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Article by DailyStocks_admin    (01-09-08 07:31 AM)

The Daily Magic Formula Stock for 01/08/2008 is Cherokee Inc. According to the Magic Formula Investing Web Site, the ebit yield is 10% and the EBIT ROIC is >100%.

Dailystocks.com only deals with facts, not biased journalism. What is a better way than to go to the SEC Filings? It's not exciting reading, but it makes you money. We cut and paste the important information from SEC filings for you to get started on your research on a specific company.


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BUSINESS OVERVIEW

Introduction

Cherokee Inc. (which may be referred to as we, us or our) is in the business of marketing and licensing the Cherokee, Sideout and Carole Little brands and related trademarks and other brands we own or represent. We are one of the leading licensors of brand names and trademarks for apparel, footwear and accessories in the world. Our operating strategy emphasizes domestic and international retail direct and wholesale licensing whereby we grant retailers and wholesalers the license to use the trademarks held by us on certain categories of merchandise in their respective territories.

We and our wholly owned subsidiary, SPELL C. LLC (“Spell C”) own several trademarks, including Cherokee®, Sideout®, Sideout Sport®, Carole Little®, CLII®, Saint Tropez-West®, Chorus Line®, All That Jazz®, Molly Malloy® and others. The Cherokee brand, which began as a footwear brand in 1973, has been positioned to connote quality, comfort, fit, and a “Casual American” lifestyle with traditional wholesome values. The Sideout brand and related trademarks represent a young active lifestyle and were acquired by us in November 1997. The Carole Little, Saint Tropez-West, All That Jazz and Chorus Line brands and trademarks were acquired by us in December 2002, and are recognized women’s brands that we have begun to market in apparel, accessories and home products. As of February 3, 2007, we had sixteen continuing license agreements covering both domestic and international markets. We terminated one material licensing agreement (our Finder’s Agreement with Mossimo Inc.) in exchange for a one-time payment of $33.0 million during our fourth quarter of our fiscal year ended February 3, 2007. Our total revenues associated with the Finder’s Agreement with Mossimo was $36.3 million during the fiscal year ended February 3, 2007, including the $33.0 million one-time payment.

Our retail direct licensing strategy is premised on the proposition that around the world nearly all aspects of the moderately priced apparel, footwear, and other consumer products businesses can be sourced most effectively by large retailers, who not only command significant economies of scale, but also interact daily with the end consumer. In addition, we believe that these retailers in general may be able to obtain higher gross margins on sales and increase store traffic by directly sourcing, stocking and selling licensed products bearing widely recognized brand names, such as our brands, than through carrying strictly private label goods or branded products from third-party vendors. Our strategy globally is to capitalize on these ideas by licensing our portfolio of brands (and brands we represent) primarily to large and growing retailers, such as Target Stores and TJX Companies in the U.S., Zeller’s in Canada, Tesco in Europe, Falabella in South America, and Pick ‘N Pay in South Africa, each of whom work in conjunction with us to develop merchandise for their respective stores.

We are frequently approached by parties seeking to sell their brands and related trademarks. Should an established and marketable brand or similar equity property become available on favorable terms, we would consider such an acquisition opportunity. For example, in December 2002, we acquired out of bankruptcy the trademarks of CL Fashion Inc., which included Carole Little, CLII, Saint Tropez-West, Chorus Line, All That Jazz and Molly Malloy, for an aggregate purchase price of $2.7 million. Concurrently, we entered into a five-year licensing agreement with TJX Companies for the Carole Little, CLII and Saint Tropez-West brands, which was recently extended to January 2013. In January 2007 we entered into a three- year licensing agreement for our All That Jazz brand with M.J. Fashions LLC as well.

In addition to acquiring brands and licensing our own brands, we also assist other brand-owners, companies, wholesalers and retailers in identifying licensees or licensors for their brands or stores. Generally, when representing a brand on an exclusive basis, we perform a range of services, including marketing of brands, solicitation of licensees, and other related services. In return for our services we normally charge a certain percentage of the net royalties generated by the brands we represent and manage. For example, in 2003 we introduced the HouseBeautiful brand to May Company department stores; and in 2004 we introduced the Latina brand to a large domestic retailer.

Cherokee was incorporated in Delaware in 1988. Our principal executive offices are located at 6835 Valjean Avenue, Van Nuys, California 91406, telephone (818) 908-9868. We maintain a website with the address www.thecherokeegroup.com. We are not including the information contained on our website as part of, or incorporating it by reference into, this Annual Report on Form 10-K.

We operate on a 52 or 53 week fiscal year ending on the Saturday nearest to January 31 in order to better align us with our licensees who generally also operate and plan using such a fiscal year. As a result, our 2005 fiscal year (“fiscal 2005”) ended January 29, 2005 and included 52 weeks; our 2006 fiscal year (“fiscal 2006”) ended January 28, 2006 and included 52 weeks; and our 2007 fiscal year (“fiscal 2007”) ended February 3, 2007 and included 53 weeks.

As used herein the term “First Quarter” refers to the three months ended April 29, 2006; the term “Second Quarter” refers to the three months ended July 29, 2006; the term “Third Quarter” refers to the three months ended October 28, 2006; and the term “Fourth Quarter” refers to the three months ended February 3, 2007.

Overview of Licensing Business

The Cherokee brand, which began as a footwear brand in 1973, has been positioned to connote quality, comfort, fit, and a “Casual American” lifestyle with traditional, wholesome values. We acquired the Sideout brand and related trademarks, which represent a young active lifestyle, in November 1997. See “Sideout Agreement” below. Our primary emphasis for the past ten years has been domestic and international retail direct and wholesale licensing. As of February 3, 2007, we had sixteen continuing license agreements covering both domestic and international markets, seven of which pertained to the Cherokee brand.

Our license agreements are with retailers, wholesalers and global trading companies on an exclusive or non-exclusive basis. Of our sixteen licensing agreements, eleven are retail direct contracts with domestic or international retailers, two are with domestic or international wholesalers, and three are brand representations with contracts with domestic or international retailers. In retail direct licensing, we grant retailers a license to use the trademarks on certain categories of merchandise. Although in some cases we may provide design direction, most of our licensees modify or amplify the designs or create their own designs to suit their seasonal, regional and category needs. In nearly all cases, all products are subject to our pre-approved packaging, graphics and quality control standards. The retailer is responsible for designing and manufacturing the merchandise. We refer to this practice as our “retail direct” licensing strategy. Wholesale licensees manufacture and import various categories of apparel, footwear and accessories under our trademarks and sell the licensed products to retailers. In nearly all cases our retail, wholesale and international license agreements provide us with final approval of pre-agreed upon quality standards, packaging and, in most cases, marketing of licensed products. We have the right to conduct periodic quality control inspections to ensure that the image, quality and packaging of licensed products remain consistent. We plan to continue to solicit new licensees through our executive employees as well as using outside consultants.

Our current business strategy is to maximize the value of our existing and future brands by marketing them in a manner that recognizes the relative market power, in different areas of the world, of the various participants—manufacturer , wholesaler and retailer—in the chain of supply to the ultimate consumer. In the United States, Canada, the United Kingdom and other developed retail markets, market power and accompanying economies of scale are generally held by a few dominant retailers of moderately priced merchandise, and, accordingly, in these countries we have pursued our retail direct licensing strategy. In contrast our strategy in countries such as the United States, Canada, the United Kingdom, and other developed countries with dominant retailers, in selected international markets without dominant retailers we have sought to develop our brands through wholesale licenses with manufacturers or other companies who have market power and economies of scale in their respective markets. Finally, in some countries, we believe that an owner or licensee of one or more well-known U.S. brands may have the opportunity to become a dominant, vertically integrated manufacturer/retailer of branded apparel, footwear and accessories. Accordingly, in those countries we have begun to pursue licensing agreements or strategic alignments whereby our brands can become the basis for such a vertically integrated manufacturer/retailer. These various licensing strategies permit us to operate with minimal working capital, very low capital expenditures (other than those associated with acquiring new brands and related trademarks, maintaining our trademark registrations in certain countries, and modest replacement costs of our fixed assets), no production or manufacturing costs, significantly reduced design, marketing, distribution and other operating expenses, and a relatively small group of core employees.

United States Licensing

Our retail direct licensing strategy is premised on the proposition that in the United States most aspects of the moderately priced apparel, footwear and accessories business, from product development and design, to merchandising, to sourcing and distribution, can be executed most effectively by large retailers, who not only command significant economies of scale, but also interact daily with the end consumer. We believe that these retailers in general may be able to obtain higher gross margins on sales and increase store traffic by directly designing, sourcing, stocking and selling licensed products bearing widely recognized brand names (such as our brands) than through carrying strictly private label goods or branded products from third-party vendors. We also expect that the enhanced profitability to retailers of private label products and in-store brands, coupled with the substantial marketing costs to establish and maintain a widely recognized apparel brand, will continue to increase the desirability to retailers of well-established brands with broad appeal. Our primary strategy in the United States is to capitalize on these trends by licensing our portfolio of brand names directly to retailers, who, working in conjunction with us, develop merchandise for their stores, and to augment that portfolio by acquiring additional brands which have high consumer awareness, broad appeal and applicability to a range of merchandise categories.

Our most significant retail relationship in the United States is with Target Stores. The terms of our relationship with Target Stores are set forth in an amended licensing agreement (the “Amended Target Agreement”) between Cherokee and Target Stores entered into on November 12, 1997. This agreement was subsequently assigned to our wholly owned subsidiary Spell C. The Amended Target Agreement grants Target Stores the exclusive right in the United States to use the Cherokee trademarks in certain specified categories of merchandise including:

• men’s, women’s and children’s apparel, including intimate apparel, foundations and sleepwear;

• men’s, women’s and children’s fashion accessories;

• bed and bath products and accessories;

• luggage, sports bags and backpacks;

• home textiles;

• domestics and home decor products;

• home furnishings; and

• sporting goods.

Due to the broad nature of the rights granted to Target Stores in the United States, and the restrictions contained in the Amended Target Agreement, we cannot enter into new retail or wholesale licensing agreements in the United States with respect to the Cherokee brand, except for retail license agreements for cosmetics, bath and body products with several drug store chains.

The initial term of the Amended Target Agreement commenced on February 1, 1998 and continued through January 31, 2004. However, the Amended Target Agreement provides that if Target Stores remains current in its payments of the minimum guaranteed royalty under the agreement, then the term of the agreement will continue to automatically renew for successive fiscal year terms provided that Target Stores has paid a minimum guaranteed royalty equal to or greater than $9.0 million for the preceding fiscal year and Target Stores does not give notice of its intention to terminate the agreement. In each year since 2004 and in February 2007, Target Stores elected to allow the term of the Amended Target Agreement to renew for an additional year. As a result, the term of the Amended Target Agreement currently continues through January 31, 2009 and remains subject to the automatic renewal provisions described above. Target Stores may terminate the Amended Target Agreement effective February 1, 2009 if it gives us written notice of its intent to do so by February 28, 2008, and may terminate at the end of any fiscal year thereafter, if it gives us written notice of its intent to do so during February of the calendar year prior to termination.

Under the Amended Target Agreement, Target Stores has agreed to pay royalties based on a percentage of Target Stores’ net sales of Cherokee branded merchandise during each fiscal year ended January 31 st , which percentage varies according to the volume of sales of merchandise. Target Stores agreed to pay a minimum guaranteed royalty of $9.0 million for fiscal 2005 and each fiscal year thereafter, if any, that the term of the Amended Target Agreement is extended.

Royalty revenues from our Cherokee brand at Target Stores were $18.4 million during fiscal 2007, $20.2 million during fiscal 2006, and $20.0 million during fiscal 2005, which, due to the growth of our royalty revenues from our international licensees during this period, accounted for 24% (42% if excluding the $33.0 million from the sale of our Mossimo Finder’s Agreement), 47%, and 51%, respectively, of our consolidated revenues during such periods. Royalty revenues in fiscal 2007 from Target Stores were 204% of the guaranteed minimum royalty under the Amended Target Agreement. The termination of the Amended Target Agreement would have a material adverse effect on our United States licensing. See “Risk Factors.”

During fiscal 2007 our only non-exclusive United States retail direct licensing contract for the Sideout brand was with Mervyn’s. Categories of merchandise under license include men’s, women’s and children’s sportswear, accessories, luggage, sports bags and backpacks, skin care products and hats. During fiscal 2007, royalty revenues from Mervyn’s retail sales of Sideout branded products totaled $1.6 million as compared to $2.3 million during fiscal 2006, primarily due to the closing or sale of a number of stores in 2006. The term of our agreement with Mervyn’s was extended in October 2006 and currently continues until January 31, 2010. We continue to actively pursue our retail direct licensing strategy to further develop the Sideout brand in the United States and in certain other countries.

For our Carole Little brands (Carole Little, CLII and Saint Tropez-West), we have a retail direct licensing agreement with TJX Companies. This contract provides us with minimum guaranteed annual royalties during the five-year term of the agreement and provides TJX with the option at the expiration of the initial term of the agreement to either renew the agreement for an additional five years or buy the trademarks covered by the agreement from us pursuant to an agreed-upon formula. After we recover our investment of $2.7 million from the Carole Little brands (Carole Little, CLII, and Saint Tropez-West), then 45% of any additional monies received from the Carole Little brands must be paid by us to Ms. Carole Little (StudioCL Corporation), the founder of CL Fashion Inc. We received royalty revenues from TJX of $1.3 million in fiscal 2007, as compared to $874,000 in fiscal 2006. As of February 3, 2007, we had recovered all of our acquisition costs of $2.7 million from the cumulative royalties received, and began accounting for a 45% share of the royalties above these acquisition costs as an expense to Ms. Carole Little (StudioCL Corporation) in the fourth quarter of fiscal 2007. This expense of 45% of our royalties from TJX will continue indefinitely. However, on April 11, 2007 we entered into an agreement to repurchase this 45% share of royalties from Studio CL Corporation for a total of $4.0 million, comprised of $1.25 million in cash and $2.75 million in shares of Cherokee common stock, payable on or before April 30, 2007 in accordance with the agreement.

Generally, royalties on non-exclusive domestic retail licenses vary as a percent of the retailer’s net sales of licensed products and may decrease depending on the retailer’s annual sales of licensed products and the retailer’s guaranteed annual sales of licensed products. As an incentive for our licensees to achieve higher retail sales of Cherokee or Sideout branded products, some of our royalty agreements are structured to provide royalty rate reductions once certain specified cumulative levels of sales are achieved by our licensees during each fiscal year. The royalty rate reductions do not apply retroactively to sales since the beginning of the fiscal year. Revenue is recognized by applying the reduced contractual royalty rates prospectively to point of sale data as required sales thresholds are exceeded. As a result, our royalty revenues as a percentage of our licensees’ retail sales of branded products are highest at the beginning of each fiscal year and decrease throughout each fiscal year as licensees reach certain retail sales thresholds contained in their respective license agreements. Therefore, the amount of royalty revenue received by us in any quarter is dependent not only on retail sales of branded products in such quarter, but also on the cumulative level of retail sales, and the resulting attainment of royalty rate reductions in any preceding quarters in the same fiscal year. The size of the royalty rate reductions and the level of retail sales at which they are achieved vary in each licensing agreement.

During fiscal 2007, we received a total of $21.4 million in aggregate royalties from our United States retail direct license agreements, including the Amended Target Agreement and other miscellaneous licensing revenues (excluding revenues from Mossimo), which accounted for 27.8% of our consolidated revenues during such period.

International Licensing

We will continue to seek opportunities in targeted international markets to license our Cherokee and Sideout brands and other brands we own or represent through retail direct, master or wholesale licenses with manufacturers or other companies that have market power and economies of scale in their respective markets.

On August 22, 1997, we entered into an exclusive international retail direct licensing agreement with Zellers Inc., a Canadian retailer that is a division of Hudson’s Bay Company. Zellers was granted the exclusive right in Canada to use the Cherokee brand and related trademarks in connection with a broad range of categories of merchandise, including women’s, men’s and children’s apparel and footwear, women’s intimate apparel, fashion accessories, home textiles, cosmetics and recreational products. The term of the agreement was for five years, with automatic renewal options, provided that specified minimums are met each contract year. Under the agreement, Zellers agreed to pay us a minimum guaranteed royalty of $10.0 million over the five-year initial term of the agreement. Royalty revenues from Zellers totaled $3.7 million in fiscal 2007, $3.1 million in fiscal 2006, and $3.1 million during fiscal 2005. In fiscal 2007 Zellers renewed their agreement for an additional five year period, beginning February 1, 2007 and continuing through January 31, 2012, and certain of the terms were changed to Canadian Dollars. Under the terms of the renewed agreement, Zellers agreed to pay us a minimum guaranteed royalty of CDN $1.5 million per year (equivalent to $1.3 million in US$ at February 3, 2007) over the new five-year term. Zellers has the option to renew this agreement for two additional five year terms beyond the most recent renewal.

In early September 2000, we entered into an exclusive international retail direct licensing agreement for the Cherokee brand with France-based Carrefour Group. The term of the agreement expired on December 31, 2006 and we have been seeking replacement licensees for those territories included in this expired licensing agreement with Carrefour Group.

On August 1, 2001, we entered into an exclusive international retail direct licensing agreement for the Cherokee brand with Great Britain’s Tesco Stores Limited. Tesco was granted the exclusive right to manufacture, promote, sell and distribute a wide range of products bearing our Cherokee brand in the United Kingdom and Ireland and is obligated to pay us a royalty based upon a percentage of its net sales of Cherokee branded products in those countries. Royalty revenues from Tesco totaled $13.9 million in fiscal 2007, $10.6 million in fiscal 2006, and $8.9 million in fiscal 2005. Tesco also has a right to add a number of other countries to the territories covered by the agreement, assuming we have not already entered into exclusive licensing agreements covering such countries, and subject to the existing rights given to other licensees. In January 2004, we granted Tesco the rights to certain other countries including South Korea, Malaysia, Thailand, Slovakia, and Hungary, and in 2005 we added the rights to Poland and the Czech Republic. In March 2006, Tesco began to sell Cherokee branded products in the Czech Republic, Poland, and Slovakia, and in July 2006 Tesco began to sell Cherokee branded products in Hungary. In addition, in February 2007 we added the territory of China to the Tesco agreement. We currently expect that Tesco will start selling Cherokee branded products in selected Asian territories (which could include some or all of Malaysia, South Korea, Thailand, and China) within the next 12 to 24 months, but cannot provide any assurances that this timeframe will be met. The initial term of the Tesco agreement had an expiration date of January 31, 2005, but as a result of Tesco quickly reaching the retail sales thresholds during fiscal 2005, this agreement was automatically extended for an additional three years to January 31, 2008, and again during fiscal 2007 for another three years to January 31, 2011.

In January 2004, Cherokee entered into a wholesale license agreement for the Cherokee brand in Mexico with Grupo Aviara S.A., and Cherokee-branded products began to be sold through certain retailers in Mexico beginning in October 2004. Royalty revenues from this agreement totaled $217,000 in fiscal 2005, $296,000 in fiscal 2006, and $235,000 in fiscal 2007. As of January 1, 2007, in order to increase the retail sales volume and efficiencies pertaining to the Mexican market for Cherokee branded goods, we terminated our contract with Grupo Aviara S.A. concurrent with signing a retail direct contract with the Mexican retailer, Comercial Mexicana, and we are cautiously optimistic that our royalty revenues from Mexico will continue to grow.

As of February 3, 2007 we had six international license agreements for the Cherokee brand (Tesco, Zellers, Comercial Mexicana, Pick ‘N Pay, GLS—Al Hokair, and Falabella). We expect to continue to solicit additional licensees for the Cherokee brand in Asia, Europe and South America, subject to Tesco’s rights and other licensee’s rights under their respective agreements.

In December 2002 we entered into an international licensing agreement with Shanghai Bolderway, Fashion Inc., a division of Guangdong Bolderway Trading Development Co., Ltd. This multi-year agreement includes various product categories such as men’s, boy’s and women’s apparel and footwear for the Sideout brand. These products launched in China in fiscal 2005, and since that time we have only received the minimum guaranteed payments due from this contract.

During fiscal 2007, we received $18.4 million in aggregate royalties from our international license agreements, which accounted for 24.0% of our consolidated revenues during such period.

Other Businesses and Brand Opportunities

We are frequently approached by parties seeking to sell their brands and related trademarks. Should an established and marketable brand or similar equity property become available on favorable terms, we would consider such an acquisition opportunity. For example, in December 2002, we acquired out of bankruptcy the trademarks of CL Fashion Inc. which included Carole Little, CLII, Saint Tropez-West, Chorus Line, All That Jazz and Molly Malloy for an aggregate purchase price of $2.7 million. Concurrently, we entered into a five-year licensing agreement with TJX Companies for the Carole Little, CLII and Saint Tropez-West brands. In addition, on January 1, 2007 we entered into a licensing agreement with M.J. Fashions LLC for our All That Jazz brand. The licensing agreement with TJX provides us with minimum guaranteed annual royalties during the term of the agreement and provides TJX with the option at the expiration of the initial term of the agreement to either renew the agreement for an additional five years or buy the trademarks covered by the agreement from us pursuant to an agreed-upon formula. After we recover our investment of $2.7 million from the Carole Little brands (Carole Little, CLII and Saint Tropez-West), then 45% of any additional monies received from the Carole Little brands must be paid by us to Ms. Carole Little (StudioCL Corporation), the founder of CL Fashion Inc. We received royalty revenues from TJX of $1.3 million in fiscal 2007, as compared to $874,000 in fiscal 2006. As of February 3, 2007, we had recovered all of our acquisition costs of $2.7 million from the cumulative royalties received, and began accounting for a 45% share of the royalties above these acquisition costs as an expense to Ms. Carole Little (StudioCL Corporation) in the fourth quarter of fiscal 2007. This expense of 45% of our royalties from TJX will continue indefinitely. However, on April 11, 2007 we entered into an agreement to repurchase this 45% share of royalties from Studio CL Corporation for a total of $4.0 million, comprised of $1.25 million in cash and $2.75 million in shares of Cherokee common stock, payable on or before April 30, 2007 in accordance with the agreement.

In addition to acquiring brands and licensing our own brands, we assist other companies in identifying licensees for their brands. Generally, in representing brands, we perform a range of services including marketing of brands, solicitation of licensees, contract negotiations and administration and maintenance of license or distribution agreements. In return for our services, we normally receive a certain percentage of the net royalties generated by the brands we represent and sign to a license agreement.

For example, during fiscal 2001 we assisted Mossimo in locating Target Stores as a licensee of the Mossimo brand and entered into a finder’s agreement with Mossimo, which provided that we would receive a fixed percentage of all monies paid to Mossimo by Target Stores (the “Mossimo Finders Agreement”). Under Mossimo’s agreement with Target Stores, Target Stores is obligated to pay Mossimo a royalty based on a percentage of net sales of Mossimo branded products, with a minimum guaranteed royalty, beginning in 2001, of approximately $27.8 million over the initial three-year term of the agreement. Mossimo’s agreement with Target Stores is subject to early termination under certain circumstances. In February 2005, the agreement between Mossimo and Target was renewed until January 31, 2008, and in April 2006 Mossimo announced that the agreement between Mossimo and Target had been renewed until January 31, 2010, but this agreement continues to contain early termination provisions. During our fourth quarter ended February 3, 2007 we terminated the Mossimo Finders Agreement in exchange for payment of a termination fee of $33.0 million (plus $900,000 in back royalties due to the Company from Mossimo for the First Quarter) in accordance with the terms of the Termination and Settlement Agreement (the “Termination Agreement”) between the Company and Iconix Brand Group, Inc. (“Iconix”) entered into as of April 27, 2006 in connection with Iconix’s acquisition of Mossimo.

In fiscal 2003 we assisted House Beautiful in locating May Company Department Stores as a licensee of the House Beautiful brand. In addition, during fiscal 2005 we assisted the brand Latina in locating a domestic retailer as a licensee of the Latina brand. We typically work on several select brand representation opportunities during each fiscal year.

As a result of a change in strategy due to the Federated Companies recently closed acquisition of May Company Stores, the HouseBeautiful brand licensing agreement with May Company Stores was recently amended such that during fiscal 2007 May Company will likely no longer sell HouseBeautiful branded products. As a result of such amendment Cherokee received a one-time payment of over $1.1 million in January 2006.

During fiscal 2007 we reported revenues from Mossimo of $36.3 million, which included the $33.0 million one-time termination payment, as compared to $3.2 million in fiscal 2006 and $2.4 million in fiscal 2005.

During fiscal 2007, we recognized $36.8 million in aggregate royalties (which includes the $33.0 million termination payment pertaining to the Mossimo finder’s agreement) from other business opportunities such as brand representation agreements, which accounted for 48.1% of our consolidated revenues during such period.

Sideout Acquisition Agreement

On November 7, 1997, we entered into an Agreement of Purchase and Sale of Trademarks and Licenses (the “Sideout Agreement”) with Sideout Sport Inc., pursuant to which we agreed to purchase all of Sideout Sport Inc.’s trademarks, copyrights, trade secrets and associated license agreements. Steven Ascher, a former Executive Vice President who left the Company in November of 2003, beneficially owns 37.2% of Sideout Sport Inc. and Mr. Ascher’s father and father-in-law beneficially own 8.9% and 5.0%, respectively, of Sideout Sport Inc. The trademarks acquired from Sideout Sport Inc. include, among others, Sideout® and Sideout Sport®. Pursuant to the Sideout Agreement, we paid $1.5 million at the closing of the acquisition and agreed to pay an additional $500,000 upon release of liens on the assets that were purchased. Most of the liens have since been released and $495,000 of the $500,000 holdback was paid. Under the terms of the Sideout Agreement, we also paid Sideout Sport Inc., on a quarterly basis, contingent payments of 40% of the first $10.0 million, 10% of the next $5.0 million and 5% of the next $20.0 million, of royalties and license fees received by us through licensing of the Sideout trademarks. During fiscal 2005 we made payments of $163,000 under the Sideout Agreement, and since January 1999 we have paid in total over $4.8 million in contingent payments under the Sideout Agreement. The obligation to make contingent payments to Sideout Sport Inc. expired on October 22, 2004 and we have no further obligation to pay royalties or license fees to Sideout Sport Inc. We made our last payment due under this agreement in our third quarter ended October 30, 2004.

Trademarks

We and our wholly-owned subsidiary Spell C hold various trademarks including Cherokee®, Sideout®, Sideout Sport®, Carole Little®, CL II®, Saint Tropez-West®, Chorus Line®, All That Jazz®, Molly Malloy® and others, in connection with numerous categories of apparel and other goods. These trademarks are registered with the United States Patent and Trademark Office and in a number of other countries. We intend to renew these registrations as appropriate prior to expiration. We also hold trademark applications for Cherokee, Sideout and Sideout Sport, Carole Little, CLII, Saint Tropez-West, Chorus Line, All That Jazz and Molly Malloy in numerous countries. We monitor on an ongoing basis unauthorized uses of our trademarks, and we rely primarily upon a combination of trademark, know-how, trade secrets, and contractual restrictions to protect our intellectual property rights both domestically and internationally. See “Risk Factors.”

Marketing

We have positioned the Cherokee name to connote quality, comfort, fit and a “Casual American” lifestyle with traditional, wholesome values. The Sideout brand and related trademarks represent a young active lifestyle. We integrate our advertising, product, labeling and presentation to reinforce these brand images. We intend to continue to promote a positive image in marketing the Cherokee and Sideout brands through licensee-sponsored advertising. Our retail, wholesale and international license agreements provide us with final approval of pre-agreed upon quality standards, packaging and marketing of licensed products. We principally rely on our licensees to advertise the Cherokee and Sideout brands, and as a result our advertising costs have been minimal.

We have a website at www.thecherokeegroup.com which provides basic information to investors and others interested in Cherokee Inc. The information regarding our website address is provided for convenience and we are not including the information contained on our website as part of, or incorporating it by reference into, this Annual Report on Form 10-K.

Internationally, we intend to continue to seek to develop our principal brands through license agreements and strategic alliances with manufacturers or other companies who have market power and economies of scale in their respective markets. We are also seeking to assist other companies in identifying licensees for their brands. We will continue to market our brands and solicit new licensees through a relatively small number of executive employees and may retain the services of outside consultants from time to time to assist us in this effort.

Competition

Royalties paid to us under our licensing agreements are generally based on a percentage of the licensee’s net sales of licensed products. Cherokee and Sideout brand footwear, apparel, and accessories, which are manufactured and sold by both domestic and international wholesalers and retail licensees, are subject to extensive competition by numerous domestic and foreign companies. Such competitors with respect to the Cherokee brand include Levi Strauss & Co., The Gap, Old Navy, Martha Stewart Living Omnimedia Inc., Liz Claiborne, Iconix Brand Group Inc., and VF Corp. and private label brands such as Faded Glory, Arizona, and Route 66, developed by retailers. Competitors with respect to the Sideout brand include Quiksilver, Nike and other active wear companies. Factors which shape the competitive environment include quality of garment construction and design, brand name, style and color selection, price and the manufacturer’s ability to respond quickly to the retailer on a national basis. In recognition of the increasing trend towards consolidation of retailers and greater emphasis by retailers on the manufacture of directly sourced merchandise, in the United States our business plan focuses on creating strategic alliances with major retailers for their sale of products bearing our brands through the licensing of our trademarks directly to retailers. Therefore, our success is dependent on our licensees’ ability to design, manufacture and sell products bearing our brands and to respond to ever-changing consumer demands. Companies such as Iconix Brand Group, and Martha Steward Living Omnimedia Inc. have entered into, and other companies owning established trademarks could also enter into, similar arrangements with retailers. See “Risk Factors.”

Employees

As of February 3, 2007, we employed eighteen persons. None of our employees are represented by labor unions and we believe that our employee relations are satisfactory.

Code of Ethics

We have adopted a code of ethics that applies to all of our directors, officers and employees of the Company.

CEO BACKGROUND

Robert Margolis, 59
Director, Chairman of the Board of Directors and Chief Executive Officer

Mr. Margolis has been a director since May 1995. Mr. Margolis was appointed Chairman of the Board of Directors and Chief Executive Officer on May 5, 1995. Mr. Margolis was the co-founder of the Company’s Apparel Division in 1981. He had been the Co-Chairman of the Board of Directors, President and Chief Executive Officer since June 1990 and became Chairman of the Board of Directors on June 1, 1993. Mr. Margolis resigned all of his positions with the Company on October 31, 1993 and entered into a one-year consulting agreement with the Company. Subsequently, Mr. Margolis rejoined us as Chairman and Chief Executive Officer in 1995. Mr. Margolis’ services as Chief Executive Officer are provided pursuant to the terms of the Management Agreement. See “Item 2.—Approval of Proposed Amendment to the Management Agreement—Summary of the Management Agreement” below.

Timothy Ewing, 46
Director

Mr. Ewing has been a director since September 1997. Mr. Ewing, a Chartered Financial Analyst, is the managing partner of Ewing & Partners and the manager of Value Partners, Ltd., a private investment partnership formed in 1989, and of the Endurance Partnerships, formed in 2001. Mr. Ewing has been a member of the board of directors of Harbourton Capital Group (OTC: HBTC) in McLean, Virginia since 2000, and TransWorld Corporation (OTC: TWOC) in New York, New York since 2004. In addition, Mr. Ewing was the chairman until recently and remains an executive board member of the Dallas Museum of Natural History, and sits on the board of directors of The Dallas Opera, the board of trustees of the Baylor HealthCare System Foundation and the advisory board of the Holocaust Studies Program at the University of Texas at Dallas.


Dave Mullen, 72
Director

Mr. Mullen has been a Director since May 2000. For more than nine years, he was the President and CEO of Robinson’s-May in North Hollywood, California until he retired from The May Department Stores in July 1999. Mr. Mullen joined The May Department Stores in March 1988 and from March 1988 to June 1988 was the President and CEO of Goldwater’s in Phoenix, Arizona. From June 1988 to January 1991 he was President and CEO of Filene’s in Boston, Massachusetts and in January 1991 became the President and CEO of Robinson’s-May in North Hollywood.


Jess Ravich, 49
Director

Mr. Ravich has been a Director since May 1995. Mr. Ravich is the Chairman and Chief Executive Officer of Libra Securities, LLC, a Los Angeles based investment banking firm that focuses on capital raising and financial advisory services for middle market corporate clients and the sales and trading of debt and equity securities for institutional investors. Prior to founding Libra in 1991, Mr. Ravich was an Executive Vice President at Jefferies & Co., Inc. and a Senior Vice President at Drexel Burnham Lambert. From November 2004 through November 2006, Mr. Ravich served on the board of managers of OpBiz, LLC . Mr. Ravich also serves as the chairman of the board of directors of ALJ Regional Holdings, Inc. In addition to his professional responsibilities, Mr. Ravich is on the Undergraduate Executive Board of the Wharton School and the Board of Trustees of the Archer School for Girls.

Keith Hull, 54
Director

Mr. Hull has been a director since June 1995. Mr. Hull is currently the Vice President, Marketing and Sales at Global Emergency Resources, LLC, a technology company offering its products to hospitals and public health organizations for critical resource tracking during emergencies. For eight years, Mr. Hull was President of Avondale Fabrics and Corporate Vice President of its parent, Avondale Mills Inc. In 2004, Mr. Hull was named President and COO of Avondale Mills. Avondale Mills is a diversified manufacturer of textiles. In addition, Mr. Hull was a member of the board of the Avondale Foundation from August 2000 to February 2007. From 2002 to June 2006, Mr. Hull was a member of the University of South Carolina—Aiken’s Partnership board.

SHARE OWNERSHIP

(1) Includes 794,733 shares held directly by Robert Margolis, and 135,000 shares owned by The Newstar Group, Inc. d/b/a The Wilstar Group (“Wilstar”). Mr. Margolis is the sole shareholder of Wilstar. Also includes 150,000 shares contributed to the Robert Margolis Foundation, Inc. Mr. Margolis expressly disclaims beneficial ownership of the shares held by the Robert Margolis Foundation.

(2) The information reported is based on a Schedule 13 F report with a reporting date of March 31, 2007, filed with the Securities and Exchange Commission by Barclays Global Investors, NA and affiliated entities. Barclays Global Investors, NA reports its address as 45 Fremont Street, San Francisco, CA 94105.

(3) The information reported is based on a Schedule 13 F report with a reporting date of March 31, 2007, filed with the Securities and Exchange Commission by Kayne Anderson Rudnick Investment Management, LLC. Kayne Anderson Rudnick Investment Management, LLC reports its address as 1800 Avenue of the Stars, 2 nd Floor, Los Angeles, CA 90067.

(4) The information reported is based on a Schedule 13 F report with a reporting date of March 31, 2007, filed with the Securities and Exchange Commission by FMR Corp. and affiliated entities. FMR Corp. reports its address as 82 Devonshire Street, Boston, MA 02109.

(5) Includes 3,333 shares of our common stock issuable upon the exercise of stock options exerciseable within sixty days of June 28, 2007 .

(6) Includes 13,333 shares of our common stock issuable upon the exercise of stock options exerciseable within sixty days of June 28, 2007 .

(7) Includes 47,324 shares of our common stock issuable upon the exercise of stock options exerciseable within sixty days of June 28, 2007 .

(8) Includes 16,999 shares of our common stock issuable upon the exercise of stock options exerciseable within sixty days of June 28 , 2007.

(9) Includes 80,989 shares of our common stock issuable upon the exercise of stock options exerciseable within sixty days of June 28 , 2007.

COMPENSATION

The Company’s compensation program for executive officers is administered by the Compensation Committee of the Board of Directors. The Compensation Committee is responsible for setting and administering executive officer salaries and the annual bonus and long-term incentive plans that govern the compensation paid to the Company’s executives. The Compensation Committee consists of Mr. Ewing

(Chairman), Mr. Ravich and Mr. Hull, all of whom are non-employee directors and outside directors within the meaning of Rule 16b-3 of the Securities Exchange Act of 1934, as amended, and Section 162(m) of the Internal Revenue Code, respectively. The Board of Directors has determined that all of the members of the Compensation Committee are “independent,” in accordance with Rule 4350(c) rules of The Nasdaq Stock Market, Inc. The Compensation Committee met twice during Fiscal 2007 and took action by written consent on two occasions during Fiscal 2007.

Compensation Committee Interlocks and Insider Participation

Except for Mr. Margolis, who is a director and Chief Executive Officer of the Company, as well as the sole shareholder of Wilstar, none of the executive officers of the Company has served on the Board of Directors or on the Compensation Committee of any other entity, any of whose officers served either on the Board of Directors or on the Compensation Committee of the Company.

Nominating Committee

The Company does not have a standing nominating committee, which the Board of Directors determined is not necessary given the relatively small size of the Company’s Board of Directors and management team, limited scope of operations and simplicity of the Company’s business. In accordance with the Nasdaq rules, commencing in fiscal year 2004, only the members of the Board of Directors who qualify as “independent directors” within the meaning of Rule 4200(a)(15) of the Nasdaq Rules will perform the functions of the nominating committee. These functions include reviewing and recommending to the full Board of Directors issues relating to the Board’s composition and structure; establishing criteria for membership and evaluating corporate policies relating to the recruitment of Board members; and making recommendations regarding proposals submitted by stockholders. The independent directors will evaluate nominees recommended by stockholders in the same manner as they evaluate other nominees. A stockholder who wishes to suggest a prospective nominee for the Board of Directors should notify the Company, the Secretary of the Company or any independent director in writing with any supporting material the stockholder considers appropriate. The independent directors will review each potential candidate’s qualifications, including the following criteria: personal and professional integrity, ethics and values; experience in corporate management, such as serving as an officer or former officer of a publicly held company; experience in the Company’s industry and with relevant social policy concerns; experience as a board member of another publicly held company; academic expertise in an area of the Company’s operations; and practical and mature business judgment.

All of the nominees for director being voted upon at the Annual Meeting are directors standing for re-election.

Code of Business Conduct and Ethics

The Company has adopted a Code of Business Conduct and Ethics that applies to the Company’s directors, officers (including the Chief Executive Officer, Chief Financial Officer, Controller and persons performing similar functions), employees, agents and consultants. This Code satisfies the requirements of a “code of business conduct and ethics” under Rule 4350-7 of the Nasdaq Rules and a “code of ethics” within the meaning of Section 406 of the Sarbanes-Oxley Act of 2002 and applicable SEC rules.

Directors’ Remuneration and Stock Options

For their services on the Board of Directors during Fiscal 2007, each non-employee director was paid a retainer fee of $25,000 per annum. The fees are paid in quarterly increments. In addition to the general retainer for board service, non-employee directors who serve on board committees are entitled to additional compensation as follows: Audit Committee members received $5,000 and Compensation Committee members received $2,500 per each formal meeting and Audit Committee members also receive an additional retainer fee of $15,000 per annum.

During the fiscal year ended January 28, 2006 (“Fiscal 2006”) and Fiscal 2007 none of the current directors exercised any stock options to purchase common stock of Cherokee Inc.

MANAGEMENT DISCUSSION FROM LATEST 10K

Cautionary Note Regarding Forward-Looking Statements

Overview

The following discussion should be read in conjunction with our consolidated financial statements and related notes included elsewhere in this Form 10-K.

Since May 1995, we have principally been in the business of marketing and licensing the Cherokee brand and related trademarks and other brands we own or represent. Our operating strategy emphasizes domestic and international retail direct and wholesale licensing, whereby we grant wholesalers and retailers the license to use our trademarks on certain categories of merchandise.

In November 1997, we reaffirmed our strategic relationship with Target Stores, a division of Target Corp., by entering into the Amended Target Agreement, which grants Target Stores the exclusive right in the United States to use the Cherokee trademarks in certain categories of merchandise. See “Item 1. Business—United States Licensing.” Under the Amended Target Agreement, Target Stores will pay a royalty each fiscal year during the term of the agreement based on a percentage of Target Stores’ net sales of Cherokee branded merchandise during each fiscal year, which percentage varies according to the volume of sales of merchandise. In any event, Target Stores has agreed to pay a minimum guaranteed royalty of $9.0 million for fiscal 2005 and each fiscal year thereafter, if any, that the term of Amended Target Agreement is extended. In February 2007, Target Stores elected to allow the term of the Amended Target Agreement to be renewed for one additional year. As a result, the term of the Amended Target Agreement currently continues until January 31, 2009 and remains subject to the automatic renewal provisions. Under the Amended Target Agreement, in most cases, we must receive Target Stores’ consent to enter into additional licensing agreements in the United States with respect to the Cherokee brand during the term of the agreement. Therefore, our current focus with respect to the Cherokee brand is to continue to develop that brand in several international markets through retail direct or wholesale licenses with manufacturers or other companies that have market power and economies of scale in those respective markets.

Target Stores currently has approximately 1,500 stores in the United States and has publicly announced that it expects to open additional stores in the next twelve months. We hope that these additional stores will result in an increase in the overall sales volume of Cherokee branded products sold by Target Stores; however, there can be no assurance that overall sales volume will increase. Sales of Cherokee branded products at Target Stores decreased in fiscal 2007 by 14% to $1.57 billion from the $1.8 billion reported in fiscal 2006, which we attribute to changes in the mix and placement of Cherokee branded products within Target Stores, and the seasonal displacement of the Cherokee brand on certain product categories during fiscal 2007. Target Stores pays royalty revenues to us based on a percentage of its sales of Cherokee branded products. The Amended Target Agreement, however, is structured to provide royalty rate reductions for Target Stores after it has achieved certain levels of retail sales of Cherokee branded products during each fiscal year. In fiscal 2007 Target Stores reached the maximum royalty rate reduction in the third quarter. We believe that for fiscal 2008 our royalty revenues from Target Stores will continue to be similar to or greater than that achieved in fiscal 2007, and we are not able to predict how this trend may specifically impact our quarterly revenues. However, given our contractual royalty rate reductions as certain sales volume thresholds are achieved, in terms of future royalty revenues that we expect to receive from Target, we expect that our first quarter will continue to be our largest quarter; our second quarter to be our next largest quarter, and our third and fourth quarters to be our smallest quarters.

As part of a recapitalization that occurred in September 1997, we sold to Spell C, our wholly owned subsidiary, all of our rights to the Cherokee brand and related trademarks in the United States and assigned to Spell C all of our rights in the Amended Target Agreement in exchange for the proceeds from the sale of the Secured Notes (as defined below). See “Item 1. Business—Recapitalization ; Sale of Cherokee Trademarks to Spell C; Issuance of Secured Notes.” On December 23, 1997, Spell C issued in exchange for gross proceeds of $47.9 million, privately placed Zero Coupon Secured Notes (the “Secured Notes”), yielding 7.0% interest per annum and maturing on February 20, 2004. The proceeds from the sale of the Secured Notes were used to pay a special dividend to Cherokee stockholders. The Secured Notes subsequently have been paid in full out of royalties received under the Amended Target Agreement, with the final payment of principal and interest having been made on February 20, 2004. During fiscal 2005, of the $20.0 million in royalty revenues from Target Stores, $2.6 million was paid to the holders of the Secured Notes, and the remainder of the royalty revenues were distributed to us. Spell C will continue to receive all royalties paid under the Amended Target Agreement but we expect all such royalties will be distributed to us.

Target Stores commenced the initial sales of Cherokee branded merchandise in July 1996. Royalty revenues from our Cherokee brand at Target Stores were $20.0 million during fiscal 2005, $20.2 million during fiscal 2006, and $18.4 million in fiscal 2007, which accounted for 51%, 47%, and 24%, respectively, of our consolidated revenues during such periods. While all royalties paid under the Amended Target Agreement appear in our consolidated financial statements, since the issuance of the Secured Notes in 1998 until their maturity on February 20, 2004, a large percentage of such royalties were distributed to the holders of the Secured Notes. During fiscal 2005, of the $20.0 million in royalty revenues received from Target Stores, $2.6 million was paid to the holders of the Secured Notes. This $2.6 million was the final payment due to the holders of the Secured Notes, and the Secured Notes were retired on February 20, 2004. The revenues generated from all other licensing agreements during fiscal 2005 were $18.9 million, during fiscal 2006 were $22.5 million, and during fiscal 2007 were $58.2 million, which accounted for 49%, 53% and 76%, respectively, of our revenues during such periods.

During the fourth quarter of fiscal 2007, total retail sales of merchandise bearing the Cherokee brand totaled $664 million versus $744 million in total retail sales for the fourth quarter of fiscal 2006. For fiscal 2007, total retail sales of merchandise bearing the Cherokee brand topped $2.5 billion, which approximated the more than $2.5 billion in total retail sales reported for fiscal 2006. The estimated total retail sales of Cherokee branded merchandise of approximately $664 million for the fourth quarter of fiscal 2007 and over $2.5 billion for fiscal 2007 does not include any retail sales totals from Mexico, as our licensee in Mexico for fiscal 2007 is not required to report gross retail sales.

Target Stores’ sales of Cherokee branded products during the fourth quarter of fiscal 2007 totaled $410 million compared to $528 million for the fourth quarter of fiscal 2006. As a consequence, our royalty revenues from Target Stores for the fourth quarter of fiscal 2007 were lower than the royalty revenues reported in the fourth quarter of fiscal 2006. Target Stores pays us royalties based on a percentage of Target Stores’ net sales of Cherokee branded merchandise during each fiscal year ended January 31, which percentage varies according to the volume of sales of merchandise. Target Stores has agreed to pay a minimum guaranteed royalty of $9.0 million per year for each fiscal year that the term of the Amended Target Agreement is extended.

Tesco’s sales of merchandise bearing the Cherokee brand, which for fiscal 2007 included the United Kingdom, Ireland, the Czech Republic, Slovakia, Poland and Hungary, totaled $206 million in our fourth quarter of fiscal 2007, as compared to $158 million for the fourth quarter of fiscal 2006 (which included just the United Kingdom and Ireland—the only two territories in which Tesco sold Cherokee branded products during fiscal 2006). For fiscal 2007, Tesco’s sales of Cherokee branded merchandise totaled $778 million as compared to $569 million in fiscal 2006. Tesco began to sell Cherokee branded products in the Czech Republic, Poland, and Slovakia in March 2006, and in Hungary in July 2006. We currently expect that Tesco will start selling Cherokee branded products in certain Asian territories, including Malaysia, South Korea, Thailand, and China, within the next 12 to 24 months, but cannot provide any assurances that this timeframe will be met.

Zeller’s sales of merchandise bearing the Cherokee brand were approximately $45.4 million during the fourth quarter of fiscal 2007 compared to $50.4 million for the fourth quarter of fiscal 2006. For fiscal 2007, Zeller’s sales of Cherokee branded merchandise totaled $151 million as compared to $133 million in fiscal 2006.

In November 1997, we purchased the Sideout brand and related trademarks from Sideout Sport, Inc. for approximately $2.0 million and a portion of the future royalties generated by the Sideout brand. Under the terms of the Sideout Agreement, we agreed to pay Sideout Sport Inc. on a quarterly basis, 40% of the first $10.0 million, 10% of the next $5.0 million and 5% of the next $20.0 million, of royalties and license fees received by us through licensing of the Sideout brand and related trademarks. During fiscal 2005, we made additional contingent payments of $0.2 million under the Sideout Agreement, with the last payment under this agreement being made in fiscal 2005 and have no further obligation to make additional payments. Since January 1999, we have paid, in total, approximately $4.8 million in contingent payments under the Sideout Agreement. The Sideout brand generated licensing revenues from existing contracts of approximately $1.7 million in fiscal 2007, which was a decrease from the $2.4 million reported during fiscal 2006. During fiscal 2007 licensing revenues from the Sideout brand accounted for approximately 2.2% of our revenues during such period. See “Item 1. Business Sideout Agreement.”

During the fourth quarter of fiscal 2007, retail sales of Mervyn’s young men’s, junior’s and children’s apparel and accessories bearing the Sideout brand were approximately $13.8 million in comparison to $22.9 million for the fourth quarter of fiscal 2006. For fiscal 2007, Mervyn’s sales of Sideout branded merchandise totaled $54.7 million as compared to $84.6 million in fiscal 2006.

In December 2002, we acquired out of bankruptcy the trademarks of CL Fashion Inc., which included Carole Little, CLII, Saint Tropez-West, Chorus Line, All That Jazz, and Molly Malloy for an aggregate purchase price of $2.7 million. Concurrently, we entered into a five-year licensing agreement with TJX Companies for the Carole Little, CLII and Saint Tropez-West brands. The licensing agreement with TJX provides us with minimum guaranteed annual royalties during the term of the agreement and provides TJX with the option at the expiration of the initial term of the agreement to either renew the agreement for an additional five years or buy the trademarks covered by the agreement from us pursuant to an agreed-upon formula. After we recover our investment of $2.7 million from the Carole Little brands (Carole Little, CLII and Saint Tropez-West) then 45% of any additional monies received from the Carole Little brands must be paid by us to Ms. Carole Little (StudioCL Corporation), the founder of CL Fashion Inc. We received royalty revenues from TJX of $1.3 million in fiscal 2007, as compared to $874,000 in fiscal 2006. As of February 3, 2007, we had recovered all of our acquisition costs of $2.7 million from the cumulative royalties received from the Carole Little brands, and began accounting for a 45% share of the royalties above these acquisition costs as an expense to Ms. Carole Little (StudioCL Corporation) in the fourth quarter of fiscal 2007. This expense of 45% of our royalties from TJX will continue indefinitely. However, on April 11, 2007 we entered into an agreement to repurchase this 45% share of royalties from Studio CL Corporation for a total of $4.0 million, comprised of $1.25 million in cash and $2.75 million in shares of Cherokee common stock, payable on or before April 30, 2007 in accordance with the agreement.

TJX’s sales of merchandise bearing the Carole Little and St. Tropez-West brands were approximately $12.6 million during the fourth quarter of fiscal 2007 compared to $13.7 million for the fourth quarter of fiscal 2006. For fiscal 2007, TJX’s sales of Carole Little and St. Tropez-West branded merchandise totaled $98.5 million as compared to $67.0 million in fiscal 2006.

As an incentive for our licensees to achieve higher retail sales of Cherokee or Sideout branded products, many of our existing license agreements, including the Amended Target Agreement, are structured to provide royalty rate reductions for the licensees after they achieve certain levels of retail sales of Cherokee or Sideout branded products during each fiscal year. The royalty rate reductions do not apply retroactively to sales since the beginning of the year. As a result, our royalty revenues as a percentage of our licensees’ retail sales of branded products are highest at the beginning of each fiscal year and decrease throughout each fiscal year as licensees reach certain retail sales thresholds contained in their respective license agreements. Therefore, the amount of royalty revenue received by us in any quarter is dependent not only on retail sales of branded products in such quarter, but also on the cumulative level of retail sales, and the resulting attainment of royalty rate reductions in any preceding quarters in the same fiscal year. The size of the royalty rate reductions and the level of retail sales at which they are achieved vary in each licensing agreement.

In addition to licensing our own brands, we assist other companies in identifying licensees for their brands. For example, during fiscal 2001 we assisted Mossimo Inc. in locating Target Stores as a licensee of the Mossimo brand and entered into a finder’s agreement with Mossimo, which provided that we would receive a fixed percentage of all monies paid to Mossimo by Target Stores. Under Mossimo’s agreement with Target Stores, Target Stores is obligated to pay Mossimo a royalty based on a percentage of net sales of Mossimo branded products, with a minimum guaranteed royalty. In February 2005, the agreement between Mossimo and Target was renewed until January 31, 2008, but continues to contain early termination provisions. In fiscal 2007 we terminated our Mossimo Finder’s Agreement in return for a $33.0 million payment, and after fiscal 2007 we will no longer report any royalties from Mossimo. We also have provided our brand representation services for other brands, including HouseBeautiful and Latina.

As of November 29, 1999, we and The Newstar Group, d/b/a The Wilstar Group (“Wilstar”) entered into a Second Revised and Restated Management Agreement which revised and restated the terms under which Wilstar agreed to continue to provide us with the executive management services of our Chief Executive Officer Robert Margolis. Mr. Margolis is currently the sole stockholder of Wilstar. On January 3, 2001, Wilstar assigned the management agreement to Mr. Margolis. Pursuant to the terms of the management agreement, Mr. Margolis is to receive a base salary which is subject to annual cost of living increases. During fiscal 2007 Mr. Margolis’ base salary totaled $737,000. Mr. Margolis is also eligible for annual performance bonuses.

The management agreement provides that, for each fiscal year after fiscal 2000, if our EBITDA for such fiscal year is no less than $5.0 million, then Mr. Margolis will receive a performance bonus equal to 10% of our EBITDA for such fiscal year in excess of $2.5 million up to $10.0 million, plus 15% of our EBITDA for such fiscal year in excess of $10.0 million. As a result, for fiscal 2007 we accrued a bonus of $8.0 million for Mr. Margolis, and if our EBITDA continues to increase, the bonus payable to Mr. Margolis under the management agreement will also increase. However, the $8.0 million bonus paid to Mr. Margolis during fiscal 2007 increased by approximately $4.3 million as a result of the non-recurring revenues of $33.0 pertaining to the termination of our Mossimo Finder’s Agreement, and the resulting large increase to our EBITDA in fiscal 2007.

In 1997, our Board changed our fiscal year end to a 52 or 53 week fiscal year ending on the Saturday nearest to January 31 in order to better align us with our retailer licensees who generally also operate and plan using such a fiscal year. Prior to this change our fiscal year was a 52 or 53 week fiscal year ending on the Saturday nearest May 31. As a result, our fiscal 2005 ended January 29, 2005 and included 52 weeks; our fiscal 2006 ended January 28, 2006 and included 52 weeks; and our fiscal 2007 ended February 3, 2007 and included 53 weeks.

Critical Accounting Policies and Estimates

Management’s discussion and analysis of financial condition and results of operations is based upon our consolidated financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States. The preparation of these financial statements requires management to make estimates and judgments that affect the reported amounts of assets, liabilities, revenues and expenses, and related disclosure of contingent assets and liabilities. On an on-going basis, management evaluates its estimates, including those related to revenue recognition, deferred taxes, impairment of long-lived assets, contingencies and litigation. Management bases its estimates on historical experience and on various other assumptions that are believed 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.

Management applies the following critical accounting policies in the preparation of our consolidated financial statements:

• Revenue Recognition Policy. Revenues from royalty and finders agreements are recognized when earned by applying contractual royalty rates to quarterly point of sale data received from our licensees. Our royalty recognition policy provides for recognition of royalties in the quarter earned, although a large portion of such royalty payments are actually received during the month following the end of a quarter. Revenues are not recognized unless collectibility is reasonably assured. At February 3, 2007, there was no allowance for doubtful accounts.

• Deferred Taxes. Deferred taxes are determined based on the differences between the financial statement and tax bases of assets and liabilities, using enacted tax rates in effect for the year in which the differences are expected to reverse. Valuation allowances are established when necessary to reduce deferred tax assets to the amounts expected to be realized. In assessing the need for a valuation allowance management considers estimates of future taxable income and ongoing prudent and feasible tax planning strategies.

• Impairment of Long-Lived Assets. We evaluate the recoverability of our identifiable intangible assets and other long-lived assets in accordance with SFAS No. 144, which generally requires management to assess these assets for recoverability when events or circumstances indicate a potential impairment by estimating the undiscounted cash flows to be generated from the use and ultimate disposition of these assets.

• Contingencies and Litigation. We evaluate contingent liabilities including threatened or pending litigation in accordance with SFAS No. 5, “Accounting for Contingencies” and record accruals when the outcome of these matters is deemed probable and the liability is reasonably estimable. Management makes these assessments based on the facts and circumstances and in some instances based in part on the advice of outside legal counsel.

• Stock Options . On January 29, 2006, we adopted Statement of Financial Accounting Standards No. 123 (revised 2004), “Share-Based Payment,” (“SFAS 123(R)”), using the modified prospective method, which requires the measurement and recognition of compensation expense for all share-based payment awards made to employees and directors for employee stock options based on estimated fair values. Prior to January 28, 2006, the Company accounted for its fixed stock options using the intrinsic value method, as prescribed by Accounting Principles Board Opinion No. 25, “Accounting for Stock Issued to Employees” (“APB 25”). Accordingly, no stock option expense was recorded in periods prior to January 28, 2006.

The adoption of SFAS 123(R), applying the modified prospective method, requires companies to estimate the fair value of share-based payment awards on the date of grant using an option-pricing model. The value of the portion of the award that is ultimately expected to vest is recognized as expense over the requisite service periods in our consolidated statement of operations. Under the modified prospective method, we are required to recognize stock-based compensation expense for share-based payment awards granted prior to, but not yet fully vested as of January 28, 2006 based on the grant date fair value estimated in accordance with the pro forma provisions under the original SFAS 123. Accordingly, prior years amounts have not been restated. The compensation expense recognized for all stock-based awards is net of estimated forfeitures over the awards service period.

The fair value of stock options are estimated using a Black-Scholes option valuation model. This model requires the input of subjective assumptions, including expected stock price volatility, estimated life and estimated forfeitures of each award. The fair value of equity-based awards is amortized over the vesting period of the award, and we have elected to use the straight-line method. We make quarterly assessments of the adequacy of the tax credit pool to determine if there are any deficiencies which require recognition in the consolidated statement of operations.

Our consolidated financial statements for fiscal 2007 reflect the impact of SFAS 123(R). In accordance with the modified prospective transition method, our consolidated financial statements for prior periods have not been restated to reflect, and do not include, the impact of SFAS 123(R). Stock-based compensation expense recognized under SFAS 123(R) for fiscal 2007 was $705,000.

MANAGEMENT DISCUSSION FOR LATEST QUARTER

Overview

The following discussion should be read in conjunction with our consolidated financial statements and related notes included elsewhere in this Report on Form 10-Q. See “Item 1. Consolidated Financial Statements.”

Cherokee Inc. (which may be referred to as we, us or our) is in the business of marketing and licensing the Cherokee, Carole Little and Sideout brands and related trademarks and other brands we own or represent. We are one of the leading licensors of brand names and trademarks for apparel, footwear and accessories in the world. Our operating strategy emphasizes domestic and international retail direct and wholesale licensing whereby we grant retailers and wholesalers the license to use the trademarks held by us on certain categories of merchandise in their respective territories.

We and our wholly owned subsidiary, SPELL C. LLC (“Spell C”) own several trademarks, including Cherokee ® , Sideout ® , Sideout Sport ® , Carole Little ® , CLII ® , Saint Tropez-West ® , Chorus Line ® , All that Jazz ® , Molly Malloy ® and others. The Cherokee brand, which began as a footwear brand in 1973, has been positioned to connote quality, comfort, fit, and a “Casual American” lifestyle with traditional wholesome values. The Sideout brand and related trademarks represent a young active lifestyle and were acquired by us in November 1997. The Carole Little and Chorus Line brands and trademarks were acquired by us in December 2002. As of November 3, 2007, we had nineteen continuing license agreements covering both domestic and international markets.

Our retail direct licensing strategy is premised on the proposition that around the world nearly all aspects of the moderately priced apparel, footwear and accessories business can be sourced most effectively by large retailers, who not only command significant economies of scale, but also interact daily with the end consumer. In addition, we believe that these retailers in general may be able to obtain higher gross margins on sales and increase store traffic by directly sourcing, stocking and selling licensed products bearing widely recognized brand names, such as



our brands, than through carrying strictly private label goods or branded products from third-party vendors. Our strategy globally is to capitalize on these ideas by licensing our portfolio of brands primarily to strong and growing retailers, such as Target Stores in the U.S., Tesco in Europe and Asia, and others who work in conjunction with us to develop merchandise for their stores.



In November 1997, we reaffirmed our relationship with Target Stores, a division of Target Corporation, by entering into an amended licensing agreement (the “Amended Target Agreement”) which grants Target Stores the exclusive right in the United States to use the Cherokee trademarks on certain specified categories of merchandise. The term of the Amended Target Agreement currently extends until January 31, 2009 and, unless Target Stores gives us one year’s advance notice of its intention to terminate the agreement, the Amended Target Agreement will continue to automatically renew for successive one-year terms provided that Target Stores has paid a minimum guaranteed royalty equal to or greater than $9.0 million for the preceding fiscal year. If Target Stores elects to terminate the Amended Target Agreement, effective January 31, 2009 or at any other time, it would have a material adverse effect on our business, financial condition, cash flow, liquidity and results of operations. Royalty revenues from Target totaled $6.4 million during the First Quarter, $4.9 million during the Second Quarter, and $3.3 million during the Third Quarter, as compared to $6.9 million, $5.3 million and $3.3 million in the comparable quarters of Fiscal 2007.



Target Stores pays us royalties based on a percentage of Target Stores’ net sales of Cherokee branded merchandise during each fiscal year ended January 31, which percentage varies according to the volume of sales of merchandise. Target Stores has agreed to pay a minimum guaranteed royalty of $9.0 million per year for each fiscal year that the term of the Amended Target Agreement is extended.



As an incentive for our licensees to achieve higher retail sales of Cherokee or Sideout branded products, many of our existing license agreements, including the Amended Target Agreement, are structured to provide royalty rate reductions for the licensees after they achieve certain levels of retail sales of Cherokee or Sideout branded products during each fiscal year. As a result, our royalty revenues as a percentage of certain licensees’ retail sales of branded products are highest at the beginning of each fiscal year and decrease throughout each fiscal year as licensees reach certain retail sales thresholds contained in their respective license agreements. Therefore, the amount of royalty revenue received by us in any quarter is dependent not only on retail sales of branded products in such quarter, but also on the level of retail sales, and the resulting attainment of royalty rate reductions in any preceding quarters in the same fiscal year. The size of the royalty rate reductions and the level of retail sales at which they are achieved varies in each licensing agreement.



Parties seeking to sell their brands and related trademarks frequently approach us. Should an established and marketable brand or equity become available on favorable terms, we may be interested in pursuing such an acquisition. In addition to acquiring brands and licensing our own brands, we assist other companies in a broad range of services that may include: identifying licensees for their brands, marketing of brands, solicitation of licensees, contract discussions, and administration and maintenance of license or distribution agreements. In return for our services, we normally receive a percentage of the net royalties generated by the brands we represent and manage. We typically work on several select brand representation consulting agreements each quarter, which may or may not result in a licensing agreement being signed.



For example, during fiscal 2001 we assisted Mossimo in locating Target Stores as a licensee of the Mossimo brand and entered into a finders agreement with Mossimo, which provided that we would receive a fixed percentage of all monies paid to Mossimo by Target Stores. We terminated the finders agreement with Mossimo effective as of October 31, 2006 in exchange for payment of approximately $33 million, and as a consequence we no longer will report any royalty revenues from the finders agreement with Mossimo.



Our Board of Directors previously authorized and approved the extension of the expiration date of our stock repurchase program from January 31, 2006 to January 31, 2008, and increased the number of shares which could currently be repurchased to a total of 800,000. We have not repurchased any shares of our common stock pursuant to this authority. From July 1999 through February 1, 2003 we repurchased and retired 607,800 shares of our common stock and there have been no additional share repurchases or retirements subsequent to February 1, 2003. Continued repurchases of our stock, if any, will be made from time to time in the open market at prevailing market prices or in privately negotiated transactions.


Critical Accounting Policies and Estimates



Management’s discussion and analysis of financial condition and results of operations is based upon our consolidated financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States. The preparation of these financial statements requires management to make estimates and judgments that affect the reported amounts of assets, liabilities, revenues and expenses, and related disclosure of contingent assets and liabilities. On an on-going basis, management evaluates its estimates, including those related to revenue recognition, deferred taxes, impairment of long-lived assets, and contingencies and litigation. Management bases its estimates on historical experience and on various other assumptions that are believed 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.



We consider accounting policies relating to the following areas to be both those most important to the portrayal of our financial condition and those that require the most subjective judgment:



• Revenue recognition;



• Provision for income taxes and deferred taxes;



• Impairment of long-lived assets;



• Contingencies and litigation; and



• Accounting for stock-based compensation.



You should refer to our Annual Report on Form 10-K for the year ended February 3, 2007, for a discussion of our policies on revenue recognition, deferred taxes, impairment of long-lived assets and contingencies and litigation. See Note 1 to our condensed consolidated financial statements included in this Quarterly Report on Form 10-Q for the discussion of our policies regarding accounting for stock-based compensation.



On January 29, 2006, we adopted Statement of Financial Accounting Standards No. 123 (revised 2004), “Share-Based Payment,” (“SFAS 123(R)”) which requires the measurement and recognition of compensation expense for all share-based payment awards made to employees and directors for employee stock options based on estimated fair values. SFAS 123(R) supersedes our previous accounting under Accounting Principles Board Opinion No. 25, “Accounting for Stock Issued to Employees” (“APB 25”) for periods beginning on or after January 1, 2006. In March 2005, the Securities and Exchange Commission issued Staff Accounting Bulletin No. 107 (“SAB 107”) relating to SFAS 123(R). We have applied the relevant provisions of SAB 107 in our adoption of SFAS 123(R).


We adopted SFAS 123(R) using the modified prospective method, which requires the application of the accounting standard as of January 29, 2006, the first day of our 2007 fiscal year. Our consolidated financial statements as of and for the three and six months ended July 29, 2006 and for the three and six months ended August 4, 2007 reflect the impact of SFAS 123(R). Stock-based compensation expense recognized under SFAS 123(R) for the nine months ended November 3, 2007 and October 28, 2006 was $537,000 and $524,000, respectively.


SFAS 123(R) requires companies to estimate the fair value of share-based payment awards on the date of grant using an option-pricing model. The value of the portion of the award that is ultimately expected to vest is recognized as expense over the requisite service periods in our consolidated statement of earnings. Prior to the adoption of SFAS 123(R), we accounted for stock-based compensation in accordance with Accounting Principles Board (“APB”) Opinion No. 25, “Accounting for Stock Issued to Employees”, and related interpretations.


Effective at the beginning of Fiscal 2008, we adopted the provision of FIN 48, “Accounting for Uncertainty in Income Taxes—an interpretation of FASB Statement No. 109.” FIN 48 contains a two-step approach to


recognizing and measuring uncertain tax positions accounted for in accordance with SFAS No. 109, “Accounting for Income Taxes.” The first step is to evaluate the tax position for recognition by determining if the weight of available evidence indicates that it is more likely than not that the position will be sustained on audit, including resolution of related appeals or litigation processes, if any. The second step is to measure the tax benefit as the largest amount that is more than 50% likely of being realized upon ultimate settlement.



The cumulative effect of applying this interpretation has resulted in a decrease to our retained earnings of approximately $0.4 million as of February 3, 2007. As of February 3, 2007, the total amount of gross unrecognized tax benefits was approximately $9.1 million which is included in income taxes payable in the accompanying balance sheet. In addition to the unrecognized tax benefit, we recorded income taxes receivable of $9.9 million related to expected refunds from foreign jurisdictions in accordance with the implementation of FIN 48. Of these amounts, approximately $0.1 million represents the amount of unrecognized tax benefits that, if recognized, would affect the effective tax rate.



In accordance with the adoption of FIN 48, we continue to include interest and penalties related to unrecognized tax benefits within the provision for taxes on the consolidated statements of income. As of the date of adoption of FIN 48, we accrued $926,000 of interest relating to unrecognized tax benefits.



During the Third Quarter we received approximately $9.1 million in tax refunds from the re-determination of certain foreign taxes previously paid in a foreign jurisdiction in which our licensee in that country had previously withheld foreign taxes and made such payments to their tax authority on our behalf. We had previously taken foreign tax credits for the past five fiscal years on such foreign taxes withheld by this licensee. We initially submitted filings in October 2006 to the foreign tax authority governing this matter to determine if a refund of such tax withholdings was the appropriate interpretation of the governing tax laws between the subject foreign jurisdiction and the United States. Upon receipt of these tax refunds, we promptly remitted this money to the United States Treasury and filed amended tax returns therewith. We had previously accounted for this income tax receivable of $9.1 million and the related income taxes payable pertaining to this matter during our First Quarter when we adopted FIN 48. Approximately $0.8 million (pre-tax) of these refunds represents gains from favorable changes in the foreign currency exchange rates which occurred from the time when the foreign taxes were withheld (generally each quarter during the past five fiscal years) to when we received the refund in August 2007, as the dollar weakened during this period. These foreign currency exchange gains have been accounted for in our tax provision adjustments along with our other FIN 48 related accounting adjustments, and are not shown separately on the other income portion of our income statement.



We file U.S. federal and state tax returns. For the federal tax returns, we are generally no longer subject to tax examinations for years prior to fiscal year 2003. With limited exception, our significant state tax jurisdictions are no longer subject to examinations by the various tax authorities for fiscal years prior to 2001.

Results of Operations

Retail Sales

During the three months ended November 3, 2007 (the “Third Quarter”), total sales of merchandise bearing the Cherokee brand were equivalent to the total retail sales for the third quarter of last year, with retail sales totaling approximately $654.7 million in our Third Quarter versus $647.9 million in total retail sales for the third quarter of last year. The estimated retail sales of Cherokee branded merchandise of approximately $654.7 million for the Third Quarter now includes retail sales totals from Mexico ($7.4 million), as we recently modified our license agreement in Mexico to represent a retail direct contract with the retailer Comercial Mexicana, and subsequently receive timely retail sales data.

During the nine months ended November 3, 2007 (the “Nine Months”), total sales of merchandise bearing the Cherokee brand were $1.844 billion, which is similar to the $1.852 billion of retail sales reported for the nine months ended October 28, 2006. The estimated retail sales of Cherokee branded merchandise for the Nine Months now includes retail sales totals from Mexico ($19.0 million), as we recently modified our license agreement in

Mexico to represent a retail direct contract with the retailer Comercial Mexicana, and subsequently receive timely retail sales data.

Pursuant to our typical arrangements with our licensees, we receive quarterly royalty statements and periodic retail sales information for Cherokee branded products and other product brands that we own or represent. However, our licensees are generally not required to provide, and typically do not provide, information that would enable us to determine the specific reasons for period-to-period fluctuations in retail sales of our branded products by our licensees in the specific territories in which they operate. Fluctuations in retail sales of Cherokee branded products or other product brands that we own or represent may be the result of a variety of factors, including, without limitation: (i) changes in the number of product categories for which a licensee chooses to use our brands from period-to-period, which generally results in changes in the amount of inventory (utilizing our brands) available for sale from period-to-period; (ii) the number of geographical markets/territories or number of stores in which our licensees are currently selling Cherokee or our other branded products from period-to-period; or (iii) our licensees experiencing changes in retail sales levels as a result of a variety of factors, including fashion-related and general retail sales trends (See Risk Factors).

During the Third Quarter, retail sales of Cherokee branded products by Target Stores totaled approximately $366.2 million compared to approximately $426.6 million for the three months ended October 28, 2006, or a decline of about 14.1%. During the Nine Months, retail sales of Cherokee branded products by Target Stores totaled approximately $1.01 billion compared to approximately $1.15 billion for the nine months ended October 28, 2006, or a decline of about 12.4%.

Tesco’s sales of merchandise bearing the Cherokee brand, which for the Third Quarter included the U.K., Ireland, and full quarters from Poland, Czech Republic, Hungary and Slovakia (“Central Europe”), were $241.0 million, as compared to $175.7 million in the comparable quarter of last year, which represents an increase of 37.2%. Tesco’s sales of merchandise bearing the Cherokee brand for the Nine Months, which included the U.K., Ireland, and complete quarters from Central Europe, were $703.5 million, as compared to $571.5 million in the nine months ended October 28, 2006 (which included one full quarter of Tesco Hungary), which represents an increase of 23.1%.

Zeller’s sales of merchandise bearing the Cherokee brand were approximately $39.5 million during the Third Quarter compared to $40.6 million for the third quarter of last year. For the Nine Months, Zeller’s retail sales of Cherokee branded products totaled $108.7 million, as compared to $105.5 million for the nine months ended October 28, 2006.



During the Third Quarter, sales of Mervyn’s young men’s, junior’s and children’s apparel and accessories bearing the Sideout brand were approximately $9.8 million in comparison to $12.9 million for the third quarter of last year. For the Nine Months, sales of Sideout branded products at Mervyn’s totaled $24.4 million, as compared to $41.0 million for the nine months ended October 28, 2006.



Retail sales of Carole Little and St. Tropez-West branded products by TJX were approximately $23.2 million in the Third Quarter, as compared to $19.4 million for the third quarter of last year. For the Nine Months, retail sales of Carole Little and St. Tropez-West branded products by TJX totaled $88.8 million, as compared to $86.0 million for the nine months ended October 28, 2006.



Royalty Revenues and Expenses



Royalty revenues were $8.9 million and $32.9 million during the Third Quarter and Nine Months, respectively, compared to $8.8 million and $34.4 million during the third quarter and nine months ended October 28, 2006, respectively, an increase of 1.6% for the Third Quarter, and a decrease of 4.5% for the Nine Months. The revenues for the Third Quarter include $12,000 of clothing liquidation royalties from Carrefour (contract expired on December 31, 2006) and zero revenues from Mossimo since the Mossimo Finder’s Agreement was sold during the fourth quarter of Fiscal 2007, whereas the comparable period last year included $0.1 million of royalties from Carrefour and $0.8 million of royalties from Mossimo. Royalty revenues from the Cherokee brand were $8.1 million and $30.7 million during the Third Quarter and Nine Months, respectively, compared to $7.4 million and $29.6 million for the comparable periods last year. During the Third Quarter and Nine Months, revenues of $3.3 million and $14.5 million, respectively, were recognized from Target Stores compared to $3.3 million and $15.5 million for the comparable periods last year, which accounted for 37% and 44% of total revenues, respectively, versus 37% and 45% last year. The decrease in royalty revenues from Target stores for the Nine Months compared to the prior year periods was attributable to lower retail sales of Cherokee branded products due to a lower number of product categories allocated to the Cherokee brand in women’s apparel, women’s accessories, and intimate apparel, which was offset somewhat by increases in sales of Cherokee branded products in the kid’s division. Revenues from Tesco for sales of Cherokee branded products were $3.7 million and $13.0 million during the Third Quarter and Nine Months, respectively, compared to $3.0 million and $10.6 million for the comparable periods last year. The growth in royalties from Tesco during the Third Quarter and Nine Months is primarily due to increased sales of Cherokee branded products in Central Europe, which is the result of a combination of factors, including attaining increased efficiencies in their clothing operations, expansion of product categories under which the Cherokee brand is sold, and also store expansion in certain countries, particularly Poland. The modest growth achieved at Tesco’s operations in the U.K. includes growth in their kid’s and women’s divisions, and also a favorable change in the exchange rate during these periods. Revenues from Zellers were $773,000 and $2.2 million during the Third Quarter and Nine Months, respectively, compared to $921,000 and $2.7 million for the comparable periods last year, due primarily to royalty rate reductions. Royalty revenues from our new retail direct licensee in Mexico, Comercial Mexicana, totaled $226,000 and $591,000 during the Third Quarter and Nine Months, respectively, compared to $96,000 and $220,000 in royalty revenues for the comparable periods last year (when our licensee for Mexico was a wholesaler).

Royalty revenues from the retail sales of products bearing our Sideout brand were $275,000 and $828,000, respectively, during the Third Quarter and Nine Months compared to $376,000 and $1.3 million for the comparable periods last year. Revenues from Mervyn’s for sales of Sideout branded products during the Third Quarter and Nine Months were $252,000 and $749,000, respectively, compared to $358,000 and $1.2 million for the comparable periods last year, due primarily to lower sales of Sideout branded products by Mervyn’s in certain product categories.

Third Quarter and Nine Months revenues also included $301,000 and $1.16 million, respectively, from the Carole Little brands, as compared to the $253,000 and $1.1 million reported last year from these brands. In addition, in the Third Quarter we recognized royalty revenues of $239,000 from our brand representation licensing agreements.

Revenues from international licensees of both Cherokee and Sideout brands, such as Tesco, Zellers, Comercial Mexicana and others were collectively $4.8 million and $16.1 million during the Third Quarter and Nine Months, respectively, compared to $4.1 million and $14.0 million for the comparable periods last year. This increase is due to the increase in revenues from Tesco, and in particular, the countries in Central Europe. In addition, we have also experienced increased revenues from our licensee for Mexico.

We believe that our future revenues from Target, based on the downward trend during the Nine Months, will likely be lower for Fiscal 2008 when compared to the revenues from Fiscal 2007. We believe that our future royalty revenues from Zellers will continue to be down due to lower royalty rates as compared to last year. We estimate that our future revenues from Mervyn’s, which were down in the Nine Months, will continue to trend down this year when compared to last year. Based on Tesco’s sales of Cherokee branded products in the Nine Months, and Tesco’s expansion of Cherokee branded products into Central Europe and their expressed interest in continuing to promote the Cherokee brand, we believe that our future revenues from Tesco may continue to grow in the foreseeable future. Based upon the royalties received for the Nine Months from TJX, we estimate that our future royalty revenues from TJX may be similar to or higher than the revenues received from TJX in Fiscal 2007.

We recognize royalty revenues in the quarter earned. A large portion of such royalty revenues recognized as earned are collected from licensees during the month following the end of a quarter. Our trade receivables balance of $8.6 million as of the end of the Third Quarter included accrual for revenues earned from Target Stores, Zeller’s, Mervyn’s, Tesco, and other licensees that are expected to be received in the month or 45 days following the end of the Third Quarter.

Selling, general and administrative expenses for the Third Quarter and Nine Months were $3.9 million and $12.0 million, respectively, or 43.2% and 36.4%, of revenues, in comparison to selling, general and administrative expenses of $3.5 million and $11.2 million, respectively, or 39.3% and 32.4% of revenues during the comparable periods last year. Our selling, general and administrative expenses of $3.9 million in our Third Quarter represents an increase of $405,000 from the comparable quarter in the prior year, and the increase was primarily attributable to increases in salary and payroll-related expenses, higher finders’ fees, and higher tax and accounting expenses due to activities associated with FIN 48. The increase in our selling, general and administrative expenses of $813,000 during the Nine Months was primarily attributable to increases in salary and payroll-related expenses, marketing expenses, certain finders’ fees, the 45% share of royalties we paid in our First Quarter, and higher tax and audit expenses. In addition, in compliance with our adoption of SFAS 123(R), we recognized $203,000 of expense associated with stock option compensation expenses during the Third Quarter, as compared to $181,000 during the comparable period last year. For the Nine Months, we recognized $537,000 of expense associated with stock option compensation expenses, as compared to $524,000 during the comparable period last year.

We reported zero interest expense during the Third Quarter and Nine Months and the comparable periods last year. During the Third Quarter and Nine Months our interest and other income was $269,000 and $944,000, respectively, compared to $179,000 and $445,000 for the comparable periods last year. The increase in interest income is primarily due to higher cash balances during the Third Quarter and Nine Months, along with somewhat higher interest rates earned on such cash balances.

During the Third Quarter and Nine Months we recorded a tax provision of $1.6 million and $8.2 million, respectively, which equates to an effective tax rate of 30.8% and 37.6% for such periods compared to $2.2 million and $9.6 million and an effective tax rate of 40.6% and 40.4% recorded for the same periods last year. We are making quarterly estimated tax payments for our federal and state income tax liabilities. During the Third Quarter and Nine Months our net income was $3.7 million and $13.6 million or $0.41 and $1.52 per diluted share, respectively, compared to $3.3 million and $14.1 million or $0.37 and $1.60 per diluted share for the comparable periods last year. The decrease in the Third Quarter and Nine Months of our effective tax rates, as compared to the same periods in the prior year, was primarily due to the favorable impact from $0.8 million of foreign exchange rate gains we received from the re-determination of certain foreign taxes previously paid, and the subsequent refund of such amounts, and also to changes in our state apportionment of income to states with lower tax rates.

Liquidity and Capital Resources

Cash Flows. On November 3, 2007 we had cash and cash equivalents of $23.5 million. On February 3, 2007 we had cash and cash equivalents of $44.6 million. The $21.1 million decrease in cash and cash equivalents during the Nine Months is primarily attributable to the payment of $20.0 million in dividends (in March, June and September), the payment of taxes of approximately $16.1 million, the $1.25 million cash portion of the acquisition of the 45% share of Carole Little royalties, and the payment of our previously accrued management and employee bonuses of $8.5 million during the First Quarter. These were offset by various other items detailed below.

During the Nine Months, cash used in our operations was $0.1 million, compared to cash provided from operations of $14.2 million for the nine months ended October 28, 2006. The use of cash from operations of $0.1 million during the Nine Months was primarily due to the following changes: (i) an increase in accounts receivable of $1.3 million as compared to a decrease of $1.3 million in the previous year; (ii) an increase in tax receivables of $0.9 million as compared to zero in the previous year; and (iii) a decrease in accrued compensation of $5.3 million as compared to $0.8 million in the previous year. In addition, our cash from operations includes non-cash stock-based compensation expense of $757,000 during the Nine Months pursuant to SFAS 123 (R) as compared to $622,000 last year, and a decrease in our deferred tax assets of $588,000 as compared to a decrease of $241,000 last year. Amortization of trademarks was also higher, totaling $943,000 in the Nine Months, as compared to $857,000 last year. The largest use of cash from operating activities was a decrease of $8.9 million in income taxes payable and other accrued liabilities during the Nine Months, as compared to zero last year.

Cash used by investing activities during the Nine Months was $1.4 million, which was comprised of $36,000 of capital expenditures for office equipment, $98,000 in trademark registration and renewal fees for the Cherokee, Sideout and Carole Little brands, and also the $1.25 million cash portion of the $4.0 million total acquisition cost of the 45% share of the Carole Little royalty stream which we previously did not own (stock was issued for the $2.75 million non-cash portion of this acquisition price). In comparison, during the nine months ended October 28, 2006, cash used by investing activities was $169,000, which was comprised of $18,000 of capital expenditures for office equipment and related fixed assets, and $151,000 in trademark registration and renewal fees for our brands.

Cash used in financing activities was $19.5 million during the Nine Months, which included three dividend payments totaling $20.0 million (in March, June and September), which was offset by the excess tax benefit related to stock options exercised of $42,000, and also the receipt of $421,000 in proceeds from the exercise of stock options. In comparison, last year cash used in financing activities was $15.4 million, which included the payment of three dividends totaling $15.8 million, which was offset by the excess tax benefit related to stock options exercised of $50,000, and also the receipt of $373,000 in proceeds from the exercise of stock options.

Uses of Liquidity. Our cash requirements through the end of Fiscal 2008 are primarily to fund operations, trademark registration expenses, capital expenditures, selectively expand our brand portfolio and, if adequate, to pay dividends and/or potentially repurchase shares of our common stock. The declaration and payment of any dividends will be at the discretion of our board and will be dependent upon our financial condition, results of operations, cash flow, capital expenditures and other factors deemed relevant by our board. We are currently paying out quarterly dividends to shareholders which are greater than our quarterly free cash flow, with the difference currently being funded by the amount of excess cash on our balance sheet. If we are not able to increase our earnings and free cash flow to support the current level of dividends being paid, we may have to reduce the level of dividends paid in the future to more closely match our free cash flow.

We are frequently approached by parties seeking to sell their brands and related trademarks. Should an established marketable brand or equity become available on favorable terms, we would be interested in pursuing such an acquisition and may elect to fund such acquisition, in whole or in part, using our then-available cash.

Sources of Liquidity. Our primary source of liquidity is expected to be cash flow generated from operations, and cash and cash equivalents currently on hand. We believe our cash flow from operations together with our cash and cash equivalents currently on hand will be sufficient to meet our working capital, capital expenditure and other commitments through July 2008; provided that, if our management agreement with our CEO is terminated, we may not have sufficient cash to make the lump sum payment due to Mr. Margolis. We cannot predict our revenues and cash flow generated from operations. Some of the factors that could cause our revenues and cash flows to be materially lower are described under the caption titled “Risk Factors” in Item 1A of this Report on Form 10-Q.

As of November 3, 2007 we did not have any amounts outstanding under any credit facilities or lines of credit, and we are not the guarantor of any debt or any other material third-party obligations. As of November 3, 2007, we did not have any standby letters of credit or any standby repurchase obligations.

If our revenues and cash flows during Fiscal 2008 are lower than Fiscal 2007, we may not have cash available to continue to pay dividends, repurchase shares of our common stock or to explore or consummate the acquisition of other brands. If our revenues and cash flows during Fiscal 2008 are materially lower than Fiscal 2007, we may need to take steps to reduce expenditures by scaling back operations and reducing staff related to these activities. However, any reduction of revenues would be partially offset by reductions in the amounts we would be required to pay under the management agreement, employee bonuses and any other agreements. We believe that we will have sufficient cash generated from our business activities to support our operations for the next twelve months.

Inflation and Changing Prices

Inflation, traditionally, has not had a significant effect on our operations. Since most of our future revenues are based upon a percentage of sales of the licensed products by our licensees, we do not anticipate that inflation will have a material negative impact on future operations.

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