       | 82,391                      |       | 81,018                          |       |
|                                                                                                                                                                                         |       |                        |       |                            |       |
| Commitments and  contingencies (Note 9)                                                                                                                                                      |       |                        |       |                            |       |
| ** **                                                                                                                                                                                   | ** ** | ** **                  | ** ** | ** **                      | ** ** |
| **STOCKHOLDERS’  EQUITY:**                                                                                                                                                              | ** ** | ** **                  | ** ** | ** **                      | ** ** |
| Common stock: $0.001  par value; 60,000,000 shares authorized; 19,345,709  and 19,337,709 shares issued and outstanding at April 1, 2007 and  December 31, 2006, respectively |       | 19                          |       | 19                              |       |
| Paid-in capital                                                                                                                                                                              |       | 185,054                     |       | 184,813                         |       |
| Accumulated deficit                                                                                                                                                                          |       | (171,373                    | )          | (169,373                        | )          |
| Accumulated other  comprehensive income                                                                                                                                                      |       | 568                         |       | 416                             |       |
| Total  stockholders’ equity                                                                                                                                                             |       | 14,268                      |       | 15,875                          |       |
| Total Liabilities and  Stockholders’ Equity                                                                                                                                             |       | $                           | 96,659     |                            | $          | 96,893 |   |

 

Seenotes to condensed consolidated financial statements.

1

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**CHEROKEEINTERNATIONAL CORPORATION AND SUBSIDIARIES**

**CONDENSEDCONSOLIDATED STATEMENTS OF OPERATIONS**

**(In Thousands, Except Per ShareAmounts)(Unaudited)**
| ** **                            | ** ** | **Three Months Ended** | ** ** |
|---------------------------------------|------------|----------------------------------|------------|
| ** **                            | ** ** | **April 1, 2007**      | ** ** | **April 2, 2006** | ** ** |
| Net sales                             |       | $                                | 30,020     |   | $ | 36,097 |   |
| Cost of sales                         |       | 24,303                           |       | 27,581 |   |
| Gross profit                          |       | 5,717                            |       | 8,516 |   |
| Operating expenses:                   |       |                             |       |   |   |
| Engineering and  development          |       | 2,642                            |       | 2,320 |   |
| Selling and marketing                 |       | 1,864                            |       | 1,313 |   |
| General and  administrative           |       | 3,137                            |       | 3,004 |   |
| Restructuring costs                   |       | 193                              |       | — |   |
| Total operating  expenses             |       | 7,836                            |       | 6,637 |   |
| Operating income (loss)               |       | (2,119                           | )          | 1,879 |   |
| Interest expense                      |       | (685                             | )          | (697 | ) |
| Other income, net                     |       | 162                              |       | 91 |   |
| Income (loss) before  income taxes    |       | (2,642                           | )          | 1,273 |   |
| Provision (benefit) for  income taxes |       | (620                             | )          | 446 |   |
| Net income (loss)                     |       | $                                | (2,022     | ) | $ | 827 |   |
| Net income (loss) per  share:         |       |                             |       |   |   |
| Basic                                 |       | $                                | (0.10      | ) | $ | 0.04 |   |
| Diluted                               |       | $                                | (0.10      | ) | $ | 0.04 |   |
| Weighted average shares  outstanding: |       |                             |       |   |   |
| Basic                                 |       | 19,341                           |       | 19,260 |   |
| Diluted                               |       | 19,341                           |       | 19,531 |   |

 

Seenotes to condensed consolidated financial statements.

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**CHEROKEEINTERNATIONAL CORPORATION AND SUBSIDIARIES **

**CONDENSEDCONSOLIDATED STATEMENTS OF COMPREHENSIVE OPERATIONS**

** (In Thousands)**

** (Unaudited)**
| ** **                               | ** ** | **Three Months Ended** | ** ** |
|------------------------------------------|------------|----------------------------------|------------|
| ** **                               | ** ** | **April 1, 2007**      | ** ** | **April 2, 2006** | ** ** |
| Net income  (loss)                       |       | $                                | (2,022     | ) | $ | 827 |   |
| Other  comprehensive income (loss):      |       |                             |       |   |   |
| Foreign currency translation adjustments |       | 163                              |       | 363 |   |
| Comprehensive income  (loss)             |       | $                                | (1,859     | ) | $ | 1,190 |   |

 

Seenotes to condensed consolidated financial statements.

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**CHEROKEEINTERNATIONAL CORPORATION AND SUBSIDIARIES**

**CONDENSEDCONSOLIDATED STATEMENTS OF CASH FLOWS**

**(InThousands)**

**(Unaudited)**
| ** **                                                                                | ** ** | **Three Months Ended** | ** ** |
|-------------------------------------------------------------------------------------------|------------|----------------------------------|------------|
| ** **                                                                                | ** ** | **April 1, 2007**      | ** ** | **April 2, 2006** | ** ** |
| **CASH  FLOWS FROM OPERATING ACTIVITIES:**                                                | ** ** | ** **                       | ** ** | ** ** | ** ** |
| Net income  (loss)                                                                        |       | $                                | (2,022     | ) | $ | 827 |   |
| Adjustments to  reconcile net income (loss) to net cash provided by operating activities: |       |                             |       |   |   |
| Depreciation and  amortization                                                            |       | 852                              |       | 811 |   |
| Amortization of  deferred financing costs                                                 |       | 32                               |       | 32 |   |
| Stock-based  compensation                                                                 |       | 212                              |       | 151 |   |
| Net change in  operating assets and liabilities:                                          |       |                             |       |   |   |
| Accounts  receivable, net                                                                 |       | 4,685                            |       | (256 | ) |
| Inventories, net                                                                          |       | (2,342                           | )          | (2,491 | ) |
| Prepaid expenses  and other current assets                                                |       | 77                               |       | (665 | ) |
| Deposits and  other assets                                                                |       | (34                              | )          | (60 | ) |
| Accounts payable                                                                          |       | (1,046                           | )          | 2,687 |   |
| Accrued  liabilities and restructuring costs                                              |       | (1,066                           | )          | (887 | ) |
| Accrued  compensation and benefits                                                        |       | 1,068                            |       | 794 |   |
| Accrued interest  payable                                                                 |       | 622                              |       | 589 |   |
| Other long-term  obligations                                                              |       | 261                              |       | 542 |   |
| Net cash  provided by operating activities                                                |       | 1,299                            |       | 2,074 |   |
| **CASH  FLOWS FROM INVESTING ACTIVITIES:**                                                | ** ** | ** **                       | ** ** | ** ** | ** ** |
| Additions to  property and equipment                                                      |       | (723                             | )          | (295 | ) |
| Net cash used in  investing activities                                                    |       | (723                             | )          | (295 | ) |
| **CASH  FLOWS FROM FINANCING ACTIVITIES:**                                                | ** ** | ** **                       | ** ** | ** ** | ** ** |
| Borrowings on  revolving lines of credit                                                  |       | 1,297                            |       | — |   |
| Net proceeds  from exercises of stock options                                             |       | 29                               |       | — |   |
| Net cash  provided by financing activities                                                |       | 1,326                            |       | — |   |
| Effect of  exchange rate changes on cash                                                  |       | 53                               |       | 124 |   |
| Net increase in  cash and cash equivalents                                                |       | 1,955                            |       | 1,903 |   |
| Cash and cash  equivalents, beginning of period                                           |       | 8,881                            |       | 10,543 |   |
| Cash and cash  equivalents, end of period                                                 |       | $                                | 10,836     |   | $ | 12,446 |   |
| **SUPPLEMENTAL  INFORMATION**                                                             | ** ** | ** **                       | ** ** | ** ** | ** ** |
| Cash paid during  the period for interest                                                 |       | $                                | 8          |   | $ | 330 |   |
| Cash paid during  the period for income taxes                                             |       | $                                | 142        |   | $ | 41 |   |
| **NON-CASH  ITEMS**                                                                       | ** ** | ** **                       | ** ** | ** ** | ** ** |
| Additions to property  and equipment                                                      |       | $                                | —     |   | $ | 32 |   |

 

See notes tocondensed consolidated financial statements.

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**CHEROKEEINTERNATIONAL CORPORATION AND SUBSIDIARIES**

**NOTESTO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS**

**(Unaudited)**

**1.****                 NATURE OFOPERATIONS**

Cherokee International Corporation (the “Company”) isa designer and manufacturer of power supplies for original equipmentmanufacturers (“OEMs”). Its advanced power supply products are typically customdesigned into mid- to high-end commercial applications in the computing andstorage, wireless infrastructure, enterprise networking, telecom, medical andindustrial markets.

**2.****                   BASIS OF PRESENTATION AND SUMMARY OFSIGNIFICANT ACCOUNTING POLICIES**

*Basis of Presentation*

The accompanying condensed consolidated financialstatements of Cherokee International Corporation have been prepared inaccordance with accounting principles generally accepted in the United Statesof America for interim financial information and in accordance with theinstructions to Form 10-Q and Article 10 of Regulation S-X.  Accordingly,they do not include certain footnotes and financial presentations normallyrequired under accounting principles generally accepted in the United States ofAmerica for complete financial reporting.  The interim financialinformation is unaudited, but reflects all normal adjustments and accruals,which are, in the opinion of management, considered necessary to provide a fairpresentation for the interim periods presented.  The condensedconsolidated financial statements include the financial statements of theCompany and its wholly owned subsidiaries.  All intercompany balances andtransactions have been eliminated in the accompanying condensed consolidatedfinancial statements.

Results of operations for the quarters ended April 1,2007 and April 2, 2006, are not necessarily indicative of the results to beexpected for the entire fiscal year ending December 30, 2007 (“fiscal 2007”).The accompanying condensed consolidated financial statements should be read inconjunction with the audited consolidated financial statements for the fiscalyear ended December 31, 2006, included in the Company’s Annual Report onForm 10-K (FileNo. 000-50593) filed on May 23, 2007.

*Useof Estimates*

The preparation offinancial statements in accordance with accounting principles generallyaccepted in the United States of America requires management to make estimatesand assumptions that affect the reported amounts of assets and liabilities anddisclosure of contingent liabilities at the date of the financial statementsand the amounts of revenues and expenses during the reporting period. Actualresults could differ from such estimates.

*Stock-BasedCompensation*

In December 2004,SFAS 123R, *Share-Based Payment*,was issued. SFAS 123R is a revision of SFAS 123, *Accounting for Stock Based Compensation*,and supersedes APB 25. Among other items, SFAS 123R eliminates the use ofAPB 25 and the intrinsic value method of accounting, and requires companies torecognize the cost of employee services received in exchange for awards ofequity instruments, based on the grant date fair value of those awards, in thefinancial statements. The Company was required to adopt SFAS 123R effective onJanuary 2, 2006. SFAS 123R permits companies to adopt its requirementsusing either a “*modified prospective*”method, or a “*modified retrospective*”method. Under the “*modified prospective*”method, compensation cost is recognized in the financial statements beginningwith the effective date, based on the requirements of SFAS 123R for allshare-based payments granted after that date, and based on the requirements ofSFAS 123 for all unvested awards granted prior to the effective date of SFAS123R. Under the “*modified retrospective*”method, the requirements are the same as under the “*modified prospective*’’ method, but also permits entities torestate financial statements of previous periods based on proforma disclosuresmade in accordance with SFAS 123.

The Company currentlyuses the Black-Scholes standard option-pricing model to measure the fair valueof stock options granted to employees and nonemployees. While SFAS 123R permitsthe Company to continue to use such a model, the 

5

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standard also permits theuse of a “*lattice*” model. TheCompany is continuing to use the Black-Scholes model to measure the fair valueof employee stock options upon the adoption of SFAS 123R.

SFAS 123R also requiresthat the benefits associated with the tax deductions in excess of recognizedcompensation cost be reported as a financing cash flow, rather than as anoperating cash flow as required under prior literature. This requirement willreduce net operating cash flows and increase net financing cash flows inperiods after the effective date. These future amounts cannot be estimated,because they depend on, among other things, when employees exercise stockoptions.

The Company adopted SFAS123R on January 2, 2006 using the “modified prospective” method aspermitted by SFAS 123R. Under this transition method, stock compensation costrecognized beginning in the first quarter of fiscal year 2006 includes: (a) compensation cost for all share-based payments granted subsequent toFebruary 25, 2004 and prior to January 1, 2006 but not yet vested asof January 1, 2006, based on the grant-date fair value estimated inaccordance with the provisions of SFAS 123R, and (b) compensation cost forall share-based payments granted subsequent to January 1, 2006, based onthe grant-date fair value estimated in accordance with the provisions of SFAS123R. In accordance with the modified prospective method of adoption, theCompany’s results of operations and financial position for prior periods havenot been restated. At the date of the adoption, the unamortized expense foroptions issued prior to January 2, 2006 was $2.3 million, which will beamortized as stock compensation costs through December 2010.  Stock based compensation costs expensedduring the quarters ended April 1, 2007 and April 2, 2006, were $0.2million each period.

All grants are made atprices based on the fair market value of the stock on the date of grant.Outstanding options generally vest over periods ranging from two to four yearsfrom the grant date and generally expire up to ten years after the grant date.

The Company recordscompensation expense for employee stock options based on the estimated fairvalue of the options on the date of grant using the Black-Scholes optionpricing formula with the assumptions included in the table below. The Companyuses historical data, among other factors, to estimate the expected pricevolatility and the expected forfeiture rate. For options granted prior toJanuary 2, 2006, the Company used the expected option life of 5 years. Foroptions granted following the Company’s adoption of SFAS 123R, the expectedlife was increased to 6.25 years using the “simplified method” under SAB 107(an expected term based on the mid-point between the vesting date and the endof the contractual term). The use of the simplified method is permitted throughDecember 31, 2007. We will convert to company-specific experience on orbefore January 1, 2008. The options have a maximum contractual term of 10years and generally vest pro-rata over four years.  The risk-free rate is based on the U.S.Treasury yield curve in effect at the time of grant for the estimated life ofthe option.

Thefollowing weighted-average assumptions were used to estimate the fair value ofoptions granted during the quarters ended April 1, 2007 and April 2,2006, using the Black-Scholes option pricing formula.
|                          | ** ** | **Quarter Ended**      | ** ** |
|--------------------------|------------|-----------------------------|------------|
| ** **               | ** ** | **April 1, 2007** | ** ** | **April 2, 2006** | ** ** |
| Dividend yield           |       | 0.0                         | %          | 0.0 | % |
| Expected  volatility     |       | 56.3                        | %          | 46.7 | % |
| Risk free  interest rate |       | 4.65                        | %          | 4.63 | % |
| Expected lives           |       | 5.0 - 6.25 years            |       | 5.0 - 6.25 years |   |
| Forfeiture rates         |       | 13.55% - 17.10              | %          | 4.10% - 21.91 | % |

 

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The followingtable summarizes the Company’s activities with respect to its stock optionplans for the quarter ended April 1, 2007 as follows:
| Options                                                     | ** ** | **Number  of  Shares** | ** ** | **Weighted-  Average  Exercise Price  Per Share** | ** ** | **Weighted-  Average  Remaining  Contractual  Term  (in years)** | ** ** | **Aggregate  Intrinsic  Value** | ** ** |
|-------------------------------------------------------------|------------|------------------------|------------|-------------------------------------------------------------|------------|-----------------------------------------------------------------------|------------|---------------------------------|------------|
| Outstanding at  December 31, 2006                           |       | 2,297,054              |       | $                                                           | 6.23       |                                                                  | 7.84       |                            | $          | 671,221 |   |
| Granted                                                     |       | 10,000                 |       | $                                                           | 4.40       |                                                                  | 9.84       |                            | $          | 12,400 |   |
| Exercised                                                   |       | (8,000                 | )          | $                                                           | 3.54       |                                                                  | 8.47       |                            | $          | 4,900 |   |
| Forfeited                                                   |       | (58,900                | )          | $                                                           | 6.50       |                                                                  | 7.76       |                            | $          | — |   |
| Outstanding at  April 1, 2007                               |       | 2,240,154              |       | $                                                           | 6.23       |                                                                  | 7.58       |                            | $          | 2,045,555 |   |
| Vested and  expected to vest in the future at April 1, 2007 |       | 2,040,252              |       | $                                                           | 6.40       |                                                                  | 7.48       |                            | $          | 1,684,601 |   |
| Exercisable at April 1,  2007                               |       | 1,321,301              |       | $                                                           | 7.21       |                                                                  | 6.96       |                            | $          | 477,095 |   |

 

Since its inception onFebruary 16, 2004, a total of 400,000 shares of common stock have beenreserved for issuance under the 2004 Employee Stock Purchase Plan (“ESPP”),subject to annual increases as described under Note 11 below. Under the termsof the ESPP, the Company’s U.S. employees, nearly all of whom are eligible toparticipate, can choose to have up to a maximum of 15% of their eligible annualbase earnings withheld, subject to an annual maximum of $25,000 or 2,100 sharesper offering period, to purchase our common stock. The purchase price of thestock is 85% of the lower of the closing price at the beginning of eachsix-month offering period or at the end of each six-month offering period. TheCompany recognizes compensation cost for its ESPP under SFAS 123R.

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In accordance with SFAS 148, and as required by SFAS123R, the required pro forma disclosure, for options granted in periods priorto adoption of SFAS 123R, is shown below (in thousands except per shareamounts):
|                                                                                                                                                                  | ** ** | **Quarter Ended**      | ** ** |
|------------------------------------------------------------------------------------------------------------------------------------------------------------------|------------|-----------------------------|------------|
| ** **                                                                                                                                                       | ** ** | **April 1, 2007** | ** ** | **April 2, 2006** | ** ** |
| Net income  (loss), as reported                                                                                                                                  |       | $                           | (2,022     | ) | $ | 827 |   |
| Stock-based  employee compensation related to stock options included in net  income (loss), as reported, net of tax                                         |       | —                      |       | — |   |
| Total  stock-based employee compensation expense determined under the fair  value based method for all awards (under provisions of  APB 25), net of tax (a) |       | (95                         | )          | (153 | ) |
| Net income  (loss)—pro forma                                                                                                                                |       | $                           | (2,117     | ) | $ | 674 |   |
| Net income  (loss) per share, as reported:                                                                                                                       |       |                        |       |   |   |
| Basic                                                                                                                                                            |       | $                           | (0.10      | ) | $ | 0.04 |   |
| Diluted                                                                                                                                                          |       | $                           | (0.10      | ) | $ | 0.04 |   |
| Pro forma net  income (loss) per share:                                                                                                                          |       |                        |       |   |   |
| Basic                                                                                                                                                            |       | $                           | (0.11      | ) | $ | 0.03 |   |
| Diluted                                                                                                                                                          |       | $                           | (0.11      | ) | $ | 0.03 |   |

 

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(a)             During2007 and 2006, the Company accounted for stock-based compensation for optionsgranted prior to February 25, 2004, the date of our initial publicoffering, to employees and directors using the intrinsic value methodprescribed in APB 25 and adopted the disclosure-only alternative of SFAS 123,as amended by SFAS 148 for these options.

*Translationof Foreign Currency*

Foreign subsidiary assets and liabilities denominatedin foreign currencies are translated at the exchange rate on the balance sheetdate. Revenues, costs and expenses are translated at the average exchange rateduring the period. Transaction gains and losses are included in results ofoperations and have not been significant for the periods presented. Thefunctional currency of the Company’s operating subsidiary in Europe, CherokeeEurope SCA (“Cherokee Europe”), is the Euro. The functional currency ofthe Company’s operating subsidiaries in Mexico (Cherokee Electronica, S.A. deC.V.), in India (Cherokee India Pvt. Ltd. and Powertel India Pvt. Ltd.), and inChina (Cherokee International (China) Power Supply Co. Ltd) is the U.S. dollar,as the majority of transactions are denominated in U.S. dollars.  Translation adjustments, as well as the incometax effect of currency gains or losses on certain intercompany loans, relatedto Cherokee Europe are reflected as a component of comprehensive income (loss)and included in stockholders’ equity as accumulated other comprehensive income(loss).

*RecentAccounting Pronouncements*

In June 2006, theFASB issued FIN 48. FIN 48 clarifies the accounting for uncertainty in incometaxes recognized in an enterprise’s financial statements in accordance withSFAS 109, *Accounting for Income Taxes*, byprescribing a recognition threshold and measurement attribute for the financialstatement recognition and measurement of a tax position taken or expected to betaken in a tax return. Under FIN 48, the financial statement effects of a taxposition should initially be recognized when it is more likely than not, basedon the technical merits, that the position will be sustained upon examination.A tax position that meets the more-likely-than-not recognition threshold shouldinitially, and subsequently, be measured as the largest amount of tax benefitthat has a greater than fifty percent likelihood of being realized uponultimate settlement with a taxing authority. FIN 48 is effective for fiscalyears beginning after December 15, 2006. In accordance with FIN 48, we 

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recognized acumulative-effect adjustment of less than $0.1 million to the opening balanceof accumulated deficit. See Note 3, “Income Taxes,” for additional information.

InSeptember 2006, the FASB issued SFAS 157, *Fair ValueMeasurements*, which defines fair value, establishes a framework formeasuring fair value in generally accepted accounting principles (GAAP), andexpands disclosures about fair value measurements. This Statement applies inconjunction with other accounting pronouncements that require or permit fairvalue measurements. This Statement shall be effective for financial statementsissued for fiscal years beginning after November 15, 2007. We arecurrently evaluating the impact that the adoption of SFAS 157 will have on theCompany’s consolidated financial position and result of operations.

InFebruary 2007, the FASB issued SFAS 159, *The FairValue Option for Financial Assets and Financial Liabilities – Including anAmendment of FASB Statement No. 115*. SFAS 159 permits entitiesto choose to measure certain financial instruments and other eligible items atfair value when the items are not otherwise currently required to be measuredat fair value. Entities that elect the fair value option will report unrealizedgains and losses in earnings at each subsequent reporting date. The fair valueoption may be elected on an instrument-by-instrument basis, with fewexceptions. SFAS 159 also establishes presentation and disclosurerequirements to facilitate comparisons between companies that choose differentmeasurement attributes for similar assets and liabilities. The provisions ofSFAS 159 are effective for fiscal years beginning after November 15,2007. The Company is currently evaluating the impact of adoption of SFAS 159on the consolidated financial statements.

*Inventories*

Inventories are valued atthe lower of weighted average cost or market. Inventory costs include the costof material, labor and manufacturing overhead and consist of the following, netof reserve for surplus and obsolescence (in thousands):
|                  | ** ** | **April 1, 2007** | ** ** | **December 31, 2006** | ** ** |
|------------------|------------|-----------------------------|------------|---------------------------------|------------|
| Raw material     |       | $                           | 20,891     |                            | $          | 20,991 |   |
| Work-in-process  |       | 4,039                       |       | 4.034                           |       |
| Finished goods   |       | 7,494                       |       | 4,966                           |       |
| Inventories, net |       | $                           | 32,424     |                            | $          | 29,991 |   |

 

As of April 1, 2007 and December 31, 2006, thereserve for inventory surplus and obsolescence was $4.0 million and $4.4million, respectively, including management’s assessment of reserves forsurplus and obsolescence for non-compliant material related to the Restrictionof Hazardous Substances in Electrical and Electronic Equipment directive.

Thefollowing are two European Economic Community (“EEC”) directives that arehaving an effect on the entire electronics industry, including the Company:

(1)    Restriction of Hazardous Substances inElectrical and Electronic Equipment, more commonly known as RoHS. This Europeandirective bans the use of certain elements that are commonly found incomponents used to manufacture electrical and electronic assemblies. Thisdirective became effective on July 1, 2006. The Company is activelyworking with its customers to ensure compliance, and began manufacturingcompliant products in 2006.  The Companyis focused on consuming all non-compliant material on-hand within a reasonableperiod.  However, the Company may have todispose of non-compliant materials in the future, which could adversely affectthe financial performance of the Company. There is also a risk of finesassociated with non-compliance with the RoHS directive; however, the Company isnot aware of any specific potential fines, and the Company anticipatescomplying with all provisions of this legislation.

(2)    Waste Electrical and Electronic Equipment,also known as WEEE. This directive requires manufacturers and importers to properlyrecycle or dispose of such equipment at the end of its useful life. Thisdirective became

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effective on August 13,2005. The Company believes it has limited exposure to the WEEE directivebecause its products are usually installed into another user’s system, but thisdirective may be interpreted and enforced differently in the future. If so, theCompany may face significant risk of fines and costs associated withnon-compliance with the existing laws and regulations in the European Union.The Company is actively working with its customers to ensure compliance, and beganmanufacturing compliant products in 2005.

**3.****                 INCOME TAXES**

The Company accounts for income taxes in accordancewith SFAS 109, *Accounting for IncomeTaxes* . In accordance with SFAS 109, deferred tax assets andliabilities are recorded for the estimated future tax effects of temporarydifferences between the carrying value of assets and liabilities for financialreporting and their tax basis, and carry-forwards to the extent they arerealizable.  A deferred tax provision orbenefit results from the net change in deferred tax assets and liabilitiesduring the period.  A valuation allowanceis recorded if it is more likely than not that all or a portion of the recordeddeferred tax assets will not be realized. As of December 31, 2006, deferred tax assets include $32.7 millionrelating to a tax basis step up from a re-capitalization transaction in 1999and $24.2 million of net operating loss (“NOL”) carry-forwards.  The Company has recorded a valuation allowanceagainst a significant portion of its deferred tax assets.

Provision (benefit) for income taxes for the quarterended April 1, 2007 and the comparable period of April 2, 2006, were ($0.6)million benefit and $0.4 million expense, respectively.   The benefit for the quarter ended April 1,2007 is lower by $1.1 million than the comparable period of April 2, 2006 dueto operating losses generated in tax jurisdictions which were taxable in prioryear.  Based on available evidence,management expects the benefit to be realized prior to year-end.

Provision (benefit) for income taxes for the quarterended April 1, 2007 was calculated by estimating taxable income (loss) forcertain tax jurisdictions using actual year to date operating results whichrepresents the best estimate of the effective tax rate for the full fiscalyear.

The Companyadopted FIN 48, *Accounting for Uncertainty in Income Taxes*on January 1, 2007.  As a result ofadoption, the Company recognized a cumulative effect adjustment of less than$0.1 million to the January 1, 2007 accumulated deficit balance.  At January 1, 2007, we had $1.8 millionof gross unrecognized tax benefits, of which $0.6 million would reduce oureffective tax rate if recognized.  Of thetotal unrecognized tax benefits at the adoption date, $1.2 million was recordedas a reduction to deferred tax assets, which caused a corresponding reductionin our valuation allowance of $1.2 million. To the extent such portion of unrecognized tax benefits is recognized ata time such valuation allowance no longer exists, the recognition would impactour effective tax rate.  The Company’scontinuing practice is to recognize interest and/or penalties related to incometax matters in income tax expense.  As ofApril 1, 2007, we have approximately $0.1 million of accrued interest andpenalties related to uncertain tax positions.

The tax years 1997to 2006 remain open to examination by the major taxing jurisdictions to whichwe are subject. The Company is currently under examination in India for certainyears between 2000 and 2005 and the Netherlands from 2002 forward. The Companydoes not believe the amount of unrecognized tax benefits as of April 1, 2007will significantly increase or decrease within the next twelve months.

United States incometaxes are not provided on undistributed earnings from certain foreignsubsidiaries. Those earnings are considered to be permanently re-invested inaccordance with the Accounting Principles Board (APB) Opinion 23.

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**4.****                ****NET INCOME (LOSS) PER SHARE**

In accordance withSFAS 128, *Earnings Per Share*,basic income (loss) per share is based upon the weighted average number ofcommon shares outstanding. For the quarters ended April 1, 2007 and April 2,2006, options for shares of 2,240,154, and 1,975,551, respectively, ofoutstanding stock options were excluded from the calculation of diluted income(loss) per share as their exercise prices would render them anti-dilutive. Forthe quarter ended April 1, 2007, all of our outstanding stock options wereexcluded from the calculation of diluted loss per share as their effect wouldhave been anti-dilutive due to the net loss for the period.

Thefollowing table sets forth the computation of basic and diluted net income(loss) per share (in thousands, except per share amounts):
|                                                          | ** ** | **Quarter Ended**      | ** ** |
|----------------------------------------------------------|------------|-----------------------------|------------|
| ** **                                               | ** ** | **April 1, 2007** | ** ** | **April 2, 2006** | ** ** |
| Net income  (loss)                                       |       | $                           | (2,022     | ) | $ | 827 |   |
| Shares:                                                  |       |                        |       |   |   |
| Weighted-average common shares outstanding—basic    |       | 19,341                      |       | 19,260 |   |
| Effect of  dilutive securities:                          |       |                        |       |   |   |
| Stock options                                            |       | —                      |       | 271 |   |
| Weighted-average  common shares outstanding—diluted |       | 19,341                      |       | 19,531 |   |
| Net income  (loss) per share:                            |       |                        |       |   |   |
| Basic                                                    |       | $                           | (0.10      | ) | $ | 0.04 |   |
| Diluted                                                  |       | $                           | (0.10      | ) | $ | 0.04 |   |

 

**5.****                 DEFERREDFINANCING COSTS**

The Company capitalizescosts directly related to financing agreements and certain qualified debtrestructuring costs, and amortizes these costs as additional interest expenseover the terms of the related debt. These costs will be fully amortized by August 2008.

Net deferred financingcosts are comprised of the following as of April 1, 2007 and December 31,2006 (in thousands):
|                                | ** ** | **April 1, 2007** | ** ** | **December 31, 2006** | ** ** |
|--------------------------------|------------|-----------------------------|------------|---------------------------------|------------|
| Deferred  financing costs      |       | $                           | 580        |                            | $          | 580 |   |
| Accumulated  amortization      |       | (396                        | )          | (364                            | )          |
| Deferred financing  costs, net |       | $                           | 184        |                            | $          | 216 |   |

 

**6.****                 DEBT**

Long-term debt consistsof the following at April 1, 2007 and December 31, 2006 (in thousands):
|                                              | ** ** | **April 1, 2007** | ** ** | **December 31, 2006** | ** ** |
|----------------------------------------------|------------|-----------------------------|------------|---------------------------------|------------|
| 5.25% senior  notes payable to third parties |       | $                           | 24,485     |                            | $          | 24,485 |   |
| 5.25% senior  notes payable to affiliates    |       | 22,145                      |       | 22,145                          |       |
| Total long-term debt                         |       | $                           | 46,630     |                            | $          | 46,630 |   |

 

As of April 1, 2007, all of the Company’s long-termdebt is scheduled to be repaid in 2008.

Long-term debt includesthe Company’s senior notes, which mature on November 1, 2008. Interest onthe senior notes is payable in cash on May 1 and November 1 of eachyear. The senior notes are secured by a second-priority lien on substantiallyall of the Company’s domestic assets and by a pledge of 65% of the equity ofcertain of the Company’s foreign subsidiaries. As of April 1, 2007, the Companywas in compliance with all of the covenants set forth in the principalagreements governing the 5.25% senior secured notes due in 2008.

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TheCompany’s primary line of credit is its senior revolving credit facility withGeneral Electric Capital Corporation (the “Credit Facility”).  The Credit Facility provides for borrowingsof up to $20.0 million that are subject to a borrowing base comprised ofeligible accounts receivable and inventory, which was $13.6 million at April 1,2007. The Credit Facility matures in August 2008 and borrowings bearinterest, at the Company’s option, at a rate per annum equal to LIBOR plus 2.5%or the agent bank’s base rate plus 1.0%. In addition to paying interest onoutstanding principal, the Company is required to pay a commitment fee to thelenders under the credit facility in respect of the average daily balance ofunused loan commitments at a rate of 0.5% per annum. The Credit Facility issecured by a first-priority lien, subject to permitted encumbrances, onsubstantially all of the Company’s domestic assets and by a pledge of 65% of theequity of certain of the Company’s foreign subsidiaries. The Credit Facilitycontains restrictive covenants requiring the Company to, among other things,maintain certain senior leverage ratios. On April 2, 2007, we were out of compliance with the requirement tosubmit our annual audited financial statements to GE Capital Corporation, theagent under our revolving credit facility (the “Agent”), within 120 days of ourfiscal year end. On May 10, 2007, we obtained a waiver of this default from theAgent, which extended the deadline for submitting our audited financialstatements until August 31, 2007. On May 23, 2007, we filed our Form 10-K with the SEC and forwarded ouraudited financial statements to the Agent on May 25, 2007.

CherokeeEurope maintains a working capital line of credit of approximately $4.1 millionwith Bank Brussels Lambert, a subsidiary of ING Belgie NV, a bank in Brussels,which is denominated in Euros, collateralized by a pledge in first and secondrank over a specific amount of business assets, requires Cherokee Europe tomaintain a certain specific minimum solvency ratio and is cancelable at anytime. As of April 1, 2007, Cherokee Europe had no outstanding borrowings underthe line of credit and was in compliance with all covenants.

In January 2007,Cherokee China entered into a loan contract with Industrial and Commercial Bankof China Ltd. (“ICBC”) for a working capital line of credit. Pursuant to thecontract, ICBC agreed to make advances up to the equivalent of approximately$3.0 million, expressed as RMB 25.0 million. The line of credit iscollateralized by the Company’s building in Shanghai, China. The term endsJanuary 29, 2008 but is cancelable at any time. Interest is payablemonthly at a fixed rate based on the transaction date of our borrowings, therates vary according to the specific dates and are announced by the People’sBank of China, which was 6.55% at January 29, 2007 and 6.04% atMarch 20, 2007, based on dates amounts were borrowed. Beginning with itsinitial borrowing under the contract, Cherokee China has agreed to deposit inthe ICBC Shanghai Branch at least 90% of the operating revenue it collects. Asof April 1, 2007, Cherokee China had $1.3 million of borrowings under the lineof credit and was in compliance with all covenants.

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**7.****                 OTHER LONG-TERMOBLIGATIONS**

Other long-termobligations consist of the following at April 1, 2007 and December 31,2006 (in thousands):
|                                               | ** ** | **April 1, 2007** | ** ** | **December 31, 2006** | ** ** |
|-----------------------------------------------|------------|-----------------------------|------------|---------------------------------|------------|
| 1999 Europe  restructuring liabilities        |       | $                           | 539        |                            | $          | 486 |   |
| 2003 Europe  restructuring liabilities        |       | 1,252                       |       | 1,161                           |       |
| Long service  award liabilities               |       | 823                         |       | 795                             |       |
| Pension  liability-SFAS 158                   |       | 2,707                       |       | 2,671                           |       |
| Deferred  compensation                        |       | 1,168                       |       | 1,105                           |       |
| Advances for  research & development |       | 562                         |       | 497                             |       |
| Total other long-term  obligations            |       | $                           | 7,051      |                            | $          | 6,715 |   |

The Company has agreements with a local governmentagency in Belgium for funding in advances to Cherokee Europe for research anddevelopment expenses. These advances are expected to be repaid to the agency;either as a percentage of the revenues generated by the products developed orthrough a minimum fixed amount on an annual basis. These advances are interestfree.

**8.****                 CUSTOMERCONCENTRATION**

For the quarter ended April 1, 2007, no customeraccounted for more than 10% of net sales. For the quarter ended April 2, 2006,one customer accounted for 15% of net sales, and no other customer accountedfor more than 10%. At December 31, 2006 year end, no customer accountedfor more than 10% of net sales. A decision by a major customer to decrease theamount purchased from the Company or to cease purchasing the Company’s productscould have a material adverse effect on the Company’s financial position andresults of operations.

As of April 1, 2007 and December 31, 2006,respectively, no customer accounted for more than 10% of net accountsreceivable.

**9.****                 COMMITMENTS ANDCONTINGENCIES**

*Guaranteesand Indemnities*

The Company has agreed toindemnify the former owners of Cherokee Europe for product liability,environmental hazard and employment practice claims relating solely topost-acquisition business. The Company also indemnifies its directors andofficers to the maximum extent permitted under the laws of the State ofDelaware, and various lessors in connection with facility leases for certainclaims arising from such facility or lease. The maximum amount of potentialfuture payments under such indemnifications is not determinable.

The Company has notincurred significant amounts related to these guarantees and indemnifications,and no liability has been recorded in the consolidated financial statements forguarantees and indemnifications as of April 1, 2007 and December 31, 2006.

***Cash Incentive CompensationProgram and Severance Agreements***

The Company adopted acash incentive program for certain executives, which provides for cashincentive payments of up to 120% of base salary subject to attainment of corporategoals and objectives approved by the Company’s board of directors. In addition,the Company has entered into severance agreements with certain executives,which provide payments to the executive if the executive is terminated otherthan for cause, as defined in the applicable severance agreement. Certain ofthe severance agreements provide additional benefits, including acceleration ofstock options, in the event of termination in connection with a change ofcontrol, as defined in the applicable severance agreement.

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*OtherMatters*

In the first quarter of2006, we executed a mutual release agreement with a former business partner.The agreement released both parties from obligations arising from pasttransactions. As a result of this agreement, we made a one-time adjustment toreduce our selling and marketing expense by $0.4 million during the quarterended April 2, 2006.

*IndiaMatter*

In late March 2006,the Company learned that employees of its Indian subsidiary manufacturingoperations had made certain unauthorized payments that may have been inviolation of the Foreign Corrupt Practices Act and local laws. The facility inIndia is used for the sole purpose of manufacturing products for other Companylocations and, as such, does not generate revenue or issue invoices to externalcustomers. It manufactures approximately 6% (by volume) of the products offeredby the Company.

The subject payments, inthe aggregate, amounted to approximately $40,000 in each of the years endedJanuary 2, 2005 and January 1, 2006, and less than $10,000 in theyear ended December 31, 2006. The Company retained outside counsel whoconducted an internal investigation into these payments. In January 2007,the Company’s outside counsel met with the SEC to discuss the results of the internalinvestigation.  The Company considersthis matter closed.

**10.**          RESTRUCTURING COSTS AND ASSET IMPAIRMENTCHARGES FOR CLOSURE OF GUADALAJARA, MEXICO FACILITY

Duringthe third quarter of 2006, the Company announced the planned closure of itsMexican facilities and a related restructuring plan, which was accounted for inaccordance with SFAS 146, *Accounting for CostsAssociated with Exit or Disposal Activities*. The Mexico Facilityencompasses 35,000 square feet in one building and had been in operation since1988, employing approximately 250 full-time and temporary employees in theproduction of power supplies.

The impact of the plannedclosure was $0.2 million of severances and stay bonuses for the quarter endedApril 1, 2007.  As of April 1, 2007, thecumulative costs for the closure of the Mexico Facility were $1.5 million ($1.3million of which were recorded in 2006). This was made up of $0.9 millionrestructuring, $0.3 million asset impairment and $0.3 millionadditional excess and obsolescence reserve. The remaining accrued balance forseverance and stay bonuses as of April 1, 2007 was $0.3 million. Inaddition, there was a $0.3 million of impairment charges to the carrying valueof those assets determined to be impaired under the guidance of SFAS 144, *Accounting for the Impairment or Disposal of Long-Lived Assets*,and a $0.3 million charge to cost of sales to reserve for excess and obsoleteinventory due to the potential decrease in future customer demand of product asa result of the restructuring and closure of the Mexico Facility.

*Assetsheld for sale*

The Company beganactively searching for a buyer for the Mexico Facility building during thethird quarter of 2006, however, in accordance with SFAS 144, *Accounting for the Impairment or Disposal of Long-Lived Assets*,the related assets were not classified as assets held for sale in the condensedconsolidated balance sheets prior to April 1, 2007, because the Companydid not meet the criterion that “the asset (disposal group) is available forimmediate sale in its present condition subject only to terms that are usual andcustomary for sales of such assets”, due to our continued utilization of assetsin our ongoing operations at our Mexico Facility.

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The Company ceasedoperations in Mexico in March 2007, and reclassified the net book value of $0.7 millionfor the building and the related assets to *assets held for sale*on the condensed consolidated balance sheet as of April 1, 2007, in accordancewith SFAS 144.  In addition depreciationof the assets related to this sale was suspended as of April 1, 2007.   There was no impairment charge to therelated assets because the measurement value, the net book value, was lowerthan the fair value less cost to sell at April 1, 2007.

On February 22,2007, Cherokee Electronica, S.A. de C.V. (“Cherokee Mexico”), a subsidiary ofCherokee International Corporation, a Delaware corporation, entered into aPurchase and Sale Agreement (the “Agreement”) with Inmobiliaria Hondarribia,S.A. de C.V. (the “Buyer”) for the sale of building. The Agreement providedthat the Buyer pay Cherokee Mexico an aggregate purchase price of approximatelyUS $1.2 million, of which a 15% deposit, approximately US $182,000, was paidon February 22, 2007.  On May 24, 2007,the sale of the building was completed, and the remaining 85% of the salesprice was transferred into the Company’s bank account.  The Company also collected the value addedtax on the building in addition to the sales price.  The net gain of the sale was approximately $0.4 millionwhich will be recorded in the quarter ending July 1, 2007.

***Asset Impairment Charges related to Other Assets***

During the third quarterof 2006, the Company performed an impairment review in accordance with SFAS144,  *Accounting for theImpairment and Disposal of Long-Lived Assets,* to determine whetherany of its long-lived assets located at the Mexico Facility were impaired. TheCompany identified certain long-lived assets associated with the restructuringand closure of the Mexico Facility whose carrying value would not berecoverable from future cash flows and recorded an impairment charge of $0.3million for these assets. These assets consisted of machinery and equipment,computer technology and equipment, and office furniture and equipment. Themajority of these assets were written off because the Company considered themto have no market value. None of the impairment charges include cashcomponents.

***Restructuring Costs***

In accordance with SFAS146, employee severance, contract termination and other exit costs are recordedat their estimated fair value when they are incurred. Employee severance andstay bonus costs for the quarter ended April 1, 2007, were $0.2 million, whichincluded a pro-rata portion from August 10, 2006, the communication date,through April 1, 2007, of an estimated amount of statutory requiredseverance payments and management performance stay-on bonuses incurred forapproximately 128 employees at the Mexico Facility.  The Company paid $0.3 million of severanceand related expenses to those employees terminated during the quarter endedApril 1, 2007, and expects to pay the remainder of severance and related coststo the remaining employees to be terminated during the second quarter of2007.  All severance charges will besettled with cash.

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A summary of therestructuring costs and reserve activity during the quarter ended April 1, 2007is as follows (in thousands):
|                            | ** ** | **Restructuring**               | ** ** | ** **        | ** ** | ** **         | ** ** | **Restructuring**           | ** ** |
|----------------------------|------------|---------------------------------|------------|-------------------|------------|--------------------|------------|-----------------------------|------------|
| ** **                 | ** ** | **Liabilities at**         | ** ** | **Restructuring** | ** ** | ** **         | ** ** | **Liabilities at**     | ** ** |
| ** **                 | ** ** | **December 31, 2006** | ** ** | **Charges**       | ** ** | **Cash Paid** | ** ** | **April 1, 2007** | ** ** |
| Severance and  bonuses     |       | $                               | 429        |              | $          | 193                |       | $                           | (275)      |   | $ | 347 |   |
| Total  Restructuring Costs |       | $                               | 429        |              | $          | 193                |       | $                           | (275)      |   | $ | 347 |   |

 

A summary of therestructuring costs recorded during the quarter ended April 1, 2007 is asfollows (in thousands):
|                            | ** ** | **Quarter Ended**      | ** ** |
|----------------------------|------------|-----------------------------|------------|
| ** **                 | ** ** | **April 1, 2007** | ** ** |
| Severance and  bonuses     |       | $                           | 193        |   |
| Total Restructuring  Costs |       | $                           | 193        |   |

 

**11.****          STOCKAND DEFERRED COMPENSATION PLANS**

***2002 Stock Option Plan***

In July 2003, theCompany adopted the Cherokee International Corporation 2002 Stock Option Plan(the “2002 Stock Option Plan”) under which up to 1,410,256 shares of theCompany’s common stock may be issued pursuant to the grant of non-qualifiedstock options to the directors, officers, employees, consultants and advisorsof the Company and its subsidiaries. In connection with the adoption of the2002 Stock Option Plan, the Company granted 1,087,327 stock options. Theoptions typically vest over a four-year period, have a ten-year contractuallife, range in exercise price from $5.85 to $10.34 per share and were grantedwith exercise prices at or above fair value as determined by Cherokee’s Boardof Directors based on income and market valuation methodologies. InFebruary 2004, the Company granted options to purchase 328,320 shares ofcommon stock at an exercise price of $14.50 and terminated the 2002 StockOption Plan. As of April 1, 2007, the Company had granted a total of 1,415,647options to purchase shares of common stock under the 2002 Stock Option Plan,which includes options to purchase shares that were cancelled and subsequentlyre-granted.

***2004 Omnibus Stock Incentive Plan***

On February 16,2004, the Company adopted the 2004 Omnibus Stock Incentive Plan (the “2004Plan”), which provided for the issuance of 800,000 shares of common stock. The2004 Plan also provides for an annual increase to be**added on the first day of the Company’s fiscal year equalto the lesser of (i) 450,000 shares or (ii) 2% of the number ofoutstanding shares on the last day of the immediately preceding fiscal year. Asof April 1, 2007, a total of 1,948,070 shares of the Company’s common stockwere reserved for issuance under the 2004 Plan. Any officer, director,employee, consultant or advisor of the Company is eligible to participate inthe 2004 Plan. The 2004 Plan provides for the issuance of stock-based incentiveawards, including stock options, stock appreciation rights, restricted stock,deferred stock, and performance shares. As of April 1, 2007, the Company hadgranted options to purchase 1,593,989 shares of common stock under the 2004Plan, which included 245,589 options issued as partial compensation tonon-employee directors.  In addition,8,000 shares were issued through the exercise of outstanding vested optionsduring the quarter ended April 1, 2007, and the Company granted a total of10,000 options to purchase shares of common stock under the 2004 Plan duringthe quarter ended April 1, 2007. The aggregate fair value of these optionsgranted during the quarter ended April 1, 2007 was $26,000, which will beamortized as stock compensation costs over 6.25 years.

***2004 Employee Stock Purchase Plan***

On February 16,2004, the Company adopted the 2004 Employee Stock Purchase Plan (the “ESPP”).The ESPP provides for an annual increase to be added on the first day of theCompany’s fiscal year equal to the lesser of (i) 250,000 shares or(ii) 1% of the number of outstanding shares on the last day of theimmediately preceding fiscal year. As of April 1, 2007, a total of 978,035shares of common stock were reserved for issuance under the plan. The

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ESPP, which is intendedto qualify as an “employee stock purchase plan” under Section 423 of theInternal Revenue Code of 1986, is implemented utilizing six-month offeringswith purchases occurring at six-month intervals, with a new offering periodcommencing on the first trading day on or after May 15 andNovember 15 and ending on the last trading day on or before November 14or May 14, respectively. The Compensation Committee of the Company’s Boardof Directors oversees administration of the ESPP. Employees are eligible toparticipate if they are employed for at least 20 hours per week and more than 5months in a calendar year by the Company, subject to certain restrictions. TheESPP permits eligible employees to purchase common stock through payrolldeductions, which may not exceed 15% of an employee’s compensation. The priceof common stock purchased under the ESPP is 85% of the lower of the fair marketvalue of the common stock at the beginning of each six-month offering period oron the applicable purchase date. Employees may end their participation in anoffering at any time during the offering period, and participation endsautomatically upon termination of employment. The Compensation Committee may atany time amend or terminate the ESPP, except that no such amendment ortermination may adversely affect shares previously issued under the ESPP. As ofApril 1, 2007, a total of 150,168 shares of common stock had been issued underthe ESPP.

*DeferredCompensation Plans*

On February 16,2004, the Company adopted two executive deferred compensation plans for thebenefit of certain designated employees and non-employee directors of theCompany. The plans allow participating employees and non-employee directors tomake pre-tax deferrals of up to 100% of their annual base salary and bonuses,and retainer fees and meeting fees, respectively. The plans allow the Companyto make matching contributions and employer profit sharing credits at the solediscretion of the Company. A participant’s interest in each matchingcontribution and employer profit sharing credit, if any, vests in full no laterthan after 3 years.

As of April 1, 2007, theCompany has recorded a liability of $1.2 million, for employee and non-employeedirector contributions and investment activity to date, which is recorded inother long-term liabilities, and the Company has provided no matchingcontributions during the quarter ended April 1, 2007 and the prior years.

**12.****          RETIREMENT PLANS**

Cherokee Europe maintainsa pension plan for certain levels of staff and management that includes adefined benefit feature. The following represents the amounts related to thisdefined benefit plan for the quarter ended April 1, 2007 and April 2, 2006,respectively  (in thousands):
|                                                                 | ** ** | **Three Months Ended** | ** ** | **Three Months Ended** | ** ** |
|-----------------------------------------------------------------|------------|----------------------------------|------------|----------------------------------|------------|
| **Components of Net Periodic Benefit Cost** | ** ** | **April 1, 2007**      | ** ** | **April 2, 2006**      | ** ** |
| Service cost                                                    |       | $                                | 88         |                             | $          | 44 |   |
| Interest cost                                                   |       | 103                              |       | 58                               |       |
| Expected return  on plan assets                                 |       | (57                              | )          | (31                              | )          |
| Net periodic  benefit cost                                      |       | $                                | 134        |                             | $          | 71 |   |

 

**13.**          **SUBSEQUENT EVENTS**

**MexicoFacility – Completion of the Sale of the Building**

On February 22,2007, Cherokee Electronica, S.A. de C.V. (“Cherokee Mexico”), a subsidiary ofCherokee International Corporation, a Delaware corporation (the “Company”),entered into a Purchase and Sale Agreement (the “Agreement”) with InmobiliariaHondarribia, S.A. de C.V. (the “Buyer”) for the sale of Cherokee Mexico’s35,000-foot manufacturing facility in Guadalajara, Mexico. The Agreementprovided that the Buyer pay Cherokee Mexico an aggregate purchase price ofapproximately US $1.2 million of which a 15% deposit, approximately US$182,000, was paid on February 22, 2007. On May 24, 2007, the sale of the building was completed, and the remaining85% of the sales price was transferred into the Company’s bank account.

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The Company alsocollected the value added tax on the building in addition to the salesprice.  The net gain of the sale wasapproximately $0.4 million which will be recorded in the quarter endingJuly 1, 2007.

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**Item 2.   MANAGEMENT’SDISCUSSSION AND ANALYSIS OF FINANACIAL CONDITION AND RESULTS OF OPERATIONS**

**FORWARD-LOOKING STATEMENTS**

Certain statements inthis Quarterly Report on Form 10-Q, other than purely historicalinformation, including estimates, projections, statements relating to ourbusiness plans, objectives and expected operating results, and the assumptionsupon which those statements are based, are “forward-looking statements” withinthe meaning of the Private Securities Litigation Reform Act of 1995,Section 27A of the Securities Act of 1933 and Section 21E of theSecurities Exchange Act of 1934. These forward-looking statements are basedupon our current expectations about future events. When used in this QuarterlyReport, the words “believes,” “projects,” “expects,” “anticipates,”“estimates,” “intends,” “strategy,” “plan,” “may,” “will,” “would,” “will be,”“will continue,” “will likely result,” and similar expressions, or the negativeof such words and expressions, are intended to identify forward-lookingstatements, although not all forward-looking statements contain such words orexpressions. These forward-looking statements generally relate to our plans,objectives and expectations for future operations. However, these statementsare subject to a number of risks and uncertainties affecting our business. Youshould read this Quarterly Report completely and with the understanding thatactual future results may be materially different from what we expect as aresult of these risks and uncertainties and other factors, which include, butare not limited to:  (1) the potentialdelisting of the Company’s common stock from the Nasdaq Global Market,(2) changes in general economic and business conditions, domestically andinternationally, (3) reductions in sales to, or the loss of, any of theCompany’s significant customers or in customer capacity generally, (4) theCompany’s inability to realize expected cost savings by shifting production toits Shanghai facility, (5) changes in the Company’s sales mix to lowermargin products, (6) increased competition in the Company’s industry,(7) disruptions of the Company’s established supply channels, (8) theCompany’s level of debt and restrictions imposed by its debt agreements, and(9) the additional risk factors in our filings with the Securities andExchange Commission, including our Annual Report on Form 10-K (CommissionFile No. 000-50593).  Except asrequired by law, the Company undertakes no obligation to update anyforward-looking statements, even though the Company’s situation may change inthe future.

**OVERVIEW**

**Business**

We are a designer andmanufacturer of power supplies for OEMs. Our advanced power supplyproducts are typically custom designed into mid- to high-end commercialapplications in the computing and storage, wireless infrastructure, enterprisenetworking, telecom, medical and industrial markets.

We operate worldwide andhave facilities in Orange County, California; Bombay, India; Wavre, Belgium(Europe) and Shanghai, China. In August 2006, we announced our intentionto close our facility in Guadalajara, Mexico, and we ceased operations there inMarch 2007. We were founded in 1978 in Orange County, California. As weexpanded our business and customer base, we opened facilities in Bombay, India,Guadalajara, Mexico, and Shanghai, China. In June 2000, we acquiredCherokee Europe, which added a manufacturing facility in Wavre, Belgium to ourmanufacturing capacity and enabled us to better serve the European market.

We generate all of oursales in four market sectors, datacom, telecom, industrial, and medical. Forthe quarter ended April 1, 2007, our revenues by market sector consisted of 43%datacom, 31% telecom, and 26% industrial, medical and other.

During the first quarter of 2007, we experiencedseasonality and a general slow down in our end markets.  Datacom was down 26%, industrial and medicalwere down 21%, and telecom was down 8% from the fourth quarter of 2006.  The Company did not lose any customerprograms during the quarter.  Thedecrease is a reflection of weakened end user demand.  We experienced slower demand approximatelymid-way through the first quarter of 2007.

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**Basis ofReporting**

***Principles of Consolidation***

The consolidatedfinancial statements include the financial statements of the Company and itswholly owned subsidiaries, Cherokee Europe SCA and related entities (“CherokeeEurope”), Cherokee Electronica, S.A. DE C.V. (“Cherokee Mexico”), CherokeeIndia Pvt. Ltd. (“India”), Powertel India Pvt. Ltd. (“Powertel”), andCherokee International (China) Power Supply LLC (“Cherokee China”).Inter-company accounts and transactions have been eliminated.

*NetSales*

We recognize revenue whenpersuasive evidence of an arrangement exists, title transfer has occurred, theprice is fixed or readily determinable, and collectibility is probable. Werecognize revenue in accordance with Staff Accounting Bulletin No. 104, *Revenue Recognition.*Salesare recorded net of discounts, which are estimated at the time of shipmentbased upon historical data. Changes in assumptions regarding the rate of salesdiscounts earned by our customers could impact our results.

We generally recognizerevenue at the time of shipment because this is the point at which revenue isearned and realizable and the earnings process is complete. For most shipments,title to shipped goods transfers at the shipping point, so the risks andrewards of ownership transfer once the product leaves our facility orthird-party hub. Revenue is only recognized when collectibility is reasonablyassured. Shipping and handling fees are included in revenue, with related costsrecorded to cost of sales.

*Costof Sales*

The principal elementscomprising cost of sales are raw materials, labor and manufacturing overhead.Raw materials account for a large majority of our costs of sales. Raw materialsinclude magnetic sub-assemblies, sheet metal, electronic and other components,mechanical parts and electrical wires. Direct labor costs include costs ofhourly employees. Manufacturing overhead includes salaries, and the directexpense and allocation of costs attributable to manufacturing for lease costs,depreciation on property, plant and equipment, utilities, property taxes andrepairs and maintenance.

*OperatingExpenses*

Operating expensesinclude engineering costs, selling and marketing costs and general andadministrative expenses. Engineering costs primarily include salaries andbenefits of engineering personnel, safety approval and quality certificationfees, and depreciation on equipment and consulting and professional services.Selling and marketing expenses primarily include salaries and benefits toaccount managers and commissions to independent sales representatives.Administrative expenses primarily include salaries and benefits for certainmanagement and administrative personnel, professional fees and informationsystem costs. Operating expenses also include the direct expense and allocationof costs attributable to these departments for lease costs, depreciation onproperty, plant and equipment, utilities, property taxes and repairs andmaintenance.

**Critical Accounting Policies**

We prepare our condensed consolidatedfinancial statements in conformity with accounting principles generallyaccepted in the United States. As such, we are required to make certainestimates, judgments and assumptions that we believe are reasonable based uponthe information currently available. These estimates and assumptions affect thereported amounts of assets and liabilities at the date of the condensed consolidatedfinancial statements and the reported amounts of revenues and expenses duringthe periods presented. Any future changes to these estimates and assumptionscould have a material effect on our reported amounts of revenue, expenses,assets and liabilities. The significant

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accounting policies thatwe believe are the most critical to aid in fully understanding and evaluatingour reported financial results include the following:

*RevenueRecognition*

We recognize revenue whenpersuasive evidence of an arrangement exists, title transfer has occurred, theprice is fixed or readily determinable, and collectibility is probable. Werecognize revenue in accordance with Staff Accounting Bulletin No. 104, *Revenue Recognition.*Sales are recordednet of discounts, which are estimated at the time of shipment based uponhistorical data. Changes in assumptions regarding the rate of sales discountsearned by our customers could impact our results.

We generally recognizerevenue at the time of shipment because this is the point at which revenue isearned and realizable and the earnings process is complete. For most shipments,title to shipped goods transfers at the shipping point, so the risks andrewards of ownership transfer once the product leaves our facility orthird-party hub. Revenue is only recognized when collectibility is reasonablyassured. Shipping and handling fees are included in revenue with related costsrecorded to cost of sales.

The Company has enteredinto arrangements with certain customers whereby products are delivered to athird-party warehouse location for interim storage until subsequently shippedand accepted by our customers. Revenues from these sales are recognized uponshipment from the third-party warehouse location to the customers, when titlehas passed. The Company offers a one-year warranty for defective products.Warranty charges have been insignificant during the periods presented.

*AccountsReceivable*

We perform ongoing creditevaluations of our customers and adjust credit limits based upon paymenthistory, the customer’s current credit worthiness and various other factors, asdetermined by our review of their current credit information. We continuouslymonitor collections and payments from our customers and maintain a provisionfor estimated credit losses based upon our historical experience and anyspecific customer collection issues that we have identified. While credit losseshave historically been within our expectations and the provisions established,we might not continue to experience the same credit loss rates that we have inthe past. A significant portion of our accounts receivable are concentrated ina small number of customers. A significant change in the liquidity or financialposition of any one of these customers could have a material adverse effect onthe collectibility of our accounts receivable, our liquidity and our futureoperating results. As of April 1, 2007 and December 31, 2006, our top tencustomers accounted for approximately 50% and 41% of our accounts receivables,respectively.

***Credit Risk***

The Company performsongoing credit evaluations of its customers and generally does not requirecollateral. The Company maintains reserves for estimated credit losses. TheCompany generally does not charge interest on customer balances.

***Translation of Foreign Currencies***

Foreign subsidiary assetsand liabilities denominated in foreign currencies are translated at theexchange rate in effect on the balance sheet date. Revenues, costs and expensesare translated at the average exchange rate during the period. Transactiongains and losses are included in results of operations and have not beensignificant for the periods presented. The functional currency of CherokeeEurope is the Euro. The functional currency of Cherokee Mexico, India, Powerteland Cherokee China is the U.S. dollar, as the majority of transactions aredenominated in U.S. dollars. Translation adjustments related to Cherokee Europeare reflected as a component of stockholders’ equity in other comprehensiveincome (loss).

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*Inventories*

We value our inventory atthe lower of the actual cost to purchase and/or manufacture the inventory andthe current estimated market value of the inventory using the weighted averagecost method. We regularly review inventory quantities on hand and record aprovision for excess and obsolete inventory based primarily on our historicalusage data and estimates of future demand. Since substantially all of ourproducts are manufactured according to firm purchase orders and customerforecasts, we evaluate the potential of recovery from our customers whencustomized products approach end-of-life. Our customers are generally liable forinventory costs we incur for order cancellations that occur after we havecommitted resources to procure or manufacture product. We also regularlyevaluate inventory that is non-compliant with the RoHS directive to determineif additional reserves are needed to cover for potential obsolescence. We havenot established a separate reserve for non-RoHS compliant inventory above whatour normal calculations would require.

Our industry ischaracterized by rapid technological change, frequent new product development,and rapid product obsolescence that could result in an increase in the amountof obsolete inventory quantities on hand. As demonstrated during the past fiveyears, demand for our products can fluctuate significantly. A significantincrease in the demand for our products could result in a short-term increasein the cost of inventory purchases while a significant decrease in demand couldresult in an increase in the amount of excess inventory quantities on hand. Inaddition, our estimates of future product demand may prove to be inaccurate, inwhich case we may have understated or overstated the provision required forexcess and obsolete inventory. In the future, if our inventory were determinedto be overvalued, we would be required to recognize additional expense in ourcost of sales at the time of such determination. Likewise, if our inventory isdetermined to be undervalued, we may have over reported our costs of sales inprevious periods and would be required to recognize additional operating incomeat the time such inventory is sold. Therefore, although we make everyreasonable effort to ensure the accuracy of our estimates of future productdemand, any significant unanticipated changes in demand or technologicaldevelopments could have a material effect on the value of our inventory and ourreported operating results.

*DeferredTaxes*

We recognize deferred taxassets and liabilities based on the differences between the financial statementcarrying values and the tax bases of assets and liabilities. We regularlyreview our deferred tax assets for recoverability and establish a valuationallowance based on historical taxable income, projected future taxable income,and the expected timing of the reversals of existing temporary differences. Ifour future taxable income is significantly higher than expected and/or we areable to utilize our tax credits, we may be required to reverse all or asignificant part of our valuation allowance against such deferred tax assetswhich could substantially reduce our effective tax rate for such period.Therefore, any significant changes in statutory tax rates or the amount of ourvaluation allowance could have a material effect on the value of our deferredtax assets and liabilities and our reported financial results.

The preparation of condensedconsolidated financial statements in conformity with generally acceptedaccounting principles in the United States requires us to make estimates andassumptions that affect the reported amount of tax-related assets andliabilities and income tax provisions. The Company’s effective tax rate may besubject to fluctuations during the fiscal year as new information is obtainedwhich may affect the assumptions management uses to estimate the annualeffective tax rate including mix of pre-tax earnings in the various taxjurisdictions in which it operates.

The Companyadopted the provisions of FASB Interpretation (FIN) 48, *Accounting for Uncertainty in Income Taxes* (FIN 48) onJanuary 1, 2007. FIN 48 clarifies the accounting for uncertainty in incometaxes recognized in an enterprise’s financial statements in accordance withSFAS 109, *Accounting for Income Taxes*, byprescribing a recognition threshold and measurement attribute for the financialstatement recognition and measurement of a tax position taken or expected to betaken in a tax return. Under FIN 48, the financial statement effects of a taxposition should initially be recognized when it is more likely than not, basedon the technical merits, that the position will be sustained upon examination.A tax position that meets the more-likely-than-not recognition threshold shouldinitially and subsequently be measured as the largest amount of tax benefitthat has a greater than

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fifty percent likelihoodof being realized upon ultimate settlement with a taxing authority. FIN 48 iseffective for fiscal years beginning after December 15, 2006. See Note 3,“Provision for Income Taxes” in Notes to Unaudited Condensed ConsolidatedFinancials Statements for additional information regarding the impact ofadoption.

United States incometaxes are not provided on undistributed earnings from certain foreignsubsidiaries. Those earnings are considered to be permanently re-invested inaccordance with the Accounting Principles Board (APB) Opinion 23.

***Other Comprehensive Income***

Belgium taxes forunrealized foreign exchange gains on an intercompany loan consideredpermanently re-invested are provided for as a component of other comprehensiveincome. Foreign exchange gains were recognized as Belgium taxable income in2005 and 2006 from repayments of the loan.

*Goodwilland Long Lived Assets*

We review therecoverability of the carrying value of goodwill on an annual basis or morefrequently when an event occurs or circumstances change to indicate that animpairment of goodwill has possibly occurred. The determination of whether anypotential impairment of goodwill exists is based upon a comparison of the fairvalue of the reporting unit to the accounting value of its net assets.

We also review the recoverabilityof the carrying value of long-lived assets whenever events or changes incircumstances indicate that the carrying amount of an asset may not berecoverable. Recoverability of these assets is determined based upon theforecasted undiscounted future net cash flows from the operations to which theassets relate, utilizing our best estimates, appropriate assumptions andprojections at the time. These projected future cash flows may varysignificantly over time as a result of increased competition, changes intechnology, fluctuations in demand, consolidation of our customers andreductions in average selling prices. If the carrying value is determined notto be recoverable from future operating cash flows, the asset would be deemedimpaired and an impairment loss would be recognized to the extent the carryingvalue exceeded the estimated fair market value of the asset.

***Stock-Based Compensation***

The Company adopted SFAS123R on January 2, 2006 using the “modified prospective” method aspermitted by SFAS 123R. Under this transition method, stock compensation costrecognized beginning in the first quarter of fiscal year 2006 includes: (a) compensation cost for all share-based payments granted subsequent toFebruary 25, 2004 and prior to January 1, 2006 but not yet vested asof January 1, 2006, based on the grant-date fair value estimated inaccordance with the provisions of SFAS 123R, and (b) compensation cost forall share-based payments granted subsequent to January 1, 2006, based onthe grant-date fair value estimated in accordance with the provisions of SFAS123R. In accordance with the modified prospective method of adoption, theCompany’s results of operations and financial position for prior periods havenot been restated. At the date of the adoption, the unamortized expense foroptions issued prior to January 2, 2006 was $2.3 million, which will beamortized as stock compensation costs through December 2010.

All grants are made atprices based on the fair market value of the stock on the date of grant. Outstandingoptions generally vest over periods ranging from two to four years from thegrant date and generally expire up to ten years after the grant date.

The Company recordscompensation expense for employee stock options based on the estimated fair valueof the options on the date of grant using the Black-Scholes option pricingformula with the assumptions included in the table below. The Company useshistorical data, among other factors, to estimate the expected price volatilityand the expected forfeiture rate. For options granted prior to January 2,2006, the Company used the expected option life of 5 years. For options grantedfollowing the Company’s adoption of SFAS 123R, the expected life was increasedto 6.25 years using the “simplified method” under SAB 107 (an expected termbased on the mid-point between the

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vesting date and the endof the contractual term). The use of the simplified method is permitted throughDecember 31, 2007. We will convert to company-specific experience on orbefore January 1, 2008. The options have a maximum contractual term of 10years and vest pro-rata over four years. The risk-free rate is based on the U.S. Treasury yield curve in effectat the time of grant for the estimated life of the option.

**RESULTS OFOPERATIONS FOR THE QUARTER ENDED APRIL 1, 2007 COMPARED TO THE QUARTER ENDED APRIL 2, 2006**

**NETSALES**

Net sales decreased byapproximately 16.8%, or $6.1 million, to $30.0 million for the quarter endedApril 1, 2007 from $36.1 million for the quarter ended April 2, 2006.During the quarter ended April 2, 2006, net sales included $5.5 millionof telecom sales from one of our largest customers, compared to no sales tothem during the quarter ended April 1, 2007 due to their decrease indemand.

Our business remains largely dependent upon thelimited number of customers within the computing and storage, wirelessinfrastructure, enterprise networking, medical and industrial markets, and wecannot guarantee that we will continue to be successful in attracting newcustomers or retaining or increasing business with our existing customers. As aresult, our revenues could be significantly reduced if a large customer reducedits demand for our products.

**GROSSPROFIT**

Gross profit decreased byapproximately 32.9%, or $2.8 million, to $5.7 million for the quarter endedApril 1, 2007 from $8.5 million for the quarter ended April 2, 2006. Grossmargin for the quarter ended April 1, 2007 decreased to 19.0% from 23.6% in theprior year period.

For the quarter endedApril 1, 2007, approximately $2.3 million decrease in gross profitswas related to lower sales, $0.3 million was related to productiontransition costs in the factory overhead area caused by running dual operationsin Mexico and China, and $0.2 million was from the under absorption of ourtotal fixed overhead costs due to lower sales volumes.

**OPERATINGEXPENSES**

Operating expenses forthe quarter ended April 1, 2007 increased by approximately 18.1%, or $1.2million, to $7.8 million from $6.6 million for the quarter ended April 2,2006. As a percentage of net sales, operating expenses increased to 26.1% from18.4% in the prior year period.

Selling and marketingexpense increased by $0.6 million, of which $0.2 million is related to anincrease in marketing and advertising expense. In the first quarter of 2006, weexecuted a mutual release agreement with a former business partner. Theagreement released both parties from obligations arising from past transactions.As a result of this agreement, we made a one-time adjustment to reduce ourselling and marketing expense by $0.4 million during the quarter endedApril 2, 2006.

During the third quarterof 2006, the Company announced the planned closure of its Mexico Facility.  The Company incurred $0.2 million ofoperating costs related to severance and facility closure costs during thequarter ended April 1, 2007 that did not occur in the comparable period from2006. In addition, we incurred $0.2 million of redundant selling, generaland administrative costs during the quarter ended April 1, 2007, relatedto the closure of the Mexico Facility. We also incurred approximately$0.2 million of professional fees, and out of pocket related costs from additionalwork required to file our 2006 Form 10-K during the quarter, compared tonone during the quarter ended April 2, 2006.

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Engineering anddevelopment costs increased by $0.3 million related to the increase inheadcount to support our increase in new product research and development.

**OPERATINGINCOME (LOSS)**

As a result of the factors discussed above, operatingincome decreased $4.0 million to a loss of ($2.1) million for the quarter endedApril 1, 2007, from income of $1.9 million for the quarter ended April 2,2006. Operating margin decreased to a loss of 7.1% from income of 5.2% in theprior year period.

**INTEREST EXPENSE**

Interest expense for bothquarters ended April 1, 2007, and April 2, 2006 was $0.7 million..  The interest expense is primarily related topayments for the $46.6 million of senior notes bearing interest at 5.25%annually.

**INCOME TAXES**

Provision (benefit) for income taxes for the quarterended April 1, 2007 and the comparable period of April 2, 2006, was a ($0.6)million benefit and a $0.4 million expense, respectively. The benefit for thequarter ended April 1, 2007 is lower by $1.1 million than the comparable periodof April 2, 2006 due to operating losses generated in tax jurisdictions whichwere taxable in the prior year.  Based onavailable evidence, management expects the benefit to be realized prior toyear-end.

Provision (benefit) for income taxes for the quarterended April 1, 2007 was calculated by estimating taxable income (loss) forcertain tax jurisdictions using actual year to date operating results whichrepresents the best estimate of the effective tax rate for the full fiscalyear.

**NETINCOME (LOSS)**

As a result of the factors discussed above, werecorded a net loss of $2.0 million for the quarter ended April 1, 2007, comparedto $0.8 million of net income for the quarter ended April 2, 2006.

**LIQUIDITYAND CAPITAL RESOURCES**

**CASHFLOWS**

**FOR THE QUARTERENDED APRIL 1, 2007 COMPARED TO THE QUARTER ENDED APRIL 2, 2006**

Net cash provided by operating activities for thequarter ended April 1, 2007, was $1.3 million, compared to net cash provided byoperating activities of $2.1 million for the quarter ended April 2, 2006.

Net cash provided by operating activities for thequarter ended April 1, 2007 reflected a net loss of ($2.0) million which wasprimarily a result of our lower revenue, a $2.3 million increase in inventory,a $1.0 million decrease in accounts payable and a $1.1 million decrease inaccrued liabilities and restructuring. This was offset by $0.9 million in depreciation and amortization, $0.2million of stock-based compensation related to SFAS 123R, a $4.7 milliondecrease in accounts receivable, a $1.1 million increase in accruedcompensation, a $0.6 million increase in accrued interest payable and a $0.3million increase in other long-term obligations.

Net cash provided by operating activities was $2.1million for the quarter ended April 2, 2006.  Net cash provided by operating activities forthe quarter ended April 2, 2006 reflected the positive effect of $0.8 millionin net income, $0.8 million of depreciation and amortization, $0.2 million ofstock-based compensation related to SFAS 123R, an increase in accounts payableof $2.7 million, a $0.8 million increase in accrued compensation andbenefits, a $0.6 million increase in accrued interest payable, and a $0.5million increase in other long-term obligations. These

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amountswere partially offset by a $0.3 million increase in accounts receivable, a$2.5 million increase in inventories, a $0.7 million increase in prepaidexpenses and other current assets, a $0.1 million increase in deposits andother assets, and a $0.9 million decrease in accrued liabilities andrestructuring costs.

Net cash used in investing activities for the quarterended April 1, 2007 was $0.7 million, which was primarily related to capitalexpenditures for our China facility. Net cash used in investing activities forthe quarter ended April 2, 2006 was $0.3 million related to capitalexpenditures.

Net cash provided by financing activities was $1.3 millionfor the quarter ended April 1, 2007, compared to no financing activities forthe quarter ended April 2, 2006. In January 2007, we opened a credit facilitywith the Industrial and Commercial Bank of China Ltd., or ICBC.  Pursuant to the loan contract, ICBC willadvance up to the equivalent of approximately $3.0 million, expressed as RMB25.0 million. The line is collateralized by the Company’s building in Shanghai,China. In the first quarter of 2007, Cherokee China borrowed $1.3 million underthis credit facility to support working capital requirements as our Chinasubsidiary builds inventory and incur value-added tax on local purchases.

**LIQUIDITY**

We expect our liquidityrequirements will be primarily for working capital and capital expenditures. Asof April 1, 2007, we had cash and cash equivalents of $10.8 million, workingcapital of $39.8 million, no outstanding borrowings under our mainrevolving credit facility and borrowing base availability of $13.6 millionunder the same facility.  The Company alsoexperienced an increase in inventory of $2.4 million since the year endedDecember 31, 2006.  The primary reasonfor the increase is related to finished goods inventory shipped to third-partywarehouse locations. Revenues from these sales will be recognized upon shipmentfrom the third-party warehouse location to the customers, when title haspassed.  Historically, we have financedour operations with cash from operations supplemented by borrowings from creditfacilities and debt and equity issuances. Besides our credit line in the UnitedStates, Cherokee Europe also maintains a working capital line of credit ofapproximately $4.1 million with Bank Brussels Lambert, a subsidiary ofINGBelgie NV, a bank in Brussels, which is denominated in Euros, and is collateralizedby a pledge in first and second rank over a specific amount of business assets.The facility requires Cherokee Europe to maintain a certain solvency ratio andis cancelable at any time. As of April 1, 2007, we had no outstandingborrowings under the facility.

In January 2007, weopened a credit facility with the Industrial and Commercial Bank of China Ltd.,or ICBC. Pursuant to the contract, ICBC will advance up to the equivalent ofapproximately $3.0 million, expressed as RMB 25.0 million. The line iscollateralized by the Company’s building in Shanghai, China. Interest ispayable monthly at a fixed rate based on the transaction date of ourborrowings, the rates vary according to the specific dates and are announced bythe People’s Bank of China. This facility is intended for working capitalrequirements in China, especially as our China subsidiary builds inventory forexport to the United States and Europe and incur value-added tax on localpurchases that can only be recovered through in-country sales of ourproduct.  As of April 1, 2007, CherokeeChina had $1.3 million of borrowings under this line of credit.

We believe these amounts,together with cash flow from operations and our credit lines in the UnitedStates, Europe and China, are sufficient to meet our cash requirements for atleast the next twelve months.

The prior two years, 2006and 2005, were unusual in that we financed the building, capital expendituresand start-up working capital requirements of our new Shanghai facility entirelyfrom internally generated cash. Our ongoing current and future liquidity needsprimarily arise from working capital requirements and capital expenditures thathave now returned to comparable historical levels as we have completed theconstruction of our plant in China. Our historical capital expenditures haveprimarily resulted from investments in equipment to increase or replacemanufacturing capacity and to improve manufacturing efficiencies.

For 2007, we expectglobal capital expenditures to be approximately $2.9 million, which will relateprimarily to our investments in manufacturing equipment at our facilities ofwhich $1.7 million will be for our China facility.

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Our required capitalinvestment in China is decreasing rapidly. In 2006 our China facility required$3.0 million, or almost twice what we expect to spend in 2007. In 2005,starting our China facility required $5.5 million, or over three times theanticipated spending for 2007.

As of April 1, 2007, wehad approximately $46.6 million of senior notes bearing an annual interest rateof 5.25%, payable semi-annually.  Thesenotes become due on November 1, 2008. Our plan for 2007 through 2009 projects that we will have adequate cashflow to support refinancing these notes at current market rates.  Based on preliminary discussions with thirdparties, management is optimistic that several viable solutions will beavailable to the Company for satisfying this obligation on or before its statedmaturity date.

***ContractualObligations***

As of April 1, 2007,our borrowings consisted of approximately $46.6 million of senior notes bearinginterest at 5.25% annually, and no outstanding borrowings under our revolvingcredit facility. We are required to make semi-annual interest payments toholders of the senior notes.

We have operating leaseobligations relating to our facilities in Tustin and Irvine, California, andBombay, India.

We have purchasecommitments primarily with vendors and suppliers for the purchase of inventoryand for other goods, services, and equipment as part of the normal course ofbusiness. These commitments are generally evidenced by purchase orders that mayor may not include cancellation provisions. Based on current expectations, wedo not believe that any cancellation penalties we incur under these obligationswould have a material adverse effect on our financial condition or results ofoperations.

Thematurities of our long-term debt, including capital leases, and future paymentsrelating to our operating leases and other obligations as of April 1, 2007 areas follows (in thousands):
| Contractual Obligations                               | ** ** | **April 2, 2007 to  December 30, 2007** | ** ** | **2008** | ** ** | **2009** | ** ** | **2010** | ** ** | **2011** | ** ** | **Thereafter** | ** ** | **Total** | ** ** |
|------------------------------------------------------------|------------|------------------------------------------------------------------|------------|----------|------------|----------|------------|----------|------------|----------|------------|----------------|------------|-----------|------------|
| Long-term debt                                             |       | $                                                                | —     |     | $          | 46,630   |       | $        | —     |     | $          | —         |       | $         | —     |   | $ | — |   | $ | 46,630 |   |
| Operating leases                                           |       | 1,218                                                            |       | 1,634    |       | 592      |       | 30       |       | 20       |       | 112            |       | 3,606     |       |
| Purchase order  commitments                                |       | 16,686                                                           |       | —   |       | —   |       | —   |       | —   |       | —         |       | 16,686    |       |
| 1999 Europe  restructuring                                 |       | 139                                                              |       | 152      |       | 299      |       | 53       |       | —   |       | —         |       | 643       |       |
| 2003 Europe  restructuring                                 |       | 191                                                              |       | 238      |       | 232      |       | 214      |       | 175      |       | 346            |       | 1,396     |       |
| Long service  award                                        |       | 13                                                               |       | 50       |       | 97       |       | 187      |       | 20       |       | 465            |       | 832       |       |
| Deferred  compensation                                     |       | —                                                           |       | —   |       | —   |       | —   |       | —   |       | 1,168          |       | 1,168     |       |
| Advances for  research and development                     |       | 101                                                              |       | 59       |       | 55       |       | 55       |       | 55       |       | 337            |       | 662       |       |
| Severances and  bonuses related to Mexico facility closure |       | 347                                                              |       | —   |       | —   |       | —   |       | —   |       | —         |       | 347       |       |
| Total                                                      |       | $                                                                | 18,695     |     | $          | 48,763   |       | $        | 1,275      |     | $          | 539            |       | $         | 270        |   | $ | 2,428 |   | $ | 71,970 |   |

 

The long-term liabilityfor accrued pension costs included on the consolidated balance sheet isexcluded from the table above. Cherokee is unable to estimate the timing ofpayments for these costs. Cherokee anticipates making non-U.S. pensioncontributions of $250,000 in 2007.

Long-term debt includesour senior notes, which mature on November 1, 2008. Interest on the seniornotes is payable in cash on May 1 and November 1 of each year. Thesenior notes are secured by a second-priority lien on substantially all of ourdomestic assets and by a pledge of 65% of the equity of certain of our foreignsubsidiaries.

The Credit Facilityprovides for borrowings of up to $20.0 million, subject to a borrowing basecomprised of eligible accounts receivables and inventory, which was $13.6million at April 1, 2007. We plan to use funds available under the CreditFacility to finance working capital and other cash requirements as needed. TheCredit Facility matures in August 2008 and bears interest, at our option,at a rate per annum equal to LIBOR plus 2.5% or

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the agent bank’s baserate plus 1.0%. In addition to paying interest on outstanding principal, we arerequired to pay a commitment fee to the lenders under the Credit Facility in respectof the average daily balance of the unused loan commitment at a rate of 0.5%per annum. The Credit Facility is our senior obligation and ranks equal inright of payment with our existing and future permitted senior debt (includingour senior notes), and senior in right of payment to our future permittedsubordinated debt. The Credit Facility is secured by a first-priority lien,subject to permitted encumbrances, on substantially all of our domestic assetsand by a pledge of 65% of the equity of certain of our foreign subsidiaries.

The agreements governingthe Credit Facility and our senior notes contain covenants that restrict ourbusiness operations, including covenants limiting our ability to makeinvestments, enter into mergers or acquisitions, dispose of assets, incuradditional debt, grant liens, enter into transactions with affiliates, redeemor repurchase our capital stock, repay other debt and pay dividends, andcontains a financial ratio test based on senior leverage. They also containcustomary events of default, including defaults in the payment of principal orinterest, defaults in the compliance with the covenants contained in theagreements governing our debt, cross defaults to other material debt andbankruptcy or other insolvency events.

Cherokee Europe maintainsa working capital line of credit of approximately $4.1 million with BankBrussels Lambert, a subsidiary of ING Belgie NV, a bank in Brussels, which isdenominated in Euros, collateralized by a pledge in first and second rank over aspecific amount of business assets, requires Cherokee Europe to maintain acertain specific minimum solvency ratio and is cancelable at any time. As ofApril 1, 2007, Cherokee Europe had no outstanding borrowings under the line ofcredit.

Cherokee China enteredinto a loan contract with Industrial and Commercial Bank of China Ltd. (“ICBC”)for a working capital line of credit during January 2007. Pursuant to thecontract, ICBC agreed to make advances up to the equivalent of approximately$3.0 million, expressed as RMB 25.0 million. The line of credit iscollateralized by the Company’s building in Shanghai, China. The term endsJanuary 29, 2008 but is cancelable at any time. Interest is payablemonthly at a fixed rate based on the transaction date of our borrowings, therates vary according to the specific dates and are announced by the People’sBank of China. Beginning with its initial borrowing under the contract,Cherokee China has agreed to deposit in the ICBC Shanghai Branch at least 90%of the operating revenue it collects. As of April 1, 2007, Cherokee China had$1.3 million of borrowings under this line of credit.

As of April 1, 2007, wewere in compliance with all of the covenants set forth in the principalagreements governing our debt, except for the submittal of our annual auditedfinancial statements to the Credit Facility within 120 days of our fiscal yearend. On April 2, 2007, we were out of compliance with the requirement tosubmit our annual audited financial statements to the Agent, within 120 days ofour fiscal year end. On May 10, 2007 we obtained a waiver of this default fromthe Agent, which extended the deadline for submitting our audited financialstatements until August 31, 2007. On May 23, 2007 we filed our Form 10-K with the SEC and forwarded ouraudited financial statements to the Agent on May 25, 2007.

Based on our presentexpectations, we believe that our existing cash and cash equivalents, workingcapital and available borrowing capacity at April 1, 2007 will be sufficient tomeet our anticipated cash requirements for the next twelve months, includingoperating requirements, contractual obligations, planned capital expendituresand debt service.

**RECENTACCOUNTING PRONOUNCEMENTS**

For a discussion of the impact of recently issued accountingpronouncements, see the subsection entitled “Recent Accounting Pronouncements”contained in “Note 2 of the Notes to Condensed Consolidated FinancialStatements” under “Item 1. Financial Statements.”

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**Item 3.   QUANTITATIVEAND QUALITATIVE DISCLOSURES ABOUT MARKET RISK**

Market risk relating toour operations results primarily from changes in foreign currency exchangerates and short-term interest rates. We did not have any derivative financialinstruments at April 1, 2007.

We had no variable ratedebt outstanding at April 1, 2007. However, any debt we incur under the CreditFacility and the Cherokee Europe line of credit will bear interest at avariable rate. We cannot predict market fluctuations in interest rates andtheir impact on any variable rate debt we may incur in the future, nor canthere be any assurance that fixed rate long-term debt will be available to usat favorable rates, if at all.

The functional currencyfor our European operations is the Euro. We are, therefore, subject to acertain degree of market risk associated with changes in foreign currencyexchange rates. This risk is mitigated by the fact that our revenues andexpenses are generally both transacted in Euros, thereby reducing the risk offoreign currency fluctuation on our European operations. The effect of foreigncurrency exchange rate fluctuations on our operating results as of and for thequarter ended April 1, 2007, was not material. Historically, we have notactively engaged in exchange rate-hedging activities.

**Item 4.   CONTROL AND PROCEDURES**

(a)    *Evaluationof Disclosure Controls and Procedures*

As of April 1, 2007, the end of the period covered bythis Quarterly Report on Form 10-Q, our management, including our Chief ExecutiveOfficer and our Chief Financial Officer, reviewed and evaluated theeffectiveness of our disclosure controls and procedures (as defined inSecurities Exchange Act of 1934, Rule 13a-15(e) and 15d-15(e)). Such disclosurecontrols and procedures are designed to ensure that material information wemust disclose in this report is recorded, processed, summarized, and filed orsubmitted on a timely basis. Based upon this evaluation and due to materialweaknesses existing in our internal controls as of December  31, 2006(described below), which have not been fully remediated as of April 1, 2007 wehave concluded that, as of April 1, 2007, our disclosure controls andprocedures were ineffective. 

(b)    *Changesin Internal Control over Financial Reporting*

A material weakness is a significant deficiency, orcombination of significant deficiencies, that results in more than a remotelikelihood that a material misstatement of the annual or interim financialstatements will not be prevented or detected.

As reported in Item 9A of our Annual Report onForm 10-K (for the year ended December 31, 2006) filed with the Securities andExchange Commission on May 23, 2007, we disclosed various material weaknessesin our internal controls over our financial reporting.  The following is an update on the progress ofour remediation’s efforts:

*Architecture of Company’s IT systems does notpresently support the financial reporting requirements of the Company’sInternational operations.*

Our subsidiaries in Indiaand China (and our former subsidiary in Mexico) all maintain disparatefinancial accounting systems that do not interface with the Company’s primaryERP system, resulting in duplicate accounting entries on multiple systems. Thiscauses a protracted reporting cycle with insufficient or untimely oversightfrom corporate headquarters of transactional details at our internationalsites. Site level financial statements are delivered on spreadsheets to thecorporate office for consolidation.

Our European operationhas its own separate ERP system that is integrated into the local accountingsystem; however this system does not automatically interface financially withour corporate headquarters. Therefore,

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financial results arealso delivered to our corporate office by means of spreadsheets, and thecorporate office also has insufficient visibility to transactional details.

The consolidation of allthese local results delivered on spreadsheets is in turn prepared onspreadsheets at our corporate office. Consolidations performed on spreadsheetsare prone to human error and are difficult to review. In addition, becausespreadsheet maintenance of the consolidation process by necessity is a oneperson task and the person performing that task also makes journal entries,this process results in an inadequate segregation of duties. As such, theexisting consolidation process requires additional monitoring and oversightthat was not performed because of staffing constraints in the accounting area.Segregation of duties, oversight and monitoring are discussed in more detailbelow.

The Company will performa comprehensive assessment of its current IT architecture and projected ITrequirements to develop a new IT strategy. Presently the Company believes theexisting corporate ERP system can be tailored for use as the mechanism toautomate report and consolidate our foreign subsidiary trial balance results.We have already started writing web based interfaces for the existing ERP andlocal accounting systems in China. We need to examine and decide what ITsolutions will be required for our other locations The Company will have toevaluate and decide how to supplement these technical IT solutions withadditional staffing and improved internal procedures.

*The methodology and support for valuing and capitalizinginventory costs, and determining inventory reserves*

Historically, the Companyhas never required tracking direct labor on an individual product basis. TheCompany’s historical method for capitalizing labor and overhead did not reflectfundamental changes in the business resulting from the diversion ofmanufacturing to Mexico and India to take advantage of reduced labor cost.

Also, the methodology,assumptions and support for determining inventory reserves, specificallysurplus and obsolescence, needs to be enhanced. This weakness also appeared inour 2004 report. Finally, during the Company’s year-end physical inventory inIndia the Company determined that cost of sales was being improperly valued.

We have since correctedthe improper valuation of cost of sales in India.

We have also correctedthe calculation for capitalizing inventory. This calculation is now subject todirect financial management oversight. In addition, we are establishingstandardized labor by model to support capitalization of labor to finishedgoods. The methodology and support for maintaining our inventory reserves,specifically surplus and obsolescence, has been under review and needs to beimplemented. The corporate office has also taken the additional step of usingthe ERP system information to verify monthly cost of sales in both India andChina.

*Segregation of duties*

The lack of an integratedfinancial reporting system creates the need for significant manual interventionand staffing to prepare spreadsheets, create eliminating entries, and make taxadjustments and U.S. GAAP adjustments and for other matters. In order toaccomplish all these and other manual tasks with existing corporate personnel,segregation of duties is not always considered. In certain instances, theperson performing the consolidation also prepared and recorded journal entries,an inadequate segregation of duties. The Company will evaluate the financialreporting and consolidation process to identify areas where segregation ofduties needs improvement.

We intend to resolvethese issues through procedural changes, staffing and/or additional oversight.

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*Oversight and monitoring controls*

Our remote locations,other than Europe, have one local controller with little more than clericalsupport to maintain the local accounting system, transport information from ourERP system to their local books, report financial statements to ourheadquarters in the U.S. and perform routine functions like accountreconciliations. Our controllers in Mexico and India have not been performingnormal accounts payable reconciliations, recording in-transit inventory orcorrectly calculating cost of sales.

Wehave identified and have performed or are working on the followingremediation’s to resolve the weakness in oversight and monitoring controls overinternational financial reporting:

·       Fiscal year 2006 was thefirst full year in the Company’s history in which the subsidiary controllers inour international sites did not report directly to their local countrymanagers. All subsidiary controllers now report to our new corporate controllerin the U.S. This change was made in the fourth quarter of 2005.

·       In 2006, the Company beganthe process of adding structure and uniformity of accounting standards andprocess among our site controllers by holding our first controllers’ conferenceat our corporate office. We started the critical self review of how accountingis performed worldwide.

·       More focused internalaudits of past problem areas need to be planned and executed.

·       The Company also has a newdirector of internal audit, a new corporate controller, and a new IT manager.

·       Enhanced oversight of thenormal closing process needs to be planned and any additional staffing changes,training or additions made.

·       Our Mexico facility is nowclosed and the sale of building has been completed. Employees have beendismissed or are in the process of being severed.

·       A plan for monitoring andtraining and auditing our subsidiary controllers will be developed with theaudit committee.

·       Theintercompany pricing issues in India that caused the cost of sales error havebeen resolved and the U.S. corporate office is performing monthly verificationof ERP generated cost of sales and inventory information in India and China.

The remediation of theweaknesses identified above and their associated risks is dependent on theCompany’s ability to address these issues effectively. The issues of ITsystems, people and process are interrelated and difficult to separate. Striking the optimum balance betweenimproved process, better trained and supervised staff and mission critical ITimprovements is essential for success.

Except as noted above, there have not been any changesin our internal control over financial reporting (as such term is defined inRules 13a-15(f) and 15d-15(f) under the Exchange Act) during ourApril 1, 2007 quarter-end that have materially affected, or are reasonablylikely to materially affect, our internal control over financial reporting.

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**PART II  OTHER INFORMATION**

**Item1.   Legal Proceedings**

In late March 2006,the Company learned that employees of its Indian subsidiary manufacturingoperations had made certain unauthorized payments that may have been inviolation of the Foreign Corrupt Practices Act and local laws. The facility inIndia is used for the sole purpose of manufacturing products for other Companylocations and, as such, does not generate revenue or issue invoices to externalcustomers. It manufactures approximately 6% (by volume) of the products offeredby the Company.

The subject payments, inthe aggregate, amount to approximately $40,000 in 2004 and 2005, and less than$10,000 in 2006. The Company retained outside counsel who conducted an internalinvestigation into these payments.  InJanuary 2007, the Company’s outside counsel met with the SEC to discuss theresults of the internal investigation. The Company considers this matter closed.

During the quarter ended April 1, 2007, we were not aparty to any material legal proceedings. We are occasionally a party tolawsuits relating to routine matters incidental to our business. As with alllitigation, we can provide no assurance as to the outcome of any particularlawsuit, and we note that litigation inherently involves significant costs.

**Item1A.   Risk Factors**

There have been no material changes to the Company’srisk factors from those disclosed in the Company’s 2006 Annual Report onForm 10-K.

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**Item6.   EXHIBITS**

**EXHIBIT INDEX**

Exhibits have heretoforebeen filed with the SEC and are incorporated herein by reference. Managementcontracts or compensatory plans or arrangements are marked with an asterisk.
| Exhibit No. | ** ** | **Description** |                                                                                                                                                                                                               |
|------------------|------------|-----------------|--------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
| 3.1              |       |            | Restated Certificate of Incorporation of Cherokee  International Corporation.(1)                                                                                                                                   |   |
| 3.2              |       |            | Amended and Restated By-Laws of Cherokee International  Corporation.(1)                                                                                                                                            |   |
| 4.1              |       |            | Specimen certificate for shares of common stock, par  value $0.001 per share.(3)                                                                                                                                   |   |
| 4.2              |       |            | Indenture, dated  as of November 27, 2002, between Cherokee International Corporation, as  issuer, and U.S. Bank, N.A., as trustee, relating to the 5.25% Senior Notes  due 2008.(2)                          |   |
| 4.3              |       |            | Form of 5.25% Senior Notes due 2008.(2)                                                                                                                                                                       |   |
| 10.1             |       |            | China Loan  Contract, dated January 18, 2007, by and between Cherokee International (China)  Power Supply Ltd. and Industrial and Commercial Bank of China Limited Shanghai  branch Fengxian sub-branch.           |   |
| 10.2             |       |            | China Maximum  Pledge Contract, dated January 18, 2007, by and between Cherokee International  (China) Power Supply Ltd. and Industrial and Commercial Bank of China Limited  Shanghai branch Fengxian sub-branch. |   |
| 31.1             |       |            | Certification of  President, Chief Executive Officer, and Director pursuant to Section 302  of the Sarbanes-Oxley Act of 2002.                                                                                |
| 31.2             |       |            | Certification of  Executive Vice President of Finance, Chief Financial Officer and Secretary  pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.                                                      |
| 32.1             |       |            | Certification of  CEO and CFO Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to  Section 906 of the Sarbanes-Oxley Act of 2002.                                                                 |

 

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(1)   Incorporatedby reference from the Registration Statement on Form S-8, filed by theRegistrant on March 16, 2004.

(2)   Incorporated byreference from the Registration Statement on Form S-1 (FileNo. 333-110723), filed by the Registrant on November 25, 2003.

(3)   Incorporatedby reference from Amendment No. 4 to the Registration Statement onForm S-1 (File No. 333-110723), filed by the Registrant onFebruary 17, 2004.

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**SIGNATURES**

Pursuant to the requirements of the SecuritiesExchange Act of 1934, the registrant has duly caused this report to be signedon its behalf by the undersigned, thereunto duly authorized.
|                         | CHEROKEE  INTERNATIONAL CORPORATION |
|-------------------------|-------------------------------------|
|                    |                                |   |
| Date: June 8, 2007 | By:                                 | /s/ JEFFREY M.  FRANK |
|                    |                                | Jeffrey M. Frank |
|                    |                                | President, Chief  Executive Officer, and Director |
| Date: June 8, 2007 | By:                                 | /s/ LINSTER W.  FOX |
|                    |                                | Linster W. Fox |
|                    |                                | Executive Vice  President, Chief Financial Officer,  and Secretary |
|                         |                                     |  |  |

 

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