Thirteen weeks ended
(in millions)		September 29, 2007			% of Net Sales			September 30, 2006			% of Net Sales			Change				% Change
Salaries and benefits		$	9.1		18.6	%		$	8.3		18.9	%		$	0.8			9.6	%
Occupancy and related expenses			6.6		13.5	%			6.9		15.7	%			(0.3	)		(4.3	)%
Catalog, advertising and promotion			2.3		4.7	%			1.9		4.4	%			0.4			21.1	%
Other SG&A expenses			2.8		5.7	%			2.6		5.9	%			0.2			7.7	%
Professional, accounting, legal and SOX			0.5		1.0	%			1.2		2.7	%			(0.7	)		(58.3	)%
Total SG&A		$	21.3		43.5	%		$	20.9		47.6	%		$	0.4			1.9	%

Interest Income.Interest income increased $15,000$30,000 to $85,000$90,000 in the secondthird quarter 2007 compared to $70,000$60,000 in the secondthird quarter 2006, primarily due to higher yielding investments in the secondthird quarter 2007 compared with the secondthird quarter 2006. Invested capital during the secondthird quarter of 2007 was slightly lower than the secondthird quarter of 2006. During the third quarter of 2006 we liquidated our municipal bonds portfolio and invested our capital in a higher yielding bank money market account.

Interest Expense.Interest expense increased $86,000$181,000 to $157,000$286,000 in the secondthird quarter 2007 compared to $71,000$105,000 in the secondthird quarter 2006, primarily due to higher balances outstanding on the bankour credit facility in the secondthird quarter 2007 compared with the secondthird quarter 2006.

Other Income, Net. Other income consists of a net gain of $2.2 million after related expenses as a result of the early termination of a studio lease per an agreement between the Company and the landlord, partially offset by foreign currency exchange losses of $0.2 million.

Income Taxes. In accordance with FASB Interpretation Number 48, “Accounting for Uncertainty in Income Taxes,” or FIN 48, we recorded a discrete item of $0.1 million in the third quarter 2007 due to a change in judgment that resulted in a change in measurement of a tax position taken in a prior annual period. No income tax benefitexpense was recorded in the second quarter 2007 compared with an income tax benefit of approximately $0.6 million in the second quarter 2006. No income tax benefit was recognized in the secondthird quarter 2007 because it is uncertain whether the tax benefit of the year-to-date pre-tax loss will be realized during the current year. An income tax benefit of approximately $0.9 million was recorded in the third quarter 2006.

Net LossIncome (Loss). As a result of the foregoing factors, a net losswe recorded income of $0.6$2.4 million was recorded in the secondthird quarter of 2007 compared with a net loss of $0.8$1.2 million in the secondthird quarter 2006. The third quarter 2007 net income is comprised of income from operations of $0.5 million, total net other income of $2.0 million primarily attributed to the net gain from the early termination of a studio lease, interest income, interest expense, and the discrete item related to income taxes of $0.1 million described above.

Comparison of the twenty-sixthirty-nine weeks ended June 30,September 29, 2007 to the twenty-sixthirty-nine weeks ended July 1,September 30, 2006

Net Sales.Net sales increased $9.0$14.0 million, or 10.7%10.9%, to $92.9$141.9 million in the twenty-sixthirty-nine weeks ended June 30,September 29, 2007, from $83.9$127.9 million in the twenty-sixthirty-nine weeks ended July 1,September 30, 2006. Studio sales increased $10.6$15.2 million, or 21.4%19.7%, to $60.2$92.2 million in the twenty-sixthirty-nine weeks ended June 30,September 29, 2007 compared to $49.6$77.0 million in the same period last year. Incremental sales generated from nine studios opened from January 2006 through JuneSeptember 2007 amounted to $4.0were $5.3 million. We had 65 studios and one outlet open at the end of the second quarter 2007 compared to 62 studios and one outlet open at the end of the second quarter 2006. Online sales increaseddecreased approximately $0.2$0.1 million, or 1.4%0.5%, and phone sales decreased $0.3$0.5 million, or 3.2%3.5%, in the twenty-sixthirty-nine weeks ended June 30,September 29, 2007 compared to the twenty-sixthirty-nine weeks ended July 1,September 30, 2006. Other sales increased approximately $0.4$1.6 million, or 13.8%43.2%, compared to the same period last year. This increase in other sales is primarily related to the $2.1an increase of $2.9 million increase in sales generated from our outlet that opened at the end of the second quarter of 2006. This increase was partially offset by the decrease in warehouse sales of $1.7$1.3 million primarily related to a large warehouse sales event in the second quarter ofthirty-nine weeks ended September 30, 2006 that was not repeated in the thirty-nine weeks ended September 29, 2007. Shipping and handling fees received from customers for delivery of merchandise decreased $1.9$2.2 million, or 24.7%19.6%, to $5.8$9.0 million in the twenty-sixthirty-nine weeks ended June 30,September 29, 2007 compared to $7.7$11.2 million in the twenty-sixthirty-nine weeks ended July 1,September 30, 2006. This decrease is primarily attributed to usour charging lower shipping and handling fees to our customers and majorfive free shipping promotions during the second quarter ofthirty-nine weeks ended September 29, 2007 without the number of comparablecompared to two free shipping promotions during the second quarter ofthirty-nine weeks ended September 30, 2006.

The following table presents net sales by sales channel:

Cost of Sales. Cost of sales increased by $4.6$6.6 million, or 9.5%9.0%, to $52.9$80.1 million in the twenty-sixthirty-nine weeks ended June 30,September 29, 2007 from $48.3$73.5 million in the twenty-sixthirty-nine weeks ended July 1,September 30, 2006. The increase in cost of sales is consistent withdue to the increase in sales. As a percentage of net sales, cost of sales decreased to 56.9%56.4% in the twenty-sixthirty-nine weeks ended June 30,September 29, 2007 from 57.5% in the twenty-sixthirty-nine weeks ended July 1,September 30, 2006. Cost of sales consists of cost of product sales and freight shipping costs. The decrease in cost of sales as a percentage of net sales is relatively consistent between reporting periods.primarily attributed to lower freight shipping costs in 2007 compared to 2006.

Selling, General and Administrative Expenses. SG&A expenses increased by $0.7$1.2 million, or 1.6%1.9%, to $44.5$65.8 million in the twenty-sixthirty-nine weeks ended June 30,September 29, 2007 from $43.8$64.6 million in the twenty-sixthirty-nine weeks ended July 1,September 30, 2006. As a percentage of net sales, SG&A expenses decreased to 47.9%46.4% in the twenty-sixthirty-nine weeks ended June 30,September 29, 2007 from 52.2%50.5% in the twenty-sixthirty-nine weeks ended July 1,September 30, 2006, primarily attributable to the increased net sales. The increasesincrease in SG&A areexpenses is primarily due to the following:

The following table presents SG&A expenseexpenses by major expense categories:

		Thirty-nine weeks ended
(in millions)		September 29, 2007			% of Net Sales			September 30, 2006			% of Net Sales			Change				% Change
Salaries and benefits		$	27.4		19.3	%		$	25.5		19.9	%		$	1.9			7.5	%
Occupancy and related expenses			19.0		13.4	%			19.4		15.2	%			(0.4	)		(2.1	)%
Catalog, advertising and promotion			6.8		4.8	%			7.6		5.9	%			(0.8	)		(10.5	)%
Other SG&A expenses			8.8		6.2	%			7.9		6.2	%			0.9			11.4	%
Professional, accounting, legal and SOX			3.8		2.7	%			4.2		3.3	%			(0.4	)		(9.5	)%
Total SG&A		$	65.8		46.4	%		$	64.6		50.5	%		$	1.2			1.9	%

Interest Income.Interest income increased $39,000$69,000 to $195,000$285,000 in the twenty-sixthirty-nine weeks ended June 30,September 29, 2007 compared to $156,000$216,000 in the twenty-sixthirty-nine weeks ended July 1,September 30, 2006, primarily due to higher yielding investments in the twenty-sixthirty-nine weeks ended June 30,September 29, 2007 compared with same period in the prior year. Invested capital in the twenty-sixthirty-nine weeks ended June 30,September 29, 2007 was slightly lower than in 2006. During the third quarter of 2006, we liquidated our municipal bonds portfolio and invested our capital in a higher yielding bank money market account.

Interest Expense.Interest expense increased $75,000$256,000 to $195,000$481,000 in the twenty-sixthirty-nine weeks ended June 30,September 29, 2007 compared to $120,000$225,000 in the twenty-sixthirty-nine weeks ended July 1,September 30, 2006, primarily due to higher balances outstanding on the bankour credit facility in the second quarterthirty-nine weeks ended September 29, 2007 compared with same period in the prior year. We expect higher interest expense during the remainder of 2007 compared to the same period in the prior year until the balance owed is reduced.

Other Income, Net. Other income consists of a net gain of $2.2 million after related expenses as a result of the early termination of a studio lease per an agreement between the Company and the landlord, partially offset by foreign currency exchange losses of $0.2 million.

Income Taxes. In accordance with FASB Interpretation Number 48, “Accounting for Uncertainty in Income Taxes,” or FIN 48, we recorded a discrete item of $0.1 million in the third quarter 2007 due to a change in judgment that resulted in a change in measurement of a tax position taken in a prior annual period. No income tax benefit was recorded in the twenty-sixthirty-nine weeks ended June 30, 2007 compared with an income tax benefit of approximately $2.9 million in the twenty-six weeks ended July 1, 2006. No income tax benefit was recognized in the twenty-six weeks ended June 30,September 29, 2007 because it is uncertain whether the tax benefit of the year-to-date pre-tax loss will be realized during the current year. An income tax benefit of approximately $3.8 million was recorded in the thirty-nine weeks ended September 30, 2006.

Net Loss. As a result of the foregoing factors, a net loss of $4.4$1.9 million was recorded in the twenty-sixthirty-nine weeks ended June 30,September 29, 2007 compared with a net loss of $5.1$6.3 million in the twenty-sixthirty-nine weeks ended July 1,September 30, 2006.

Liquidity and Capital Resources

As of June 30,September 29, 2007, cash and cash equivalents were approximately $4.6$5.6 million compared to $6.8 million and $5.6$6.2 million as of December 30, 2006 and July 1,September 30, 2006, respectively. Working capital was $17.5$20.9 million, $20.5 million and $19.2$21.9 million as of June 30,September 29, 2007, December 30, 2006 and July 1,September 30, 2006, respectively.

Cash Flows.The following table presents our cash flow activity:

During the twenty-sixthirty-nine weeks ended June 30,September 29, 2007, net cash used in operating activities was $9.6$7.6 million compared to $1.6$3.0 million in the same period last year. The increase in net cash used in operating activities during the twenty-sixthirty-nine weeks ended June 30,September 29, 2007 was primarily due to the increase in inventory of $12.3$10.4 million and the decrease in accounts payable of $4.5 million, partially offset by net lossincome incurred before depreciation and amortization of $0.8$3.6 million, partially offset by increases in deferred revenue of $2.0$1.6 million and non-cash stock-based compensation expense of $1.2$1.7 million. The increase in inventory during the twenty-sixthirty-nine weeks ended June 30,September 29, 2007 was due in part to excess merchandise purchases. We havereduced our inventory by $1.9 million during the third quarter 2007 and reduced our orders for merchandise. Commitmentsmerchandise for merchandise purchases have decreased to $14.9 million at June 30, 2007 from $46.8 million at March 31,the remainder of 2007. We plan to further reduce our inventory by $4.0 million to $6.0 million by the end of 2007 which, if attained, will positively impact cash flows from operations during the third and fourth quarters ofquarter 2007. We cannot assure you that we will be able to generate sufficient sales to reduce our inventory levels since our sales are subject to prevailing economic conditions which are beyond our control.

Net cash of $4.4 million was used inby investing activities was $3.6 million for the twenty-sixthirty-nine weeks ended June 30,September 29, 2007 compared with $0.7to net cash of $2.4 million provided by investing activities for the twenty-sixthirty-nine weeks ended July 1,September 30, 2006. Capital expenditures during the twenty-sixthirty-nine weeks ended June 30,September 29, 2007 were $3.6$4.4 million compared to $5.9$7.3 million in the twenty-sixthirty-nine weeks ended July 1,September 30, 2006. Net salesales of investments was $5.3were $9.7 million in the twenty-sixthirty-nine weeks ended July 1,September 30, 2006. Capital expenditures during the twenty-sixthirty-nine weeks ended June 30,September 29, 2007 were primarily for furniture, fixtures and equipment for remodeling of existing studios during the period, studios under construction, and capital expenditures related to the new information technology system being implemented during 2007.2007 which we expect to be operational in 2008.

During the twenty-sixthirty-nine weeks ended June 30,September 29, 2007, we opened two new studios.studios and one replacement studio. For the remainder of fiscal year 2007, we anticipate that our investment in property and equipment will be between approximately $3.0$1.0 million and $4.0$2.0 million, which is primarily is related to our new information technology system implementation and website enhancement, and our plan to implement our new ERP system, enhance our website, and open one or two new studios.studio. We will fund these capital expenditures through available cash and cash equivalents and from borrowings under our credit facility.

Net cash provided by financing activities in the twenty-sixthirty-nine weeks ended June 30,September 29, 2007 was $11.0 million. This$10.8 million, compared with $3.4 million for the thirty-nine weeks ended September 30, 2006. Net cash provided by financial activities in the thirty-nine weeks ended September 29, 2007 was comprised of $11.3approximately $11.2 million of borrowings againstunder our bank credit facility, andreduced by $0.5 million repayment of approximately $0.4 million of long-term debt. We will use excess cash provided by operations, if any, to further reduce borrowings under our loan agreement.

As of June 30,September 29, 2007, we had available approximately $12.0$13.1 million in unused capital resources for our future cash needs as follows:

We believe that our sources of cash, including cash generated from our planned reduction in inventory, as well as cash and cash equivalents and borrowing available under our working capital line of credit facility, will be sufficient to fund our operations and anticipated capital expenditures for at least the next 12 months. Our ability to fund our operations and anticipated capital expenditures in the future will depend on our future operations, performance and cash flow and is subject to prevailing economic conditions and financial, business and other factors, some of which are beyond our control. We cannot assure you that additional funds from available sources will be available on terms acceptable to us, or at all.

Commitments.On February 2, 2007, we entered into a Loan, Guaranty and Security Agreement with Wells Fargo Retail Finance, LLC, or the Loan Agreement, which replaced the previous loan with Wells Fargo HSBC Trade Bank, N.A. The Loan Agreement expires on February 2, 2012 and provides for an initial overall credit line up to $20.0 million, which may be increased to $25.0 million at our option, provided we are not in default on the Loan Agreement. The Loan Agreement consists of a revolving credit line and letters of credit up to $5.0 million. The amount we may borrow at any time under the Loan Agreement is based upon a percentage of eligible inventory and accounts receivable less certain reserves. Borrowings are secured by the right, title and interest to all of our personal property, including equipment, fixtures, general intangibles, intellectual property and inventory. The Loan Agreement contains various restrictive covenants, including minimum availability, which is the amount we may borrow under the Loan Agreement, less certain outstanding obligations, plus certain cash and cash equivalents, limitations on indebtedness, limitations on subordinated indebtedness and limitations on the amount of capital expenditures we may incur in any fiscal year. We are currently in compliance with all of these restrictive covenants.

Interest on borrowings will be either at Wells Fargo’s prime rate, or LIBOR plus 1.25% to 1.75% based upon average availability. In the event of default, our interest rates will be increased by approximately two percentage points. The weighted-average interest rate on outstanding borrowings at June 30,September 29, 2007 was 8.25%7.03%. As of June 30,September 29, 2007, we had outstanding borrowings of $11.3$11.2 million under the credit facility and $1.2$1.3 million outstanding in letters of credit. As of June 30,September 29, 2007, approximately $7.4$7.5 million was available for advances under the credit facility.

In June 2006, we financed a portion of our new ERPinformation technology project with a three-year promissory note of approximately $1.0 million with an interest rate of approximately 2.0%. In accordance with Accounting Principals Board No. 21 “Interest on Receivables and Payables,” or APB 21, we discounted this note to its fair value. The discounted portion of approximately $58,000 is being amortized as interest expense over the life of the note using the effective interest method. As of June 30,September 29, 2007, our outstanding borrowings under this and other notes were approximately $0.7 million$643,000 with interest rates ranging from 2% to 6.75%. Future maturities of notes payable are approximately $0.1 million$58,000 for the remainder of 2007, $0.4 million$357,000 for 2008 and $0.2 million$228,000 for 2009.

Our obligations to purchase merchandise at June 30,September 29, 2007 were approximately $14.9$13.7 million. Capital commitments at June 30, 2007 consist of purchase commitments of approximately $50,000 for studio remodeling and a commitment to purchase fixtures for new studios of approximately $0.6 million (of whichat September 29, 2007 were approximately $0.3 million has been prepaid). We lease office space, studiosfor leasehold improvements and fulfillment center space under operating leases.$0.3 million for fixtures.

Critical Accounting Estimates

Our financial statements have been prepared in accordance with accounting principles generally accepted in the United States. The preparation of these financial statements requires us to make estimates and judgments that affect the reported amounts of assets, liabilities, sales and expenses. We base our estimates on historical experience and on various other assumptions that we believe to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. Actual results may differ from these estimates under different assumptions or conditions. Our critical accounting policies and estimates are set forth below.

We operate on a 52- or 53-week fiscal year, which ends on the Saturday closest to December 31. Each fiscal year consists of four 13-week quarters, with an extra week added onto the fourth quarter every fivefour to six years. Our 2006 fiscal year ended on December 30, 2006 and our 2007 fiscal year will end on December 29, 2007. Fiscal yearyears 2006 consisted of 52 weeks and fiscal year 2007 each consists of 52 weeks.

Revenue Recognition. We recognize revenue on the date on which we estimate that the product has been received by the customer. We retain title to items and bear the risk of loss until delivery on shipments from our warehouse. We take title to items drop shipped by vendors at the time of shipment and bear the risk of loss until delivery to customers. We record as deferred revenue any sales made in the last week of the reporting period for which we estimate delivery in the following period. We use third-party freight carrier information to estimate standard delivery times to various locations throughout the United States. Sales are recorded net of expected returns by customers. Significant management judgments and estimates must be made and used in connection with determining net sales recognized in any accounting period. Our management must make estimates of potential future product returns related to current period revenue. We analyze historical returns, current economic trends and changes in customer demand and acceptance of products when evaluating the adequacy of the sales returns and other allowances in any accounting period. The returns allowance is recorded as a reduction to net sales for the estimated retail value of the projected product returns and as a reduction in cost of sales for the corresponding cost amount less any reserve for estimated scrap. The reservereserves for estimated product returns waswere approximately $656,000,$655,000, $565,000 and $417,000$619,000 as of June 30,September 29, 2007, December 30, 2006 and July 1,September 30, 2006, respectively.

Inventory. Inventory consists primarily of finished goods purchased from third-party manufacturers and estimated inbound freight costs. Inventory on hand is carried at a computed average cost which approximates a first-in first-out method and the lower of cost or market. We write down inventory for estimated damage equal to the difference between the cost of inventory and the estimated market value based upon assumptions about future demand and market conditions. If actual market conditions or demand for our products are less favorable than projected by management, additional inventory write-downs may be required. Although our actual inventory write-downs historically have not differed materially from estimated inventory write-downs, in the future, actual inventory write-downs may differ materially from our reserves. As a result, our operating results and financial condition could be adversely affected. As of June 30,September 29, 2007, December 30, 2006 and July 1,September 30, 2006, estimated inventory reserves amounted towrite-downs were approximately $3.0$3.6 million, $2.3 million and $2.6$2.8 million, respectively.

Inventory in transit. We record inventory in transit based upon shipping terms, estimated lead times from our vendors to our freight forwarders as well as purchase order amounts. Actual amounts shipped could differ from our estimate due to transit times as well partial shipments due to shortages or backorders. Inventory in transit was approximately $6.5$3.9 million, $5.3$6.6 million and $8.0$5.1 million as of June 30,September 29, 2007, December 30, 2006 and July 1,September 30, 2006, respectively.

Accrued freight. We estimate inbound and outbound freight costs based upon an analysis and review of our historical freight costs. These costs may vary due to the actual weight and size of the product shipped as well as added fuel surcharges.

Stock-Based Compensation. In the first quarter 2006, we adopted the modified prospective method for valuing stock options we grant in accordance with Statement of Financial Accounting Standards No. 123 (revised 2004),Share-Based Payment, or SFAS 123R. Under SFAS 123R, we recognized $1.2$1.7 million and $1.3 million of compensation expense related to stock options and employee stock purchases in the twenty-sixthirty-nine weeks ended JuneSeptember 29, 2007 and September 30, 2007.2006, respectively. Stock based compensation expense is classified in selling, general and administrative expense. We calculate the value of each employee stock option, estimated on the date of grant, using the Black-Scholes model. The following assumptions are used in the model: (1) a blended volatility rate using a combination of historical stock price and market-implied volatility for traded and quoted options on the equities for the group of retail companies for which exchange traded options are observed, (2) a risk-free interest rate based upon the average daily closing rates during the quarter for U.S. treasury notes that have a life which approximates the expected life of the option, (3) a dividend yield based on historical and expected dividend payouts, (4) an expected life of employee stock options based on the simplified method allowed by SAB 107, and (5) a forfeiture rate based on historical data. We estimate forfeitures at the time of grant and revise, if necessary, in subsequent periods if actual forfeitures differ from those estimates.

Accounting for Income Taxes. We record an estimated valuation allowance on our deferred tax assets if it is more likely than not that they will not be realized. Significant management judgment is required in determining our deferred tax assets and liabilities and any valuation allowance recorded against our net deferred tax assets. While we have considered future taxable income and ongoing prudent and feasible tax planning strategies in assessing the need for a valuation allowance, in the event we were to determine that we would not be able to realize all or a part of our net deferred tax assets in the future, we would record a valuation allowance to reduce our net deferred tax assets to the amount that is more likely than not to be realized. Valuation allowance has been provided for certain of our deferred tax assets for which realization is not deemed to be more likely than not. There was no change in valuation allowance during the twenty-sixthirty-nine weeks ended June 30,September 29, 2007. No income tax benefit was recorded in the thirty-nine weeks ended September 29, 2007 because it is uncertain whether the tax benefit of the year-to-date pre-tax loss will be realized during the current year.

Advertising and Media Costs. Prepaid catalog costs consist of third-party costs, including paper, printing, postage, name acquisition and mailing costs. Such costs are capitalized as prepaid catalog costs and are amortized over their expected period of future benefit. Such amortization is based upon weighted-average historical revenues attributed to previously issued catalogs. Based on data we have collected, we historically have estimated that catalogs have a period of expected future benefit of two to four months. The period of expected future benefit of our catalogs could decrease if we were to publish new catalogs more frequently in each year, or could increase if we published them less frequently. During the third quarter 2006, we reduced our catalog distribution and began selected media advertising. Prepaid catalog costs are evaluated for realizability at the end of each reporting period by comparing the carrying amount associated with each catalog to the estimated probable remaining future net benefit associated with that catalog. If the carrying amount is in excess of the estimated probable remaining future net benefit of the catalog, the excess is expensed in the reporting period. The cost of print media advertisement other than internal catalogs is expensed upon publication. We account for consideration received from our vendors for co-operative advertising as a reduction of selling, general and administrative expense. Co-operative advertising amounts received from such vendors were approximately $388,000$538,000 and $394,000$475,000 in the twenty-sixthirty-nine weeks ended June 30,September 29, 2007 and July 1,September 30, 2006, respectively.

Impairment of Long-Lived Assets. We evaluate the recoverability of our long-lived assets in accordance with SFAS No. 144, Accounting for the Impairment or Disposal of Long-Lived Assets.Assets. Long-lived assets are reviewed for possible impairment whenever events or circumstances indicate that the carrying amount of such assets may not be recoverable. If such review indicates that the carrying amount of long-lived assets is not recoverable, the carrying amount of such assets is reduced to fair value. Management considers the following circumstances and events to assess the recoverability of carrying amounts: 1) a significant adverse change in the extent or manner in which a long-lived asset is being used or in its physical condition, 2) an accumulation of costs significantly in excess of the amount originally expected for the acquisition or construction of a long-lived asset, 3) a current-period operating or cash flow loss combined with a history of operating or cash flow losses or a projection or forecast that demonstrates continuing losses associated with the use of a long-lived asset, and 4) a current expectation that, more likely than not, the long-lived asset will be sold or otherwise disposed of significantly before the end of its previously estimated useful life. Decisions to close a studio or facility also can result in accelerated depreciation over the revised useful life. When we close a location that is under a long-term lease, we record a charge for the fair value of the liability associated with that lease at the cease-use date. The fair value of such liability is calculated based on the remaining lease rental payments due under the lease, reduced by estimated rental payments that could be reasonably obtained by us for subleasing the property to a third party. The estimate of future cash flows is based on our experience, knowledge and typically third-party advice or market data. However, these estimates can be affected by factors such as future studio profitability, real estate demand and economic conditions that can be difficult to predict. If the undiscounted future cash flows from the long-lived assets are less than the carrying value, a loss is recognized equal to the difference between the carrying value and the fair value of the assets.

Derivative and Hedging Activities.We record derivatives related to cash flow hedges for foreign currency at fair value on our balance sheet, including embedded derivatives. We implemented a new hedging strategy in the first quarter of 2007 to mitigate the impact of foreign currency fluctuations on inventory purchases. Since we did not meet the criteria for cash flow hedge accounting, we accounted for foreign currency contracts using non-cash flow hedge accounting on a monthly basis by recognizing the net cash settlement gain or loss in other income (loss) and adjusting the carrying amount of open contracts to market by recognizing any corresponding gain or loss in other income (loss). Foreign currency contracts entered into from January to April of 2007 were not designated as cash flow hedge contracts and arewere being accounted for using this non-cash flow hedge accounting. In the second quarter of 2007, we developed a hedging strategy and policies and procedures that meet the criteria for cash flow hedge accounting. Foreign currency contracts entered into during May and Junethrough September of 2007 were designated as cash flow hedge contracts and are now accounted for on a monthly basis by recognizing the net cash settlement gain or loss in other comprehensive income (loss) and adjusting the carrying amount of open designated contracts to market by recognizing any corresponding gain or loss in other comprehensive income (loss). Net cash settlement gain or loss is recognized in costscost of sales as the underlying hedged inventory is sold in each reporting period.

In the beginning of 2006, we accounted for foreign currency option contracts on a monthly basis using cash flow hedge accounting by recognizing the net cash settlement gain or loss on the call or put option in other comprehensive income (loss) and adjusting the carrying amount of open contracts to market by recognizing any corresponding gain or loss in other comprehensive income (loss). Net cash settlement gain or loss was recognized in costscost of sales as the underlying hedged inventory was sold in each reporting period. Our derivative positions were used only to manage identified exposures. Management evaluated our hedges for effectiveness at the time they were designated as well as throughout the hedge period. With respect to any derivative that was deemed ineffective, the ineffective portion was reported through earnings. Management evaluated the ineffectiveness of outstanding contracts when it was probable that the original forecasted transaction would change. We recorded approximately $40,000 and $69,000 respectively, for ineffectiveness in the thirteen weeks and twenty-sixthirty-nine weeks ended July 1,September 30, 2006. We did not record any amounts for ineffectiveness in the twenty-sixthirteen weeks and thirty-nine weeks ended JuneSeptember 29, 2007 and the thirteen weeks ended September 30, 2007. During the second half of 2006, we ceased purchasing hedging contracts and conducted our currency transactions on the spot market.2006.

Item 3. Quantitative and Qualitative Disclosures About Market Risk

Net Investment Risk

In the twenty-sixthirty-nine weeks ended June 30,September 29, 2007, we generated all of our net sales in U.S. dollars, but we purchased approximately 47% of our product inventories from manufacturers outside of the United States, and 35%36% of our product inventory purchases were paid for in Euros. Increases and decreases in the U.S. dollar relative to the Euro result in fluctuations in the cost to us of merchandise sourced from Europe. As a result of such currency fluctuations, we have experienced and may continue to experience fluctuations in our operating results on an annual and a quarterly basis going forward. Specifically, as the value of the U.S. dollar declines relative to the Euro, our effective cost of supplies of product increases. As a result, declines in the value of the U.S. dollar relative to the Euro and other foreign currencies would increase our cost of sales and decrease our gross margin.

In the beginning of 2006 we accounted for hedging contracts on a monthly basis using cash flow hedge accounting by recognizing the net cash settlement gain or loss on the call or put option in other comprehensive income (loss). Net cash settlement gain or loss was recognized in costs of sales as the underlying inventory which was hedged was sold in each reporting period. Our derivative positions were used only to manage identified exposures. Management evaluated our hedges for effectiveness at the time they were designated as well as throughout the hedge period. With respect to any derivative that was deemed ineffective, the ineffective portion was reported through earnings. Management evaluated the ineffectiveness of outstanding contracts when it was probable that the original forecasted transaction would change. We recorded approximately $40,000 and $69,000, respectively, for ineffectiveness in the thirteen weeks and the twenty-sixthirty-nine weeks ended July 1, 2006. We did not record any amounts for ineffectiveness in the twenty-six weeks ended June 30, 2007. During the second part of 2006, we ceased purchasing hedging contracts and conducted our currency transactions on the spot market.

In the twenty-six weeks ended June 30,September 29, 2007, the value of the dollar decreased approximately 2%8% relative to the Euro. During the first quarter of 2007, we began purchasing foreign currency forward contracts with maturities of 12 months or less to hedge our foreign currency risk on anticipated purchases of merchandise based on purchases orders outstanding that did not meet the criteria for cash flow hedge accounting. We accounted for these foreign currency contracts on a monthly basis by recognizing the net cash settlement gain or loss in other income (loss) and adjusting the carrying amount of open contracts to market by recognizing any corresponding gain or loss in other income (loss). In the second quarter of 2007, we developed a hedging strategy and policies and procedures that meet the criteria for cash flow hedge accounting. We accounted for these foreign currency contracts on a monthly basis by recognizing the net cash settlement gain or loss in other comprehensive income (loss) and adjusting the carrying amount of open contracts to market by recognizing any corresponding gain or loss in other comprehensive income (loss). Net cash settlement gain or loss is recognized in costscost of sales as the underlying hedged inventory was sold in each reporting period. If our hedging strategy does not help reduce fluctuations in our cost of sales and mitigate the impact of the strengthening of the Euro relative to the U.S. dollar, we will continue to have difficulties in accurately predicting our cost of sales and our cost of sales may increase, adversely impacting our gross margin.

In the beginning of 2006, we accounted for hedging contracts on a monthly basis using cash flow hedge accounting by recognizing the net cash settlement gain or loss on the call or put option in other comprehensive income (loss). Net cash settlement gain or loss was recognized in cost of sales as the underlying inventory which was hedged was sold in each reporting period. Our derivative positions were used only to manage identified exposures. Management evaluated our hedges for effectiveness at the time they were designated as well as throughout the hedge period. With respect to any derivative that was deemed ineffective, the ineffective portion was reported through earnings. Management evaluated the ineffectiveness of outstanding contracts when it was probable that the original forecasted transaction would change. We recorded approximately $69,000 for ineffectiveness in the thirty-nine weeks ended September 30, 2006. We did not record any amounts for ineffectiveness in the thirteen weeks and thirty-nine weeks ended September 29, 2007 and the thirteen weeks ended September 30, 2006.

Interest Rate Risk

We have interest payable on our operating line of credit. Interest on borrowings will be either at Wells Fargo’s prime lending rate, or LIBOR plus 1.25% to 1.75% based upon average availability. The extent of this risk is not quantifiable or predictable because of the variability of future interest rates and the future financing requirements. As of June 30,September 29, 2007, borrowings outstanding under this facility were $11.3$11.2 million.

Item 4. Controls and Procedures

(a) Evaluation of Disclosure Controls and Procedures

Management, including our CEO and CFO, evaluated the effectiveness of our disclosure controls and procedures as of the end of the period covered by this report in accordance with Rules 13a-15(b) and 15d-15(b) of the Exchange Act. Based on that evaluation, our CEO and CFO concluded that control deficiencies that constituted material weaknesses at December 30, 2006, as discussed in subsection (b) below, continued to exist in our internal control over financial reporting as of the end of the period covered by the Quarterly Report on Form 10-Q. As a result of these material weaknesses, our CEO and CFO concluded that our disclosure controls and procedures were not effective as of the end of the period covered by the Quarterly Report on Form 10-Q at the reasonable assurance level. In light of the material weaknesses described below, we performed additional analyses and other post-closing procedures to determine if our financial statements included in this report were prepared in accordance with U.S. GAAP. Accordingly, management believes that the financial statements included in this report fairly present in all material respects our financial condition, results of operations and cash flows for the periods presented.

The certifications of our principal executive officer and principal financial officer required in accordance with Section 302 of the Sarbanes-Oxley Act of 2002 are attached as exhibits to this Quarterly Report on Form 10-Q. The disclosures set forth in this Item 4 contain information concerning the evaluation of our disclosure controls and procedures, internal control over financial reporting and changes in internal control over financial reporting referred to in those certifications. Those certifications should be read in conjunction with this Item 4 for a more complete understanding of the matters covered by the certifications.

(b) Management’s Report on Internal Control Over Financial Reporting

Management is responsible for establishing and maintaining adequate internal control over financial reporting for the Company. Internal control over financial reporting refers to the process designed by, or under the supervision of, our CEO and CFO, and effected by our Board of Directors, management and other personnel, to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with U.S. GAAP, and includes those policies and procedures that:

1) pertain to the maintenance of records that in reasonable detail accurately and fairly reflect the transactions and dispositions of our assets;

2) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with U.S. GAAP, and that our receipts and expenditures are being made only in accordance with the authorization of our management and directors; and

3) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use or disposition of our assets that could have a material effect on the financial statements.

Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.

A material weakness is a control deficiency, or combination of control deficiencies, that results in more than a remote likelihood that a material misstatement of the financial statements will not be prevented or detected. Management identified the following material weaknesses during its assessment of our internal control over financial reporting as of December 30, 2006, which were not remediated as of the end of the period covered by this report.

Control Environment— Accounting and Finance Personnel

We had an entity level material weakness in our control environment in that we did not have a sufficient number of personnel or appropriate depth of experience in our accounting and finance departments to prepare accurate and timely interim and annual financial statements in accordance with U.S. GAAP and to comply with SEC requirements. In addition, due to significant turnover during the course of 2006, including the CFO and VP of Finance, without adequate transition of knowledge, company-level and process-level internal controls were inconsistently performed throughout the year. Although we have fully staffed our finance department since the end of fiscal year 2006, including the hiring of additional personnel with appropriate accounting and finance experience, we have not completed the development of policies and procedures for hiring and training of personnel and have not yet verified that internal controls that address our key risks are integrated into our processes and are performed consistently and timely. In addition, we have not yet completed the implementation and testing of procedures for the transition of knowledge in cases of staff turnover. This material weakness impacts all significant accounts.

Risk Assessment

We had an entity level material weakness related to insufficient controls and procedures to identify and assess risks relevant to the achievement of our financial reporting objectives in adherence with regulatory filing requirements. We also have been unable to adequately assess and manage on a timely basis the risk of financial reporting errors associated with ineffective internal control over financial reporting. We have not routinely reviewed financial performance, including account reconciliations and account analysis. This material weakness impacts all accounts.

Control Activities— Policies and Procedures

We had an entity level material weakness related to ineffective controls over the documentation, application and review of our significant accounting policies and procedures. This includes controls over the initiation, authorization, recording, processing and reporting of accounting transactions, analyses and conclusions. In addition, we failed to assess adequately the consistency and appropriateness of our accounting policies and procedures in accordance with U.S. GAAP. This material weakness impacts all significant accounts.

Information and Communication

We had an entity level material weakness related to insufficient processes and controls to identify, capture, and communicate financially significant information to the entity and stakeholders on a timely basis. We did not maintain adequate policies and procedures for accounting and process-related transactions and did not effectively communicate policies and procedures to finance and accounting personnel. This material weakness impacted all significant accounts and impacted management’s ability to comply with SEC requirements for timely filings.

Monitoring

We had an entity level material weakness related to insufficient oversight procedures performed by management of our internal controls. We did not maintain processes to verify that internal controls over financial reporting and regulatory filings were performed correctly or in a timely and consistent basis.

Segregation of Duties

We had a material weakness related to certain employees who had incompatible responsibilities within all significant processes affecting financial reporting. We failed to implement controls that restrict access to financially significant systems or to monitor access to those systems, which resulted in conflicting access and/or inappropriate segregation of duties. This material weakness impacts all significant accounts.

Records Retention

We had an entity level material weakness related to inadequate records retention. We do not have a record retention policy for retention of hard copy documents. Cases of inadequate records retention or supporting documentation were noted in the accounting departments and impacted our ability to support and account for transactions.

Account Reconciliations

We had a transactional material weakness related to inadequate, inconsistent, or non-performance of account analyses, account summaries and account reconciliations. In some cases, inaccurate or incomplete account analyses, account summaries and account reconciliations were prepared during the financial closing and reporting process and consistent reviews of account analyses, account summaries and account reconciliations were not performed. For reconciliations that were performed, there was not a process to analyze and resolve reconciling items. This material weakness impacts almost all significant accounts.

As a result of its conclusion that material weaknesses exist, management performed significant additional substantive review of those areas described above where it identified material weaknesses to gain assurance that the financial statements as included herein are fairly stated in all material respects.

(c) Management’s Remediation Initiatives

We have evaluated the deficiencies we identified in 2005 and 2006. We already have begun to remediate many of the deficiencies, and our control environment has improved substantially in the last twelvenine months. Our management team has stabilized, with our new CEO having been in place since May 2006 and our new CFO having been in place since September 2006. We have built a new finance and accounting department, including the addition of a new controller who has been in place since July 2006. We successfully reconciled the previously disclosed imbalance between our accrued inventory sub-ledger and the general ledger, have become current again in our SEC reporting and have returned to good standing with Nasdaq.NASDAQ. We have improved our operating and finance procedures and have modified our enterprise resource planning, or ERP, system such that we now have a functioning ERP system that generates timely and reliable financial information.

We are working to implement and test controls sufficient to eliminate many of the material weaknesses identified above. We have identified the deficiencies to be remediated and have appointedhired a project managernew Director of Internal Audit and SOX Compliance tasked with managing our remediation efforts. We are using an outside consulting firm to provide Sarbanes-Oxley consulting services and will allocate approximately one quarter of eachtime for employees in the finance department employee’s timefor remediation efforts during the balance of fiscal 2007 to remediation efforts.2007. However, some of the existing deficiencies will require additional people, process and technology infrastructure, which will take longer to remediate.

To facilitate some of the improvements in the internal control environment, we plan to implement a new ERP system.system in 2008. This new ERP system should replace the majority of our existing legacy systems. We expect the new system to allow us to leverage more automated controls, which will help remediate some of the deficiencies.

Our management has discussed the material weaknesses described above and other deficiencies with our Audit Committee. In an effort to remediate the identified material weaknesses and other deficiencies, we have initiated and/or taken action to remediate material weaknesses related to the following areas:

Control Environment

As noted above, we have filled all of the open positions in our finance department, including our hiring of a new controller who has been in place since July 2006. We plan to develop policies and procedures for hiring and training of personnel to verify that we have a sufficient number of personnel with knowledge, experience and training in the application of generally accepted accounting principles commensurate with our financial reporting and U.S. GAAP requirements. We hired a new Director of Internal Audit and SOX Compliance and staff to lead the SOX Compliance effort, work directly with management and the Audit Committee to establish an internal audit function, and assist with remediation of all internal control issues. Where necessary, we will supplement personnel with qualified external advisors. We plan to assess the adequacy of knowledge within our current staff and monitor our need for additional personnel. Additionally, where appropriate, we plan to identify training on accounting principles and procedures that would benefit our accounting and finance personnel.

Once we have documented policies and procedures for all of our processes, we plan to verify that internal controls that address our key risks are integrated into the processes and are performed consistently and timely. In addition, we plan to develop working procedures for the transition of knowledge in cases of staff turnover to enhance our ability to determine that internal controls are implemented consistently.

Risk Assessment

We plan to develop a formal process with assistance from the new Director of Internal Audit and SOX compliance to identify our key business risks.risks including formalizing a risk and control monitoring programs. We plan to assess these risks and evaluate whether we have sufficient financial and operational controls to mitigate them. Based on our evaluation, we plan to determine whether we need to implement new control procedures or enhance the monitoring of existing controls.

Additionally, through periodic review of our actual performance against set goals per our strategy and business objectives, as well as through detailed financial analysis, account reconciliations, and budget to actual analysis, we will monitor and re-assess these risks.

Control Activities

Management plans to developis implementing a process of Control Self Assessment to emphasize the importance of internal controls and verify that all process owners are involved with performance of internal controls. We plan to provide training to all process owners on the appropriate requirements to document and perform internal control procedures. In addition, one of our employees has assumed the full-time position of Director of Internal Audit and will beSOX compliance is responsible for compliance with internal controls.

We planperforming periodic, risk-based, independent testing to develop a process whereby on a periodic basis, process owners will perform self-assessment testingevaluate and report results to management. Periodic independent testing also will be performed to evaluateon the adequacy of design and effectiveness of internal control procedures.controls.

Information and Communication

We plan to document and maintain formal accounting policies and procedures that will be used by the Finance and Accounting staff. In addition, we plan to implement a process to periodically update our staff on significant changes to accounting policies and procedures.

We plan to develop a process whereby staff and management have access to information needed to perform their job functions, and plan to promptly inform staff and management of any significant changes to the way we perform our business.

Monitoring

We plan to implement formal policies and procedures relating to performance of internal controls, including monitoring functions. We plan to perform a top-down risk-based approach to identify those accounts, financial statement assertions, business processes, and locations which have a higher likelihood of resulting in a material misstatement to our financial statements and adjust the nature, timing, and extent of control monitoring efforts accordingly.

In addition, we plan to implement third party software to aid us with managing the assessment and testing of internal controls. One of our employeesThe Internal Audit Department will be tasked to monitor compliance with internal control requirements, including the performance of self-testing by process owners.

Segregation of Duties

We plan to establish segregation of duties matrices and review the job responsibilities of our personnel to evaluate how to create appropriate segregation of duties, considering the size and complexity of our operations. To the extent possible, we plan to limit user access to segregate duties within our IT systems. Where that is not possible, we plan to implement controls to verify that incompatible functions performed by the same individual are appropriately monitored.

In addition, we plan to add a process for the IT department personnel to monitor the access rights according to the segregation of duties matrices and provide periodic exception reports for management.

Record Retention

We plan to establish a records retention policy that outlines the requirements and procedures for retaining the appropriate supporting documentation for financial transactions and plan to implement procedures designed to verify compliance with the related policy.

Account Reconciliations

We plan to formalize and communicate policies for account analyses, account summaries and account reconciliations, including the methodologies for analyzing and resolving reconciling items. We plan to establish a process to determine that significant account balances are reconciled periodically, and that appropriate supporting documentation is maintained with each reconciliation.

(d) Changes in Internal Control over Financial Reporting

Other than the general improvements in our control environment over the last twelvenine months and the internal control implementation currently underway as discussed above, there have been no changes in our internal control over financial reporting during our fiscal quarter ended June 30,September 29, 2007 that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.

PART II - OTHER INFORMATION

Item 1. Legal Proceedings

None.

Item 1A. Risk Factors

There are no material changes to the Risk Factors described under Part I, Item 1A, “Risk Factors,” in Amendment No. 1 to our Annual Report on Form 10-K for the fiscal year ended December 30, 2006. Please refer to that section for disclosures regarding the risks and uncertainties relating to our business.

Item 2. Unregistered Sales of Equity Securities and Use of Proceeds

None.

Item 3. Defaults Upon Senior Securities.

None.

Item 4. Submission of Matters to a Vote of Security Holders.

None.

Item 5. Other Information

None.

Item 6. Exhibits

SIGNATURES

Pursuant to the requirements of the Securities and Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.

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