10-Q

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, DC 20549

FORM 10-Q

(Mark One)

x QUARTERLY REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the quarterly period ended December 31, 2006

¨ TRANSITION REPORT UNDER SECTION 13 OR 15(d) OF THE EXCHANGE ACT

For the transition period from              to             .

Commission file number: 0-15399

DREAMS, INC.

(Exact name of small business issuer as specified in its charter)

Utah	87-0368170
State or other jurisdiction of incorporation or organization	(I.R.S. Employer Identification No.)

2 South University Drive, Suite 325, Plantation, Florida 33324

(Address of principal executive offices)

Issuer’s telephone number, including area code: (954) 377-0002

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the Registrant was required to file such report(s), and (2) has been subject to such filing requirements for the past 90 days.    Yes  x    No  ¨

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, or a non-accelerated filer. See definition of “accelerated filer and large accelerated filer” in Rule 12b-2 of the Exchange Act.

Larger accelerated filer  ¨            Accelerated filer  ¨            Non-accelerated filer  x

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

APPLICABLE ONLY TO CORPORATE ISSUERS

As of February 1, 2007, there were 36,551,515 shares of Common Stock, no par value per share outstanding.

DREAMS, INC.

INDEX

		PAGE
Part I.	Financial Information	1
Item 1.	Financial Statements (Unaudited)	1
	Condensed Consolidated Balance Sheets	1
	Condensed Consolidated Statements of Operations	2
	Condensed Consolidated Statements of Cash Flows	3
Item 2.	Management’s Discussion and Analysis of Financial Condition and Results of Operations	16
Item 3.	Quantitative and Qualitative Disclosures about Market Risk	22
Item 4.	Controls and Procedures	22
Part II.	Other Information	22
Item 1.	Legal Proceedings	22
Item 1A.	Risk Factors	22
Item 2.	Unregistered Sales of Equity Securities and Use of Proceeds	23
Item 3.	Defaults upon Senior Securities	23
Item 4.	Submission of Matters to Vote of Security Holders	23
Item 5.	Other Information	23
Item 6.	Exhibits	23

Part I. Financial Information

Item 1. Financial Statements

Dreams, Inc. and Subsidiaries

Condensed Consolidated Balance Sheets

(Dollars in Thousands, except share amounts)	December 31, 2006			March 31, 2006
	(Unaudited)
ASSETS
Current assets:
Cash and cash equivalents	$	883		$	433
Accounts receivable, net		2,382			6,903
Inventories, net		16,689			12,207
Prepaid expenses and deposits		1,567			841
Notes receivable		5			—
Deferred tax asset		329			—
Total current assets		21,855			20,384
Property and equipment, net		3,351			1,619
Deferred tax asset, net		—			543
Deferred loan costs, net		53			68
Other intangible assets, net		4,091			4,005
Goodwill		7,209			1,932
Total assets	$	36,559		$	28,551
LIABILITIES AND STOCKHOLDERS’ EQUITY
Current liabilities:
Accounts payable	$	5,170		$	3,250
Accrued liabilities		2,057			1,929
Current portion of long-term debt		1,072			251
Deferred tax liability		—			1,071
Deferred credits		741			245
Income taxes payable		417			—
Total current liabilities		9,457			6,746
Deferred tax liability		1,376			—
Borrowings against line of credit		1,089			5,744
Long term debt		631			—
Stockholders’ equity:
Preferred stock authorized 10,000,000, issued and outstanding -0- shares		—			—
Common stock and additional paid-in capital, no par value; authorized 100,000,000 shares; shares issued and outstanding 36,551,515 and 29,683,787 at December 31, 2006 and March 31, 2006, respectively		32,806			26,286
Accumulated deficit		(8,800	)		(10,225	)
Total stockholders’ equity		24,006			16,061
Total liabilities and stockholders’ equity	$	36,559		$	28,551

The accompanying notes are an integral part of these condensed consolidated financial statements.

1

Dreams, Inc. and Subsidiaries

Condensed Consolidated Statements of Operations – Unaudited

(Dollars in Thousands, except share amounts and earnings per share amounts)

	Nine Months Ended December 31,				Three Months Ended December 31,
	2006		2005		2006		2005
Revenues:
Manufacturing/Distribution	$	10,545	$	10,917	$	4,450	$	5,522
Retail		29,501		19,168		19,873		12,200
Management fees, net		263		180		99		58
Franchise fees and royalties		882		800		365		376
Other		143		128		65		106
Total Revenues		41,334		31,193		24,852		18,262
Expenses:
Cost of sales-mfg/distribution		6,229		5,976		2,562		3,171
Cost of sales-retail		16,911		10,602		11,356		6,714
Operating expenses		14,951		11,970		7,185		5,569
Depreciation and amortization		515		281		225		92
Total Expenses		38,606		28,829		21,328		15,546
Earnings before interest and taxes		2,728		2,364		3,524		2,716
Interest expense, net		390		339		114		102
Earnings before provision for income taxes		2,338		2,025		3,410		2,614
Income tax expense		912		811		1,330		1,046
Net earnings	$	1,426	$	1,214	$	2,080	$	1,568
Earnings per share:
Basic: Earnings per share	$	.05	$	.05	$	.06	$	.05
Weighted average shares outstanding – Basic		30,808,547		26,636,583		33,045,843		29,683,787
Diluted: Earnings per share	$	.05	$	.05	$	.06	$	.05
Weighted average shares outstanding – Diluted		31,023,251		26,636,583		33,432,517		29,683,787

The accompanying notes are an integral part of these condensed consolidated financial statements.

2

Dreams, Inc. and Subsidiaries

Condensed Consolidated Statements of Cash Flows Unaudited

Nine Months Ended December 31

(Dollars in Thousands)

	Q3 2007			Q3 2006
Cash Flows from Operating Activities
Net Earnings	$	1,426		$	1,214
Adjustments to reconcile net earnings to net cash provided by operating activities: Depreciation and amortization
Property & Equipment		443			238
Intangible Assets		72			44
Loan Cost Amortization		15			30
Stock based compensation		26			—
Deferred tax benefit, net		521			811
(Increase) decrease in:
Accounts receivable		4,522			(686	)
Notes receivable		(5	)		(57	)
Inventories		(4,482	)		—
Prepaid expenses and deposits		(741	)		93
Other assets		(130	)		162
Increase (decrease) in:
Accounts payable		1,921			843
Accrued liabilities		528			1,229
Deferred revenues		496			209
Income Taxes Payable		417			—
Net cash provided by operating activities		5,029			4,130
Cash Flows from Investing Activities
Payment of contingent consideration		(401	)		(271	)
Sale of property and equipment		—			235
Purchase of property and equipment		(1,290	)		(600	)
Net cash paid for Fashion Valley acquisition		(50	)		—
Net cash used in investing activities		(1,741	)		(636	)
Cash Flows from Financing Activities
Proceeds from LaSalle Line of Credit		21,743			17,630
Paydown on LaSalle Line of Credit		(26,398	)		(17,159	)
Payoff of Merrill Lynch Line of Credit		—			(4,499	)
Deferred loan costs		—			(73	)
Cash received from rights offering		—			1,907
Cash received from private stock offering		2,000			—
Repayment of Notes payable		(183	)		(1473	)
Rights Offering Costs		—			(38	)
Net cash used in financing activities		(2,838	)		(3,705	)
Net increase (decrease) in cash and cash equivalents		450			(211	)
Cash and cash equivalents at beginning of period		433			211
Cash and cash equivalents at end of period		883			0

3

Non-cash investing and financing activities:

On December 26, 2006 the Company acquired certain assets of ProStars, Inc. in order to further support its retail initiative, for the aggregate purchase price of $4.5 million plus the assumption of certain debt and payables of approximately $3.3 million. This amount consisted of 10 million shares of newly issued Company common stock at $0.45 per share, pre reverse stock split. The fair value is based on the market value of the common stock on the acquisition date. Additionally, the Company assumed approximately $405 thousand of third party accounts payable and forgave $1.5 million in debt owed to the Company by ProStars, Inc. The Company also assumed debt of ProStars in the amount of $1.4 million in the form of notes payable. There are three notes with terms of up to three years. Currently, 3.5 million (583,333 post reverse stock split) shares of stock are being held back pursuant to securing one of the assumed leases (2.5 million common stock shares or 416,667 post reverse stock split shares) and reconciliation of all vendor payables (1 million common stock shares or 166,667 post reverse stock split.) One million of these shares will be released from escrow upon the one year anniversary of the acquisition. Within the cash and cash equivalents on the balance sheet of $883 is a $240 certificate of deposit, which secures a letter of credit for the rent of one of the acquired store locations.

The following table summarizes the fair values of the assets and liabilities acquired at the date of acquisition:

	Inventory	1,503
	Other assets, net	22
	Fixed assets	1,063
	Intangible Assets	130
	Lease Deposit	240
	Goodwill	4,861
	Notes Payable	(1,401	)
	Accounts Payable	(1,918	)
	Purchase Price	4,500
Less:	Stock Issued	(4,500	)
	Net Cash Paid for Acquisition	-0-

4

All of the $130 of acquired intangible assets represents 4 Dreams Franchise agreements ($130k).

The acquisition was accounted for as a purchase in accordance with SFAS 141 and accordingly, the purchase price was allocated based on the estimated fair market value of the assets and liabilities acquired. The Company has allocated the purchase price based on preliminary estimates of the fair value. The allocation of the purchase price is subject to revision, based on final determination of appraised and other fair values, and related tax effects. Accordingly, the assets and liabilities in this table are subject to change. The results of operations of the segments of ProStars Inc. that the Company acquired for the period December 29, 2006 through December 31, 2006 are included in the accompanying statement of operations for the three and nine months ending December 31, 2006.

On May 11, 2005, the Company completed its rights offering. Pursuant to the terms and conditions of the rights offerings, the Company issued 121,739,525 shares of its common stock. The Company received approximately $3.7 million in new capital from the rights offering, which consisted of approximately $1.9 million of cash proceeds and approximately $1.8 million of then current debt obligations and accrued liabilities being converted into shares of the Company’s common stock on the same terms and conditions as set forth in the rights offering.

$1,000,000 of the proceeds of the rights offering was used in partial payment of indebtedness under the Company’s previous line of credit with MLBFS. Additionally, the following obligations were satisfied by the issuance of shares of the Company’s common stock in lieu of payment of the subscription price (at the equivalent issue price of $0.03 per share): (i) $1.0 million of indebtedness to the brother of the Company’s president and chief executive office; (ii) approximately $150,000 of accrued salary to the Company’s president and chief executive officer; (iii) $73,000 of accrued consulting fees owed to the Company’s chairman of the board pursuant to a consulting agreement; and (iv) the obligation to pay approximately $200,000 from principal amount of indebtedness to a third party was transferred to the Company’s chairman. The chairman was the guarantor of such note.

5

Dreams, Inc. and Subsidiaries

Notes to Condensed Consolidated Financial Statements - Unaudited

Dollars in Thousands, Except per Share Amounts

1. Management’s Representations

The condensed consolidated interim financial statements included herein have been prepared by Dreams, Inc. (the “Company”), without audit, pursuant to the rules and regulations of the Securities and Exchange Commission (“SEC”). Certain information and footnote disclosures normally included in financial statements prepared in accordance with accounting principles generally accepted in the United States of America have been condensed or omitted pursuant to such rules and regulations, although the Company believes that the disclosures made are adequate to make the information presented not misleading. The condensed consolidated interim financial statements and notes thereto should be read in conjunction with the financial statements and the notes thereto, included in the Company’s Annual Report on Form 10-KSB, for the fiscal year ended March 31, 2006.

The accompanying condensed consolidated interim financial statements have been prepared, in all material respects, in conformity with the standards of accounting measurements set forth in Accounting Principles Board Opinion No. 28 and reflect, in management’s opinion, all adjustments, which are of normal recurring nature, necessary to summarize fairly the financial position and results of operations for such periods. The results of operations for such interim periods are not necessarily indicative of the results expected for future quarters or the full fiscal year.

2. Summary of Significant Accounting Policies

Basis of Presentation

The accompanying condensed consolidated interim financial statements include the accounts of the Company and its subsidiaries. All material intercompany transactions and accounts have been eliminated in consolidation.

On January 30, 2007, the Company announced that they received approval from a majority of its shareholders on January 25, 2007 to effectuate a reverse stock split of its common shares. Consequently, the Board determined that a 1 for 6 reverse stock split would be effective on January 30, 2007. All share and per share amounts have been retroactively adjusted to reflect this reverse stock split.

Earnings per Share

For the nine months ended December 31, 2006, weighted average shares outstanding for basic earnings per share purposes was 30,851,159. For the nine months ended December 31, 2006, weighted average shares outstanding for the diluted earnings per share purposes was 31,023,251. For the nine months ending December 31, 2006 there were 90,260 potentially dilutive shares not included in dilutive earnings per share.

For the nine months ended December 31, 2005, weighted average shares outstanding for basic earnings per share purposes and diluted earnings per share purposes was 26,636,583. Stock options to purchase up to 722,760 shares of the Company’s common stock with an exercise price ranging from $.48 to $1.50 per share were not considered in the calculation of diluted earnings per share for the nine month period ended December 31, 2005, due to their anti-dilutive effects.

For the three months ended December 31, 2006, weighted average shares outstanding for basic earnings per share purposes was 30,173,214. For the three months ended December 31, 2006, weighted average shares outstanding for the diluted earnings per share purposes was 33,432,517.

For the three months ended December 31, 2005, weighted average shares outstanding for basic earnings per share purposes and diluted earnings per share purposes was 29,683,787. Stock options to purchase up to 722,760 shares of the Company’s common stock with an exercise price ranging from $.48 to $1.50 per share were not considered in the calculation of diluted earnings per share for the three month period ended December 31, 2005, due to their anti-dilutive effects.

6

Dreams, Inc. and Subsidiaries

Notes to Condensed Consolidated Financial Statements - Unaudited

Dollars in Thousands, Except per Share Amounts

Stock Compensation

On April 1, 2006, the Company adopted Statement of Financial Accounting Standards 123(R), Share-Based Payment. Accordingly, the Company is now recognizing share-based compensation expense for all awards granted to employees, which is based on the fair value of the award on the date of grant. The Company adopted FAS No. 123(R) under the modified prospective transition method and, consequently, prior period results have not been restated. Under this transition method, in fiscal 2007, the Company’s reported share-based compensation expense will include expense related to share-based compensation awards granted subsequent to April 1, 2006, which is based on the grant date fair value estimated in accordance with the provisions of FAS No. 123(R), as well as any unrecognized compensation expense related to non-vested awards that were outstanding as of the date of adoption. Prior to April 1, 2006, the Company applied APB Opinion No. 25 “Accounting for Stock Issued to Employees” in accounting for its employee share-based compensation and applied FAS No. 123 “Accounting for Stock Issued to Employees” for disclosure purposes only. Under APB 25, the intrinsic value method was used to account for share-based employee compensation plans and compensation expense was not recorded for awards granted with no intrinsic value. The FAS No. 123 disclosures include pro forma net earnings (loss) and earnings (loss) per share as if the fair value-based method of accounting had been used. Determining the appropriate fair value model and calculating the fair value of share-based compensation awards requires the input of certain highly complex and subjective assumptions, including the expected life of the share-based compensation awards, the Company’s common stock price volatility, and the rate of employee forfeitures. The assumptions used in calculating the fair value of share-based compensation awards represent management’s best estimates, but these estimates involve inherent uncertainties and the application of judgment. As a result, if factors change and the Company deems it necessary to use different assumptions, share-based compensation expense could be materially different from what has been recorded in the current period.

For the three and nine months ended December 31, 2006, the Company recorded $8 and $26 of pre-tax share-based compensation expense under FAS No. 123(R), recorded in selling and administrative expense in the Condensed Consolidated Statement of Operations, respectively. This expense was offset by a $5 and $15 deferred tax benefit, respectively for non-qualified share–based compensation.

During the quarter ended December 31, 2006, two of the Company’s consultants exercised their stock options. The 650,000 options which were exercised yielded the issuance of 434,905 pre-reverse stock split shares or 72,484 post reverse split shares of the Company’s common stock.

Share-Based Compensation Awards

The following disclosure provides information regarding the Company’s share-based compensation awards, all of which are classified as equity awards in accordance with FAS No. 123(R):

Stock Options - The Company grants stock options to employees that allow them to purchase shares of the Company’s common stock. Options are also granted to outside members of the Board of Directors of the Company as well as independent contractors. The Company determines the fair value of stock options at the date of grant using the Black-Scholes valuation model. Options generally vest immediately, however, the Company has granted options that vest over three and five years. No options were granted during the three and nine months ended December 31, 2006, however, certain options awarded prior to March 31, 2006 vested during the three months and nine month periods ended December 31, 2006. Awards generally expire three to five years after the date of grant.

7

Dreams, Inc. and Subsidiaries

Notes to Condensed Consolidated Financial Statements - Unaudited

Dollars in Thousands, Except per Share Amounts

During the three and nine month periods ended December 31, 2006, 0 and 100,727 options vested, respectively. The Total Weighted Average (TWA) of shares vested for the nine months was 86,662. The TWA price vested during the period was $1.14.

As of December 31, 2006 there were 693,594 options outstanding with a weighted average exercise price of $.84. Vested options totaled 563,593 with a weighted average exercise price of $.90. Total outstanding options that were “in the money” at December 31, 2006 were 693,594 with an average price per option of $.84. Of those options, the vested “in the money” options totaled 563,593 with an average price of $.84 and the “in the money” unvested options totaled 130,000.

The following table breaks down the number of outstanding options with their corresponding contractual life as well as the exerciseable weighted average (WA) outstanding excercise price, number of vested options with the corresponding strike price by price range.

	[Outstanding]				[Exerciseable]
Range	Outstanding Options	Remaining Contractual Life	WA Outstanding Exercise Price		Vested Options	WA Vested Exercise Price
$0.60 to $1.14	529,167	2.7 years	$	0.72	399,167	$	0.78
$1.20 to $1.74	164,427	1.6 years	$	1.32	164,427	$	1.32
$0.60 to $1.74	693,594	2.5 years	$	0.84	563,593	$	0.90

At December 31, 2006, exercisable options had aggregate intrinsic values of $1,853,430.

The Company did not grant any options during the nine months ended December 31, 2006. The fair value was estimated on the date of the grant using the Black-Scholes valuation model with the following weighted-average assumptions:

Three and Nine Months Ended December 31, 2006

Expected Dividend Yield (1)	N/A
Expected Stock Price Volatility (2)	94.00	%
Risk-Free Interest Rate (3)	4.74	%
Expected Life in Years (4)	3

(1) The dividend yield assumption is based on the history and expectation of the Company’s dividend payouts. The Company has not paid dividends in the past and is prohibited from paying dividends without the consent of its secured lender.

(2) The determination of expected stock price volatility for options granted was based on the Company’s historical common stock prices over a period commensurate with the expected life of the option.

(3) The risk-free interest rate is based on the yield of a U.S. treasury bond with a similar maturity as the expected life of the options.

(4) The expected life in years for options is based on evaluations of historical and expected future employee exercise behavior.

There was no pro-forma effect on net earnings for the three and nine months ended December 31, 2005.

8

Dreams, Inc. and Subsidiaries

Notes to Condensed Consolidated Financial Statements - Unaudited

Dollars in Thousands, Except per Share Amounts

3. Business Segment Information

The Company has three reportable segments as identified by information reviewed by the Company’s chief operating decision maker: the Manufacturing/Distribution segment, the Retail Operations segment and the Franchise Operations segment.

The Manufacturing/Distribution segment represents the manufacturing and wholesaling of sports memorabilia products and acrylic display cases. Sales are handled primarily through in-house salespersons that sell to specialty retailers and other distributors in the United States. The Company’s manufacturing and distributing facilities are located in the United States. The majority of the Company’s products are manufactured in these facilities.

The Retail Operations segment represents the Company-owned Field of Dreams^® retail stores and the Company’s e-commerce division. As of December 31, 2006, the Company owned and operated 13 Field of Dreams^® stores. The Company also owns FansEdge Incorporated (“FansEdge”), an e-commerce retailer selling a diversified selection of sports licensed products and memorabilia on the Web and Pro Sports Memorabilia (“ProSports”), an e-commerce retailer of sports memorabilia products on the Web.

The Franchise Operations segment represents the results of the Company’s franchise program. The Company is in the business of selling Field of Dreams^® retail store franchises in the United States and generates revenues through the sale of those franchises and continuing royalties. As of December 31, 2006 there were 16 franchises operating in the United States.

All of the Company’s revenue generated in the first three and nine months ended December 31, 2006 and 2005 was derived in the United States and all of the Company’s assets are located in the United States.

Summarized financial information concerning the Company’s reportable segments is shown in the following tables. Corporate related items, results of insignificant operations and income and expenses not allocated to reportable segments are included in the reconciliations to consolidated results table.

9

Dreams, Inc. and Subsidiaries

Notes to Condensed Consolidated Financial Statements - Unaudited

Dollars in Thousands, Except per Share Amounts

3. Business Segment Information (Continued)

Segment information for the nine month periods ended December 31, 2006 and 2005 was as follows:

Nine Months Ended:	Manufacturing/ Distribution			Retail Operations	Franchise Operations		Total
December 31, 2006
Net sales	$	12,973		29,406	794		43,173
Intersegment net sales		(2,236	)	—	(76	)	(2,312	)
Operating earnings		989		2,995	236		4,220
Total assets		11,457		17,092	207		28,756
December 31, 2005
Net sales	$	13,104		19,174	646		32,924
Intersegment net sales		(2,149	)	—	(32	)	(2,181	)
Operating earnings		1,346		1,643	344		3,333
Total assets		10,247		6,034	259		16,540

Reconciliation to consolidated amounts is as follows:

	YTD FY2007			YTD FY2006
Revenues:
Total revenues for reportable segments	$	43,173		$	32,924
Other revenues		473			450
Eliminations of intersegment revenues		(2,312	)		(2,181	)
Total consolidated revenues	$	41,334		$	31,193
Pre-tax earnings:
Total operating earnings for reportable segments	$	4,220		$	3,333
Other loss (primarily parent company expenses)*		(1,492	)		(969	)
Interest expense		(390	)		(339	)
Total consolidated earnings before taxes	$	2,338		$	2,025

* These are “unallocated” costs and expenses that have not been allocated to the reportable segments. Some examples of these unallocated overhead costs which is consistent with the Company’s internal accounting policies are executive salaries and benefits; corporate office occupancy costs; professional fees, bank charges; certain insurance policy premiums and public relations/investor relations expenses.

10

Dreams, Inc. and Subsidiaries

Notes to Condensed Consolidated Financial Statements - Unaudited

Dollars in Thousands, Except per Share Amounts

3. Business Segment Information (Continued)

Segment information for the three month periods ended December 31, 2006 and 2005 was as follows:

Three Months Ended:	Manufacturing/ Distribution			Retail Operations	Franchise Operations		Total
December 31, 2006
Net sales	$	5,459		19,837	322		25,618
Intersegment net sales		(996	)	—	(12	)	(1,008	)
Operating earnings		728		3,362	112		4,202
Total assets		11,457		17,092	207		28,756
December 31, 2005
Net sales	$	6,521		12,201	314		19,036
Intersegment net sales		(1,029	)	—	(10	)	(1,039	)
Operating earnings		838		2,086	200		3,124
Total assets		10,247		6,034	259		16,540

Reconciliation to consolidated amounts is as follows:

	Q3 FY2007			Q3 FY2006
Revenues:
Total revenues for reportable segments		$25,618		$	19,036
Other revenues		242			265
Eliminations of intersegment revenues		(1,008	)		(1,039	)
Total consolidated revenues	$	24,852		$	18,262
Pre-tax earnings:
Total operating earnings for reportable segments	$	4,202		$	3,124
Other loss (primarily parent company expenses)*		(678	)		(408	)
Interest expense		(114	)		(102	)
Total consolidated earnings before taxes	$	3,410		$	2,614

* These are “unallocated” costs and expenses that have not been allocated to the reportable segments. Some examples of these unallocated overhead costs which is consistent with the Company’s internal accounting policies are executive salaries and benefits; corporate office occupancy costs; professional fees, bank charges; certain insurance policy premiums and public relations/investor relations expenses.

4. Inventories

The components of inventories are as follows:

	December 31, 2006		March 31, 2006 (audited)
Raw materials	$	23	$	369
Work in process		107		95
Finished goods, net		16,559		11,743
	$	16,689	$	12,207

11

Dreams, Inc. and Subsidiaries

Notes to Condensed Consolidated Financial Statements - Unaudited

Dollars in Thousands, Except per Share Amounts

5. Related Party Transactions

To provide the Company with additional working capital, nine of our senior employees, including the Company’s chairman and chief executive officer, agreed to defer all but $1 of their monthly salary effective August 1, 2004. In consideration for such deferral, each employee received options to purchase that number of shares of our common stock equal to the dollar amount deferred. The five year options are exercisable at $0.25 per share. In addition, upon payment of such accrued amounts, each employee received a 5% deferral bonus. The deferrals ceased and accrued amounts were paid on November 19, 2004 for each of the Company’s senior employees other than our president and chief executive officer and our chairman, which continued in effect until February 2005 for our chairman and June 3, 2005 for our president and chief executive officer. As of March 31, 2005, stock options to purchase up to 486,559 shares were issued at an exercise price of $0.25 per share. These options are exercisable immediately. The Company accrued $285 of salaries and deferral bonuses for these two executives ($212 of the aggregate accrued salary to the Company’s president and chief executive officer and $73 of the consulting fees to the Company’s chairman of the board). In May 2005, all of the chairman of the board’s accrued consulting fees was satisfied with issuance of an aggregate of 2,433,333 shares of the Company’s common stock in lieu of salary and $149 of

the accrued amount to the Company’s president was satisfied with the issuance of 4,939,000 shares of common stock. The Company paid its president the remaining $63 in December 2005.

On January 12, 2005, the Company entered into a licensing agreement with Pro Stars, Inc., a corporation in which our chairman of the board is an executive officer. Under the terms of the agreement, the Company received a 10% licensing fee on the revenues generated from our 365 live marketing concept which we licensed to Pro Stars, Inc. The licensing fees for the three and nine months ended December 31, 2006 were $79 and $204, respectively; and for the three and nine months ended December 31, 2005 were $101 and $262, respectively. Effective December 26, 2006, the Company purchased a majority interest in the 365 Live marketing concept from Pro Stars, Inc., via an asset purchase agreement. (See bottom of this section for a description of the Company’s transaction with Pro Stars, Inc.)

In order to fund the substitute collateral in connection with the appeal of the Unitas Management litigation matter on February 16, 2005, the Company issued unsecured subordinated convertible promissory notes in the aggregate amount of $446. These notes included notes issued to our president and chief executive officer, his brother-in-law and his father-in-law in the amounts of $121, $125, and $100, respectively, and notes to two other shareholders, each in the amount of $50. These notes accrue interest at the rate of 12% per annum and are due on (i) December 31, 2005, if the bond is either released or drawn upon prior to December 31, 2005, (ii) the date that is 10 business days after the bond is released, if the bond is released on or after December 31, 2005, or (iii) the date that is 45 business days after the bond is drawn upon if the bond is drawn upon on or after December 31, 2005. These notes provide for a 10% origination fee to be paid no later than the earlier to occur of the maturity date and December 31, 2005. These notes are convertible at any time at the lower of (i) the average closing sales price for a share of our common stock for the three trading days immediately prior to conversion or (ii) in the event we sell or issue common tock or other convertible securities after February 16, 2005, at the lowest issue or conversion price per share of such securities, as applicable. In June 2005 the note payable to the Company’s president was repaid. The remaining $325 of notes was converted as of May 31, 2005 into an aggregate of 10,833,333 shares of common stock.

12

Dreams, Inc. and Subsidiaries

Notes to Condensed Consolidated Financial Statements - Unaudited

Dollars in Thousands, Except per Share Amounts

On May 31, 2005, the Company’s chairman agreed to assume the Company’s obligations under a note payable to an individual, which bears interests at 12% per annum and $199 of principal amount is due on December 1, 2007. The note was unsecured and previously guaranteed by the Company’s chairman. In exchange for the obligation to pay the principal amount of indebtedness to the third party, the Company chairman received 6,633,333 shares of the Company’s common stock.

On December 26, 2006, the Company completed its asset purchase agreement with Pro Stars, Inc., an entity in which its current Chairman is an executive officer for consideration of $4.5 million in newly issued shares of stock ($10 million pre reverse stock split or 1,666,667 post reverse stock split plus assumed debt and payables of approximately $3.3 million). The assets acquired under the agreement include; (i) a majority equity interest in four entities that operate three Las Vegas based Field of Dreams^® stores; Caesars 86.5%, RIO 89.0%, S&W 90.5% (ii) up to $2 million of inventory used in the Business, (iii) substantially all other assets used by the Seller in the operation of the Business (iv)and 88.125% of a marketing venture know as Stars Live 365.

6. Legal Proceedings

The Company is subject to legal proceedings that arise in the ordinary course of its business. The amount of ultimate liability, if any, in excess of applicable insurance coverage, is not likely to have a material effect on the financial condition, results of operations or liquidity of the Company. However, as the outcome of litigation or other legal claims is difficult to predict, significant changes in the estimated exposures could occur, which could have a material impact on the Company’s operations.

7. Commitments

The Company has certain contracts with several athletes which will require the Company to make minimum payments to these athletes over the next two years. The payments are in exchange for autographs and licensing rights on inventory items to be received in the future.

8. New Accounting Pronouncements

In June 2006, the Financial Accounting Standards Board (FASB) issued FASB Interpretation Number 48 (FIN 48), “Accounting for Uncertainty in Income Taxes — an interpretation of FASB Statement No. 109.” The interpretation contains a two step approach to recognizing and measuring uncertain tax positions accounted for in accordance with SFAS No. 109. The first step is to evaluate the tax position for recognition by determining if the weight of available evidence indicates 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 which is more than 50% likely of being realized upon ultimate settlement. The interpretation is effective for the first interim period for fiscal years beginning after December 15, 2006. Dreams has not yet analyzed the impact this interpretation will have on its financial condition, results of operations, cash flows or disclosures.

In September 2006, the SEC Office of the Chief Accountant and Divisions of Corporation Finance and Investment Management released SAB No. 108, “Considering the Effects of Prior Year Misstatements when Quantifying Misstatements in Current Year Financial Statements” (“SAB No. 108”), which provides interpretive guidance on how the effects of the carryover or reversal of prior year misstatements should be considered in quantifying a current year misstatement. The SEC staff believes that registrants should quantify errors using both a balance sheet and an income statement approach and evaluate whether either approach results in quantifying a misstatement that, when all relevant quantitative and qualitative factors are considered, is material. This guidance is effective for fiscal years ending after November 15, 2006. Dreams does not expect the adoption of SAB No. 108 to have a material impact on its financial position, results of operations, or cash flows.

In September 2006, the FASB issued SFAS No. 157, “Fair Value Measurements” (“SFAS No. 157”). This statement provides a single definition of fair value, a framework for measuring fair value, and expanded disclosures concerning fair value. Previously, different definitions of fair value were contained in various accounting pronouncements creating inconsistencies in measurement and disclosures. SFAS No. 157 applies to those previously issued pronouncements that prescribe fair value as the relevant

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Dreams, Inc. and Subsidiaries

Notes to Condensed Consolidated Financial Statements - Unaudited

Dollars in Thousands, Except per Share Amounts

measure of value, except SFAS No. 123(R) and related interpretations and pronouncements that require or permit measurement similar to fair value but are not intended to measure fair value. This pronouncement is effective for fiscal years beginning after November 15, 2007. Dreams does not expect the adoption of SFAS No. 157 to have a material impact on its financial position, results of operations, or cash flows.

A variety of proposed or otherwise potential accounting standards are currently under study by standard-setting organizations and various regulatory agencies. Because of the tentative and preliminary nature of these proposed standards, management has not determined whether implementation of such proposed standards would be material to our consolidated financial statements.

9. Debt Refinancing For Line of Credit

On June 3, 2005, the Company and its subsidiaries entered into a loan and security agreement and related loan documents with La Salle Business Credit LLC as an agent for Standard Federal Bank National Association acting through its division of La Salle Retail Finance providing for a three-year revolving credit line up to $10.0 million. The La Salle line of credit replaces the Company’s previous line of credit with Merrill Lynch Business Financial Services. The line of credit is collateralized by all of the Company’s assets and a pledge of stock of the Company’s subsidiaries. The La Salle line of credit bears interest at prime (8.25%) or Libor plus 200 basis points. Borrowings under the line of credit was approximately $1.1 million as of December 31, 2006. The Loan Security Agreement also requires that certain financial performance covenants be met. These covenants include minimum cumulative EBITDA, minimum tangible net worth and maximum capital expenditures. The Company was in compliance with the first two covenants and received a “waiver” for having exceeded its maximum capital expenditures figure from La Salle Bank as of December 31, 2006.

10. Acquisition

On December 26, 2006 the Company acquired certain assets of ProStars, Inc. in order to further support its retail initiative, for the aggregate purchase price $4.5 million plus the assumption of certain debt and payables of approximately $3.3 million. This amount consisted of 10 million shares of newly issued Company common stock at $0.45 per share, pre reverse stock split. The fair value is based on the market value of the common stock on the acquisition date. Additionally, the Company assumed approximately $405 thousand of third party accounts payable and forgave $1.5 million in debt owed to the Company by ProStars, Inc. The Company also assumed debt of ProStars in the amount of $1.4 million in the form of notes payable. There are three notes with terms of up to three years. Currently, 3.5 million (583,333 post reverse stock split) shares of stock are being held back pursuant to securing one of the assumed leases (2.5 million common stock shares or 416,667 post reverse stock split shares) and reconciliation of all vendor payables (1 million common stock shares or 166,667 post reverse stock split.) One million of these shares will be released from escrow upon the one year anniversary of the acquisition. A $240 certificate of deposit, which renews annually in February and secures a letter of credit for the rent of one of the acquired store locations, is reflected in the cash and cash equivalent section of the balance sheet.

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Dreams, Inc. and Subsidiaries

Notes to Condensed Consolidated Financial Statements - Unaudited

Dollars in Thousands, Except per Share Amounts

The following table summarizes the fair values of the assets and liabilities acquired at the date of acquisition:

	Inventory	1,503
	Other assets, net	22
	Fixed assets	1,063
	Intangible Assets	130
	Lease Deposit	240
	Goodwill	4,861
	Notes Payable	(1,401	)
	Accounts Payable	(1,918	)
	Purchase Price	4,500
Less:	Stock Issued	(4,500	)
	Net Cash Paid for Acquisition	-0-

All of the $130 of acquired intangible assets represents 4 Dreams Franchise agreements ($130k).

The acquisition was accounted for as a purchase in accordance with SFAS 141 and accordingly, the purchase price was allocated based on the estimated fair market value of the assets and liabilities acquired. The Company has allocated the purchase price based on preliminary estimates of the fair value. The allocation of the purchase price is subject to revision, based on final determination of appraised and other fair values, and related tax effects. Accordingly, the assets and liabilities in this table are subject to change. The results of operations of the segments of ProStars Inc. that the Company acquired for the period December 29, 2006 through December 31, 2006 are included in the accompanying statement of operations for the three and nine months ending December 31, 2006.

Unaudited Pro Forma Results

Unaudited proforma results of operations after giving effect to certain adjustments resulting from the acquisition were as follows for the three and nine month periods ending December 31, 2006 as if the business combination had occurred at the beginning of each period presented.

	For the Nine Months Ended		For the Three Months Ended
	12/31/2006	12/31/2005	12/31/2006	12/31/2005
Net revenue	47,653	36,695	27,110	20,354
Net income	1,736	2,171	2,198	1,928
Earnings per Share-Basic	0.05	0.08	0.06	0.06
Earning per Share Diluted	0.05	0.08	0.06	0.06

11. Securities Purchase

On November 1, 2006, the Company entered into a Securities Purchase Agreement (the “Agreement”) with The Frost Group, LLC, a Florida limited liability company (“Frost”). Pursuant to the Agreement, the Company sold to Frost 30,769,231 pre reverse stock split shares of the Company’s common stock. The purchase price for the common stock was $0.065 per share pre-split in cash for an aggregate price of $2,000,000. As a result of the purchase, Frost owned approximately 14% of the Company’s outstanding common stock.

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Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations.

SPECIAL NOTE REGARDING FORWARD-LOOKING STATEMENTS

Certain statements in this Form 10-Q under “Management’s Discussion and Analysis of Financial Condition and Results of Operations” constitute “forward-looking” statements within the meaning of the Private Securities Litigation Reform Act of 1995. Such forward-looking statements involve known and unknown risks, uncertainties and other factors which may cause the actual results, performance or achievements of the Company to be materially different from any future results, performance or achievements expressed or implied by such forward-looking statements. Such statements are indicated by words or phrases such as “anticipates,” “projects,” “management believes,” “Dreams believes,” “intends,” “expects,” and similar words or phrases. Such factors include, among others, the following: competition; seasonality; success of operating initiatives; new product development and introduction schedules; acceptance of new product offerings; franchise sales; advertising and promotional efforts; adverse publicity; expansion of the franchise chain; availability, locations and terms of sites for franchise development; changes in business strategy or development plans; availability and terms of capital; labor and employee benefit costs; changes in government regulations; our ability to successfully operate retail stores; our ability to successfully integrate acquired entities; and other factors particular to the Company.

Should one or more of these risks, uncertainties or other factors materialize, or should underlying assumptions prove incorrect, actual results, performance, or achievements of Dreams may vary materially from any future results, performance or achievements expressed or implied by such forward-looking statements. All subsequent written and oral forward-looking statements attributable to Dreams or persons acting on our behalf are expressly qualified in their entirety by the cautionary statements in this paragraph. Dreams disclaims any obligation to publicly announce the results of any revisions to any of the forward-looking statements contained herein to reflect future events or developments.

GENERAL

As used in this Form 10-Q “we”, “our”, “us” and “Dreams” refer to Dreams, Inc. and its subsidiaries unless the context requires otherwise. Dreams, Inc. (the “Company”) is a Utah Corporation which was formed in April 1980. We are engaged in multiple aspects of the licensed products and sports memorabilia industry through a variety of distribution channels.

We generate revenues from:

• our manufacturing/distribution segment, through manufacturing and wholesaling of sports memorabilia products and acrylic display cases;

• our retail segment which includes our 13 Company owned stores and our e-commerce component;

• our franchise segment through our 16 Field of Dreams^® franchise stores presently owned and operated; and

• our representation and corporate marketing of individual athletes, including personal appearances, endorsement and marketing opportunities.

We have a strategic acquisition program for the expansion of our e-commerce component. Our previous acquisitions included Fansedge.com and ProSports Memorabilia.com. While these acquisitions have presented both significant challenges and opportunities for us; we have grown the e-commerce component revenues significantly. The growth has been supported by our larger and more efficient warehouse; the ability to have the right product mix in stock; increased traffic growth and better conversion rates. Our continued success depends, in part, on our ability to integrate operations with these companies as well as other potential e-commerce companies that we may consider acquiring in the future.

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In addition, with our recent acquisition of the Field of Dreams^® Las Vegas market, we are targeting future expansion in this area of the country that has traditionally been the highest volume and most profitable market for our products and services.

Historically, the third quarter of our fiscal year (October to December) has accounted for a greater proportion of our operating income than have each of the other three quarters of our fiscal year. This is primarily due to increased activities as a result of the holiday season. We expect that we will continue to experience quarterly variations and operating results principally as a result of the seasonal nature of our industry. Other factors also make for a significant fluctuation of our quarterly results, including the timing of special events, the general popularity of a specific team that wins a championship or individual athlete who enters their respective sports’ Hall of Fame, the amount and timing of new sales contributed by new stores, the timing of personal appearances by particular athletes and general economic conditions. Additional factors may cause fluctuations and expenses, including the costs associated with the opening of new stores, the integration of acquired businesses and stores into our operations and corporate expenses to support our expansion and growth strategy.

We set ourselves apart from other companies with our diversified product and services line, as well as our relationships with sports leagues, agents and athletes.

RESULTS OF OPERATIONS

Nine Months Ended December 31, 2006 (FY 2007) Compared to the Nine Months Ended December 31, 2005 (FY 2006)

Revenues. Total revenues increased 32% to $41.3 million in the first nine months of fiscal 2007 from $31.2 million in the same period last year due primarily to an increase in revenues generated through our e-commerce component.

Manufacturing and distribution revenues remained constant with $13.1 million in the first nine months of fiscal 2006 compared to $13 million in the first nine months of fiscal 2007. Net revenues (after eliminating intercompany sales) decreased to $10.5 million, or 4% in the fiscal 2007 period from $10.9 million in the same period last year. This was as a result of a larger portion of our manufacturing and distribution items being sold to other divisions of the Company.

Retail operations revenues increased significantly from $19.1 million in the first nine months of fiscal 2006 to $29.4 million in the same period this year, a 53% increase. Our internet retail division had retail sales of $14.4 million during the nine months of fiscal 2006 versus $25 million during the same period in fiscal 2007, a 73% increase. The increase is as a result of our having taken advantage of our larger and more efficiently organized warehouse, improving our user interface, better merchandising of our products on-line, increased traffic and better conversion rates. Additionally, retail sales through our 13 company-owned Field of Dreams stores were $4.4 million for the first nine months of fiscal 2007 versus $4.7 million for the first nine months of fiscal 2006 when we had 12 stores. Same store sales for stores opened for the entire period increased 2%. The three Vegas stores included in the fiscal 2007 reported revenue for only three days, December 29, 2006 through December 31, 2006.

Franchise operation revenues were $646 for the first nine months of fiscal 2006 compared to $794 for the same period in this fiscal year, a 22% increase. The increase is attributable to our executing the franchise division’s objectives of improving its support structure for existing franchisees by creating “value-added” services such as: assisting franchisees in resolving real estate issues from expansion to renewal and beyond; bringing in new vendor relationships that enhance both the store’s top line revenues and operating expense savings and creating marketing and advertising action plans with the landlord’s marketing departments to create better traffic opportunities. This has yielded greater sales volumes throughout the chain. Same store sales increased 18%.

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The Company realized $263 in net management fees for the first nine months of fiscal 2007 compared to $180 for the same period last year, a 46% increase.

Costs and expenses. Total cost of sales for the first nine months of fiscal 2006 was $16.5 million versus $23.1 million in the same period in fiscal 2007, a 40% increase. The increase relates to an increase in Company sales. As a percentage of total sales, cost of sales was 52.8% for the nine months of fiscal 2006 and 55.9% for the first nine months of fiscal 2007. The slight increase in cost of retail sales was a result of an increased percentage of the Company’s retail sales generated by the e-commerce division which operates at a slightly lower margin than the Company-owned stores locations.

Cost of sales of manufacturing/distribution products were $5.9 million in the first nine months of fiscal 2006 versus $6.2 million in the same period of fiscal 2007, a 5% increase. As a percentage of manufacturing/distribution revenues cost of sales was approximately 54% for the first nine months of fiscal 2006 versus 59% for the same period in fiscal 2007. However, as a percentage of total manufacturing/distribution revenues before the elimination of inter-company sales, costs were virtually the same at 65% for the first nine months of fiscal 2006 and fiscal 2007. This year’s cost of sales was consistent with historical margins.

Cost of sales of retail products were $16.9 million in the first nine months of fiscal 2007 versus $10.6 million in the same period of fiscal 2006, a 59% increase. The increase is a direct result of incremental retail sales. As a percentage of total retail sales, costs were 57% for the first nine months of fiscal 2007 compared to 55% in the same period of fiscal 2006.

Operating expenses increased from $12 million in the first nine months of fiscal 2006 to $15 million in the same period this fiscal year, a 25% increase due to increased sales. However, as a percentage of sales, operating expenses declined from 38.4% for the first nine months of fiscal 2006 to 36.3% this year. The Company had previously built infrastructure to support future growth. Upon achieving incremental sales, our operating costs should continue to decrease as a percentage of sales as a significant portion of our expenses are fixed in nature.

Interest expense, net. Net interest expense increased from $339 in the first nine months of fiscal 2006 to $390 this nine month period. The Company carried slightly larger loan balances to facilitate its pre-holiday inventory purchases that were subjected to higher interest rates.

Provision for income taxes. The Company recognized an income tax expense of $912 for the first nine months of fiscal 2007 versus an income tax expense of $811 for the first nine months of the previous fiscal year. Each quarter, the Company evaluates whether the realizability of its net deferred tax assets is more likely than not. Should the Company determine that a valuation reserve is necessary, it would have a material impact on the Company’s operations. The Company has prepared an analysis based upon historical data and forecasted earnings projections to determine its ability to realize its net deferred tax asset. The Company believes that it is more likely than not that the net deferred tax asset will be realized. Therefore, the Company has determined that a valuation allowance is not necessary as of December 31, 2006 and 2005. The effective tax rate for both periods was approximately 39 to 40%.

Three Months Ended December 31, 2006 (Q3 2007) Compared to the Three Months Ended December 31, 2005 (Q3 2006)

Revenue. Total revenues increased 35% from $18.3 million in the third quarter of fiscal 2006 to $24.8 million in the same quarter of fiscal 2007, primarily due to an increase in retail revenues generated through our e-commerce component.

Manufacturing and distribution revenues decreased to $5.5 million in the third quarter of fiscal 2007 from $6.5 million in the third quarter of fiscal 2006, or a decrease of 15%. Net revenues (after eliminating intercompany sales) decreased 18% from $5.5 million in the fiscal 2006 period to $4.5 million in the same period this year. This is as a result of this division’s focus on developing product lines and manufacturing expertise to ensure that it supports the growing needs of its retail business partners/sister divisions such as fansedge.com, prosportsmemorabilia.com, sportscases.com and the Field of Dreams stores.

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Retail operation revenues increased 63% from $12.2 million in the third quarter of fiscal 2006 to $19.9 million in the current year quarter. Our internet retail division had sales of $9.6 million during the third quarter of fiscal 2006 versus $17.5 million during the third three months of fiscal 2007, an 82% increase. The increase is as a result of our having taken advantage of our larger and more efficient warehouse, improving our user interface, better merchandising of our products on-line, increased traffic and better conversion rates. Additionally, retail sales through our thirteen company-owned Field of Dreams stores were $2.4 for the current quarter of fiscal 2007 versus $2.6 million for the same period last fiscal year when we operated 12 stores. Same store sales for stores opened for the entire period were down 5 %. The three Vegas stores included in the fiscal 2007 reported revenue for only three days, December 29, 2006 through December 31, 2006.

Franchise operations revenues were $322 in the third quarter of fiscal 2007 compared to $314 in the same quarter last year, a 3% increase. We continue to execute the franchise division’s objectives of improving its support structure for existing franchisees by creating “value-added” services such as: assisting franchisees in resolving real estate issues from expansion to renewal and beyond; bringing in new vendor relationships that enhance both the store’s top line revenues and operating expense savings and creating marketing and advertising action plans with the landlord’s marketing departments to create better traffic opportunities. This has yielded greater sales volumes throughout the chain. Same store sales increased 10%.

The Company realized $99 in net management fees for the third quarter of fiscal 2007 compared to $58 in the same quarter last year.

Costs and expenses. Total cost of sales for the third quarter of fiscal 2006 was $9.8 million versus $13.9 million in the same quarter in fiscal 2007, a 41% increase. This increase directly relates to the increase in company sales. However, as a percentage of total sales, cost of sales was 54% for the third quarter of fiscal 2006 and 56% for the third quarter of fiscal 2007. The increase in cost of retail sales was a result of an increased percentage of the Company’s retail sales generated by the e-commerce division which operates at a slightly lower margin than the Company-owned stores locations.

Cost of sales of manufacturing/distribution products were $3.1 million in the third three months of fiscal 2006 versus $2.6 million in the same period of fiscal 2007. As a percentage of manufacturing/distribution revenues, cost of sales was approximately 56% a year ago and 57% in the current quarter. However, as a percentage of manufacturing/distribution revenues before elimination of inter-company sales, costs were 65% for the quarter for both fiscal years.

Cost of sales of retail products were $11.3 million in the third quarter of fiscal 2007 versus $6.7 million in the same period of fiscal 2006, a 68% increase. The increase is a direct result of incremental retail sales. As a percentage of total retail sales, costs were 56% in the third quarter of fiscal 2007 versus 55% for the same period of fiscal 2006. . The increase in cost of retail sales was a result of an increased percentage of the Company’s retail sales generated by the e-commerce division which operates at a slightly lower margin than the Company-owned store locations.

Operating expenses increased from $5.6 million in the third quarter of fiscal 2006 to $7.1 million in the same period this fiscal year, a 26% increase. However, as a percentage of sales, operating expenses declined from 30.7% for the third quarter of fiscal 2006 to 28.6% for the third quarter of fiscal 2007. The Company had previously built infrastructure to support future growth. Upon achieving incremental sales, our operating cost should continue to decrease as a percentage of sales as a significant portion of our expenses are fixed in nature.

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Interest Expense., net. Net interest expense was $114 for the third quarter of fiscal 2007 versus $102 for the same period last year. The Company carried slightly larger loan balances to facilitate its pre-holiday inventory purchases that were subjected to higher interest rates.

Provision for income taxes. The Company recognized an income tax expense of $1.3 million for the third three months of fiscal 2007 versus an income tax expense of $$1.0 million for the third three months of the previous fiscal year. Each quarter, the Company evaluates whether the realizability of its net deferred tax assets is more likely than not. Should the Company determine that a valuation reserve is necessary, it would have a material impact on the Company’s operations. The Company has prepared an analysis based upon historical data and forecasted earnings projections to determine its ability to realize its net deferred tax asset. The Company believes that it is more likely than not that the net deferred tax asset will be realized. Therefore, the Company has determined that a valuation allowance is not necessary as of December 31, 2006 and 2005. The effective tax rate for both periods was approximately 39 to 40%.

LIQUIDITY AND CAPITAL RESOURCES

The balance sheet as of December 31, 2006 reflects working capital of $12.4 million versus working capital of $8.3 million one year earlier. The increase is partly attributed to the Company receiving its insurance claim proceeds of $3.6 million from hurricane Wilma in the period ended June 30, 2006 and a strong performance during our all important holiday quarter. With the improvement of the financial results of the Company and a further strengthening of our balance sheet, we believe our ability to capitalize on market opportunities should be enhanced.

At December 31, 2006, the Company’s cash and cash equivalents were $0.9 million compared to $0 at December 31, 2005. The structure of the Company’s loan agreement with La Salle Bank provides for daily sweeps of the Company’s bank accounts. The Company has as of December 31, 2006 and February 1, 2007 $7.1 million and $5.9 million excess availability respectively, under its loan with La Salle and is not adversely affected by the $0.9 million cash amount on the balance sheet. Net accounts receivable was $2.4 million for both the period ending December 31, 2006 and December 31, 2005. As of December 31, 2006, one of the Company’s wholesale accounts owed the Company $557. This represented 23% of the Company’s total receivables amount. As of February 1, 2007, this customer’s owed balances were down to $282.

Cash provided by operations amounted to $5.1 million for fiscal 2007, compared to $4.1 million cash provided by operations in the same period in fiscal 2006. This is a direct result of collections of accounts receivable partially offset by an increased build up of inventory. Cash used in investing activities were $1.7 million in fiscal 2007 and $636 in fiscal 2006. During fiscal 2007 and fiscal 2006, the Company made cash disbursements of $401 and $271, respectively, to the previous shareholders of its internet division, FansEdge, consistent with the earn-out provision in the purchase agreement. Cash provided by financing activities was $2.7 million for fiscal 2007 compared to cash used in financing activities of $3.7 million in fiscal 2006.

The future aggregate minimum annual lease payments under the Company’s non-cancellable leases are as follows:

Fiscal
2007	$	763,366
2008		2,390,960
2009		2,040,411
2010		1,760,369
2011		1,756,414
Thereafter		2,794,787
Total Lease Commitments	$	11,506,307

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The future long-term debt obligations of the Company are as follows:

Fiscal
2008	$	76,198
2009		230,317
2010		223,242
2011		101,243
Total long-term debt	$	631,000

On June 3, 2005, the Company and its subsidiaries entered into a loan and security agreement and related loan documents with LaSalle Business Credit LLC as an agent for Standard Federal Bank National Association acting through its division of LaSalle Retail Finance providing for a three year revolving credit line up to $10.0 million. The LaSalle line of credit replaces the Company’s previous line of credit with Merrill Lynch Business Financial Services. The line of credit is collateralized by all of the Company’s assets and a pledge of stock of the Company’s subsidiaries. Under the line of credit, a portion of the proceeds of the borrowings of the line of credit had been used to pay off the balances of its prior lender. The initial loan on the LaSalle line of credit bears interest at prime or LIBOR plus 200 basis points. As of December 31, 2006, the Company’s loan balances were $1.1 million. The La Salle line of credit bears interest at prime or Libor plus 200 basis points. The $10.0 million line of credit facility includes borrowing capacity limits based on the eligibility criteria of inventories and account receivables. As of December 31, 2006 and February 1, 2007, inventory eligibility was 51.8% for both periods, while accounts receivable was 85%. This resulted in total line availability of $8.2 million at December 31, 2006 and $7.6 million as of February 1, 2007 with an excess availability of $7.1 million at December 31, 2006 and $5.9 million at February 1, 2007. The Loan Security Agreement also requires that certain financial performance covenants be met. These covenants included minimum cumulative EBITDA, minimum tangible net worth and maximum capital expenditures. The Company was in compliance with the first two covenants and received a “waiver” for having exceeded its maximum capital expenditures covenant from LaSalle Bank as of December 31, 2006.

As part of the net asset purchases, the Company assumed certain notes payable which total $1.6 million of which $1 million is current and due within one year. The remaining $631 thousand is payable over the following two years. These notes increase the Company’s total note payable debt to $1.7 million, of which the current portion is $1.1 million.

On November 1, 2006, the Company entered into a Securities Purchase Agreement (the “Agreement”) with The Frost Group, LLC, a Florida limited liability company (“Frost”). Pursuant to the Agreement, the Company sold to Frost 30,769,231 pre reverse stock split shares of the Company’s common stock. The purchase price for the common stock was $0.065 per share in cash for an aggregate price of $2,000,000. As a result of the purchase, Frost owns approximately 14% of the Company’s outstanding common stock. The common stock issued in the transaction was not registered under the Securities Act of 1933 (the “Act”) and was issued pursuant to an exemption from registration under Section 4(2) of the Act.

We are continuing to review our operational expenses and examining ways to reduce costs on a going-forward basis. Additionally, we will be required in fiscal 2008 to comply with the new annual internal control certification pursuant to Section 404 of the Sarbanes-Oxley Act of 2002 and the related SEC rules. While we expect some relaxing of the initial requirements mandated by Sarbanes-Oxley due to our relative company size, these and other compliance costs of being a public company will increase.

We have not created and are not a party to any special purpose or off-balance sheet entities for the purpose of raising capital, incurring debt or operating our business. However, we may not generate sufficient cash flow from operations, our anticipated revenue growth and operating improvements may not be realized and future borrowings may not be available in an amount sufficient to enable us to service our indebtedness or to fund our other liquidity needs. Except as described herein, our management is not aware of any known trends or demands, commitments, events or uncertainties, as they relate to liquidity which could negatively affect our ability to operate and grow as planned, other than those previously disclosed.

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Item 3. Quantitative and Qualitative Disclosures about Market Risk.

Market risk generally represents the risk of loss that may result from the potential change in value of a financial instrument as a result of fluctuations in interest rates and market prices. We do not currently have any trading derivatives nor do we expect to have any in the future. We have established policies and internal processes related to the management of market risks, which we use in the normal course of our business operations.

Interest Rate Risk. We have interest rate risk, in that borrowings under our credit facility with LaSalle Business Credit LLC are based on variable market interest rates. As of December 31, 2006, we had $6.9 million of variable rate debt outstanding under our credit facility. Presently, the revolving credit line bears interest at the prime rate (8.25%). A hypothetically 10% increase in our credit facility’s weighted average interest rate of 8.13% per annum for the nine months ended December 31, 2006 would correspondingly decrease our pre-tax earnings and our operating cash flows by approximately $45.

Intangible Asset Risk. We have a substantial amount of intangible assets. We are required to perform goodwill impairment tests whenever events or circumstances indicate that the carrying value may not be recoverable from estimated future cash flows. As a result of our periodic evaluations, we may determine that the intangible asset values need to be written down to their fair values, which could result in material changes that could be adverse to our operating results and financial position. Although at December 31, 2006 we believed our intangible assets were recoverable, changes in the economy, the business in which we operate and our own relative performance could change the assumptions used to evaluate intangible asset recoverability. We continue to monitor those assumptions and their effect on the estimated recoverability of our intangible assets.

Item 4. Controls and Procedures.

Evaluation of Disclosure Controls and Procedures. Our management has conducted an evaluation of the effectiveness of our disclosure controls and procedures (as defined in Rule 13A-15(e) and 15(d)-15(e) promulgated under the Securities Exchange Act of 1934, as amended) as of the end of the fiscal quarter covered by this report. Based upon that evaluation, our management has concluded our disclosure controls and procedures are effective for timely gathering, analyzing and disclosing the information we are required to disclose in the reports filed in the Securities Exchange Act of 1934, as amended.

A control system, no matter how well conceived and operated, can provide only reasonable, not absolute, assurance that the objectives of the control system are met. Management necessarily applied its judgment in assessing the benefits of controls relative to their costs. Because of the inherent limitations in all control systems, no evaluation of controls can provide absolute assurance that all control issues and instances of fraud, if any, within the Company have been detected. The design of any system of controls is based in part upon certain assumptions about the likelihood of future events, and there can be no assurance that any design will succeed in achieving its stated goals under all potential future conditions, regardless of how remote. Because of the inherent limitations in a control system, misstatements due to error or fraud may occur and may not be detected.

Change in Internal Controls. There have been no significant changes made in the internal controls and there were no other factors that could significantly affect our internal controls during the fiscal quarter covered by this report.

Part II. Other Information

Item 1. Legal Proceedings.

None.

Item 1A. Risk Factors.

There are no material changes to the Company’s risk factors as previously reflected in the form 10-KSB that was filed on July 13, 2006.

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

None.

Item 3. Defaults upon Senior Securities.

None.

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

None.

Item 5. Other Information.

None.

Item 6. Exhibits.

No.
31.1	Certification of Chief Executive Officer Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002
31.2	Certification of Principal Accounting Officer Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002
32.1	Certification of Principal Executive Officer Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002
32.2	Certification of Principal Accounting Officer Pursuant to Section 906 of the Sarbanes-Oxley Act Of 2002

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SIGNATURE

In accordance with the Exchange Act, the Registrant has caused this report to be signed on behalf of the Registrant by the undersigned in the capacities indicated, thereunto duly authorized on February 14, 2007.

DREAMS, INC.
By:	/s/ Ross Tannenbaum
	Ross Tannenbaum, Chief Executive Officer,
	Principal Accounting Officer

24

Exhibit Index

Exhibit No.	Description
31.1	Certification of Chief Executive Officer Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002
31.2	Certification of Principal Accounting Officer Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002
32.1	Certification of Chief Executive Officer Pursuant to Section 906 of the Sarbanes-Oxley Act Of 2002
32.2	Certification of Principal Accounting Officer Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002

EX-31.1

Exhibit 31.1

CHIEF EXECUTIVE OFFICER CERTIFICATION

PURSUANT TO SECTION 302

I, Ross Tannenbaum, Chief Executive Officer of Dreams, Inc., certify that:

1. I have reviewed this Quarterly Report on Form 10-Q of Dreams, Inc. (the “Registrant”);

2. Based on my knowledge, this Quarterly Report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this Quarterly Report.

3. Based on my knowledge, the financial statements, and other financial information included in this Quarterly Report, fairly present in all material respects the financial condition, results of operations and cash flows of the Registrant as of, and for, the period presented in this Quarterly Report;

4. The Registrant’s other certifying officer and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) for the Registrant and have:

a) designed such disclosure controls and procedures or caused such disclosure controls and procedures to be designed under our supervision, to ensure that material information relating to the Registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this Quarterly Report is being prepared;

b) evaluated the effectiveness of the Registrant’s disclosure controls and procedures presented in this Quarterly Report are conclusions about the effectiveness of the disclosure controls and procedures, as of the end of the period covered by this report based on such evaluation; and

c) disclosed in this Quarterly Report any change in the Registrant’s internal control over financial reporting that occurred during the Registrant’s most recent fiscal quarter (the Registrant’s Third Fiscal Quarter” in the case of this Quarterly Report) that has materially affected, or is reasonably likely to materially affect, the Registrant’s internal control over financial reporting;

5. The Registrant’s other certifying officer and I have disclosed, based on our most recent evaluation of internal control, to the Registrant’s auditors and the audit committee of Registrant’s board of directors (or persons performing the equivalent functions):

a) all significant deficiencies and material weaknesses in the design or operation or internal control over financial reporting which are reasonably likely to adversely effect the Registrant’s ability to record, process, summarize and report financial information; and

b) any fraud, whether or not material, that involves management or other employees who have a significant role in the Registrant’s internal control; and

Date: February 14, 2007	/s/  Ross Tannenbaum
	Ross Tannenbaum Chief Executive Officer (Principal Executive Officer)

EX-31.2

Exhibit 31.2

CHIEF FINANCIAL OFFICER CERTIFICATION

PURSUANT TO SECTION 302

I, Ross Tannenbaum, Chief Financial Officer of Dreams, Inc., certify that:

1. I have reviewed this Quarterly Report on Form 10-Q of Dreams, Inc. (the “Registrant”);

2. Based on my knowledge, this Quarterly Report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this Quarterly Report.

3. Based on my knowledge, the financial statements, and other financial information included in this Quarterly Report, fairly present in all material respects the financial condition, results of operations and cash flows of the Registrant as of, and for, the periods presented in this Quarterly Report;

4. The Registrant’s other certifying officer and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) for the Registrant and have:

a) designed such disclosure controls and procedures or caused such disclosure controls and procedures to be designed under our supervision, to ensure that material information relating to the Registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this Quarterly Report is being prepared;

b) evaluated the effectiveness of the Registrant’s disclosure controls and procedures presented in this Quarterly Report are conclusions about the effectiveness of the disclosure controls and procedures, as of the end of the period covered by this report based on such evaluation; and

c) disclosed in this Quarterly Report any change in the Registrant’s internal control over financial reporting that occurred during the Registrant’s most recent fiscal quarter (the Registrant’s Third Fiscal Quarter” in the case of this Quarterly Report) that has materially affected, or is reasonably likely to materially affect, the Registrant’s internal control over financial reporting;

5. The Registrant’s other certifying officer and I have disclosed, based on our most recent evaluation of internal control, to the Registrant’s auditors and the audit committee of Registrant’s board of directors (or persons performing the equivalent functions):

a) all significant deficiencies and material weaknesses in the design or operation or internal control over financial reporting which are reasonably likely to adversely effect the Registrant’s ability to record, process, summarize and report financial information; and

b) any fraud, whether or not material, that involves management or other employees who have a significant role in the Registrant’s internal controls; and

Date: February 14, 2007	/s/  Ross Tannenbaum
	Ross Tannenbaum Chief Financial Officer (Principal Accounting Officer)

EX-32.1

Exhibit 32.1

CERTIFICATION PURSUANT TO

18 U.S.C. SECTION 1350

AS ADOPTED PURSUANT TO

SECTION 906 OF THE SARBANES-OXLEY ACT OF 2002

In connection with the accompanying Quarterly Report of Dreams, Inc. (the “Company”) on Form 10-Q for the period ending December 31, 2006, as filed with the Securities and Exchange Commission on the date hereof (the “Report”), I, Ross Tannenbaum, Principal Executive Officer of the Company, certify, pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, to the best of my knowledge, that:

(1) The Report fully complies with the requirements of Section 13(a) or 15(d) of the Securities Exchange Act of 1934; and

(2) The information contained in the Report fully presents, in all material respects, the financial condition and results of operations of the Company.

By:	/s/ Ross Tannenbaum
	Ross Tannenbaum Principal Executive Officer February 14, 2007

EX-32.2

Exhibit 32.2

CERTIFICATION PURSUANT TO

18 U.S.C. SECTION 1350

AS ADOPTED PURSUANT TO

SECTION 906 OF THE SARBANES-OXLEY ACT OF 2002

In connection with the accompanying Quarterly Report of Dreams, Inc. (the “Company”) on Form 10-Q for the period ending December 31, 2006, as filed with the Securities and Exchange Commission on the date hereof (the “Report”), I, Ross Tannenbaum, Principal Accounting Officer of the Company, certify, pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, to the best of my knowledge, that:

(1) The Report fully complies with the requirements of Section 13(a) or 15(d) of the Securities Exchange Act of 1934; and

(2) The information contained in the Report fully presents, in all material respects, the financial condition and results of operations of the Company.

By:	/s/ Ross Tannenbaum
	Ross Tannenbaum Principal Accounting Officer February 14, 2007