U.S. Dry Cleaning Services (FVCCQ) 10QSB 2007 Q2 Quarterly report (small business)

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, DC 20549

FORM 10-QSB

QUARTERLY REPORT

Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934

For the quarterly period ended: March 31, 2007

U.S. DRY CLEANING CORPORATION

(Exact name of registrant as specified in its chapter)

Delaware	000-23305	77-0357037
(State or other jurisdiction of incorporation)	(Commission File Number)	(IRS Employer Identification No.)

125 E. Tahquitz Canyon, Suite 203

Palm Springs, CA 92262

(Address of principal executive offices) (Zip Code)

Registrant’s telephone number, including area code: (760) 322-7447

(Former name or former address, if changed since last report)

Check whether the issuer (1) 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 issuer was required to file such reports), 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 shell company (as defined in Rule 12b-2 of the Exchange Act): [   ] Yes [X] No

State the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date: 17,890,929 common shares as of April 30, 2007.

Transitional Small Business Disclosure Format (check one): [   ] Yes [X] No

TABLE OF CONTENTS

		Page
PART I - FINANCIAL INFORMATION
Item 1:	Financial Statements (Unaudited)	1
Item 2:	Management’s Discussion and Analysis	2
Item 3:	Controls and Procedures	10
PART II - OTHER INFORMATION
Item 1:	Legal Proceedings	11
Item 2:	Unregistered Sales of Equity Securities and Use of Proceeds	11
Item 3:	Defaults Upon Senior Securities	11
Item 4:	Submission of Matters to a Vote of Security Holders	11
Item 5:	Other Information	11
Item 6:	Exhibits	11

PART I - FINANCIAL INFORMATION

Item 1: Financial Statements

Our unaudited condensed consolidated financial statements included in this Form 10-QSB are as follows:

(a)	Unaudited Condensed Consolidated Balance Sheet as of March 31, 2007	F-1
(b)	Unaudited Condensed Consolidated Statements of Operations for the three and six months ended March 31, 2007 and 2006	F-2
(c)	Unaudited Condensed Consolidated Statements of Cash Flows for the six months ended March 31, 2007 and 2006	F-3
(d)	Notes to Unaudited Condensed Consolidated Financial Statements	F-4

Page 1

U.S. DRY CLEANING CORPORATION

CONDENSED CONSOLIDATED BALANCE SHEET

MARCH 31, 2007

(UNAUDITED)

ASSETS

Current Assets
Cash	$	341,562
Accounts receivable, net		475,204
Deferred equity raising costs		357,830
Deferred acquistion costs		232,097
Prepaid expenses and other current assets		336,958
Total Current Assets		1,743,651
Property and Equipment, net		1,572,309
Other Assets
Notes receivable		127,594
Goodwill		7,548,901
Intangible assets		353,662
Total Other Assets		8,030,157
Total Assets	$	11,346,117
LIABILITIES AND STOCKHOLDERS' EQUITY
Current Liabilities
Accounts payable	$	1,068,355
Accrued liabilities		1,603,322
Liquidated damages		35,625
Capital lease obligation, current portion		132,097
Notes payable, current portion		322,778
Convertible notes payable, net of discount		1,776,715
Related party notes payable, current portion		250,753
Total Current Liabilities		5,189,645
Long Term Liabilities
Capital lease obligation		402,611
Notes payable		346,304
Related party notes payable		177,506
Convertible notes payable		200,000
Total Long Term Liabilities		1,126,421
Total Liabilities		6,316,066
Stockholders' Equity
Convertible preferred stock; par value $0.001 per share;
20,000,000 authorized shares;
1,200,000 shares issued and outstanding; liquidation preference of $2.40 per share		1,200
Common stock; par value $0.001 per share;
50,000,000 Series B authorized shares; none issued and outstanding		-
Common stock; par value $0.001 per share;
100,000,000 authorized shares; 17,890,929 shares issued and outstanding		17,891
Additional paid-in capital		18,628,547
Stockholder receivable		(250,000	)
Deferred consulting fees		(56,000	)
Accumulated deficit		(13,311,587	)
Total Stockholders' Equity		5,030,051
Total Liabilities and Stockholders' Equity	$	11,346,117

Page F-1 See accompanying notes to condensed consolidated financial statements.

U.S. DRY CLEANING CORPORATION

CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS

FOR THE THREE AND SIX MONTHS ENDED MARCH 31, 2007 AND 2006

(UNAUDITED)

	THREE MONTHS						SIX MONTHS
	2007			2006 As Restated			2007			2006 As Restated
Net Sales	$	2,025,918		$	1,496,466		$	3,627,328		$	2,937,207
Cost of Sales
Supplies		(97,848	)		(86,506	)		(165,279	)		(160,102	)
Direct costs		(916,249	)		(735,818	)		(1,697,361	)		(1,462,604	)
Total cost of sales		(1,014,097	)		(822,324	)		(1,862,640	)		(1,622,706	)
Gross Profit		1,011,821			674,142			1,764,688			1,314,501
Operating Expenses
Delivery expenses		167,984			117,212			332,345			254,177
Store expenses		503,476			376,803			902,753			686,988
Selling expenses		159,863			175,695			311,337			311,072
Administrative expenses		623,408			430,772			1,320,252			757,812
Professional fees		923,934			221,952			1,602,969			821,302
Depreciation and amortization expense		72,562			67,473			149,856			127,464
Total Operating Expenses		2,451,227			1,389,907			4,619,512			2,958,815
Operating Loss		(1,439,406	)		(715,765	)		(2,854,824	)		(1,644,314	)
Other Income (Expense)		(811,273	)		(445,681	)		(934,213	)		(980,809	)
Net Loss	$	(2,250,679	)	$	(1,161,446	)	$	(3,789,037	)	$	(2,625,123	)
Basic and diluted loss per common share	$	(0.13	)	$	(0.12	)	$	(0.22	)	$	(0.28	)
Basic and diluted weighted average number
of common shares outstanding		17,084,019			9,839,780			17,179,220			9,356,264

Page F-2 See accompanying notes to condensed consolidated financial statements.

U.S. DRY CLEANING CORPORATION

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS

FOR THE SIX MONTHS ENDED MARCH 31, 2007 AND 2006

(UNAUDITED)

	2007			2006
				As Restated
CASH FLOWS FROM OPERATING ACTIVITIES:
Net (loss)	$	(3,789,037	)	$	(2,625,123	)
Adjustments to reconcile net loss to net cash used in operating activities:
Depreciation and amortization		149,856			127,464
Amortization of deferred financing costs		200,000			150,174
Amortization of deferred consulting fees		9,000			-
Bad debt expense		4,675			6,000
Common stock issued for compensation and services		416,070			114,380
Amortization of debt discounts		330,429			530,303
Changes in operating assets and liabilities:
Accounts receivable		123,164			(197,598	)
Prepaid expenses and other current assets		30,916			118,999
Other assets		(51,686	)		-
Accounts payable and accrued expenses		989,284			485,435
Liquidated damages		(71,250	)		178,125
Net cash used in operating activities		(1,658,579	)		(1,111,841	)
CASH FLOWS FROM INVESTING ACTIVITIES:
Purchases of property and equipment		(116,346	)		(320,126	)
Acquisition projects in process		(634,223	)		-
Cash of acquired companies		1,767			-
Net cash used in investing activities		(748,802	)		(320,126	)
CASH FLOWS FROM FINANCING ACTIVITIES:
Proceeds from issuance of notes payable		225,768			39,869
Proceeds from issuance of convertible notes payable		1,800,000			3,365,500
Proceeds from issuance of related party convertible notes payable		-			220,000
Repayments on notes payable		(172,634	)		(206,282	)
Repayments on related party notes payable		(74,380	)		(22,534	)
Repayments on convertible notes payable		-			(30,000	)
Deferred financing costs		-			(474,998	)
Repayments on capital lease obligation		(86,437	)		(59,967	)
Deferred equity raising cost		(357,830	)		-
Net cash provided by financing activities		1,334,487			2,831,588
Net increase (decrease) in cash		(1,072,894	)		1,399,621
Cash at beginning of period		1,414,456			705,713
Cash at end of period	$	341,562		$	2,105,334
Cash paid during the period for:
Interest	$	76,586		$	336,198
Income taxes	$	-		$	-
SUPPLEMENTAL DISCLOSURE OF NON-CASH INVESTING AND FINANCING ACTIVITIES
Debt discount on convertible notes issued with common stock	$	1,478,714		$	1,164,917
Reclassification for change in par value of common and preferred stock	$	-		$	2,871,879
Capital lease additions	$	-		$	133,804
Assumed note payable with equipment purchase	$	-		$	85,000

Page F-3 See accompanying notes to condensed consolidated financial statements.

U.S. DRY CLEANING CORPORATION

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

FOR THE THREE AND SIX MONTHS ENDED MARCH 31, 2007 AND 2006

(UNAUDITED)

1.ORGANIZATION, NATURE OF OPERATIONS AND BASIS OF PRESENTATION

The Company

U.S. Dry Cleaning Corporation (“USDC” or the “Company”) was formed on July 19, 2005 and on December 30, 2005 completed a “reverse merger” with a public “Shell Company” as that term is defined in Rule 12b-2 of the General Rules and Regulations promulgated by the Securities and Exchange Commission (“SEC”). The Company is a retail service provider of laundry and dry cleaning stores and operations.

On August 9, 2005, USDC purchased 100% of the outstanding common stock and membership of Steam Press Holdings, Inc. (“Steam Press”), and Coachella Valley Retail, LLC (“CVR”), respectively, in stock-for-stock type transactions. USDC, Steam Press, and CVR are hereinafter collectively referred to as the “Company.” Steam Press owns 100% of Enivel, Inc. (“Enivel”), which does business as Young Laundry & Dry Cleaning (“Young”) in Honolulu, Hawaii. Young was founded in 1902 and operates thirteen retail laundry and dry cleaning stores, in addition to providing hotel and other commercial laundry and dry cleaning services. CVR was founded in 2004 and operates five retail laundry and dry cleaning stores under several names in the Palm Springs, California area.

On February 15, 2007, 100% of Cleaners Club, Inc.’s (“CCI”) outstanding common stock was acquired in a merger with USDC. The acquired shares were converted into 780,000 shares of $0.001 par value of USDC common stock. (See Note 8 for further information).

Basis of Presentation

The accompanying unaudited interim condensed consolidated financial statements have been prepared by the Company, pursuant to the rules and regulations of the U.S. 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 (“GAAP”) have been omitted pursuant to such SEC rules and regulations; nevertheless, the Company believes that the disclosures are adequate to make the information presented not misleading. These financial statements and the notes hereto should be read in conjunction with the financial statements, accounting policies and notes thereto included in the Company’s audited financial statements on Form 10-KSB ,as amended, for the fiscal year ended September 30, 2006 filed with the SEC. In the opinion of management, all adjustments necessary to present fairly, in accordance with GAAP, the Company’s financial position as of March 31, 2007, and the results of operations and cash flows for the interim periods presented have been made. Such adjustments consist only of normal recurring adjustments. The results of operations for the interim periods presented are not necessarily indicative of the results for the full year.

Going Concern

The accompanying condensed consolidated financial statements have been prepared assuming the Company will continue as a going concern, which contemplates, among other things, the realization of assets and satisfaction of liabilities in the ordinary course of business. The Company has recurring losses from operations; negative cash flow from operating activities of approximately $1.7 million for the six months ended March 31, 2007; and negative working capital of approximately $3.4 million and an accumulated deficit of approximately $13.3 million at March 31, 2007. The Company’s business plan calls for various business acquisitions, which will require substantial additional capital. These factors, among others, raise substantial doubt about the Company’s ability to continue as a going concern. The Company intends to fund operations through debt and equity financing transactions. In conjunction with such efforts, on December 27, 2006, the Company filed a Form SB-2 to register an offering consisting of 3,000,000 units at $2.50 per unit. Each unit consists of one share of common stock and one redeemable warrant to purchase one share of common stock. However, such financing transactions may be insufficient to fund its planned acquisitions, capital expenditures, working capital and other cash requirements for the fiscal year ending September 30, 2007. Therefore, the Company will be required to seek additional funds to finance its long-term operations. The successful outcome of future activities cannot be determined at this time and there is no assurance that, if achieved, the Company will have sufficient funds to execute its intended business plan or generate positive operating results.

Page F-4

U.S. DRY CLEANING CORPORATION

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

FOR THE THREE AND SIX MONTHS ENDED MARCH 31, 2007 AND 2006

(UNAUDITED)

1.      ORGANIZATION, NATURE OF OPERATIONS AND BASIS OF PRESENTATION (continued)

Going Concern (continued)

The condensed consolidated financial statements do not include any adjustments related to recoverability and classification of asset carrying amounts or the amount and classification of liabilities that might result should the Company be unable to continue as a going concern.

2.SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

Principles of Consolidation

The accompanying condensed consolidated financial statements include the accounts of USDC and its wholly-owned subsidiaries, Steam Press, CVR and CCI. All significant intercompany balances and transactions have been eliminated in consolidation.

Use of Estimates

The preparation of financial statements in conformity with GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosures of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting periods. Significant estimates made by management include the realization of long-lived assets, the valuation allowance on deferred tax assets, and the allowance for doubtful accounts receivable. Actual results could differ from those estimates.

Business Segments

The Company currently operates in one segment, that being the laundry and dry cleaning business and is geographically concentrated in Hawaii and Southern California.

Risks and Uncertainties

The Company operates in an industry that is subject to intense competition. The Company faces risks and uncertainties relating to its ability to successfully implement its business strategy. Among other things, these risks include the ability to develop and sustain revenue growth; managing the expansion of its operations; competition; attracting and retaining qualified personnel; maintaining and developing new strategic relationships; and the ability to anticipate and adapt to the changing markets and any changes in government or environmental regulations. Therefore, the Company is subject to the risks of delays and potential business failure.

The dry cleaning industry has been a target for environmental regulation during the past two decades due to the use of certain solvents in the cleaning process. For example, in 2002, air quality officials in Southern California approved a gradual phase out of Perchloroethylene (“Perc”), the most common dry cleaning solvent, by 2020. Under this regulation, which went into effect January 1, 2003, any new dry cleaning business or facility that adds a machine must also add a non-Perc machine. While existing dry cleaners can continue to operate one Perc machine until 2020, by November 2007 all dry cleaners using Perc must utilize state-of-the-art pollution controls to reduce Perc emissions. The Company believes that it is successfully integrating the new dry cleaning processes.

Page F-5

U.S. DRY CLEANING CORPORATION

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

FOR THE THREE AND SIX MONTHS ENDED MARCH 31, 2007 AND 2006

(UNAUDITED)

2.SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (continued)

Risks and Uncertainties (continued)

Management feels that domestic media have generally sensationalized the perceived hazards of Perc to operators, clients and the environment in general. Perc is a volatile, yet non-flammable, substance that requires precautions and proper handling. However, it has proven safe, effective and completely manageable for years and the Company anticipates that its centralized operations and improvements in all facets of the business will further improve the safety for employees, clients and the environment. The Company will continue to utilize Perc where permitted on a limited interim basis to assure an orderly transition. To the extent that additional investment for environmental compliance may be necessary, the Company does not anticipate any significant financial impact. The Company believes that it complies in all material respects with all relevant rules and regulations pertaining to the use of chemical agents. In the opinion of management, the Company complies in all material respects with all known federal, state, and local legislation pertaining to the use of all chemical agents and will endeavour to ensure that the entire organization proactively remains in compliance with all such statutes and regulations in the future.

Earnings (Loss) Per Shares

Under Statement of Financial Accounting Standards ("SFAS") No. 128, "Earnings per Share", basic loss per common share is computed by dividing the loss applicable to common stockholders by the weighted average number of common shares assumed to be outstanding during the period of computation. Diluted loss per common share is computed using the weighted average number of common shares and, if dilutive, potential common shares outstanding during the period. Potential common shares consist of the incremental common shares issuable upon the exercise of warrants (using the treasury stock method) and the conversion of the convertible preferred stock and convertible debt (using the if-converted method). For the six months ended March 31, 2007, 2,215,000 convertible securities and 432,432 options and warrants to purchase common stock were excluded from the calculation of diluted loss per share because they were anti-dilutive

Reclassification

Certain reclassifications have been made to the March 31, 2006 condensed consolidated financial statements of the Company to conform to the March 31, 2007 presentations.

Restatement of Prior Quarters

As more fully discussed in the Company’s amended Form 10-KSB for the year ended September 30, 2006 filed with the SEC during February 2007, the Company restated its results for the year ended September 30, 2006 and the related fiscal 2006 quarters. The March 31, 2006 quarterly results of operations and cash flows have been restated accordingly (See Note 7).

Business Combinations

SFAS No. 141, “Business combinations” eliminated the pooling of interest method of accounting for business combinations and requires that all business combinations be accounted for using the purchase method.

Deferred Equity Raising Costs

Direct costs of securing equity financing are capitalized as assets until such time the funds from the related equity raising have been obtained, at which time such assets are reclassified as a reduction to additional paid in capital.

Page F-6

U.S. DRY CLEANING CORPORATION

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

FOR THE THREE AND SIX MONTHS ENDED MARCH 31, 2007 AND 2006

(UNAUDITED)

2.SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (continued)

Goodwill and Other Intangible Assets

SFAS No. 142, "Goodwill and Other Intangible Assets," addresses how intangible assets that are acquired individually or with a group of other assets should be accounted for in the financial statements upon their acquisition and after they have been initially recognized in the financial statements. SFAS No. 142 requires that goodwill and intangible assets that have indefinite useful lives not be amortized but rather be tested at least annually for impairment, and intangible assets that have finite useful lives be amortized over their estimated useful lives. The Company’s identifiable intangible assets consist of customer relationships and the “Young Laundry & Dry Cleaning” trademark in the respective net amounts of approximately $72,000 and $282,000 at March 31, 2007. Customer relationships and the trademark are amortized using the straight-line method over the weighted average life of four years and ten years, respectively. Management considers the straight-line method to be appropriate for customer lists due to the longevity of the customer relationships.

Revenue Recognition

The Company recognizes revenue on retail laundry and dry cleaning services when the services have been provided and the earnings process is complete. For “walk-in” retail customers, when an order is complete and ready for customer pick-up, the sale and related account receivable are recorded. For commercial customers, the sale is not recorded until the Company delivers the cleaned garments. Generally, the Company delivers the cleaned garments the same day they are dropped off (same-day service).

Advertising

The Company expenses the cost of advertising when incurred. Advertising costs approximated $65,000 and $60,000 for the six months ended March 31, 2007 and 2006, respectively. Advertising costs approximated $38,000 and $24,000 for the three months ended March 31, 2007 and 2006, respectively. These costs have been included in selling expenses in the accompanying condensed consolidated statement of operations.

Discount on Convertible Notes

Convertible instruments are evaluated to determine if they are within the scope of Emerging Issues Task Force ("EITF") Issue No. 00-19, “Accounting for Derivative Financial Instruments Indexed to, and Potentially Settled In, a Company’s Own Stock” and SFAS No. 133. In the event that they are not, discounts on convertible notes are attributable to the relative fair value of the beneficial conversion feature that allows holders of the debenture to convert into shares of the Company's common stock at prices lower than the market value and the discount associated with the related equity instruments issued. These discounts are accounted for in accordance with EITF Issue No. 00-27, "Application of EITF No. 98-5 To Certain Convertible Instruments" and EITF Issue No. 98-5, "Accounting For Convertible Securities with Beneficial Conversion Features or Contingently Adjustable Conversion Ratios."

Stock-Based Compensation

Since the Company has no stock option plans or any potential employee stock-based employee instruments outstanding, the disclosure requirements of SFAS No. 123-R are not applicable to the accompanying financial statements.

For stock-based compensation issued to non-employees, the Company uses the fair value method of accounting under the provisions of SFAS No. 123-R and EITF Issue No. 96-18, “Accounting for Equity Instruments That Are Issued to Other Than Employees for Acquiring, or in Conjunction with Selling, Goods or Services.”

Registration Rights Payment Arrangements

The Company has entered into registration rights agreements related to various equity arrangements (See Note 6). The Company accounts for registration rights payment arrangements in accordance with Financial Accounting Standards Board Staff Position No. EITF 00-19-2, “Accounting for Registration Payment Arrangements,” whereas any contingent obligation to make future payments or otherwise transfer consideration under a registration payment arrangements, whether issued as a separate agreement or included as a provision of a financial instrument or other agreement, should be separately recognized and measured in accordance with SFAS No. 5, “Accounting for Contingencies.”

Page F-7

U.S. DRY CLEANING CORPORATION

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

FOR THE THREE AND SIX MONTHS ENDED MARCH 31, 2007 AND 2006

(UNAUDITED)

3.NOTES PAYABLE

On December 26, 2006, the Company accepted subscriptions from accredited investors for $2,250,000 in total purchase price of its Series A Convertible Debenture. The debentures were sold with a built-in thirty percent (30%) rate of return. For each $100,000 paid to the Company, a total of $130,000 is due to the holder. Additionally, upon issuance, the Company issued 16,666 shares of common stock to the note holder for each $100,000 subscription. The debentures mature in one year from the date issued with no interest. The principal amount of the debentures may be converted into common stock of the Company at a fixed conversion rate of $3.00 per share at the holder’s option at any time. The principal amount of the debentures is secured by all of the Company’s assets and those of its operating subsidiaries, including an assignment of its leasehold interests in its retail facilities. Pursuant to a registration rights agreement, the Company is obligated to register or to file a registration statement for all of the common stock that may be issued upon conversion of the debentures, within 270 days from closing on a “best efforts” basis. Broker or underwriting fees or commissions to be paid in connection with the offer and sale will be a maximum of 10% of cash received. As of March 31, 2007 the Company has deposited $1,800,000 in cash proceeds; debt conversion of $200,000 and a stockholder note receivable of $250,000. Accordingly, 374,985 shares of common stock were issued during the six months ended March 31, 2007. The offer and sale of the debentures and common stock were exempt from registration pursuant to Section 4(2) of the Securities Act of 1933 and Regulation D, Rule 506, as promulgated by the Securities and Exchange Commission.

The Series A Convertible Debentures meet the definition of a conventional convertible debt instrument. Accordingly, the Company computed the relative fair values of the debt as if converted and the common stock, using a stock price of $1.85 (the estimated fair value of the common stock at the commitment date - See Note 8) pursuant to Accounting Principles Board Opinion No. 14 and related interpretations and recorded debt discounts associated with the common stock and a beneficial conversion feature totalling $803,714. Additionally, the built-in 30% rate of return described above, totalling $675,000, was included in the face amount of the notes, but was also recorded as debt discount against the face amount of the notes. These discounts are being accreted to interest expense over the one year term of the notes. For the three months ended March 31, 2007, the Company accreted $292,092 of such debt discounts to interest expense. For the six months ended March 31, 2007, the Company accreted $330,429 of such debt discounts to interest expense.

During the quarter ended March 31, 2007, the Company assumed two promissory notes for $100,000 each and secured by equipment. The terms of the promissory notes are for 13 monthly interest payments of $850 starting on May 1, 2007 with principal amount due at maturity date.

4.OTHER RELATED PARTY TRANSACTIONS

The Company rents office space located at 125 E. Tahquitz Canyon Way in Palm Springs, California on a month-to-month basis from Transactional Marketing Partners, a company owned by director Earl Greenburg. The rent is $2,200 per month all inclusive.

5.EQUITY TRANSACTIONS

Common Stock

During the three months ended December 31, 2006, the Company issued 125,000 shares of its restricted common stock to the Company’s Chief Financial Officer as a bonus for past services valued at $231,250 based on the estimated fair market value of the Company’s common stock of $1.85 per share.  Expenses related to this transaction have been included in administrative expenses in the accompanying condensed consolidated statement of operations.

During the three months ended December 31, 2006, the Company issued 80,000 shares of restricted common stock to directors for past services valued at $148,000 based on the estimated fair market value of the Company’s common stock of $1.85 per share.  Expenses related to this transaction have been included in administrative expenses in the accompanying condensed consolidated statement of operations.

Page F-8

U.S. DRY CLEANING CORPORATION

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

FOR THE THREE AND SIX MONTHS ENDED MARCH 31, 2007 AND 2006

(UNAUDITED)

5.EQUITY TRANSACTIONS (continued)

Common Stock (continued)

During the three months ended December 31, 2006, the Company, pursuant to a consultant agreement, issued 150,000 shares of its restricted common stock in exchange for certain consulting services provided to the Company, which was valued at $37,500 based on the value of the services provided. Expenses related to this transaction have been included in professional fees in the accompanying condensed consolidated statement of operations.

During the six months ended March 31, 2007, the Company, pursuant to the terms of the Series A Convertible Debentures as disclosed in Note 3 above, issued 374,985 shares of restricted common stock valued at $803,714 using Black-Scholes pricing model.

During the three months ended March 31, 2007, the Company issued 780,000 shares of restricted common stock with an estimated fair market value of $1.85 per share pursuant to an agreement of merger as disclosed in Note 8.

Options and warrants

In fiscal 2005, the Company issued 1,500,000 warrants to purchase its common stock to each of the two founding shareholders. Such warrants are exercisable at $.01 per share should the Company achieve certain annualized revenues in any one month as follows: i) if the revenue growth exceeds $60 million, 60% of the potential warrants vest, ii) if the revenue growth exceeds $80 million, 80% of the potential warrants vest and iii) if revenue growth exceeds $100 million, all of the potential warrants vest. The warrants expired and have been cancelled on December 31, 2006.

During the quarter ended December 31, 2006, the Company issued 500,000 warrants to an investment banking firm for services directly related to an equity fund raising transaction. Such warrants have an exercise price of $0.25, are exercisable for five (5) years from the effective date, and contain net issuance, anti-dilution provisions for split adjustments and “piggyback” registration rights. The Company did not record any expense related to the fair value of the warrants since the issuance was payment for equity fund raising services.

During the quarter ended March 31, 2007, the Company issued 100,000 warrants to a consultant for professional services at an exercise price of $3.50.  The fair value of the transaction using Black-Scholes pricing model of $65,000 was recorded as deferred consulting fees and presented as an offset to additional paid-in capital. Such amount is being amortized to expense over the two year term of the consulting agreement.

During the quarter ended March 31, 2007, the Company issued 50,000 warrants to a consultant for professional services in conjunction with the recent acquisition at an exercise price of $3.50. The Company included the fair value of the warrants using Black-Scholes pricing model in the amount of $32,250 as part of the purchase price consideration for Cleaners Club acquisition (See Note 8).

During the quarter ended March 31, 2007, the Company granted 400,000 options (outside of a stock option plan) to seller of CCI in accordance with the related employment agreement with the Company at exercise prices ranging from $3.50 to $10.00 per share.  The Company included the fair value of the options using Black-Scholes pricing model in the amount of $171,000 as part of the purchase price consideration for Cleaners Club acquisition (See Note 8).

For transactions noted above where fair market value of common stock, options and warrants was calculated using Black-Scholes pricing model, the following assumptions were used: risk free interest rate of 4.5%, estimated volatility of 55%, expected life of 5 years unless otherwise stated, and no expected dividend yield.

6.COMMITMENTS AND CONTINGENCIES

Legal Matters

From time to time, the Company may be involved in various claims, lawsuits and disputes with third parties, actions involving allegations of discrimination or breach of contract incidental to the ordinary operations of the business. The Company is not currently involved in any litigation which management believes could have a material adverse effect on the Company's financial position or results of operations.

Page F-9

U.S. DRY CLEANING CORPORATION

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

FOR THE THREE AND SIX MONTHS ENDED MARCH 31, 2007 AND 2006

(UNAUDITED)

6.COMMITMENTS AND CONTINGENCIES (continued)

Stock Registration Rights

The Company was obligated to register 693,750 shares of preferred stock (or related post-conversion common stock) such that it is freely tradable no later than December 31, 2005 or pay a penalty of approximately $12,000 per month until such time as the registration statement is declared effective or the Companies stock begins trading. As of March 31, 2007, the Company had not filed a registration statement registering these shares and has accrued liquidated damages of $35,625 at March 31, 2007. During six months ended March 31, 2007, the Company paid $71,250 as a penalty and was recorded as other expenses.

The Company is required to use its “best efforts” to file, on or before two hundred seventy days (270) following the closing of the initial sale of the Series A Convertible Debentures (see Note 3), a registration statement under the Securities Act covering the registration of the sale of the Registrable Securities by the holders. The holders are required to cooperate fully with the Company in preparation of the registration statement and provide all necessary information regarding the holders, the underwriters, the manner of distribution and other material information reasonably requested by the Company.

Employment Agreements

Effective on December 12, 2006, in connection with his appointment as the Company’s new Chief Executive Officer, the Company entered into an employment agreement with Robert Y. Lee for a three-year term. The employment agreement provides for a base salary at the rate of $20,000 per month, which increases to $25,000 upon the Company achieving certain milestones in revenue and income. Mr. Lee is also entitled to a bonus, which will be represented by a promissory note issued by the Company bearing interest at eight percent per annum and in the principal amount of $200,000, of which $50,000 is payable at the earlier of the expiration of his employment term and the closing by the Company of a debt or equity financing of at least $1,500,000, and the balance of which payable upon the earlier of the expiration of his employment term and the closing by the Company of stock offering with proceeds of at least $3,000,000. In addition, upon the achievement of certain milestones by the Company, Mr. Lee will be entitled to additional bonuses ranging from $250,000 to $500,000. Furthermore, the Company agreed to issue to Mr. Lee fully vested options to purchase an aggregate of 800,000 shares of the Company’s common stock, at exercise prices ranging from $3.50 to $10.00 per share, which options will be evidenced by a stock option agreement approved by the Board of Directors. The Company also agreed to pay an expense allowance for an automobile in an amount of $2,000 per month. The agreement also provides for non-competition covenant by Mr. Lee in favor of the Company and confidentiality provisions.

Effective on December 21, 2006, the Company entered into an employment agreement with Riaz Chauthani as Director of Real Estate and Business Development for a three-year term. The employment agreement provides for a base salary at the rate of $150,000 per year. The Company also agreed to pay an expense allowance for an automobile in an amount of $1,000 per month and benefits and other compensation such as health, disability, dental, life and other insurance plans that the Company may have in effect from time to time. In addition, the Company shall provide Mr. Chauthani with one or more key man life insurance policies up to the maximum amount of $3,000,000. Furthermore, the Company agreed to issue to Mr. Chauthani fully vested options to purchase an aggregate of 400,000 shares of the Company’s common stock, at exercise prices ranging from $3.50 to $10.00 per share valued at $171,000 based on the estimated fair market value of the Company’s common stock of $1.85 per share and was included as part of the purchase price consideration in the acquisition of Cleaners Club, Inc (See Note 8). Additionally, the Company is obligated to pay Mr. Chauthani all accrued but unpaid base salary as of the effective date of termination together with the base salary payable through the end of the term upon termination without cause.

Page F-10

U.S. DRY CLEANING CORPORATION

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

FOR THE THREE AND SIX MONTHS ENDED MARCH 31, 2007 AND 2006

(UNAUDITED)

6.COMMITMENTS AND CONTINGENCIES (continued)

Filing of Form SB-2

On December 27, 2006, the Company filed a Form SB-2. The offering consists of up to 3,000,000 units. Each unit consists of one share of common stock and one redeemable warrant to purchase one share of common stock.

The warrants included in the units will be exercisable to purchase one share of common stock immediately after the effectiveness of registration statement. Each warrant entitles its holder to purchase one share of common stock at an exercise price equal to $3.50. The warrants expire on the fifth anniversary of the effective date. The Company will have the right to redeem some or all of the warrants issued in this offering at a redemption price of $0.05 per warrant at any time after the date on which the closing price of the Company’s common stock has exceeded $5.00 for 20 consecutive trading days.

7.RESTATEMENT OF PRIOR YEAR INTERIM PERIODS

The accompanying 2006 condensed consolidated statements of operations and cash flows were restated to reflect an increase to debt discount related to the recording of convertible debt issued with common stock, as well as the related amortization of such discount. See the Company’s Form 10-KSB/A for the year ended September 30, 2006 for additional information. The effect of the restatement for the three and six months ended March 31, 2006 was an increase to interest expense of approximately $66,000 and $514,000 , respectively, and an increase to basic and diluted loss per common share of $0.01 and $0.00 respectively. The effect of the restatement is as follows:

	As Reported						As Restated
	3 Months			6 Months			3 Months			6 Months
Net Loss	$	(809,055	)	$	(2,111,446	)	$	(1,161,446	)	$	(2,625,123	)
Basic and diluted loss per common share	$	(0.08	)	$	(0.23	)	$	(0.12	)	$	(0.28	)

8.ACQUISITION OF CLEANERS CLUB, INC.

On February 15, 2007, the Company completed the acquisition of all of the outstanding stock of Cleaners Club, Inc. ("CCI”) in a purchase business combination. The total purchase price of $2,028,000 is comprised of 780,000 shares of the Company’s restricted common stock valued at $1,443,000, fully vested stock options valued at approximately $203,000, cash totaling $100,000 and direct acquisition expenses totaling approximately $282,000. The principal reason that the Company agreed to pay a purchase price for CCI in excess of its recorded net assets was to acquire an established revenue stream.

In order to measure and allocate the purchase price of the CCI business combination, the Company engaged a third-party valuation firm to estimate the fair value of CCI’s net assets. At the time of this filing the valuation had not been completed. It is anticipated that the valuation will not be materially different from the purchase price allocation summarized as follows:

Page F-11

U.S. DRY CLEANING CORPORATION

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

FOR THE THREE AND SIX MONTHS ENDED MARCH 31, 2007 AND 2006

(UNAUDITED)

8.ACQUISITION OF CLEANERS CLUB, INC. (continued)

Cash and other current assets	$	24,000
Property and equipment		427,000
Deposits		40,000
Goodwill		2,544,000
Liabilities assumed		(1,007,000	)
Total	$	2,028,000

Deferred tax liabilities related to the estimated tax effect of non-deductible amortization of identifiable intangible assets is not significant. Goodwill resulting from the acquisition is not deductible for income tax purposes.

Certain pro forma financial information of the Company is presented below, based on the assumption that the acquisition occurred at the beginning of the earliest period presented.

	Consolidated Pro Forma Financial Information
	Three Months Ended						Six Months Ended
	March 31, 2007			March 31, 2006			March 31, 2007			March 31, 2006
Net Sales	$	2,439,960		$	1,882,708		$	4,779,765		$	4,204,533
Net Loss	$	(2,364,024	)	$	(840,592	)	$	(4,084,158	)	$	(2,586,949	)
Basic and diluted loss per common share	$	(0.09	)	$	(0.14	)	$	(0.24	)	$	(0.28	)

Page F-12

Item 2:Management’s Discussion and Analysis

Forward-Looking Statements

Certain statements made herein and in other public filings and releases by the Company contain “forward-looking” information (as defined in the Private Securities Litigation Reform Act of 1995) that involve risk and uncertainty. These forward-looking statements may include, but are not limited to, future capital expenditures, acquisitions (including the amount and nature thereof), future sales, earnings, margins, costs, number and costs of store openings, demand for clothing, market trends in the retail clothing business, inflation and various economic and business trends. Forward-looking statements may be made by management orally or in writing, including, but not limited to, Management's Discussion and Analysis or Plan of Operation section and other sections of our filings with the SEC under the Exchange Act and the Securities Act.

Actual results and trends in the future may differ materially depending on a variety of factors including, but not limited to, domestic economic activity and inflation, our successful execution of internal operating plans and new store and new market expansion plans, performance issues with key suppliers, severe weather, and legal proceedings. Future results will also be dependent upon our ability to continue to identify and complete successful expansions and penetrations into existing and new markets and our ability to integrate such expansions with our existing operations.

Description of Business

The Company

U.S. Dry Cleaning Corporation (“USDC”) was formed on July 19, 2005 and on December 30, 2005 completed a “reverse merger” with a public “Shell Company” as that term is defined in Rule 12b-2 of the General Rules and Regulations promulgated by the Securities and Exchange Commission (“SEC”). On August 9, 2005, USDC purchased 100% of the outstanding common stock and membership of Steam Press Holdings, Inc. (“Steam Press”), and Coachella Valley Retail, LLC (“CVR”), respectively, in stock--for-stock type transactions. USDC, Steam Press, and CVR are hereinafter collectively referred to as the “Company.”

Steam Press owns 100% of Enivel, Inc. (“Enivel”), which does business as Young Laundry & Dry Cleaning (“Young”) in Honolulu, Hawaii. Young was founded in 1902 and operates thirteen retail laundry and dry cleaning stores, in addition to providing hotel and other commercial laundry and dry cleaning services. CVR was founded in 2004 and operates five retail laundry and dry cleaning stores under several names in the Palm Springs, California area.

On February 15, 2007, 100% of Cleaners Club, Inc.’s (“CCI”) authorized, issued and outstanding common stock was acquired in a merger with USDC. The acquired shares were converted into 780,000 shares of $0.001 par value common stock of USDC immediately prior to the merger. The Company’s management has estimated the fair value of the 780,000 common shares given at $1.85 per share (the estimated fair value of the Company’s common stock) for a stock purchase price consideration of $1,443,000.  Additionally, the Company issued fully vested stock options valued at approximately $203,000, cash of $100,000 and incurred approximately $282,000 in acquisition related costs for a total purchase price consideration of approximately $2,028,000. (See Note 8 for further information).

Competition

The Company operates in an industry that is subject to intense competition. A handful of markets are dominated by large, well-capitalized operators who have implemented a model similar to USDC’s vision: serving multiple locations with centralized, large capacity production facilities. Smaller players are finding it more difficult to retain market share due to higher overall operating costs and constraints. The Company believes that its strategy of centralized operations, consolidation, and public corporate structure is unique in the dry cleaning industry. However, there can be no assurance that other enterprises may not seek to acquire a significant number of dry cleaning operations in markets in which the Company currently operates or will prospectively operate

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Other Risks and Uncertainties

The Company operates in an industry that is subject to intense competition. The Company faces risks and uncertainties relating to its ability to successfully implement its business strategy. Among other things, these risks include the ability to develop and sustain revenue growth; managing the expansion of its operations; competition; attracting and retaining qualified personnel; maintaining and developing new strategic relationships; and the ability to anticipate and adapt to the changing markets and any changes in government or environmental regulations. Therefore, the Company is subject to the risks of delays and potential business failure.

The dry cleaning industry has been a target for environmental regulation during the past two decades due to the use of certain solvents in the cleaning process. For example, in 2002, air quality officials in Southern California approved a gradual phase out of Perchloroethylene (“Perc”), the most common dry cleaning solvent, by 2020. Under this regulation, which went into effect January 1, 2003, any new dry cleaning business or facility that adds a machine must also add a non-Perc machine. While existing dry cleaners can continue to operate one Perc machine until 2020, by November 2007 all dry cleaners using Perc must utilize state-of-the-art pollution controls to reduce Perc emissions. The Company believes that it is successfully integrating the new dry cleaning processes.

Management feels that domestic media have generally sensationalized the perceived hazards of Perc to operators, clients and the environment in general. Perc is a volatile, yet non-flammable, substance that requires precautions and proper handling. However, it has proven safe, effective and completely manageable for years and the Company anticipates that its centralized operations and improvements in all facets of the business will further improve the safety for employees, clients and the environment. The Company will continue to utilize Perc where permitted on a limited interim basis to assure an orderly transition. To the extent that additional investment for environmental compliance may be necessary, the Company does not anticipate any significant financial impact. The Company believes that it complies in all material respects with all relevant rules and regulations pertaining to the use of chemical agents. In the opinion of management, the Company complies in all material respects with all known federal, state, and local legislation pertaining to the use of all chemical agents and will endeavor to ensure that the entire organization proactively remains in compliance with all such statutes and regulations in the future.

Major Customers

At March 31, 2007 and 2006, one customer accounted for approximately 14% and 17% of gross accounts receivable, respectively. For the three months ended March 31, 2007 and 2006, one customer accounted for approximately 13% and 15% of net sales, respectively.

Results of Operations for the Three Months Ended March 31, 2007 and 2006

Revenues

Net sales are approximately $2 million for the three months ended March 31, 2007 an increase of approximately $0.5 million compared to the three months ended March 31, 2006 of approximately $1.5 million. This reflects a 35% increase in revenues. The increase consisted of approximately $0.1 million from existing operations and $0.4 million from our recent acquisition.

Cost of Sales

Our cost of sales is approximately $1 million for the three months ended March 31, 2007 an increase of approximately $0.2 million compared to the three months ended March 31, 2006 of approximately $0.8 million. Cost of sales as a percentage to revenues is 50% and 55% for the three months ended March 31, 2007 and 2006, respectively. Our cost of sales consists of supplies, labor and facilities to process laundry and dry cleaning products.

Gross Profit

Gross profit increased approximately $0.3 million to approximately $1 million for the three months ended March 31, 2007 compared to the three months ended March 31, 2006 of approximately $0.7 million. Gross profit as a percentage of revenue increased 5% or 50% and 45% for the three months ended March 31, 2007 and 2006, respectively.

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Operating Expenses

Operating expenses for the three months ended March 31, 2007 are approximately $2.5 million, an increase of approximately $1.1 million compared to the three months ended March 31, 2006 of approximately $1.4 million.

Our delivery, store and selling expenses for the three months ended March 31, 2007 were approximately $0.8 million compared to the three months ended March 31, 2006 of approximately $0.7 million. These expenses are primarily related to store rents and delivery costs.

Our administrative expenses for the three months ended March 31, 2007 were approximately $0.6 million, an increase of approximately $0.2 million compared to the three months ended March 31, 2006 of approximately $0.4 million. These expenses are primarily related to management and professional fees. Our management costs are directly related to supporting a public company; legal fees related to our recent acquisition; and the preparation of our Form SB-2 to raise approximately $7.5 million.

Net Results of Operations

Our operating loss is approximately $1.4 million for the three months ended March 31, 2007 and approximately $0.7 million for the three months ended March 31, 2006.

Other income (expense)

Interest expense for the three months ended March 31, 2007 was approximately $0.8 million compared to approximately $0.4 million for the three months ended March 31, 2006. This is related to the amortization of debt discounts against convertible notes payable issued in December 2006 of approximately $0.3 million and financing fees of approximately $0.3 million.

Net Results

 We are reporting a net loss of approximately $2.2 million or $0.13 per common share for the three months ended March 31, 2007 compared to a net loss of approximately $1.2 million or $0.12 per common share for the three months ended March 31, 2006. This includes legal, audit, consulting and administrative expenses directly related towards capitalization of the Company.

Results of Operations for the Six Months Ended March 31, 2007 and 2006

Revenues

Net sales were approximately $3.6 million for the six months ended March 31, 2007 an increase of approximately $0.7 million compared to the six months ended March 31, 2006 of approximately $2.9 million. This reflects a 23% increase in revenues. The increase consisted of approximately $0.3 million from existing operations and approximately $0.4 million from our recent acquisition.

Cost of Sales

Our cost of sales is approximately $1.9 million for the six months ended March 31, 2007 an increase of approximately $0.3 million compared to the six months ended March 31, 2006 of approximately $1.6 million. Cost of sales as a percentage to revenues is 51% and 55% for the six months ended March 31, 2007 and 2006, respectively. Our cost of sales consists of supplies, labor and facilities to process laundry and dry cleaning products.

Gross Profit

Gross profit increased approximately $0.5 million to approximately $1.8 million for the six months ended March 31, 2007 compared to the six months ended March 31, 2006 of approximately $1.3 million. Gross profit as a percentage of revenue increased 4% or 49% and 45% for the six months ended March 31, 2007 and 2006, respectively.

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Operating Expenses

Operating expenses for the six months ended March 31, 2007 are approximately $46 million, an increase of approximately $1.7 million compared to the six months ended March 31, 2006 of approximately $2.9 million.

Our delivery, store and selling expenses for the six months ended March 31, 2007 were approximately $1.5 million compared to the six months ended March 31, 2006 of approximately $1.3 million. These expenses are primarily related to store rents and delivery costs.

Our administrative expenses for the six months ended March 31, 2007 were approximately $1.3 million, an increase of approximately $0.5 million compared to the six months ended March 31, 2006 of approximately $0.8 million. These expenses are primarily related to management and professional fees. Our management costs are directly related to supporting a public company; legal fees related to our recent acquisition; and the preparation of our Form SB-2 to raise approximately $7.5 million.

Net Results of Operations

Our operating loss is approximately $3.8 million for the six months ended March 31, 2007 and approximately $2.6 million for the six months ended March 31, 2006.

Other income (expense)

Interest expense for the six months ended March 31, 2007 was approximately $0.9 million compared to approximately $1 million for the six months ended March 31, 2006. This is related to a decrease in amortization of debt discounts against convertible notes payable issued during the six months ended March 31, 2007 of approximately $0.3 million; and during the six months ended March 31, 2006 of approximately $0.7 million; and offset by financing fees of approximately $0.3 million.

Net Results

 We are reporting a net loss of approximately $3.8 million or $0.22 per common share for the six months ended March 31, 2007 compared to a net loss of approximately $2.6 million or $0.28 per common share for the six months ended March 31, 2006. This includes legal, audit, consulting and administrative expenses directly related towards capitalization of the Company.

Liquidity and Capital Resources

Total assets increased by approximately $0.8 million from $10.2 million as of March 31, 2006 to $11 million as of March 31, 2007. The increase is primarily due to an increase in goodwill of approximately $2.5 million related to our recent acquisition; property and equipment of approximately $0.5 million; offset by a decrease in cash of approximately $1.7 million; and other assets of approximately $0.5 million.

Total liabilities decreased by approximately $2.9 million from approximately $9.2 million as of March 31, 2006 to approximately $6.3 million as of March 31, 2007. This is primarily due to a decrease in notes payable of approximately $4 million; offset by an increase in trade accounts payable and accrued liability obligations of approximately $0.9 million.

Our operating activities used approximately $1.7 million in cash during the six months ended March 31, 2007. Our net loss of approximately $3.8 million was the primary component of our negative operating cash flow. This net loss was offset by a number of non-cash items totalling approximately $1.1 million. These include depreciation, amortization, bad debt expense and the issuance of stock for compensation and services and debt discount amortization in addition to the growth in payables and receivables of approximately $1 million. Operating activities used approximately $1.1 million in cash during the six months ended March 31, 2006. Our net loss of approximately $2.1 million was the primary component of our negative operating cash flow. This net loss was offset by a number of non-cash items totalling approximately $0.4 million; and other current assets of approximately $0.8 million; offset by the growth in receivables of approximately $0.2 million.

Page 5

Cash used in investing activities during the six months ended March 31, 2007 consisted of approximately $0.9 million used for the purchase of property and equipment; acquisition projects in process and the cash of acquired company as compared to approximately $0.3 million for the six months ended March 31, 2006 for the purchase of property and equipment.

Cash flows from financing activities were approximately $1.4 million for the six months ended March 31, 2007 which primarily consisted of approximately $1.8 million in net proceeds from the issuance of convertible debentures; offset by repayments on notes payable, capital leases and prepaid financing costs of approximately $0.6 million.

We have a working capital deficit of approximately $3.4 million as of March 31, 2007. To meet our current working capital requirements, we raised approximately $2 million in private funds through convertible debt in December 2006. We are also in the process of issuing a public offering for approximately $7.5 million. However, there can be no assurances that any debt and/or equity financing transactions now under consideration will be successful at acceptable terms.

Going Concern Considerations

The condensed consolidated financial statements included elsewhere herein have been prepared assuming the Company will continue as a going concern, which contemplates, among other things, the realization of assets and satisfaction of liabilities in the ordinary course of business. For the six months ended March 31, 2007, we had a net loss of approximately $3.8 million and negative cash flow from operating activities of approximately $1.7 million. At March 31, 2007, the Company had an accumulated deficit of approximately $13.3 million, working capital deficit of approximately $3.4 million and has suffered significant net losses since inception.

The Company will be required to seek additional funds to finance its long-term operations. The successful outcome of future activities cannot be determined at this time, and there is no assurance that, if achieved, the Company will have sufficient funds to execute its intended business plan or generate positive operating results.

Since inception, the Company has yet to generate any profits from operations. Accordingly, the Company has met its capital requirements primarily through the private sale of its convertible secured promissory notes payable and secured convertible debentures. The Company has raised approximately $12.5 million in net cash proceeds through such private sales. In May 2006, the majority of the holders of approximately $7.9 million senior-secured convertible notes payable elected to convert into the Company’s common stock. It is anticipated that the holders of the recently raised $2 million will also convert their convertible debentures to equity upon maturity.

The Company’s capital requirements depend on numerous factors, including the rate of market acceptance of the Company’s services, the Company’s ability to service its customers, the Company’s ability to maintain and expand its customer base, the level of resources required to expand the Company’s marketing and sales organization, and other factors. We are currently revising our business plan for funding our long-term operations to include potential acquisitions which would allow us to maximize our current processing facility capacities, thereby increasing our potential profitability. The Company intends to fund operations through debt and/or equity financing transactions and facilitate such fund raising efforts by registering shares of its common stock with the SEC as a public company. However, such financing transactions may not be sufficient to fund its planned acquisitions, capital expenditures, working capital, and other cash requirements for the fiscal year ending September 30, 2007.

Page 6

As more fully explained elsewhere herein, the Company’s management presently believes that cash generated from operations (if any), combined with the Company’s current cash positions and debt and/or equity financing proposals now under consideration will be sufficient to meet the Company’s anticipated liquidity requirements through September 2007. However, there can be no assurances that any debt and/or equity financing transactions now under consideration will be successful at acceptable terms.

Off Balance Sheet Arrangements

We are not a party to any off-balance sheet arrangements, do not engage in trading activities involving non-exchange traded contracts, and are not a party to any transaction with persons or entities that derive benefits, except as disclosed herein, from their non-independent relationships with us.

Inflation

We believe that inflation generally causes an increase in sales prices with an offsetting unfavorable effect on the cost of products and services sold and other operating expenses. Accordingly, with the possible exception of the impact on interest rates, we believe that inflation will have no significant effect on our results of operations or financial condition.

Critical Accounting Policies

To prepare the financial statements in conformity with accounting principles generally accepted in the United States of America, management is required to make significant estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. In particular, we provide for estimates regarding the collectability of accounts receivable, the recoverability of long-lived assets, as well as our deferred tax asset valuation allowance. On an ongoing basis, we evaluate our estimates based on historical experience and various other assumptions that we believe to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities. Future financial results could differ materially from current financial results.

Long-Lived Assets

We assess the impairment of long-lived assets, including goodwill, annually or whenever events or changes in circumstances indicate the carrying amount of an asset may not be recoverable. Recoverability of assets to be held for use is based on expectations of future undiscounted cash flows from the related operations, and when circumstances dictate, we adjust the asset to the extent that the carrying value exceeds the estimated fair value of the asset. Our judgments related to the expected useful lives of long-lived assets and our ability to realize undiscounted cash flows in excess of the carrying amounts of such assets are affected by factors such as the ongoing maintenance and improvements of the assets, changes in economic conditions, and changes in operating performance. As we assess the ongoing expected cash flows and carrying amounts of our long-lived assets, these factors could cause us to realize a material impairment charge, which would result in decreased net income (or increased net loss) and reduce the carrying value of these assets.

Goodwill and Intangible Assets

Statement of Financial Accounting standard (“SFAS”) No. 142,"Goodwill and Other Intangible Assets", which is effective for fiscal years beginning after December 15, 2001, addresses how intangible assets that are acquired individually or with a group of other assets should be accounted for upon their acquisition and after they have been initially recognized in the financial statements. SFAS No. 142 requires that goodwill and identifiable intangible assets that have indefinite lives not be amortized but rather be tested at least annually for impairment, and intangible assets that have finite useful lives be amortized over their estimated useful lives.

SFAS No. 142 provides specific guidance for testing goodwill and intangible assets that will not be amortized for impairment. In addition, SFAS No. 142 expands the disclosure requirements about intangible assets in the years subsequent to their acquisition. Impairment losses for goodwill and indefinite-life intangible assets that arise due to the initial application of SFAS No. 142 are to be reported as a change in accounting principle.

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Revenue Recognition

We recognize revenue in accordance with SEC Staff Accounting Bulletin No 104, “Revenue Recognition” (“SAB 104”). SAB 104 requires that four basic criteria be met before revenue can be recognized: (1) persuasive evidence that an arrangement exists; (2) delivery has occurred; (3) the selling price is fixed or determinable; and (4) collectability is reasonably assured. The Company recognizes revenue on retail laundry and dry cleaning services when the services are deemed to have been provided. For “walk-in and pickup-and-delivery” type retail customers, the order is deemed to have been completed when the work-order ticket is created and the sale and related account receivable are recorded. For commercial customers, the sale is not recorded until the Company delivers the cleaned garments to the commercial customer. Generally, the Company delivers the cleaned garments to commercial customers the same day they are dropped off (same-day service).

Returns and Allowances

We experience claims for items damaged during processing, adjustments in resolution of customer disputes, and promotional discounts, all of which are recorded as incurred. Such charges average about one percent of gross revenue. Sales are reported in the accompanying financial statements net of “Returns and Allowances”, which are reflected as a reduction of gross sales.

Accounts Receivable

We perform ongoing credit evaluations of our customers and adjust credit limits based on payment history and the customers’ current buying habits. We monitor collections and payments from our customers and maintain a provision for estimated credit losses based on specific customer collection issues that have been identified.

Deferred Tax Assets

Deferred tax assets are recorded net of a valuation allowance. The valuation allowance reduces the carrying amount of deferred tax assets to an amount the Company’s management believes is more likely than not realizable. In making the determination, projections of taxable income (if any), past operating results, and tax planning strategies are considered.

Purchase Price Allocations for Acquisitions

The allocation of the purchase price for acquisitions requires extensive use of accounting estimates and judgments to allocate the purchase price to the identifiable tangible and intangible assets acquired and liabilities assumed based upon their respective estimated fair values. We reached our conclusions regarding the estimated fair values assigned to such assets based upon the following factors:

Customer Relationship Assets

The Company has contractual relationships with several hotels to service the laundry needs of their guests. These contracts constitute roughly one-half of the total business. Our valuation is based on a discounted cash flow (“DCF”) analysis of the cash flows attributable to the contracts that were in force. Revenue from these contracts were projected out for eighteen months and incorporating straight-line attrition during that period. We applied the industry operating margin to projected revenues and tax-affected the requisite return to arrive at a debt-free net cash flow attributable to the customer relationship contracts. The cash flows were then discounted to present to arrive at a total present value with a useful life based on the average contract term.

Non-contractual customer relationships were valued pursuant to the guidance of EITF bulletin 02-17. Annual attrition in the Company’s base is generally low. Accordingly, our valuation is based on a ten year forecast horizon of revenues from these relationships. All operating expenses have been allocated based on revenue and operating income and tax-affected to arrive at debt-free net cash flow attributable to these relationships. The cash flows were then discounted to present to arrive at a present value with a useful life of ten years based on the reciprocal of the attrition rate.

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Trade Name/Trademarks

Our valuation of the Trade Name/Trademarks is based on a derivative of the DCF method that estimated the present value of a hypothetical royalty stream. The royalty rate was derived by examining the royalties paid for dry cleaning franchises as well as the industry operating margin of sales. The royalty rate was applied to the appropriate revenue base to arrive at the periodic royalty due. The royalty was then reduced for the cost of administering and enforcing agreement and then reduced by income taxes to arrive at after-tax net royalties. The after-tax net royalties were discounted to present cost of equity, thereby yielding a value on Trade Name/Trademarks with a useful life of ten years.

We believe the estimated fair values assigned to the assets acquired and liabilities assumed are based on reasonable assumptions. As part of that analysis, we also must determine whether an acquired entity is considered to be a “business” or a “set of net assets” because only if a business is acquired can any of the purchase prices be allocated to goodwill. We determined that the Steam Press and CVR acquisitions were acquisitions of businesses. See Note 6 to the Company’s consolidated financial statements included elsewhere herein for additional information.

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Item 3:Controls and Procedures

We carried out an evaluation of the effectiveness of the design and operation of our disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) as of March 31, 2007. This evaluation was carried out under the supervision and with the participation of the Company’s management, including the Company’s Chief Executive Officer and Chief Financial Officer. Based upon that evaluation, our Chief Executive Officer and Chief Financial Officer concluded that, as of March 31, 2007, our disclosure controls and procedures are not effective.

The Company plans on remediating the material weaknesses by implementation of new financial reporting systems throughout its operations; adoption of uniform internal controls; and the addition of management personnel to monitor daily organizational activities which will ensure that information is being gathered, reviewed and disclosed at all levels of the Company and reported timely in various reports filed or submitted under the Exchange Act.

Disclosure controls and procedures are designed to ensure that information required to be disclosed in our reports filed or submitted under the Exchange Act are recorded, processed, summarized and reported, within the time periods specified in the SEC’s rules and forms. Disclosure controls and procedures include, without limitation, controls and procedures designed to ensure that information required to be disclosed in our reports filed under the Exchange Act is accumulated and communicated to management, including our Chief Executive Officer and Chief Financial Officer, to allow timely decisions regarding required disclosure.

Limitations on the Effectiveness of Internal Controls

Our management does not expect that our disclosure controls and procedures or our internal control over financial reporting will necessarily prevent all fraud and material error. An internal 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. Further, the design of a control system must reflect the fact that there are resource constraints, and the benefits of controls must be considered 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. These inherent limitations include the realities that judgments in decision-making can be faulty, and that breakdowns can occur because of simple error or mistake. Additionally, controls can be circumvented by the individual acts of some persons, by collusion of two or more people, or by management override of the internal control. The design of any system of internal control also 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. Over time, internal control may become inadequate because of changes in conditions, or the degree of compliance with the policies or procedures may deteriorate.

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PART II - OTHER INFORMATION

Item 1:Legal Proceedings

From time to time, the Company may be involved in various claims, lawsuits, or disputes with third-parties incidental to the normal operations of the business. The Company is not currently involved in any such litigation. Furthermore, the Company is not aware of any proceeding that a governmental authority is contemplating.

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

During the three months ended March 31, 2007 the Company, pursuant to the terms of the Series A Convertible Debentures as disclosed in Note 3 above, issued 141,661 shares of restricted common stock (see Note 3) with and estimated fair market value of $303,626.  The transaction described in this paragraph constituted an exempt offering under Section 4(2) of (the "Securities Act").

During the three months ended March 31, 2007 the Company pursuant to an agreement of merger as disclosed in Note 8 above, issued 780,000 shares of restricted common stock with and estimated fair market value of $1.85 per share (see Note 8).  The transaction described in this paragraph constituted an exempt offering under Section 4(2) of (the "Securities Act").

Item 3:Defaults upon Senior Securities

None

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

None

Item 5:Other Information

None

Item 6:Exhibits

Exhibit No.	Description
Exhibit 10.1	Secured Promissory Note between Riaz Chauthani, an individual and U.S. Dry Cleaning Corporation dated February 20, 2007.
Exhibit 31.1	Certification of Chief Executive Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
Exhibit 31.2	Certification of Chief Financial Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
Exhibit 32.1	Certification of Chief Executive Officer pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
Exhibit 32.2	Certification of Chief Financial Officer pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.

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SIGNATURES

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

	U.S. DRY CLEANING CORPORATION
Date: May 15, 2007	By: /S/ ROBERT Y. LEE
	Robert Y. Lee Chief Executive Officer
	By: /S/ HADDON LIBBY
	Haddon Libby Chief Financial Officer

EXHIBIT INDEX

Exhibit 10.1	Secured Promissory Note between Riaz Chauthani, an individual and U.S. Dry Cleaning Corporation dated February 20, 2007.
Exhibit 31.1	Certification of Chief Executive Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
Exhibit 31.2	Certification of Chief Financial Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
Exhibit 32.1	Certification of Chief Executive Officer pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
Exhibit 32.2	Certification of Chief Financial Officer pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.