CHALONE WINE GROUP LTD - 10-K Annual Report

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SECURITIES & EXCHANGE COMMISSION
Washington, D.C. 20549

FORM 10-K
(Mark One)

(X) ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934

For the Fiscal Year Ended December 31, 1996

OR

( ) TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934

Commission File Number 0-13406

The CHALONE Wine Group, Ltd.
(Exact name of registrant as specified in its charter)

California 94-1696731
(State or other jurisdiction (I.R.S. Employer
of incorporation or organization) Identification Number)

621 Airpark Road
Napa, CA 94558
(Address of principal executive offices) (Zip Code)

(707) 254-4200
(Registrant's telephone number including area code)

Securities registered pursuant to Section 12(b) of the Act:
None

Securities registered pursuant to Section 12(g) of the Act:
No par value common stock

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 reports), and (2) has been subject to such filing
requirements for the past 90 days.

Yes X No
--- ---

Indicate by check mark if disclosure of delinquent filers pursuant to Item 405
of Regulation S-K (17 CFR ss.229.405) is not contained herein, and will not be
contained, to the best of registrant's knowledge, in definitive proxy or
information statements incorporated by reference in Part III of this Form 10-K
or any amendment to this Form 10-K [ ].

As of March 4, 1997, there were 2,867,020 shares of the Company's voting no par
value common stock, with an aggregate market value of $32,970,730 held by
non-affiliates. (For purposes of this required presentation, the registrant has
deemed its directors, executive officers, Domaines Barons de Rothschild (Lafite)
and Hook Fiancial Inc. to be affiliates, and has deducted the outstanding shares
held by them collectively from the total of 7,648,675 shares issued and
outstanding.)

Documents Incorporated By Reference
Portions of the definitive Proxy Statement for the Annual Meeting of
Shareholders of The Chalone Wine Group, Ltd. to be filed within 120 days after
the end of registrant's fiscal year ended December 31, 1996 (the "Proxy
Statement") are incorporated by reference into Part III of this report.

PART I

Item 1. Business.

a. General Development of Business.

The Chalone Wine Group, Ltd. was incorporated under the laws of the State
of California on June 27, 1969. Unless otherwise indicated the term "Company",
as used in this report, refers to The Chalone Wine Group, Ltd. and its
consolidated subsidiaries. It became a publicly held reporting company as the
result of an initial public offering in May of 1984. The Company is, to its
knowledge, one of only three publicly held U.S. corporations whose sole activity
is in the production, marketing and selling of premium-priced wines in the $10
per bottle and up categories.

The Company produces, markets and sells premium white and red varietal
table wines, primarily Chardonnay, Pinot Noir, Cabernet Sauvignon and Sauvignon
Blanc. The Company operates five wineries: four located in different counties of
California and one located in eastern Washington State. The Company's California
wines are made principally from grapes grown at its Chalone Vineyard and
Carmenet Vineyard facilities (see "Significant Event," below), at vineyards
owned by the Company's partner in the Edna Valley Vineyard Joint Venture (see
"Property--Edna Valley Vineyard," below), and, for the Company's Acacia Winery
facility (see "Property--Acacia Vineyard," below), from grapes principally grown
at two Company-owned vineyards adjacent to the winery, the Marina Vineyard which
is managed and one-half owned by the Company and at neighboring independent
vineyards. The wines of the Washington State winery are made from grapes grown
at a nearby vineyard, (see "Property -- Canoe Ridge Vineyard"). The Company's
wines are sold primarily in the premium-priced segment of the table wine market
under the labels "Chalone Vineyard," "Edna Valley Vineyard," "Carmenet,"
"Acacia" and "Canoe Ridge Vineyard."

In addition and as a result of an investment in the Company by Domaines
Barons de Rothschild (Lafite) ("DBR"), the Company receives an allocation of the
wines of DBR, including the wines of Chateau Lafite-Rothschild and Chateau
Duhart-Milon ("Duhart-Milon"), for sale primarily to the Company's shareholders.

Significant Event

As previously disclosed, on July 31, 1996, a wildfire damaged approximately
75% of the producing acreage at the Company's Carmenet Vineyard, located in
Sonoma, California. Carmenet's winery structures and barrel inventory were
untouched by the blaze and no people were injured. The damaged acreage was
planted to Cabernet Sauvignon, Merlot and Cabernet Franc grapes used for Estate
Bottled wines produced under the Carmenet label. Prior to the fire, Carmenet
produced approximately 38,000 cases of wine annually (of which a significant
proportion was Estate Bottled). Carmenet's 1996 grape harvest was reduced
roughly in proportion to the damage to the vineyard's overall producing acreage
caused by the blaze. The Company is currently evaluating whether the grapes
harvested from the unburned acreage sustained smoke-damage that would prevent
their use in the production of Carmenet wines.

The Company has cleared the damaged vines and expects to replant
approximately 75% of the damaged acreage in 1997, with the remainder being
replanted over the next two years. Historically, newly planted vines will begin
to produce production-quality grapes in approximately three years, though vines
typically take approximately seven years to return to the full production levels
that pre-dated the fire. Until the damaged acreage returns to full production,
Carmenet's ability to make Estate Bottled wines will be limited. In order to
supplement Carmenet's harvest, the Company will attempt to buy suitable grapes
on the open market; however, there can be no assurance that grapes of suitable
quality or variety will be available, in sufficient quantity or on terms
acceptable to the Company.

Preliminary investigation indicates that the fire was caused by the
electrical lines of Pacific Gas & Electric Company ("PG&E"). In public
statements, PG&E has acknowledged (1) that its own preliminary investigation
indicates PG&E's responsibility for the fire and (2) that PG&E is responsible
for the resulting damages. In January, 1997, PG&E made an advance to the Company
of $425,000 for costs related to the fire; however, when making the advance,
PG&E admitted no liability and has reserved all rights with respect to the
advance. The Company identified certain inventory and vineyard assets that were
destroyed by the fire and has reclassified these costs to Other Receivable as of
December 31, 1996. The Company's discussions with PG&E are on-going. The Company
believes that it will be reimbursed for losses resulting from the fire, and as a
result does not expect that the fire damage will have a material adverse effect
on the Company's financial position or operating results.

b. Financial Information about Industry Segments.

Although the Company operates five different wineries, and also distributes
certain French, Chilean, Portuguese and Mexican wines and small quantities of
domestic wines of other producers in the United States, the marketing and sales
of all of the wines are handled on a consolidated basis, in all of the Company's
distribution channels. Hence, all of the Company's business is considered to be
within a single industry segment.
2.

c. Narrative Description of Business.

Overview

The Company owns, either wholly or in partnership with others, six
wineries, five of which have related vineyards, in the United States and France.
The specific ownership is as follows:

Property Ownership Form of Ownership Location
-------- --------- ----------------- --------

Chalone Vineyard 100.0% Chalone Wine Group, Ltd. Soledad, California
Carmenet Winery 100.0% Chalone Wine Group, Ltd. Sonoma, California
Acacia Winery 100.0% Chalone Wine Group, Ltd. Napa, California
Marina Vineyard (Acacia) 50.0% Partnership Napa, California
Edna Valley Vineyard 50.0% Partnership San Luis Obispo, California
Canoe Ridge Vineyard 50.5% Limited liability company Walla Walla, Washington
(effective January 1, 1996)
Chateau Duhart-Milon 23.5% Partnership Pauillac, France

With the exception of Chateau Duhart-Milon ("Duhart-Milon"), the Company
manages and operates all of the above properties and consolidates the results of
their operations. The Company accounts for its investment in Duhart-Milon using
the equity method of accounting.

Each of the five domestic wineries is in a separate "viticultural area."
Viticultural areas are designations granted by the Federal Bureau of Alcohol,
Tobacco and Firearms to identify grape-growing areas distinguishable by their
specific and definable geographic and climatic characteristics. Wineries may
indicate a viticultural area on a bottle label only if 85% or more of the grapes
used to produce the wine were grown in that viticultural area.

All of the Company's wines are vintage-dated and the majority of its
primary label wines are Estate Bottled. A vintage-dated wine is one produced
wholly from grapes which were harvested, crushed and fermented in the calendar
year shown on the label. The Estate Bottled designation may be applied only to
wines made exclusively by one winery from grapes grown on land owned or
controlled by the winery, all within a single viticultural area.

The Company markets its wines through specialty wine shops and grocery
stores, fine restaurants, hotels and private clubs in 50 states, the District of
Columbia, Puerto Rico, Bermuda and other islands in the Caribbean, Canada,
England, continental Europe, Hong Kong and Japan; directly from its wineries;
and through direct mail order sales in California and other states where legally
permitted. In addition, the Company sells custom branded wines where the brand
is owned by the purchaser.

By growing and purchasing its grapes and producing its wines at five
separate locations, the Company lessens the potential impact of any interruption
or disruption of wine production at any one facility.

A detailed description of the Company's properties and the operations at
each is set forth at Item 2, Properties.

Vineyard Practices

The Company believes that the soils and climates of the vineyards from
which it obtains its grapes are particularly suitable for the particular
varieties of grapes grown at each of them. Like most mountain vineyards, Chalone
Vineyard and Carmenet Vineyard typically produce lower yields of grapes than
valley vineyards. The yield of grapes per acre from the vineyards in the cool
Carneros District of the Napa Valley, from which the Acacia wines are made, tend
to be higher than at Chalone Vineyard and Carmenet Vineyard, but are still
significantly lower than average for California. The Canoe Ridge Vineyard is
being managed for a lower than average yield for Washington State.

The Company believes that relatively low yields tend to enhance the
varietal character of the grapes and improve the quality of the resulting wines.
Chalone Vineyard and Carmenet Vineyard are farmed, pruned and drip-irrigated so
as to produce a lower yield of grapes than the maximum which could be obtained.
Similarly, the yields from the vineyards providing grapes to the Edna Valley,
Acacia and Canoe Ridge wineries are maintained at lower levels than is typical
of many other similarly situated vineyards.

Agricultural Risks; Phylloxera

Winemaking and grape growing are subject to a variety of agricultural
risks. Various diseases, pests, drought, frosts and certain other weather
conditions can materially and adversely affect the quality and quantity of
grapes available to the Company, thereby materially and adversely affecting the
supply of the Company's products and its profitability.

Many vineyards, particularly those in Northern California, have been
infested with phylloxera, a root louse that renders a vine unproductive within a
few years following infestation. The current strain of phylloxera primarily
affects vines of a certain type. The Company's vineyard properties are primarily
planted to different rootstocks believed to be resistant to phylloxera.

3.

However, there can be no assurance that the Company's existing vineyards or the
rootstocks the Company is now using in its planting and replanting programs will
not in the future become susceptible to current or new strains of phylloxera,
plant insects or diseases, any of which could adversely affect the Company.

Winemaking Practices

The winemaking practices used by the Company are derived primarily from the
traditional methods of France, adapted to the particular requirements of
California. The Company believes that these methods, requiring a substantial
amount of hand labor, produce the best wines. At the Chalone Vineyard and Edna
Valley Vineyard facilities. The Company follows the traditional winemaking
practices of the Cote d'Or in the Burgundy region of France. The wines are made
from single grape varieties, principally Pinot Noir and Chardonnay. The
winemaking practices at Acacia Winery, although differing in some degree from
those at Chalone Vineyard and Edna Valley Vineyard, also follow Burgundian
winemaking practices and produce wines from single grape varieties. At Carmenet
Vineyard, the Company follows the practices of the Medoc and Graves districts in
the Bordeaux region of France, whose wines are generally made from a blend of
varieties. The red wine made by Carmenet is a blend of Cabernet Sauvignon and
varying amounts of Merlot and Cabernet Franc, and the Carmenet white wine is a
blend of Sauvignon Blanc and Semillon. The wines produced at the Canoe Ridge
Vineyard facility are Merlot, Cabernet Sauvignon and Chardonnay. The Canoe Ridge
Merlot is a blend of 85% Merlot and 15% Cabernet Sauvignon, principally
utilizing state of the art techniques with the goal of producing the finest
Washington State wines.

Each of the Company's wineries is directed and managed by its own
winemaker. Each of the wineries is designated as a separate profit center, each
with its own General Manager, who is in most instances the winemaker. All five
wineries, including Canoe Ridge Vineyard, operate under the overall supervision
of the Company's Vice President, Production.

The Company imports approximately 70% of its oak barrels from Burgundy and
Bordeaux, with the remainder produced in the United States. The wine bottles
used by the Company are made to the Company's specifications in the United
States and France and are closed with the finest quality imported corks, branded
with the particular winery's name.

The Company operates on the principle that winemaking is a natural process
best managed with a minimum of intervention, but requiring the attention and
dedication of the winemaker. The Company uses modern laboratory equipment and
techniques to monitor the progress of each wine through all stages of the
winemaking process.

Wine Production and Wines

The following table sets forth the wine production of the Company, for
calendar years 1996, 1995 and 1994:

VINTAGE YEAR
------------------------------------------------------------------------------
1996 1995 1994
----------------------- ----------------------- -----------------------
Equivalent Equivalent Equivalent
Number of % of Number of % of Number of % of
Cases Total Cases Total Cases Total
------------- -------- ------------ -------- ------------- --------

Chardonnay............. 151,900 62% 126,500 59% 138,000 68%
Sauvignon Blanc........ 7,200 3% 6,000 3% 6,600 3%
Pinot Blanc............ 5,900 2% 7,600 4% 7,100 3%
Other white wines...... 2,700 1% 3,200 1% 2,500 1%
------------- -------- ------------ -------- ------------- --------
Total white wines.. 167,700 68% 143,300 67% 154,200 75%
------------- -------- ------------ -------- ------------- --------
Pinot Noir............. 35,100 14% 27,300 13% 23,000 11%
Cabernet Sauvignon..... 26,300 11% 25,500 12% 21,200 10%
Merlot................. 14,700 6% 13,200 6% 7,400 3%
Other red wines........ 1,400 1% 4,400 2% 1,100 1%
------------- -------- ------------ -------- ------------- --------
Total red wines.... 77,500 32% 70,400 33% 52,700 25%
============= ======== ============ ======== ============= ========
Total production.. 245,200 100% 213,700 100% 206,900 100%
============= ======== ============ ======== ============= ========

The Company's wines are fermented and aged primarily in new and used
barrels before they are bottled. White wines are aged for between six and nine
months and red wines for between nine and eighteen months after harvest. The
wine is then bottled and stored for further aging. White wines are released
between three months and two years after bottling, while red wines are released
between one to three years after bottling.

Although the Company's wines are ready to be consumed when sold, it
generally takes from one to two years, or longer, for the wine to develop fully.
The Company usually recommends that its white wines be cellared by the

4.

purchaser for between one to five years and its red wines for between two to ten
years, depending on the vintage and variety.

The Company bottles its wines primarily under the "Chalone Vineyard," "Edna
Valley Vineyard," "Carmenet," "Acacia" and "Canoe Ridge Vineyard" labels.

The "Chalone Vineyard" label is known primarily for Chardonnay, Pinot Blanc
and Pinot Noir. The Company has sold Chalone Vineyard Chardonnay , Pinot Blanc
and Pinot Noir since 1970. In addition, the Company bottles small quantities of
Chenin Blanc under the Chalone Vineyard label. All wines sold under this label
are produced from grapes grown by the Company at the Chalone Vineyard facility
or under the Company's control at adjacent vineyards, and are Estate Bottled.

The Company produces Chardonnay and Pinot Noir wines under the "Edna Valley
Vineyard" label. The Company's first release of wines under the Edna Valley
Vineyard label was approximately 359 cases of 1979 vintage Chardonnay, released
in 1980. The majority of wines sold under the Edna Valley Vineyard label are
produced from grapes grown by Paragon Vineyard Co., Inc. ("Paragon"), the
Company's partner in the Edna Valley Vineyard Joint Venture, and are Estate
Bottled.

The Company produces Chardonnay and Pinot Noir wines under the "Acacia"
label. Most of the grapes for the production of the Pinot Noir and approximately
two-thirds of the grapes for the Chardonnay are acquired at competitive prices
from various vineyards in the Napa Valley, in most cases pursuant to grape
purchase contracts. The remaining Chardonnay and Pinot Noir grapes are grown on
the 42 acre Marina Vineyard, a vineyard that surrounds the winery facility, and
on the vineyard adjacent to the winery facility which the Company purchased in
1996.

The Company produces and markets Bordeaux-style "Meritage" red and white
wines under the "Carmenet" label. The Carmenet red wine is made from Cabernet
Sauvignon, Merlot and Cabernet Franc grapes grown at the Carmenet Vineyard
facility, is Estate Bottled and bears the "Sonoma Valley" viticultural area
designation. Additionally, the Company produces a red wine under the "Carmenet
Dynamite" label, which is made from Cabernet Sauvignon grapes and bulk wine
purchased from various vineyards in the North Coast area of California. The
Carmenet white wine is made from Sauvignon Blanc and Semillon grapes purchased
from Paragon under a grape purchase agreement and bears the "Edna Valley"
designation.

The Canoe Ridge Vineyard, which commenced operations in 1994, produces
Merlot, Cabernet Sauvignon and Chardonnay wines under the "Canoe Ridge Vineyard"
label. The grapes for these wines are grown at the Company's vineyard in Benton
County, Washington. The wines produced at this facility will, at least for the
near future, bear the "Columbia Valley" viticultural area designation.

In addition to its primary label wines, the Company bottles Chardonnay,
Cabernet Sauvignon and Pinot Noir under various custom brands.

Imported Wines

As a result of the Company's investment in Duhart-Milon of the Pauillac
region of Bordeaux, the Company receives an allocation of the wines of
Duhart-Milon for sale both in the wholesale market and to the Company's
shareholders. Additionally and as a result of investments by DBR in the Chalone
Wine Group, which commenced in 1989, the Company receives an allocation of the
wines of DBR, including the wines of Chateau Lafite-Rothschild and Chateau
L'Evangile of the Pauillac and Pomerol regions of Bordeaux, respectively, and of
Chateau Rieussec of the Sauternes region of Bordeaux, for sale primarily to the
Company's shareholders. DBR also produces a Pauillac wine exclusively for the
Company.

Other Domestic Wines

The Company markets the wines of Woodward Canyon, located in Washington
State's Columbia Valley, and also markets the Rhone Valley style wines of Jade
Mountain, located in the Napa Valley.

Marketing and Distribution

The Company's five wineries, coupled with the wines of Duhart-Milon, are
positioned in the higher end of the premium category (wines selling over $3 per
bottle at retail.) The table below presents the price positioning of its labels
across those categories:

5.

{The following descriptive data is suppplied in accordance with Rule 304(d) of
Regulation S-T}

Average Retail Price
Winery Per Bottle Price Range Per Bottle Pricing By Premium Segments(1)
------ --------------------- ---------------------- ------------------------------

Acacia $16.00 $10.00 to $40.00 Super to SuperUltra
Canoe Ridge Vineyard $15.00 $13.00 to $18.00 Super to Ultra
Carmenet $18.00 $14.00 to $35.00 Super to SuperUltra
Chalone Vineyard $22.00 $15.00 to $45.00 Ultra to SuperUltra
Edna Valley Vineyard $15.00 $15.00 to $23.00 Ultra to SuperUltra
Chateau Duhart-Milon $26.00 $25.00 to $40.00 SuperUltra

- ---------------
(1) Super-ultrapremium is a segment not generally used by the trade, but which
the Company recognizes.

SuperUltra $20+
Ultra $14-$20
Super $7-$14
Popular $3-$7

The Company's wines are marketed through specialty wine shops and grocery
stores, selected restaurants, hotels and private clubs across the country and in
certain overseas markets; through mailing list sales within California and
elsewhere as legally permitted; and, in limited quantities, directly from its
wineries. The Company does limited advertising, relying also on word-of-mouth
recommendations, wine tastings, articles in various publications and promotional
activities by the Company to increase public awareness of its wines.

The Company sells its wines through direct sales, independent distributors,
brokers and its mailing list. These various channels are employed as follows:

Sales Outside California

Sales of the Company's wines outside California, in other states and in the
international market, are handled by carefully selected independent
distributors. In 1993, the Company established a sales and marketing division,
operating as Chalone Wine Estates, headed by the Company's Vice President,
Sales, to supervise and coordinate this major component of the Company's
business, as well as the Company's increasingly important custom brands
operations under which the Company produces wines under the purchaser's brand.
Additionally, the Company employs a number of regional sales managers who work
directly with the distributors in the particular region and their customers.

The Company's wines are marketed, outside of California, in 49 states, the
District of Columbia, Puerto Rico, and, internationally, in Bermuda and other
Caribbean islands, Canada, England, continental Europe, Hong Kong and Japan.

Sales Within California

Sales of the Company's wines within California are made both through the
Company's own sales force and through a wholesale marketer, which acts in the
capacity of a broker.

The Company offers its reserve wines, older wines and other special wines
to its shareholders, currently numbering in excess of 11,000, as well as to
other consumers, directly from its centralized distribution center by phone or
mail order. The Company sends two major offerings to all mail-order customers
each year and frequent additional catalogs exclusively to and for our
shareholders. The Company confines direct mail shipments to purchasers with
addresses in California and a handful of other states which have reciprocal
cross-sale arrangements with the State of California, because of legal
restrictions on direct retail sales in other states. Additionally, the Company
typically provides two or three travel programs a year for shareholders to
various wine-growing regions of the world. In the past, the Company has provided
travel programs to France, Chile, Australia, Portugal, South Africa, Italy and
most recently to New Zealand.

Shareholders of the Company are afforded certain additional benefits over
those provided to mail-order customers at large. Certain wines of limited
production are offered only to shareholders. Beneficial owners of 100 shares or
more of the Company's common stock are entitled to a 20%-30% discount from
retail prices on all mail-order or

6.

other direct purchases from the Company. The Company has also provided annual
discounts to shareholders based on their shareholdings in the form of a "Wine
Dividend Credit" which allows shareholders owning 100 or more shares to receive
a credit towards the purchase of wines during the duration of the program. The
Wine Dividend Credit may be used for up to 50% of the wine value of an order and
is generally offered in the fall of each year. In 1996, the credit amount was
$.11 per share.

Case Sales by Method of Distribution

The following table sets forth case sales by the Company by distribution method for calendar years 1996,
1995 and 1994.

1996 1995 1994
---------------------- ---------------------- ----------------------
Equivalent Equivalent Equivalent
Number of % of Number of % of Number of % of
Cases Total Cases Total Cases Total
------------ -------- ------------- -------- ------------ -------

Independent distributors
United States.................. 121,403 41% 108,831 40% 82,519 39%
International.................. 12,574 4% 8,457 3% 6,057 3%
------------ -------- ------------- -------- ------------ -------
Total distributors......... 133,977 45% 117,288 43% 88,576 42%
------------ -------- ------------- -------- ------------ -------
Company direct
California wholesale........... 85,378 29% 70,330 26% 75,078 35%
Custom brands.................. 52,233 17% 63,442 24% 29,604 14%
Catalog and winery retail...... 27,454 9% 19,247 7% 19,562 9%
------------ -------- ------------- -------- ------------ -------
Total Company direct....... 165,065 55% 153,019 57% 124,244 58%
============ ======== ============= ======== ============ =======
Total............................... 299,042 100% 270,307 100% 212,820 100%
============ ======== ============= ======== ============ =======

Centralized Administration and Warehousing

The five wineries operated by the Company are all supported by a central
executive office which coordinates financial planning, administration,
distribution and marketing. In February of 1993, the Company entered into a
contract for the construction and long-term lease of a new building, of
approximately 71,500 square feet, located in the Napa Airport Business Park,
Napa County, California, to house both the Company's executive offices and a
centralized distribution center from which all of the Company's wines are staged
prior to being shipped into local markets. The Company utilizes a portion of the
warehouse space for the storage of third-party wines. The lease has a 15-year
term expiring November 2008, with a five-year extension option. Additionally,
the Company utilizes warehouse facilities as needed in local markets.

Competition

The wine industry is highly competitive. In a broad sense, wines may be
considered to compete with all beverages, including non-alcoholic beverages.
However, the Company believes that its primary competitors consist of
approximately 160 wineries in California, as well as a number of wineries in
Washington and Oregon, which produce wines in the premium-priced segment of the
table wine market. The Company's wines, including the wines of DBR and others
distributed by the Company, also compete with imported wines, particularly those
from the Burgundy and Bordeaux regions of France and, to a lesser extent, those
of Italy, Chile and Australia.

The Company believes that the principal competitive factors in its wine
industry segment are label recognition, product quality and price. The Company
believes it generally competes favorably with respect to these factors. As
production from all of its wineries continues to increase (with the exception of
Carmenet), however, the Company's future sales may be adversely affected by the
competition described above and by competition from new market entrants.

Employees

On December 31, 1996, the Company had 93 full-time employees, 40 of whom
were involved in grape growing and winemaking and 53 of whom were in sales and
administration. During the spring and summer, the Company adds approximately 11
to 16 part-time employees for vineyard care and maintenance and 70 to 90
part-time employees for the spring bottling. In the autumn, up to 50 additional
part-time employees are hired for the grape harvest and another 15 for winery
work.

None of the employees of the Company, its subsidiary or of either of the
joint ventures are represented by a union. The Company believes that its and the
joint ventures' wage rates and benefits are competitive with those of other
companies in the industry and that its and the joint ventures' relations with
their respective employees are excellent.

7.

Regulation; Permits and Licenses

The production and sale of wine are subject to extensive regulation by
various federal and state regulatory agencies, and the Company is required to
maintain various permits, bonds and licenses to comply with the regulations of
such agencies.

In addition to the required winery permits and licenses, the Company holds
federal importer's and wholesaler's permits and California importer's, beer and
wine wholesale, and beer and wine retail (off-sale) licenses. Under these
permits and licenses, the Company is authorized to import wines into the United
States from foreign countries, to import wines into California from other
states, and to warehouse and sell wines other than those of its own production.
The Canoe Ridge Vineyard subsidiary holds its own winery permit and license.

The Company's wines are subject to a federal excise tax, payable at the
time of shipment to customers. This tax, which had for many years been $0.17 per
gallon, was increased, effective January 1, 1991, to a maximum of $1.07 per
gallon. In addition, all states in which the Company's products are sold impose
varying excise taxes on alcoholic beverages.

The Company believes it is in compliance with all currently applicable
federal and state regulations.

Trademarks

CHALONE VINEYARD, CARMENET, and the ACACIA "A" plus DESIGN are federally
registered trademarks owned by the Company. EDNA VALLEY VINEYARD is a federally
registered trademark owned by Paragon and licensed exclusively to the Edna
Valley Vineyard Joint Venture. In December of 1994 the Company received a
Certificate of Registration for the CANOE RIDGE mark, and in January of 1995
filed an assignment of that federal registration to the Washington State
subsidiary. The Company's principal marks are also registered in Japan, with the
Japanese Patent Office. These trademarks are of significant importance to the
Company's business as label and brand recognition are important means of
competition within the wine industry.

Seasonality

See "Management's Discussion and Analysis of Financial Condition and
Results of Operations" below for a discussion of the seasonal nature of the
Company's business.

8.

Item 2. Properties.

The Company's principal winemaking activities are conducted at five
locations, four in California and one in eastern Washington. The following table
shows the producing acreage, by grape variety, at the various vineyards owned,
in whole or in part, by the Company:

At December 31, 1996
--------------------
Producing Developing Unplanted Total
----------------------------------------------------------

Chalone Vineyard:
Chardonnay 104 -- -- 104
Pinot Noir 39 7 -- 46
Pinot Blanc 32 -- -- 32
Chenin Blanc 7 -- -- 7
Mourvedre 2 -- -- 2
Unplanted -- -- 394 394
----------------------------------------------------------
184 7 394 585
----------------------------------------------------------
Carmenet Vineyard:
Cabernet Sauvignon, Merlot, Cabernet Franc 27 38 -- 65
Unplanted -- -- 15 15
----------------------------------------------------------
27 38 15 80
----------------------------------------------------------
Acacia Winery (including leasehold interest):
Chardonnay 41 -- -- 41
Pinot Noir 15 45 -- 60
Unplanted -- -- 4 4
----------------------------------------------------------
56 45 4 105
----------------------------------------------------------
Canoe Ridge Vineyard (including minority interest):
Cabernet Sauvignon 32 -- -- 32
Merlot 39 -- -- 39
Chardonnay 30 -- -- 30
Unplanted -- -- 81 81
----------------------------------------------------------
101 81 182
==========================================================
Total Acreage 368 90 494 952
==========================================================

Chalone Vineyard

Chalone Vineyard is located on approximately 800 acres in Monterey,
California, approximately 1,500 feet above the floor of the Salinas Valley, in a
viticultural area called "Chalone." The soil is composed of volcanic rock over a
bed of limestone, and is similar to the soil found in the Burgundy region of
France. The elevation of the vineyard provides natural protection against frost.
The area surrounding the vineyard has an average annual rainfall of 14 inches.
The Company's water needs are supplemented by a reservoir and a well, which the
Company believes will supply sufficient water for the vineyard's current and
future needs, using a drip irrigation system.

Chalone Vineyard was established in the early 1920s and is the oldest
commercial vineyard in Monterey County. The Company has produced premium wines
from the vineyard since 1969, when it acquired the vineyard from a director of
the Company, Richard H. Graff.

The winery's property includes a tasting room, dining facilities for
private parties and approximately 8,500 square feet of caves for barrel storage.
The winery's current production capacity is 50,000 cases.

The Company produces primarily Chardonnay and Pinot Noir at this facility
and markets these wines under the "Chalone Vineyard" and "Gavilan" labels.

Carmenet Vineyard

Carmenet Vineyard consists of approximately 300 acres in Sonoma County,
California, located in the "Sonoma Valley" viticultural area. On July 31, 1996,
a fire at the vineyard damaged approximately 75% of its producing acres. These
acres were planted to Cabernet Sauvignon, Merlot and Cabernet Franc. The Company
is currently replanting these acres with essentially the same varieties (see
"Significant Event," above).

The vineyard is situated in the Mayacamas Mountains just north of the town
of Sonoma, at an elevation of about 1,200 feet. The grapevines are grown on
steep hillsides in rocky, well-drained soil. The average rainfall is 30 inches.
The Company's water needs are supplemented by two wells, which the Company
believes will supply sufficient water for the vineyard's current and future
needs, using a drip irrigation system. As at Chalone Vineyard, the elevation of
Carmenet Vineyard provides natural protection against frost.

9.

The winery contains, in addition to the production area, a reception area,
dining facilities for customers and guests, and 15,000 square feet of barrel
caves. The barrel caves are bored into a solid rock hillside adjacent to the
fermentation building and provide the proper environment for aging wine in
barrels without artificial temperature control. The winery has an annual
production capacity of approximately 38,000 cases.

The Company principally produces Bordeaux-style red and white wines at this
winery and markets these wines under the "Carmenet" label.

Edna Valley Vineyard

Edna Valley Vineyard (the "Joint Venture") operates a winery in San Luis
Obispo County, California, located in the "Edna Valley" viticultural area. The
Joint Venture is 50% owned by the Company and 50% owned by Paragon, subject to
an agreement between the Company and Paragon entered into in December 1996 (the
"Edna Valley Agreement"). Pursuant to the terms of the Edna Valley Agreement,
the Company is obligated to make certain substantial future payments in order to
maintain its 50% ownership interest in the Joint Venture and to make the term of
the Joint Venture perpetual.

The Company, as managing joint venturer, manages and supervises the winery
operations, and sells and distributes the wine. The winery, located at the site
of the Paragon Vineyards, is owned by the Joint Venture. The Joint Venture
leases the property on which the winery sits under a ground lease from Paragon.
The lease was amended as of December 1996 to include additional land necessary
for the expansion of the winery.

Under the terms of a grape purchase agreement, which was amended and
restated on January 1, 1997, Paragon sells fixed quantities of Chardonnay grapes
to the Joint Venture, at prices calculated by reference to the average prices
paid for Chardonnay grapes in Napa County during the preceding year, as reported
by the California Department of Agriculture, with adjustments depending on the
sugar content of the grapes supplied.

The Edna Valley Vineyard winery is currently being expanded from
approximately 24,000 square feet in size to over 32,000 square feet, including
12,000 square feet of underground cellars for wine fermentation and aging in
barrels. This will increase the annual production capacity from approximately
60,000 cases to over 80,000 cases. Included in the expanded facility will be a
tasting room and dining facilities for private parties.

The wines produced at this facility are principally Chardonnay and Pinot
Noir, which are marketed under the "Edna Valley Vineyard" label.

Acacia Winery

The Acacia Winery, and its related vineyards, are located in Napa County,
California, in both the "Carneros" and the "Napa Valley" viticultural areas. The
Company owns the winery building and the winemaking equipment associated with
the winery. The land on which the winery is located (the "Winery Parcel") and a
41 acre parcel of producing vineyard surrounding the winery complex (the "Marina
Vineyard") are owned pursuant to a tenancy in common agreement: one half is
owned by the Company and the remaining half is owned by Mr. and Mrs. Henry
Wright (the "Wrights"). The Company leases the Wright's half -interest in the
Winery Parcel and the Marina Vineyard pursuant to two long-term leases, which
commenced retroactively as of January 1, 1988, and expire on December 31, 2017,
subject to certain exceptions. The annual rent for the Marina Vineyard was
$82,500 in 1988, subject to an annual 5% increase through 1997. Thereafter, the
annual rent is to be determined according to a formula based on premium quality
Carneros District Chardonnay prices.

Pursuant to the terms of the tenancy in common agreement, the Wrights have
the ability at any time after January 1, 1998 to offer their half-interest in
the Winery Parcel and the Marina Vineyard to the Company, and, if the Company
declines the offer, to list the entire property for sale to a third party.

The Marina Vineyard is planted entirely to Chardonnay grapes. The majority
of the vines were planted in the mid-1970s, although significant replanting on
new root stock was undertaken in the early 1980s. The vineyard is not frost
protected, but to date has not experienced any significant losses due to frost
damage. The vineyard is irrigated from a 22-acre-foot reservoir located on the
property. The grapevines are grown on low rolling hills in well-drained
clay-loam soil. The average annual rainfall is 22 inches.

In 1996, the Company purchased two vineyards contiguous to the Marina
Vineyard for $1,850,000. These vineyards are planted to Pinot Noir, with fifteen
acres producing and 45 acres under development. These vineyards have their own
reservoir, which the Company believes has sufficient capacity to meet the
vineyards' present and future irrigation needs.

The winery has a production capacity of approximately 50,000 cases. The
winery has a tasting room and dining facilities.

The wines produced at the winery are principally Chardonnay and Pinot Noir,
which are marketed under the "Acacia" and "Caviste" labels.

10.

Canoe Ridge Vineyard Properties

The Canoe Ridge Vineyard is located in Benton County, in eastern Washington
State. The vineyard consists of approximately 275 acres, approximately 100 acres
of which are now planted, in roughly equal proportions of Chardonnay, Merlot and
Cabernet Sauvignon grapes. The vineyard is located in the "Columbia Valley"
viticultural area, at an altitude of approximately 800 feet, on the eastern
slope of the Canoe Ridge, overlooking the Columbia River. Although temperatures
during the winter months can fall below freezing, the vineyard's altitude and
easterly exposure, coupled with appropriate viticultural practices, reduce the
potential for freeze damage. The grapevines are grown in well-drained sandy-loam
soil. The vineyard is irrigated with water from the Columbia River under an
agreement with an adjoining farm and has an average annual rainfall of 6 inches.
The vineyard is owned by Canoe Ridge Vineyard L.L.C., a limited liability
company in which the Company holds a 50.5 % interest ("CRV L.L.C."). The Company
holds 25% of CRV L.L.C. directly, and 25.5% indirectly, through a 51% owned
subsidiary of the Company, which in turn holds a 50% interest in CRV L.L.C..

The winery associated with the vineyard is located in downtown Walla Walla,
Washington, in a recently renovated historic building, which originally served
as the engine house for the Walla Walla Valley Railroad. CRV L.L.C. leases the
winery building pursuant to a five-year lease agreement, which commenced in July
of 1994 and is subject to renewal for 2 five-year terms. The monthly rent is
$1,600 on a triple net basis for the first five-year term, subject to adjustment
upon renewal of the lease. An additional 900 square foot building, serving as an
office and tasting room, was constructed in 1996. CRV L.L.C shared the costs of
construction equally with the landlord. The rent will be adjusted during the
first renewal period to reflect the cost of this addition. The winery has an
annual production capacity of approximately 27,000 cases. The winery produces
primarily Chardonnay and Merlot, as well as small amounts of Cabernet Sauvignon.

Duhart-Milon

Duhart-Milon is a wine producing property located in town of Pauillac, in
the Medoc region of Bordeaux in France, in which the Company holds a 23.5%
interest. The remaining 76.5% interest is owned by DBR. The property consists of
approximately 166 acres of producing vineyards, contiguous to the vineyards of
Chateau Lafite-Rothschild, and winemaking facilities located in Pauillac. In
1855, the French Government classified the top 62 wine-producing estates in the
Medoc region, choosing from over 400 such estates. These top 62 estates were
classified into five "growths," based on their perceived quality. "First growth"
was considered the best. Under this classification system, Duhart-Milon is rated
a "fourth growth" estate. The average annual production in recent years has been
approximately 35,000 cases. The wine is sold under the "Chateau Duhart-Milon"
and "Moulin de Duhart" labels.

Item 3. Legal Proceedings.

There are no material legal proceedings pending to which the Company or
either of the Joint Ventures is a party nor to which any property of any of them
is subject, nor with the exception of the situation with PG&E concerning the
Carmenet fire, does the Company's management know of any such action being
contemplated.

11.

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

No matter was submitted to a vote of security holders of the Company during
the period covered by the Report.

Executive Officers of the Registrant

The following persons were executive officers of the Company as of
March 15, 1997.

Name Position(s) Age
---- ----------- ---

W. Philip Woodward President, Chief Executive 57
Officer, and Director

William L. Hamilton Executive Vice President, Chief 52
Financial Officer, Secretary,
and Director

Larry M. Brooks Vice President, Production, and 46
Managing Director, Acacia Winery

Robert B. Farver Vice President, Sales 40

b. Business Experience of Executive Officers

W. Philip Woodward. Mr. Woodward joined the Company as Vice President
and Chief Financial Officer in 1972 and in December of 1974 became its President
and Chief Executive Officer. He continued as Chief Financial Officer until
October of 1983. He has overall responsibility for all aspects of the Company's
operations. He is a director of Domaines Barons de Rothschild (Lafite) ("DBR"),
a director of the Northern Trust Company of California, director of Hog Island
Oyster Company, Inc., and President and a director of the Marin Theatre Company.
He has been a director of the Company since October of 1972.

William L. Hamilton. Mr. Hamilton joined the Company as Chief Financial
and Administrative Officer in September of 1985. In November of 1986 his title
was changed to Vice President, Finance and Administration, and he was also
appointed Assistant Secretary. In February of 1996 he was appointed Secretary.
In September of 1990, he was appointed Executive Vice President of the Company.
He is a trustee of the Marin Community Foundation. He has been a director of the
Company since April of 1986.

Larry M. Brooks. Mr. Brooks joined the Company in 1986 as Winemaker of
Acacia Winery following the acquisition of Acacia Winery in 1986, where he had
been the Winemaker since Acacia's founding in 1979. In 1992 his title was
changed to Managing Director and Winemaker of Acacia Winery. In 1993 his title
was changed to include Vice President, Production.

Robert B. Farver. Mr. Farver joined the Company in 1990 as the Regional
Sales Manager for the Northeast United States. In 1994 his title was changed to
Director of National Sales and Marketing. In February of 1996 his title was
changed to Vice President, Sales.

12.

PART II

Item 5. Market for Registrant's Common Equity and Related Shareholder Matters.

The Company's common stock has been traded in the over-the-counter market
since the Company's initial public offering on May 18, 1984, and is listed in
the NASDAQ National Market System, under the symbol "CHLN." The following table
sets forth the high and low closing quotations for the stock for each quarter
during the past two years, as reported by NASDAQ. The prices reflect
inter-dealer quotations without retail mark-ups, mark-downs or commissions, and
do not necessarily represent actual transactions.

Period High Low
------ ---- ---
1996
First quarter........................ 10.50 9.00
Second quarter....................... 11.13 8.88
Third quarter........................ 10.00 8.00
Fourth quarter....................... 12.00 9.25
1995
First quarter........................ 8.00 5.75
Second quarter....................... 7.88 6.63
Third quarter........................ 7.75 6.50
Fourth quarter....................... 9.38 6.25

On March 4, 1997, the closing price for the common stock was $11.50 per
share. During 1996, the average weekly trading volume of the stock was
approximately 18,000 shares.

b. Holders of Record.

As of March 4, 1997, there were approximately 5,238 holders of record of
the Company's common stock.

c. Dividends.

The Company has not paid any cash dividends and does not anticipate
declaring or paying cash dividends in the immediate future.

Under the Company's loan agreements with its bank, the Company may not,
without the bank's consent, pay dividends while indebtedness under the
agreements remains outstanding. Under the terms of the Company's convertible
subordinated debentures, the Company is restricted from paying dividends in
excess of 50% of its aggregate net income.

13.

Item 6. Selected Financial Data.

The following selected consolidated financial data for the years ended
December 31, 1996, 1995, 1994, 1993, and 1992, are derived from the audited
financial statements of the Company. This data should be read in conjunction
with the financial statements and notes thereto included at Item 8 of this
Report.

SELECTED FINANCIAL DATA
(in thousands except per-share data)

Year Ended December 31,
------------------------------------------------------------------
1996 1995 1994 1993 1992
---- ---- ---- ---- ----

Statement of Operations Data:
Net revenues......................... $ 31,044 $ 25,032 $ 20,515 $ 17,824 $ 16,792
Gross profit......................... 12,375 8,792 7,504 6,395 6,309
Selling, general and administrative
expenses....................... 6,283 5,374 4,633 4,432 4,610
Operating income..................... 6,093 3,418 2,871 1,963 1,699
Other expense........................ (1,817) (2,681) (2,561) (2,482) (2,494)
Equity in net income of Duhart-Milon 304 74 -- -- --
Minority interest.................... (621) (357) (188) (372) (269)
Net earnings (loss).................. 2,339 207 20 (691) (741)
Earnings (loss) per common share..... .29 .04 .00 (.16) (.19)

Balance Sheet Data:
Working capital...................... 23,428 22,072 17,136 15,291 11,606
Total assets......................... 80,179 72,569 72,225 72,078 70,413
Long-term obligations................ 17,761 13,477 26,425 27,387 30,418
Shareholders' equity................. 43,246 41,382 24,199 22,699 17,030

Item 7. Management's Discussion and Analysis of Financial Condition and Results
of Operations.

Introduction

The following discussion and analysis should be read in conjunction with
the Company's Consolidated Financial Statements and related notes presented at
Item 8 of this report and in conjunction with the Selected Financial Data
presented under the preceding Item 6. Additionally, this discussion and other
information provided from time to time by the Company contain historical
information as well as forward-looking statements about the Company, the premium
wine industry and general business and economic conditions. Such forward-looking
statements include, for example, projections or predictions about the Company's
future growth, consumer demand for its wines, margin trends and the Company's
anticipated future investment in vineyards and other capital projects. Actual
results may differ materially from the Company's present expectations. Among
other things, reduced consumer spending or a change in consumer preferences
could reduce demand for the Company's wines. Similarly, competition from
numerous domestic and foreign wine producers could affect the Company's ability
to sustain volume and revenue growth. Interest rates and other business and
economic conditions could increase significantly the cost and risks of projected
capital spending. For these and other reasons, no forward-looking statement by
the Company can nor should be taken as a guarantee of what will happen in the
future.

14.

Results of Operations

The following table sets forth the certain financial data as a percentage
of total wine sales for the years indicated:

1996 1995 1994 1993 1992
---- ---- ---- ---- ----

Revenues......................................... 100% 100% 100% 100% 100%
Gross profit..................................... 40% 35% 37% 36% 38%
Selling, general and administrative
expenses.................................... 20% 21% 23% 25% 27%
Operating income................................. 20% 14% 14% 11% 10%
Other expense.................................... (6%) (11%) (12%) (14%) (14%)
Equity in net income of Duhart-Milon 1% 0% -- -- --
Minority interest................................ (2%) (1%) (1%) (2%) (2%)
Net earnings (loss).............................. 8% 1% 0% (4%) (4%)

Wine Sales

Sales for the year ended December 31, 1996, increased by 24% over the
comparable period in 1995. This increase was due to both unit and price
increases at all five wineries and in the imported wines distributed by the
Company. The custom brands program accounted for 17% of sales, a decrease from
24% for the comparable period in 1995. With a normal 1996 harvest management
believes the custom brands program will show modest growth in the future.

Sales for the year ended December 31, 1995, increased by 22% over the
comparable period in 1994, representing the twelfth consecutive year of
increased sales. This increase was due to unit increases at all five of the
Company's properties as well as from wines imported and distributed by the
Company. As in 1994, sales outside of California showed the most robust
activity, with California sales again remaining essentially flat. The Company's
custom brands program also contributed to the increase in sales in 1995 with an
increase of over 114% over the comparable period in 1994. This program accounted
for 24% of the Company's unit sales and 12% of its revenues in 1995.

Sales in the California market for 1996, 1995 and 1994, respectively, were
approximately 39%, 38%, and 45% of total wholesale sales (excluding custom
brands) , and no other single market accounted for more than 10% of total sales
in these years. Management believes that unit sales in California will remain
relatively flat in the near future and that increased unit sales in markets
outside of California will be required for continued revenue growth.

During 1996 many of the Company's wines were in limited supply, resulting
in wines being allocated to customers. The Company expects many of its wines
will remain on allocation during 1997.

Gross Profit

Gross profit for the year ended December 31, 1996, was $12,375,182 as
compared to $8,791,929 in 1995. Gross profit as a percent of sales for the year
increased to 40% in 1996 from 35% in the comparable period in 1995. The increase
in gross profit during 1996 reflects an 11% increase in unit sales from 1995, as
well as price increases across all brands and a shift in the product mix of
wines sold to higher margin wines.

Gross profit was $8,791,929 for the year ended December 31, 1995, increased
from $7,503,799 in 1994. This increase of 17% was due to the increased sales
activity discussed above. Gross profit as a percent of sales for the
twelve-month period ended December 31, 1995, declined to 35% from 37% in the
comparable period in 1994. This decrease is attributable to the change of
product mix to lower margin wines, most notably the custom brands program
discussed above.

Selling, General and Administrative Expenses

Selling, general and administrative expenses for the year ended December
31, 1996, increased approximately 17% from 1995. This increase was largely due
to increased selling and marketing costs associated with increased unit sales.
Selling, general and administrative expenses as a percentage of sales for the
year ended December 31, 1996, declined to 20% from 21% for the comparable period
in 1995, due to expenses increasing at a slower rate than sales during that
period.

Selling, general and administrative expenses for the year ended December
31, 1995, increased approximately 16% from 1994. This increase was largely
attributable to increases in sales and marketing expenses and employee
compensation associated with increased sales levels. Selling, general and
administrative expenses decreased as a percentage of sales for the year ended
December 31, 1995, due to expenses increasing at a slower rate than sales during
that period.

15.

Operating Income

Operating income for the year ended December 31, 1996, increased 78% over
1995. This increase was due to higher sales, increased gross margins, and lower
selling, general and administrative expenses as a percentage of sales, all
discussed above.

Operating income for the year ended December 31, 1995, increased 19% over
1994. This increase was due to higher gross profits and lower selling, general
and administrative expenses, as a percentage of sales, both discussed above.

Other Income (Expense)

Interest expense for the year ended December 31, 1996, decreased to
$1,834,546, a decrease of 34% from 1995. This was made possible by the
conversion of $12,384,000 of convertible debentures to equity in the last
quarter of 1995, and the reduction of short-term borrowings resulting from
$4,500,000 in new equity received at the end of 1995.

Interest expense for the year ended December 31, 1995, remained essentially
unchanged at $2,778,748 from 1994. Interest on higher short-term borrowings
during the first nine months of 1995 was offset by the reduction in both
short-term and long-term borrowing in the fourth quarter of 1995, made possible
by the addition of $4,500,000 in new equity and the conversion of $12,384,000 of
convertible debentures to equity at the end of October, 1995 (see Liquidity and
Capital Resources, below.)

Equity in Net Income of Duhart-Milon

Effective October 1, 1995, the Company exchanged its 11.3% ownership
interest in DBR for a 23.5% interest in Societe Civile Chateau Duhart-Milon. The
effect of this transaction was to convert an 11.3% interest in DBR, accounted
for using the cost method, into an interest in an active, operating vineyard and
winery operation, accounted for using the equity method of accounting. The
Company's 23.5% equity interest in Duhart-Milon's net income for 1996 was
$303,968, compared to $74,109 for the three months of ownership during 1995.

Minority Interest

The Company currently has two ventures in which there are minority
interests. The "minority interest" (the portion of the venture's total earnings
attributable to minority owners) in earnings (losses) of these ventures for the
three years ended December 31, 1996, consisted of the following:

Twelve Months Ended December 31,
--------------------------------------------
Venture Minority Owner Minority % 1996 1995 1994
------- -------------- ---------- ---- ---- ----

Edna Valley Vineyard Paragon Vineyard Co., Inc. 50.0% $ 526,929 $ 332,654 $ 219,321
Canoe Ridge Vineyard, Various 49.5% 94,055 18,766 100
LLC (CRV)
CanoeCo Partners CRVI 50.0% -- 5,687 (31,495)
------------- ------------- --------------
$ 620,984 $ 357,107 $ 187,725
============= ============= ==============

The minority interest in earnings for Edna Valley Vineyard during 1996
represents an increase of 58% from 1995, and was due to higher gross margin and
lower operating expenses. Effective January 1, 1996, CanoeCo and Canoe Ridge
Winery (CRW) merged into one new company, Canoe Ridge Vineyard, LLC ("CRV"), of
which the Company owns 50.5%. The minority interest in earnings for Canoe Ridge
Vineyard during 1996 represent an increase of 285%, primarily a result of 1996
being the first full year of wine sales for Canoe Ridge Vineyard.

The minority interest in earnings for Edna Valley Vineyard during 1995
represents an increase of 52% from 1994, and was due to higher unit sales and
the resulting higher profits for the period. The minority interest earnings at
CanoeCo result from the 1995 harvest being the first with average vineyard
yields levels. CRW had its first complete year of operation in 1995, but had
only limited amounts of wine to sell, resulting in a small profit.

The Company believes that Edna Valley Vineyard and Canoe Ridge Vineyard
will continue to contribute significantly to its income, and hence that this
minority interest will continue to increase in the future.

Net Earnings

Net earnings for the year ended December 31, 1996, were $2,339,237 compared
to $206,607 in 1995 and $20,184 in 1994. 1996 results reflect increased unit
sales at higher gross margins, lower interest expense and lower selling, general
and administrative expenses as a percentage of sales, all discussed above.

Seasonality

The Company's wine sales from quarter to quarter are highly variable
because of, among other things, the timing of the release of wines for sale and
changes in consumer demand. Sales are typically highest during the fourth
quarter because of heavy holiday

16.

sales and because most wines are released around the end of the third and
beginning of the fourth quarters.

Liquidity and Capital Resources

The Company's cash and cash equivalents totaled $207,177 at December 31,
1996, up from $31,959 at December 31, 1995. The Company also has bank lines of
credit in the aggregate amount of $16,300,000 currently available, of which
$6,494,083 was outstanding at December 31, 1996. These lines are secured by
substantially all of the Company's inventory and accounts receivable, bears
interest at LIBOR plus 1.8%, and mature in June, 1997, at which time Management
expects to renew the lines for one year.

Working capital was $23,428,287 at December 31, 1996, up 6% from
$22,072,399 at December 31, 1995. The Company's inventory, which is accounted
for on a "first-in, first-out" basis, increased approximately 5% to $28,827,670
at December 31, 1996. Borrowings on the bank lines of credit decreased by
$3,744,000 at 1996 year end when compared to 1995, which decrease was offset by
an increase of $3,684,415 in accounts payable and accrued expenses and an
increase in provision for income taxes of $1,238,387. Working capital at
December 31, 1996, also includes accounts, notes and other receivables totaling
$8,577,115, up from $7,652,717 in 1995.

Wine sales have historically provided sufficient revenues to sustain the
Company's on going operational requirements except during grape harvesting, when
the Company has relied on short-term borrowings to finance grape purchases and
the increased seasonal payroll. Major capital projects such as the expansion of
facilities or acquisition of vineyards have been funded with debt and equity
issues and bank borrowings. During 1996, the Company invested approximately
$4,600,000 for the expansion of the facilities at Edna Valley Vineyard, and the
vineyard at Acacia and Chalone Vineyard all of which was funded with long-term
borrowings.

Future capital commitments include vineyard development plans at Acacia and
Canoe Ridge Vineyard, and completion of the winery expansion at Edna Valley
Vineyard and replanting of the vineyard at Carmenet. Management believes these
projects will be funded with additional bank borrowings and proceeds from the
future exercise of outstanding warrants which expire in 1998 and 2000, and from
the expected settlement with PG&E.

17.

Item 8. Financial Statements and Supplementary Data.

THE CHALONE WINE GROUP, LTD.

INDEX TO FINANCIAL STATEMENTS
Page
----
CONSOLIDATED FINANCIAL STATEMENTS
Consolidated Balance Sheets.................................... 19
Consolidated Statements of Operations.......................... 20
Consolidated Statements of Changes in Shareholders' Equity..... 21
Consolidated Statements of Cash Flows.......................... 22
Notes to Consolidated Financial Statements..................... 23

INDEPENDENT AUDITORS' REPORT.............................................. 35

18.

THE CHALONE WINE GROUP, LTD.

CONSOLIDATED BALANCE SHEETS

ASSETS

December 31,
--------------------------------------
1996 1995
------------------ -----------------

Current assets
Cash ................................................................ $ 207,177 $ 31,959
Accounts receivable, less allowance for doubtful accounts of $70,550
and $25,550...................................................... 7,003,253 7,076,630
Notes receivable..................................................... 1,154,472 576,087
Other receivables.................................................... 419,390 --
Note receivable from officer......................................... -- 99,996
Inventories.......................................................... 28,827,670 27,499,273
Prepaid expenses..................................................... 229,091 199,210
Deferred income taxes................................................ 104,156 166,699
---------------- ----------------
Total current assets............................................. 37,945,209 35,649,854
Investment in Chateau Duhart-Milon........................................ 11,613,728 12,058,636
Notes receivable, long-term portion....................................... 491,907 500,000
Property, plant and equipment, net........................................ 24,119,591 19,864,865
Goodwill and trademarks................................................... 5,492,313 3,148,235
Other assets.............................................................. 515,850 1,346,946
---------------- ----------------
Total assets................................................ $ 80,178,598 $ 72,568,536
================ ================

LIABILITIES AND SHAREHOLDERS' EQUITY

Current liabilities
Bank lines of credit.................................................. $ 6,494,083 $ 10,238,869
Current maturities of long-term obligations........................... 535,441 773,990
Income tax payable.................................................... 1,360,329 121,942
Accounts payable and accrued liabilities.............................. 6,127,069 2,442,654
---------------- ----------------
Total current liabilities......................................... 14,516,922 13,577,455
Long-term obligations - less current maturities............................ 9,260,569 5,010,644
Convertible subordinated debentures........................................ 8,500,000 8,500,000
Deferred income taxes...................................................... 1,209,431 1,073,186
Minority interest.......................................................... 3,445,746 3,024,764
Commitments and contingencies
Shareholders' equity
Common stock - authorized 15,000,000 shares,
no par value; issued and outstanding,
7,626,150 and 7,596,398 shares................................... 41,673,622 41,557,018
Retained earnings (Deficit)........................................... 2,272,751 (66,486)
Cumulative foreign currency translation adjustment.................... (700,443) (108,045)
---------------- ----------------
Total shareholders' equity........................................ 43,245,930 41,382,487
---------------- ----------------
Total liabilities and shareholders' equity.................. $ 80,178,598 $ 72,568,536
================ ================

The accompanying notes are an integral part of these statements.

19.

THE CHALONE WINE GROUP, LTD.

CONSOLIDATED STATEMENTS OF OPERATIONS

Year ended December 31,
---------------------------------------------
1996 1995 1994
------------ ------------ ------------

Gross revenues ............................. $ 31,909,339 $ 25,810,269 $ 21,132,053
Less excise taxes ..................... 865,133 778,615 616,708
------------ ------------ ------------
Net revenues ............................... 31,044,206 25,031,654 20,515,345

Cost of sales .............................. 18,669,024 16,239,725 13,011,546
------------ ------------ ------------

Gross profit ...................... 12,375,182 8,791,929 7,503,799

Selling, general and administrative expenses 6,282,503 5,373,954 4,633,499
------------ ------------ ------------

Operating income .................. 6,092,679 3,417,975 2,870,300

Other income (expense):
Interest (net of amounts capitalized) . (1,843,546) (2,778,748) (2,752,781)
Other, net ............................ 25,982 98,006 191,579
------------ ------------ ------------
(1,817,564) (2,680,742) (2,561,202)
Equity in net income of Chateau Duhart-Milon 303,968 74,109 --
Minority interest .......................... (620,984) (357,107) (187,725)
------------ ------------ ------------

Earnings before income taxes ...... 3,958,099 454,235 121,373

Income taxes ............................... 1,618,862 247,628 101,189
------------ ------------ ------------

Net earnings ...................... $ 2,339,237 $ 206,607 $ 20,184
============ ============ ============

Net earnings per common share .............. $ .29 $ .04 $ .00
============ ============ ============

Average number of shares used in
earnings per share computation ....... 8,168,627 5,299,766 4,826,094
============ ============ ============

The accompanying notes are an integral part of these statements.

20.

THE CHALONE WINE GROUP, LTD.

CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS' EQUITY

Years ended December 31, 1996, 1995 and 1994

Common Stock
---------------------------- Retained Foreign
Number of Earnings Currency
Shares Amount (Deficit) Translation Total
------------ ------------ ------------ ------------ ------------

Balance, December 31, 1993 .... 4,600,956 $ 22,991,666 $ (293,277) -- $ 22,698,389
Sale of common stock - net . 360,004 1,480,536 1,480,536
Net earnings ............... 20,184 20,184
------------ ------------ ------------ ------------ ------------
Balance, December 31, 1994 .... 4,960,960 24,472,202 (273,093) -- 24,199,109
Sale of common stock - net . 838,579 4,532,070 4,532,070
Conversion of convertible
debentures ............. 1,769,143 12,384,000 12,384,000

Options exercised .......... 27,716 168,746 168,746
Foreign currency translation
adjustment ............. (108,045) (108,045)
Net earnings ............... 206,607 206,607
------------ ------------ ------------ ------------ ------------
Balance, December 31, 1995 .... 7,596,398 41,557,018 (66,486) (108,045) 41,382,487
Sale of common stock ....... 8,998 21,387 21,387
Options exercised(1) ....... 18,715 76,880 76,880
Profit Sharing ............. 2,039 18,337 18,337
Foreign currency translation
adjustment ............. (592,398) (592,398)
Net earnings ............... 2,339,237 2,339,237
------------ ------------ ------------ ------------ ------------
Balance, December 31, 1996 .... 7,626,150 $ 41,673,622 $ 2,272,751 $ (700,443) $ 43,245,930
============ ============ ============ ============ ============

The accompanying notes are an integral part of these statements.

- -----------------
(1) Includes net of 16,588 previously acquired shares surrendered for payment.

21.

THE CHALONE WINE GROUP, LTD.

CONSOLIDATED STATEMENTS OF CASH FLOWS

Year ended December 31,
---------------------------------------------------
1996 1995 1994
--------------- -------------- ---------------

Cash flows from operating activities:
Net earnings.................................................. $ 2,339,237 $ 206,607 $ 20,184
Non-cash transactions included in earnings:
Depreciation................................................ 2,872,644 2,718,269 2,405,270
Amortization................................................ 121,139 147,036 146,178
Equity in net income of Chateau Duhart-Milon................ (303,968) (74,109) --
Minority interest........................................... 620,982 357,107 187,725
Loss (gain) from disposal of equipment...................... 86,162 (14,909) 40,439
Change in:
Deferred income taxes................................... 198,788 46,592 100,389
Accounts and other receivables (net).................... 73,376 (2,135,991) (455,314)
Inventories............................................. (1,328,397) 1,922,764 (1,236,195)
Prepaid expenses and other assets....................... (235,720) 103,104 (13,498)
Other receivables....................................... (419,390) -- --
Accounts payable and accrued liabilities................ 3,494,519 (148,248) (300,875)
--------------- -------------- ---------------
Net cash provided (used) in operating activities...... 7,519,372 3,128,222 894,303
--------------- -------------- ---------------

Cash flows from investing activities:
Capital expenditures.......................................... (6,635,057) (2,269,972) (1,706,642)
Proceeds from disposal of property and equipment.............. 361,807 145,741 144,164
Net increase in notes receivable.............................. (470,294) (1,176,083) --
Distribution from investment in Chateau Duhart Milon.......... 156,478 -- --
--------------- -------------- ---------------
Net cash used in investing activities................. (6,587,066) (3,300,314) (1,562,478)
--------------- -------------- ---------------

Cash flows from financing activities:
Net borrowings (repayments) on bank lines of credit........... (3,744,786) (3,635,197) 399,066
Distribution to minority interest (Paragon)................... (200,000) (375,718) (156,000)
Proceeds from issuance of long-term debt...................... 8,893,996 -- --
Repayment of long-term debt................................... (5,822,902) (555,831) (1,730,115)
Contributions to joint venture................................ -- -- 324,000
Proceeds from issuance of common stock........................ 116,604 4,700,816 1,480,536
--------------- -------------- ---------------
Net cash provided from financing activities........... (757,088) 134,070 317,487
--------------- -------------- ---------------

Net (decrease) increase in cash.................................. 175,218 (38,022) (350,688)
Cash at beginning of year................................... 31,959 69,981 420,669
--------------- -------------- ---------------
Cash at end of year......................................... $ 207,177 $ 31,959 $ 69,981
=============== ============== ===============

Other cash flow information:
Interest paid .............................................. $ 1,828,910 $ 2,904,582 $ 2,837,501
Income taxes paid........................................... 396,788 80,800 800

Non-cash transactions:
Conversion of convertible debentures to common stock........ $-- $ 12,384,000 $--
Investment in Edna Valley joint venture accrued at year end. 1,428,283 -- --
Debt assumed in acquisition of real property................ 940,282 -- --
Distribution receivable from Chateau Duhart-Milon........... -- 431,505 --

The accompanying notes are an integral part of these statements.

22.

THE CHALONE WINE GROUP, LTD.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

NOTE A - ORGANIZATION AND OPERATIONS

The Chalone Wine Group, Ltd. produces and sells primarily super and ultra
premium quality table wines. The Company farms its estate-owned vineyards
representing approximately 368 producing acres in Napa, Sonoma, Monterey
counties of California, and in eastern Washington State. Approximately 30% of
its annual grape requirements are purchased from independent growers.

The Company sells the majority of its products to wholesale distributors,
restaurants, and retail establishments throughout the United States, Canada and
Europe. Export sales account for approximately 4% of total revenue. The Company
performs ongoing credit evaluations of its customers and generally does not
require collateral. The Company maintains reserves for potential credit losses
and such losses have been within management's expectations. Domaines Barons de
Rothschild (Lafite) ("DBR"), a French company, owns approximately 41% of the
Company's outstanding common stock and the Company is DBR's partner in Societe
Civile Chateau Duhart-Milon ("Duhart-Milon"), a Bordeaux wine-producing estate
located in Pauillac, France.

NOTE B - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

A summary of the Company's significant accounting policies consistently
applied in the preparation of the accompanying consolidated financial statements
follows.

Basis of Presentation

The consolidated financial statements include the accounts of the Company,
its 50% owned subsidiary, and its 50.5% owned joint ventures (Notes G and H,
respectively), which are controlled and managed by the Company. The Company has
a 23.5% investment in Chateau Duhart-Milon which is accounted for using the
equity method (Note F.) All significant intercompany accounts and transactions
have been eliminated.

Accounting for Income Taxes

The Company accounts for income taxes in accordance with Statement of
Financial Accounting Standards ("SFAS") No. 109, "Accounting for Income Taxes."
SFAS 109 requires the Company to compute deferred income taxes based on the
difference between the financial statement and tax basis of assets and
liabilities using enacted tax rates in effect in the years in which the
differences are expected to reverse.

Inventories

Inventories are stated at the lower of cost or market. Cost for bulk and
bottled wines is determined on an accumulated weighted average basis and
includes grape purchases and supplies, farming and harvesting costs, winery and
bottling costs. Growing crops consist primarily of farming costs, which are
deferred and recognized when the related crop is harvested. Wine production
supplies are stated at FIFO (first-in, first-out) cost. All bulk and bottled
wine inventories are classified as current assets in accordance with recognized
industry practice, although a portion of such inventories will be aged for
periods longer than one year.

Property, Plant and Equipment

Property, plant and equipment is stated at cost. Depreciation is provided
for in amounts sufficient to allocate the cost of depreciable assets to
operations over their estimated useful lives. The straight-line method is
followed for substantially all assets for financial reporting purposes, but
accelerated methods are used for income tax purposes.

The range of useful lives used in computing depreciation is as follows:

Years
-----
Vineyard properties 5-35
Buildings 15-80
Machinery and equipment 5-20

Costs of planting new vines and on-going cultivation costs for vines not
yet bearing, including interest, are capitalized. Depreciation commences in the
initial year the vineyard yields a commercial crop, generally in the third
or fourth year after planting.

23.

NOTE B - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (Continued)

Earnings per Share

Earnings per share have been computed based on the weighted average number
of shares of common stock and common stock equivalents outstanding during the
periods.

Goodwill and Trademarks

The excess of the purchase price paid over the net assets acquired is being
amortized over 40 years on a straight-line basis. Trademarks are amortized over
their estimated useful lives from the date they are put into use.

The payments made to extend the life of the Edna Valley joint venture and
acquire ownership of the continuing joint venture have been recorded as goodwill
and will be amortized over 40 years beginning in 1997. (see also Note G).

Accounting Estimates

The presentation of the financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the reported amounts of assets and liabilities at the
date of the financial statements and the reported amounts of revenues and
expenses for the year. Actual results could differ from these estimates.

Foreign Currency Translation

The functional currency of the Company's investee, Duhart-Milon, is the
French Franc and as a result, the Company records the effect of exchange gains
and losses on its equity in Duhart-Milon as a component of shareholders' equity.

Stock-based Compensation

The Company accounts for stock-based awards to employees using the
intrinsic value method in accordance with APB No. 25, Accounting for Stock
Issued to Employees.

Impact of New Accounting Standards

The Company adopted Statement of Financial Accounting Standards (SFAS) No.
123, Accounting for Stock-Based Compensation effective for the fiscal year ended
December 31, 1996. SFAS No. 123 establishes accounting and disclosure
requirements using a fair value based method of accounting for stock based
employee compensation plans. As allowed under provisions of SFAS No. 123, the
Company has chosen to continue the intrinsic value based method and provide pro
forma disclosures of net earnings and earnings per share as if the accounting
provisions of SFAS No. 123 had been adopted. The Company has elected to adopt
only disclosure requirements of SFAS No. 123; therefore such adoption has no
effect on the Company's consolidated net profit or cash flows.

The Company adopted Statement of Financial Accounting Standards No. 121,
Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets to
Be Disposed Of effective for the fiscal year ended December 31, 1996. This
statement requires the Company to review long-lived assets for impairment
whenever events or changes in circumstances indicate that the carrying amount of
an asset may not be recovered. Implementation did not have a material impact on
the Company's financial statements.

24.

NOTE C - CARMENET FIRE

As previously disclosed, on July 31, 1996, a wildfire damaged approximately
75% of the producing acreage at the Company's Carmenet Vineyard, located in
Sonoma, California. Carmenet's winery structures and barrel inventory was
untouched by the blaze and no people were injured. The damaged acreage was
planted to Cabernet Sauvignon, Merlot and Cabernet Franc grapes used for Estate
Bottled wines produced under the Carmenet label. Prior to the fire, Carmenet
produced approximately 38,000 cases (of which a signficant proportion is Estate
Bottled). Carmenet's 1996 grape harvest was reduced roughly in proportion to the
damage to the vineyard's overall producing acreage caused by the blaze. The
Company is currently evaluating whether the grapes harvested from the unburned
acreage sustained smoke-damage that would prevent their use in the production of
Carmenet wines.

The Company has cleared the damaged vines and expects to replant
approximately 75% of the damaged acreage in 1997, with the remainder being
replanted over the next two years. Historically, newly planted vines will begin
to produce production-quality grapes in approximately three years, though vines
typically take approximately seven years to achieve full production. Until the
damaged acreage returns to full production, Carmenet's ability to make Estate
Bottled wines will be limited. In order to supplement Carmenet's harvest, the
Company will attempt to buy suitable grapes on the open market; however, there
can be no assurance that grapes of suitable quality or variety will be
available, in sufficient quantity or on terms acceptable to the Company.

Preliminary investigation indicates that the fire was caused by the
electrical lines of Pacific Gas & Electric Company ("PG&E"). In public
statements, PG&E has acknowledged (1) that its own preliminary investigation
indicates PG&E's responsibility for the fire and (2) that PG&E is responsible
for the resulting damages. In January, 1997, PG&E made an advance to the Company
of $425,000 for costs related to the fire; however, when making the advance,
PG&E admitted no liability and has reserved all rights with respect to the
advance. The Company identified certain inventory and vineyard assets that were
destroyed by the fire and has reclassified these costs to Other Receivable as of
December 31, 1996. The Company's discussions with PG&E are on-going. The Company
believes that it will be reimbursed for losses resulting from the fire, and as a
result does not expect that the fire damage will have a material adverse effect
on the Company's financial position or operating results.

NOTE D - INVENTORIES

Inventories consist of the following:
December 31,
----------------------------------
1996 1995
---------------- ---------------
Bulk and bottled wine............ $ 27,974,216 $ 26,773,298
Growing crops.................... 541,230 551,648
Other inventory.................. 120,368 54,458
Wine production supplies......... 191,856 119,869
---------------- ---------------
$ 28,827,670 $ 27,499,273
================ ===============

NOTE E - PROPERTY, PLANT AND EQUIPMENT
December 31,
----------------------------------
1996 1995
---------------- ---------------
Land............................. $ 2,513,908 $ 1,550,625
Vineyard properties.............. 8,386,518 6,248,011
Buildings........................ 14,927,158 13,515,056
Machinery and equipment.......... 13,738,650 12,127,635
---------------- ---------------
39,566,234 33,441,327
Less accumulated depreciation.... 15,446,643 13,576,462
---------------- ---------------
$ 24,119,591 $ 19,864,865
================ ===============

25.

NOTE F - INVESTMENT IN CHATEAU DUHART-MILON

During the period April 1989 to June 1993, the Company purchased
approximately 11% of the outstanding ordinary shares of DBR, in exchange for a
combination of 5% convertible subordinated debentures and warrants, subsequently
exercised.

Effective October 1, 1995, the Company exchanged essentially all of its
existing ownership in DBR for a 23.5% interest in Duhart-Milon. The remaining
76.5% of Duhart-Milon is owned by DBR.

Chateau Duhart-Milon's condensed balance sheet as of December 31, 1996 and
1995 and results of operations for the twelve months ended December 31, 1996 and
three months ended December 31, 1995 are as follows (translated into U.S.
dollars at the year end and average exchange rate for the period, respectively):

December 31, 1996 December 31, 1995
----------------- -----------------

Current assets (including inventories of $3,488,825
in 1996 and $3,654,415 in 1995 .................. $12,875,723 $16,938,735
Property and equipment, net ....................... 2,440,848 2,516,986
----------- -----------
Total assets .............................. 15,316,571 19,455,721
Current liabilities ............................... 1,786,513 6,039,294
----------- -----------
Total liabilities ......................... 1,786,513 6,039,294
----------- -----------
Equity ............................................ $13,530,058 $13,416,427
=========== ===========

The results of operations are summarized as follows:

Twelve months ended Three months ended
December 31,1996 December 31, 1995
----------------- -----------------

Revenues ......................................... $ 3,964,071 $ 557,438
Cost of sales .................................... 2,651,092 110,026
----------- -----------
Gross profit ................................ 1,312,979 447,412
Net operating and other expenses/(revenues) ...... (236,137) 88,305
----------- -----------
Net earnings ..................................... $ 1,549,116 $ 359,107
=========== ===========
Company's share of net earnings, less amortization
expense of $60,074 and $10,000 ............... $ 303,968 $ 74,109
============ ===========

The carrying amount of the Company's investment is approximately $8,500,000
in 1996, and $8,900,000 in 1995, greater than the amount of its share of the
underlying equity in net assets of Duhart-Milon. This difference relates
primarily to the underlying value of the land owned by Duhart-Milon and
accordingly, will not be amortized.

NOTE G - EDNA VALLEY VINEYARD JOINT VENTURE

Edna Valley Vineyard ("the Joint Venture") operates a winery in San Luis
Obispo County, California. The Joint Venture is 50% owned by the Company and 50%
by Paragon Vineyard Company, Inc. ("Paragon"). The Company, as the managing
joint venturer, manages and supervises the winery operations, and sells and
distributes the wine. Paragon built a winery which was leased to the Joint
Venture under an operating lease through May 1991, at which time Paragon sold a
one-half interest in the winery to the Company. Thereafter, Paragon and the
Company contributed the winery to the Joint Venture. The allocation of profits
subsequent to this transaction are being adjusted due to the Partners' varying
bases in this asset. The Joint Venture purchases its grapes from Paragon under a
grape purchase agreement, which specifies fixed quantities of grapes to be
acquired at market prices.

In 1991, the Company and Paragon entered into an agreement ("old
agreement") to convert the Joint Venture into a "permanent partnership" of
unlimited duration. Under the old agreement the Company had made payments
totaling $1,070,000 to Paragon to have the right to expend the life of the Joint
Venture through January 1997. Under a new agreement, entered into on December
27, 1996, "new agreement", the Company agreed to a payment of $1,590,000, which
was accrued at December 31, 1996, in order to extend its life through 2060.

In addition, under the new agreement, the Company has the option to make
further payments of $1,050,000 each in 1997 and 1999 and $850,000 in 2001 to
increase its ownership in the continuing Joint Venture by increments of
12.54%,12.54% and 10.75% respectively. Concurrent with the available investment
option in 2001 the Company will also have the option to purchase 50% of the
brand name, Edna Valley, for $200,000 which is currently licensed to the Joint
Venture by Paragon.

26.

NOTE G - EDNA VALLEY VINEYARD JOINT VENTURE (Continued)

The payments made to extend the life of the Joint Venture and acquire
ownership of the continuing Joint Venture have been recorded as goodwill and
will be amortized over 40 years beginning in 1997. Should the Company elect not
to exercise the next available investment option as it becomes available, its
share of the profits or losses of the Joint Venture from that point forward
would be reduced from the current 50% level to the level of ownership reached
under the new agreement.

Condensed balance sheets for the Joint Venture follow:

December 31,
-------------------------
1996 1995
----------- -----------

Current assets (including inventories of $5,821,839
in 1996 and $5,373,644 in 1995) ................. $ 5,943,978 $ 5,945,964
Current assets eliminated in consolidation ........ 1,486,947 1,214,277
Other Assets ...................................... 89,605 --
Property and equipment, net ....................... 3,760,967 2,723,288
----------- -----------
Total assets .............................. 11,281,497 9,883,529
Current liabilities ............................... 3,379,922 4,460,195
Accrued liabilities eliminated in consolidation ... 317,087 231,640
----------- -----------
Total current liabilities ................. 3,697,009 4,691,835
Total liabilities ......................... 5,495,998 4,691,835
----------- -----------
Partners' Equity .................................. $ 5,785,499 $ 5,191,694
=========== ===========

The results of operations are summarized as follows:

Year ended December 31,
------------------------------------
1996 1995 1994
---------- ---------- ----------

Revenues ................................. $6,463,512 $6,849,922 $5,255,232
Cost of sales ............................ 4,315,543 5,124,297 3,847,497
---------- ---------- ----------
Gross profit ........................ 2,147,969 1,725,625 1,407,735
Operating and other expenses ............. 386,459 464,863 470,873
Commissions and management fees eliminated
in consolidation .................... 767,704 655,506 558,273
---------- ---------- ----------
Net earnings ............................. 993,806 605,256 378,589
Minority interest ........................ 526,929 332,654 219,321
---------- ---------- ----------
Company's share of net earnings ..... $ 466,877 $ 272,602 $ 159,268
========== ========== ==========

NOTE H - INVESTMENT IN CANOE RIDGE VINEYARD

On December 31, 1990, the Company entered into a joint venture agreement
with Canoe Ridge Vineyard Incorporated ("CRVI") for the formation and operation
of the Canoe Ridge Vineyard ("CanoeCo"). CanoeCo is 50% owned by the Company and
50% by CRVI. The purpose of the joint venture is to own, develop and maintain
vineyard property in Benton County, Washington. The Company, as managing joint
venturer, manages and supervises the vineyard operations

In 1994 Canoe Ridge Winery, Inc. ("CRW"), was formed which is owned 50.5%
and 49.5% by the Company and a group of investors, respectively. CRW was formed
to produce, sell and distribute premium wines from grapes farmed at CanoeCo.

Effective January 1, 1996, the Company exchanged its ownership interests in
CanoeCo and CRW for a 50.5% ownership interest in a newly formed company, Canoe
Ridge Vineyard LLC, which will carry on the combined operations of the
predecessor entities, CanoeCo and CRW. To date, operations of these entities
have not been significant to the Company.

27.

NOTE I - BANK LINES OF CREDIT

Bank lines of credit consist of the following:

December 31,
----------------------------------
1996 1995
--------------- ----------------

Credit line of $10,000,000 bearing interest at prime(2), payable monthly, due
June, 1997.............................................................. $ 3,455,031 $ 5,334,944
Credit line of $4,800,000 bearing interest at prime(1), payable monthly, due
June, 1997 ............................................................. 1,975,566 4,167,000
Credit line of $400,000 bearing interest at 1.875% over prime, payable at
February, 1996.......................................................... -- 236,925
Credit line of $1,500,000 bearing interest at prime, payable monthly, due
June 1997............................................................... 1,063,486 --
Credit line of $500,000 bearing interest at 9.84%, payable at April, 1996.... -- 500,000
--------------- ----------------
$ 6,494,083 $ 10,238,869
=============== ================

The notes to bank are collateralized by substantially all inventories and
accounts receivable. Significant restrictive covenants include provisions
regarding: maintenance of certain financial ratios; mergers or acquisitions;
loans, advances or debt guarantees; additional borrowings; annual lease
expenditures; annual fixed asset expenditures; and declaration or payment of
dividends (see Note J).

NOTE J - LONG-TERM OBLIGATIONS

December 31,
--------------------------
1996 1995
------------ -----------

Convertible subordinated debentures due in 1999, bearing interest at 5%
Interest payments on the debentures are due semiannually (including
amounts due to related party-see Note O) ................................ $ 8,500,000 $ 8,500,000
Other note payable, due May 2000 payable in annual installments of principal
and interest. Interest rate at 7%....................................... 950,000 --
Mortgage payable in monthly installments of principal and interest due August
2021. Interest at 7%.................................................... 1,827,789 --
Bank term loan, due in 2001 with monthly installments of principal and
interest. Interest rate at LIBOR plus 1.8%.............................. 5,798,495 --
Bank term loan, payable in monthly installments of principal and interest due
June 2002. Interest at LIBOR plus 2.5% .................................. 247,500 --
Bank term loan, payable in monthly installments of principal and interest paid
February 1996. Interest rates at LIBOR plus 2% .......................... -- 3,219,100
Bank term loan, payable in monthly installments of principal and interest paid
October 1996. Interest rate at prime plus 1/2% .......................... -- 2,069,200
Bank term loan, paid in June, 1996. Interest at prime plus 1% ................ -- 210,140
Joint Venture purchase option payable in annual installments of principal and
interest. Imputed interest rate of 8% (see Note G) ...................... -- 175,439
Other note payable, payable in monthly installments of principal and interest
due in June 2016. Interest rate of 7.03% (see Note O, related party).... 940,282 --
Other note payable, due in June 1996 payable in annual installments of
principal and interest. Interest rate of 10%............................ -- 59,954
Other notes payable, due in varying monthly installments through Jan 2000
bearing interest at 10.75% to 10.9%, secured by equipment ............... 31,944 50,801
------------ -----------
18,296,010 14,284,634
Less current maturities ...................................................... 535,441 773,990
------------ -----------
$ 17,760,569 $13,510,644
============ ===========

- -----------------
(2) The Company may fix its interest rate at LIBOR plus 1.80% rather than prime
for periods up to the term of its credit line.

28.

NOTE J - LONG-TERM OBLIGATIONS (Continued)

The 5% debentures are subordinate in right of payment to all senior
indebtedness of the Company. Subject to the market price of the Company's stock,
the Company may redeem these debentures, without premium. The Company must
redeem the entirety of the issue not later than April 19, 1999. The debentures
are convertible into shares of the Company's stock at any time from and after
April 19, 1991, at a conversion rate of $8.81 per share subject to antidilution
provisions. The Company set aside and reserved 965,100 shares of its common
stock for issuance upon conversion of these debentures.

Substantially all of the Company's property and equipment is pledged as
collateral for long-term obligations. Significant restrictive covenants include
provisions regarding: maintenance of certain financial ratios; mergers or
acquisitions; loans, advances or debt guarantees; additional borrowings; annual
lease expenditures; annual fixed asset expenditures; and declaration or payment
of dividends.

At December 31, 1996, maturities of long-term obligations are as follows:

1997.................................. $ 535,441
1998.................................. 558,978
1999.................................. 9,064,032
2000.................................. 565,522
2001.................................. 330,537
Thereafter............................ 7,241,500
==================
Total................................. $ 18,296,010
==================

Company management believes that the fair value of the bank lines of credit
and long term obligations are substantially equal to the book value since
interest rates on loans were negotiated during 1996 or fluctuate with short-term
market rates.

NOTE K- STOCK BASED COMPENSATION

Under the 1987 Employee Stock Option (the "Option Plan") the Company may
grant options to purchase up to 1,000,000 shares of common stock to employees,
directors and consultants at prices not less than the fair market value at date
of grant for incentive stock options and not less than 85% of fair market value
for nonstatutory stock options. These options generally expire 10 years from the
date of grant and become exercisable after a one-year period.

Under the 1987 Non-Employee Directors' Stock Option Plan (the "Directors'
Plan"), non-employee directors of the Company are automatically granted options
to purchase shares of common stock, based on a formula of shares outstanding, at
the fair market value at the date of grant each year that such person remains a
director of the Company. Options granted under the plan are immediately
exercisable and expire 10 years from the date of grant. Total shares authorized
under the plan is 64,870.

Option activity under the plans is as follows:
Weighted
Number of Average
Shares Exercise Price
---------- --------------
Outstanding, January 1, 1994 ...................... 569,693 $ 8.51
Granted ....................................... 58,910 5.24
Canceled ...................................... (32,189) 9.29
---------- --------------
Outstanding, December 31, 1994 (509,954 exercisable
at a weighted average price of $8.36) ....... 596,414 8.17

Granted (Weighted average fair value of $5.80) 36,210 7.09
Exercised ..................................... (27,716) 6.25
Canceled ...................................... (48,317) 0.50
---------- --------------
Outstanding, December 31, 1995 (520,381 exercisable
at a weighted average price of $ 8.20) 556,591 8.13

Granted (weighted average fair value of $7.80) 70,840 9.74
Exercised ..................................... (35,303) 6.83
Canceled ...................................... (3,585) 8.67
---------- --------------

Outstanding, December 31, 1996 .................... 588,543 $ 8.40
========== ==============

29.

NOTE K- STOCK BASED COMPENSATION (Continued)

Additional information regarding options outstanding as of December 31,
1996 is as follows:

Options Outstanding Options Exercisable
------------------- -------------------
Weighted Avg.
Remaining
Range of Exercise Number Contractual Life Weighted Avg. Number Weighted Avg.
Prices Outstanding (yrs) Exercise Price Exercisable Exercise Price

$ 5.00 - $ 7.49 221,370 5.3 $ 6.17 221,370 $ 6.17
$ 7.50 - $ 9.99 183,126 6.3 $ 9.23 119,886 $ 4.81
$10.00 - $12.38 184,047 2.4 $ 10.28 175,620 $ 10.22
================== =================== ================== ================== ===================
$5.00 - $12.38 588,543 4.7 $ 8.40 516,876 $ 8.22
================== =================== ================== ================== ===================

Both the Option Plan and the Directors' Plan expired in the first quarter
of 1997. A new plan reserving 1,000,000 shares is being proposed at the 1997
Shareholder Meeting.

Employee Stock Purchase Plan

Under the Employee Stock Purchase Plan, (the "Purchase Plan"), eligible
employees are permitted to have salary withholdings to purchase shares of common
stock at a price equal to 85% of the lower of the market value of the stock at
the beginning or end of each six-month offer period, subject to an annual
limitation. Stock issued under the plan was 935, 5,315 and 9,049 shares in 1994,
1995 and 1996, respectively, at weighted average prices of $4.70, $6.04 and
$6.31, respectively. The weighted average fair value of the 1996 and 1995 awards
was $9.84 and $6.99, respectively. At December 31, 1996, 26,449 shares were
reserved for future issuances under the Purchase Plan.

Additional Stock Plan Information

As discussed in Note B, the Company continues to account for its
stock-based awards using the intrinsic value method in accordance with
Accounting Principles Board No. 25, Accounting for Stock Issued to Employees and
its related interpretations. Accordingly, no compensation expense has been
recognized in the financial statements for employee stock arrangements.

Statement of Financial Accounting Standards No. 123, Accounting for
Stock-Based Compensation, (SFAS 123) requires the disclosure of pro forma net
income and earnings per share had the Company adopted the fair value method as
of the beginning of fiscal 1995. Under SFAS 123, the fair value of stock-based
awards to employees is calculated through the use of option pricing models, even
though such models were developed to estimate the fair value of freely tradable,
fully transferable options without vesting restrictions, which significantly
differ from the Company's stock option awards. These models also require
subjective assumptions, including future stock price volatility and expected
time to exercise, which greatly affect the calculated values. The Company's
calculations were made using the Black-Scholes option pricing model with the
following weighted average assumptions: expected life, 102 months following
vesting; stock volatility, 17% in 1996 and 17% in 1995; risk free interest
rates, 6.0% in 1996 and 6.97% in 1995; and no dividends during the expected
term. The Company's calculations are based on a multiple option valuation
approach and forfeitures are recognized as they occur. If the computed fair
values of the 1995 and 1996 awards had been amortized to expense over the
vesting period of the awards, pro forma net income would have been $102,000
($.02 per share) in 1995 and $2,095,000 ($.26 per share) in 1996.

In September, 1995, an officer of the Company exercised options for 16,666
shares for $99,996 and the Company received a note secured by the stock in
payment of the exercise price. The note was paid in March, 1996.

30.

NOTE L - COMMON STOCK

In October of 1995, in a private-placement transaction, the Company issued
a total of 833,334 units, each unit consisting of one share of common stock and
one warrant for the purchase of one share of common stock, for a per-unit price
of $6.00 and a net sale price of approximately $4.5 million. The warrants, which
have a five year term, are excercisable at $8.00 per share. Also on that date
the Company converted approximately $12.4 million of convertible debentures, at
a conversion price of $7.00, into 1,769,143 shares of common stock.

In April of 1994, in a private-placement transaction, the Company issued a
total of 358,128 shares of its common stock, for a per-share price of $4.50 and
a net sale price of approximately $1.5 million.

The Company has reserved as of December 31, 1996 3,320,318 shares of common
stock in connection with stock option and stock purchase plans, warrants and
convertible subordinated debentures.

NOTE M - EMPLOYEE BENEFIT PLANS

The Company has a Qualified Profit-Sharing Plan which provides for Company
contributions, as determined annually by the Board of Directors, based on the
Company's previous year performance. These contributions may be in the form of
common stock or cash as determined by the Board of Directors. The Board has
approved a contribution of $73,000 for 1996 and $20,000 for 1995. There were no
Plan contributions in 1994. At December 31, 1996, the plan held 9,051 shares of
the Company's common stock.

NOTE N - INCOME TAXES

The provision for income taxes is summarized as follows:

Year-ended December 31,
------------------------------------
1996 1995 1994
---------- ---------- ----------
Federal
Current ....................... $1,055,915 $ 136,641 $ --
Deferred ...................... 183,497 24,634 61,588
---------- ---------- ----------
1,239,412 161,275 61,588
State
Current ....................... 364,159 64,394 800
Deferred ...................... 15,291 21,959 38,801
---------- ---------- ----------
379,450 86,353 39,601
---------- ---------- ----------
$1,618,862 $ 247,628 $ 101,189
========== ========== ==========

The tax effects of the items comprising the Company's net deferred tax
liability in the Company's balance sheets are as follows:

December 31,
---------------------------
1996 1995
------------ -------------
Deferred tax liability:
Difference between book and tax basis of
property, plant and equipment............ $ 2,090,605 $ 2,249,693
Deferred tax assets:
Operating loss carryforwards............... -- 688,281
Difference between book and tax basis of
inventory................................ 104,156 166,699
Tax credit carryforwards................... 762,534 418,004
Other...................................... 202,275 157,644
------------ -------------
1,068,965 1,430,628
Valuation allowance........................ (83,635) (87,422)
------------ -------------
985,330 1,343,206
------------ -------------
Net deferred tax liability ................ $ 1,105,275 $ 906,487
============ =============

31.

NOTE N - INCOME TAXES (Continued)

The provision for income taxes differs from amounts computed at the
statutory rate as follows:

Year-ended December 31,
----------------------------------------
1996 1995 1994
----------- ----------- -----------

U.S. federal income tax at statutory rate $ 1,394,165 $ 90,452 $ 15,130
State tax net of federal benefit ........ 230,437 56,993 26,137
Reconciling items:
Other ............................... (38,919) 67,004 26,743
Effect of acquisitions, net ......... 33,179 33,179 33,179
----------- ----------- -----------
$ 1,618,862 $ 247,628 $ 101,189
=========== =========== ===========

At December 31, 1996, the Company had investment tax credit carryovers
available to reduce future taxable income which would otherwise be taxable for
income tax purposes as follows:

Expiration date Investment Tax
December 31, Credit
------------------ ----------------

1997................................ $ 59,637
1998................................ 58,835
1999................................ 107,767
2000................................ 19,555
2001................................ 128,746
2002................................ 27,001
2003................................ 21,115
2004................................ --
2005................................ --
Indefinite.......................... 339,878
----------------
$ 762,534
================

32.

NOTE O - TRANSACTIONS WITH RELATED PARTIES

The consolidated statements of operations include the following amounts
resulting from transactions with related parties:

Year ended December 31,
------------------------------
1996 1995 1994
-------- -------- ---------

Interest expense:
Interest on notes payable to a partnership in which an
officer of the Company is a partner .................. $ -- $ -- $ 2,448
Interest on convertible debentures held by a related
party of the Company ................................. 166,667 516,000 619,200
Interest on note payable to director ................... 38,611
Interest on notes payable to joint venture partner
(Paragon) ............................................ 2,498 36,076 54,072
Interest revenue:
Interest on note receivable from director of the Company 2,626 -- --
Interest on note receivable from officer of the Company 1,258 -- --
Interest on note receivable from joint venture partner . 47,500 -- --
Lease expense for land and facilities ....................... 10,240 10,240 10,000
Consulting fee to officer of the Company .................... 32,500 65,000 79,750

The balance sheet includes the following amounts resulting from
transactions with related parties:

December 31,
-----------------------
1996 1995
---------- ----------

Accounts receivable
Accounts receivable from a director of the Company ... $ 27,106 $ 85,426
Note receivable from a director of the Company ....... 70,128 --
Note receivable from officer of the Company .......... -- 99,996
Distribution receivable from Duhart-Milon ............. -- 431,505
Inventory
Wine purchases from related parties ................... 1,119,881 443,047
Grape purchases from related parties .................. 2,135,654 1,520,872
Goodwill
Investment in joint venture (see Note G) .............. 2,445,457 --
Other asset
Option to extend term of joint venture ................ -- 1,017,174
Note receivable from joint venture partner (Paragon) .. 500,000 500,000
Property, plant & equipment, net
Building contributed to joint venture by the partners . 1,304,313 1,394,266
Accounts Payable and accrued liabilities
Investment payable .................................... 1,603,722 --
Payables for inventory purchases to related parties ... 1,308,805 --
Long-term obligations
Payable for purchase of option to extend term of joint
venture (see Notes F and I) ......................... -- 175,439
Note payable to joint venture partner (see Note I) .... -- 59,954
Note payable to director of the Company .............. 940,282 --
Convertible debentures held by a related party of the
Company (see Note I and K) .......................... 5,000,000 --

33.

NOTE P - COMMITMENTS AND CONTINGENCIES

Future minimum lease payments required under noncancelable operating leases
with terms in excess of one year are as follows:

Year-ending
December 31, Total
----------------- ------------------
1997.................................... 585,372
1998.................................... 457,372
1999.................................... 457,372
2000.................................... 457,372
2001.................................... 457,372
Thereafter.............................. 4,395,430
------------------
Total................................... $ 6,810,290
==================

Rental expense charged to operations was as follows: $658,195, $832,962,
and $637,343 for the years ended December 31, 1996, 1995, and 1994,
respectively. Future lease commitments include $10,240 per year until 2052 for
land leased by Paragon to the Edna Valley Joint Venture (see Note G).

NOTE Q - QUARTERLY DATA (Unaudited)

The Company's quarterly operating results for years ended December 31,
1996, 1995, and 1994, are summarized below:

(In thousands, except per share data)
Gross Gross Net Net (Loss)Earnings
Revenues Profit (Loss) Earnings per Common Share
-------- ------ --------------- ----------------

1996 Quarters:
Fourth Quarter.............. $ 9,857 $ 4,100 $ 888 $ .11
Third Quarter............... 8,207 3,157 668 .08
Second Quarter.............. 8,449 3,170 653 .08
First Quarter............... 5,396 1,948 130 .02
1995 Quarters:
Fourth Quarter.............. $ 8,596 $ 3,115 $ 429 $ .07
Third Quarter............... 5,380 1,935 (29) (.01)
Second Quarter.............. 7,411 2,245 70 .01
First Quarter............... 4,423 1,497 (263) (.05)
1994 Quarters:
Fourth Quarter.............. $ 6,555 $ 2,286 $ 164 $ .03
Third Quarter............... 4,998 1,885 15 .00
Second Quarter.............. 5,512 1,862 57 .01
First Quarter............... 4,067 1,471 (216) (.05)

34.

INDEPENDENT AUDITORS' REPORT

Board of Directors and Shareholders
The CHALONE Wine Group, Ltd.

We have audited the accompanying consolidated balance sheets of The Chalone
Wine Group, Ltd. (the Company) (a California corporation), as of December 31,
1996 and 1995, and the related consolidated statements of operations,
shareholders' equity and cash flows for each of the three years in the period
ended December 31, 1996. These consolidated financial statements are the
responsibility of the Company's management. Our responsibility is to express an
opinion on these consolidated financial statements based on our audits.

We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.

In our opinion, the consolidated financial statements referred to above
present fairly, in all material respects, the consolidated financial position of
the Company, at December 31, 1996 and 1995, and the consolidated results of its
operations and its cash flows for each of the three years in the period ended
December 31, 1996, in conformity with generally accepted accounting principles.

/s/ DELOITTE & TOUCHE LLP

San Francisco, California
February 20, 1997

35.

Item 9. Disagreements on Accounting and Financial Disclosure.

None; not applicable.

PART III

Item 10. Directors and Executive Officers.

a. Directors, Executive Officers, and Significant Employees. See "Executive
Officers of the Registrant" in Part I of this Report.

b. Business Experience of Directors and Management; Other Directorships.

The information required by this Item is hereby incorporated by
reference to the Company's Proxy Statement relating to the 1997 Annual Meeting
of Shareholders under the heading "Election of Directors" and the heading
"Section 16(a) Beneficial Ownership Reporting Compliance" to be filed with the
Securities and Exchange Commission within 120 days after December 31, 1996.

Item 11. Executive Compensation.

a. Executive Compensation.

The information required by this Item is hereby incorporated herein by
reference to the Proxy Statement relating to the 1997 Annual Meeting of
Shareholders under the heading "Board Meetings and Compensation," and under the
heading "Executive Compensation," with the exception of the information under
the subheadings "Performance Graph" and "Compensation Committee Report on
Compensation of Executive Officers," to be filed with the Securities and
Exchange Commission within 120 days after December 31, 1996.

Item 12. Security Ownership of Certain Beneficial Owners and Management.

The information required by this Item is hereby incorporated herein by
reference to the Proxy Statement relating to the 1997 Annual Meeting of
Shareholders under the headings "Shareholding by Other Owners of More Than Five
Percent" and "Shareholding Information as to Directors, Director Nominees and
Management" to be filed with the Securities and Exchange Commission within 120
days after December 31, 1996.

Item 13. Certain Relationships and Related Transactions.

The information required by this Item is hereby incorporated by
reference to the Company's Proxy Statement relating to the 1997 Annual Meeting
of Shareholders under the heading "Certain Relationships and Related
Transactions," to be filed with the Securities and Exchange Commission within
120 days after December 31, 1996. Reference is also made to the information
contained in Note O of Notes to Consolidated Financial Statements of this Report
under the caption "Transactions with Related Parties."

36.

PART IV

Item 14. Exhibits, Financial Statement Schedules, and Reports on Form 8-K.

a(1). Financial Statements.

The following financial statements of the Company are included in Part II,
Item 8:
Page
----
Financial Statements:
Consolidated Balance Sheets............................ 19
Consolidated Statements of Operations.................. 20
Consolidated Statements of Changes in
Shareholders' Equity................................. 21
Consolidated Statements of Cash Flows.................. 22
Notes to Consolidated Financial
Statements........................................... 23

Independent Auditors' Report............................... 35

a(2). Financial Statement Schedules.

Schedules are omitted because they are not applicable, not required, were
filed subsequent to the filing of the Form 10-K, or because the information
required to be set forth therein is included in the consolidated financial
statements or in notes thereto.

b. Reports on Form 8-K.

No reports on Form 8-K were filed or required to be filed during the last
quarter of the period covered by this Report.

c. Exhibits.

A copy of any exhibits (at a reasonable cost) or the Exhibit Index will be
furnished to any shareholder of the Company upon receipt of a written request
therefor. Such request should be sent to The Chalone Wine Group, Ltd., 621
Airpark Road, Napa, California 94558, Attention: Investor Relations.

37.

EXHIBIT INDEX
-------------

Exhibit
Number Exhibit Description
------- -------------------

3.1 Restated Articles of Incorporation, as amended through
June 3, 1985. (i)

3.2 Amendment to Restated Articles, filed June 6, 1988. (ii)

3.3 Amendment to Restated Articles, filed May 17, 1991. (iii)

3.4 Amendment to Restated Articles, filed July 14, 1993 (iv)

3.5 Bylaws, as amended through December 1992. (i)

3.6 1993 Bylaw amendments. (iv)

4.1 5% Convertible Subordinated Debenture Due 1999 (SDBR
Debenture), issued to Les Domaines Barons de Rothschild
(Lafite) ("DBR"), dated April 19, 1989. (v)

4.2 Shareholders' Agreement between the Company and DBR,
dated April 19, 1989. (v)

4.3 Form of 5% Convertible Subordinated Debenture Due
1999 (third-party debentures), issued April 19 and 28, 1989. (v)

4.4 5% Convertible Subordinated Debenture Due 1999 (1991
Debenture), issued to DBR, dated September 30, 1991. (vi)

4.5 Addendum to Shareholders' Agreement between the Company
and DBR, dated September 30, 1991. (vi)

- ------------------------------

(i) Incorporated by reference to Exhibit Nos. 3.1 and 3.2, respectively, to
the Company's Registration Statement on Form S-1 (File No. 33-8666),
filed September 11, 1986.

(ii) Incorporated by reference to Exhibit No. 3.2 to the Company's Annual
Report on Form 10-K for the year ended December 31, 1988, dated March
11, 1989.

(iii) Incorporated by reference to Exhibit No. 3.3 to the Company's Annual
Report on Form 10-K for the year ended December 31, 1991, dated March
25, 1992.

(iv) Incorporated by reference to Exhibit Nos. 3.4 and 3.6, respectively, to
the Company's Annual Report on Form 10-K for the year ended December
31, 1993, dated March 26, 1994.

(v) Incorporated by reference to Exhibit Nos. 1, 4 and 5, respectively, to
the Company's Current Report on Form 8-K dated April 28, 1989.

(vi) Incorporated by reference to Exhibit Nos. 1 and 3, respectively, to the
Company's Current Report on Form 8-K dated September 30, 1991.

38.

EXHIBIT INDEX
-------------

Exhibit
Number Exhibit Description
------- -------------------

4.6 Common Stock Purchase Agreement, between the Company and
certain designated investors, dated March 29, 1993. (i)

4.7 Form of Warrant for the purchase in the aggregate of up to 828,571
shares of the Company's common stock, issued to certain designed
investors, effective July 14, 1993. (ii)

4.8 Voting Agreement, between Richard H. Graff, William L. Hamilton,
John A. McQuown, W. Philip Woodward, DBR, Richard C. Hojel,
and Summus Financial, Inc., dated March 29, 1993. (ii)

4.9 Common Stock Purchase Agreement, between the Company and
certain designated investors, dated April 22, 1994. (iii)

4.10 Form of Warrant for the purchase in the aggregate of up to 833,333
shares of the Company's common stock, issued to certain designed
investors, effective October 25, 1995. (iv)

4.11 Voting Agreement, between the W. Phillip Woodward, DBR,
and Summus Financial, Inc., dated October 25, 1995. (iv)

10.1 Joint Venture Agreement between the Company and Paragon
Vineyard Co., Inc. ("Paragon"), effective January 1, 1991. (v)

10.2 Revised Grape Purchase Agreement between Edna Valley Vineyard
Joint Venture and Paragon, effective January 1, 1991. (v)

10.3 License Agreement between Edna Valley Vineyard Joint Venture
and Paragon, effective January 1, 1991. (v)

10.4 Ground Lease between Edna Valley Vineyard Joint Venture and
Paragon, effective June 1, 1991. (v)

- ------------------------------

(i) Incorporated by reference to Exhibit No. 1 to the Company's Current
Report on Form 8-K dated March 31, 1993.

(ii) Incorporated by reference to Exhibits 1 and 6, respectively, to the
Exhibit herein referenced as Exhibit 4.8.

(iii) Incorporated by reference to Exhibit No. 1 to the Company's Current
Report on Form 8-K dated April 27, 1994.

(iv) Incorporated by reference to Exhibit D to Appendix I to the Company's
Proxy Statement for a Special Meeting of Shareholders, filed October
25, 1995.

(v) Incorporated by reference to Exhibit Nos. 1, 3, 4 and 2, respectively,
to the Company's Current Report on Form 8-K dated May 30, 1991.

39.

EXHIBIT INDEX
--------------

Exhibit
Number Exhibit Description
------- -------------------

10.5 Amended and Restated Commercial Winery and
Agricultural Lease, dated July 31, 1986, assigned by
Assignment and Assumption Agreement among
the Company, Lakeside Winery and Vista de Los Vinedos,
dated August 5, 1986. (i)

10.6 Novation and Modification Agreement, between the Company
and Henry P. and Marina C. Wright, dated July 15, 1988,
amending Agreement incorporated as Exhibit 10.5. (ii)

10.7 Tenancy in Common Agreement, between the Company
and Henry P. and Marina C. Wright, dated July 15, 1988. (ii)

10.8 Vineyard Lease, between the Company and Henry P. and
Marina C. Wright, dated July 15, 1988. (ii)

10.9 1988 Qualified Profit-Sharing Plan, approved May 21, 1988. (iii)

10.11 Amendment No. 2 to Qualified Profit Sharing Plan, incorporated as
Exhibit 10.9, dated February 7, 1990. (iv)

10.12 Profit Sharing Trust Agreement. (ii)

10.13 Easement Agreement between the Company and Stonewall
Canyon Ranches, dated August 19, 1988. (ii)

10.14 1987 Stock Option Plan, as amended effective May 16, 1991. (v)

10.15 1988 Non-Discretionary Stock Option Plan, as amended effective
May 16, 1991. (v)

10.16 Employee Stock Purchase Plan, as amended effective May 16, 1991. (v)

- ------------------------------

(i) Incorporated by reference to Exhibit No. 10.10 to the Company's
Registration Statement on Form S-1 (File No. 33-8666), filed September
11, 1986.

(ii) Incorporated by reference to Exhibit Nos. 10.22, 10.20 and 10.21,
respectively, to the Company's Annual Report on Form 10-K for the year
ended December 31, 1988, dated March 11, 1989.

(iii) Incorporated by reference to Exhibit Nos. 10.16, 10.17 and 10.24,
respectively, to the Company's Annual Report on Form 10-K for the year
ended December 31, 1988, dated March 11, 1989.

(iv) Incorporated by reference to Exhibit Nos. 10.17 and 10.18,
respectively, to the Company's Annual Report on Form 10-K for the year
ended December 31, 1989, dated March 27, 1990.

(v) Incorporated by reference to Exhibit Nos. 10.23, 10.24 and 10.25,
respectively, to the Company's Annual Report on Form 10-K for the year
ended December 31, 1991, dated March 25, 1992.

40.

EXHIBIT INDEX
-------------
Exhibit
Number Exhibit Description
------- -------------------

10.17 Amendment/Extension of Employee Stock Purchase Plan,
effective July 13, 1993. (i)

10.18 Agreement of Joint Venture, between the Company and Canoe
Ridge Vineyard Incorporated [CRVI], dated December 31, 1990. (ii)

10.19 Credit Agreement between the Company and Wells Fargo Bank,
dated July 20, 1992. (iii)

10.20 Industrial Real Estate Lease, dated February 19, 1993. (iii)

10.21 First Amendment to Credit Agreement between the Company
and Wells Fargo Bank incorporated as Exhibit 10.19, dated
March 18, 1993. (iii)

10.22 First Amendment to Industrial Real Estate Lease incorporated as
Exhibit 10.20, dated December 8, 1993. (i)

10.23 Credit Agreement between the Company and Wells Fargo Bank,
dated August 30, 1993. (iv)

10.24 First Amendment to Credit Agreement between the Company and
Wells Fargo Bank, attached as Exhibit 10.22, dated March 24, 1994. (iv)

10.25 Credit Agreement between the Company and Wells Fargo Bank,
dated July 29, 1994. (iv)

10.26 Canoe Ridge Winery, Inc., Shareholders' Agreement, among the
Company and designated Washington State investors, dated
November 30, 1994. (iv)

10.27 Amendment to Employee Stock Purchase Plan, effective
January 1, 1995. (iv)

- ------------------------------

(i) Incorporated by reference to Exhibit Nos. 10.22 and 10.29,
respectively, to the Company's Annual Report on Form 10-K for the year
ended December 31, 1993, dated March 26, 1994.

(ii) Incorporated by reference to Exhibit No. 10.27 to the Company's Annual
Report on Form 10-K for the year ended December 31, 1990, dated March
26, 1991.

(iii) Incorporated by reference to Exhibit Nos. 10.24 through 10.27,
respectively, to the Company's Annual Report on Form 10-K for the year
ended December 31, 1992, dated March 29, 1993.

(iv) Incorporated by reference to Exhibit Nos. 10.23 through 10.27,
respectively, to the Company's Annual Report on Form 10-K for the year
ended December 31, 1994, dated March 27, 1995.

41.

EXHIBIT INDEX
-------------
Exhibit
Number Exhibit Description
------- -------------------

10.28 Omnibus Agreement between the Company, DBR, and Summus
Financial, dated August 22, 1995. (i)

10.29 Credit Agreement between the Company and Wells Fargo Bank, (ii)
dated December 29, 1995.

10.30 Credit Agreement between Edna Valley Vineyard and Wells
Fargo Bank, dated July 31, 1995.

10.31 Purchase Agreement between the Company, Richard H. Graff,
Trustee, Graff 1993 Trust Dated June 10, 1993, a trust
and Richard H. Graff an individual, dated July 1, 1996.

10.32 Promissory Note between the Company and Richard H. Graff,
dated July 1, 1996.

10.33 Secured Purchase Money Promissory Note between the Company
and Richard H. Graff, Trustee, Graff 1993 Trust, dated
July 1, 1996.

10.34 Residential Lease between the Company and Richard H. Graff,
dated July 1, 1996.

10.35 Consulting and Non-Competition Agreement between the Company
and Richard H. Graff, dated July 1, 1996.

10.36 Credit Agreement between the Canoe Ridge Vineyard, L.L.C.
and Wells Fargo Bank dated August 15, 1996.

10.37 Credit Agreement between the Company and Wells Fargo Bank, dated
September 25, 1996.

10.38 Amendment To Joint Venture Agreement of Edna Valley Vineyard
between Paragon Vineyard Co., Inc., and the Company,
dated December 23, 1996.

11 Statement re Computation of Earnings Per Share for the periods
ended December 31, 1996, 1995, and 1994.

24 Consent of Deloitte & Touche LLP to incorporation by reference
dated March 24, 1997.

27 Financial Data Schedule

- ------------------------------

(i) Incorporated by reference to Appendix I to the Company's Proxy
Statement for a Special Meeting of Shareholders, filed October 25,
1995.

(ii) Incorporated by reference to Exhibit No. 10.21 to the Company's Annual
Report on Form 10-K for the year ended December 31, 1995.

42.

SIGNATURES

Pursuant to the requirements of Section 13 or 15(d) of the Securities
Exchange Act of 1934, the registrant has duly caused this report to be signed on
its behalf by the undersigned, thereunto duly authorized.

THE CHALONE WINE GROUP, LTD.

By /s/ W. Philip Woodward
-----------------------------------------------
W. Philip Woodward
President and Chief Executive Officer
(Principal Executive Officer)

By /s/ William L. Hamilton
-----------------------------------------------
William L. Hamilton
Executive Vice President (Principal Financial
and Principal Accounting Officer)

By /s/ Wendy W. Bentson
-----------------------------------------------
Wendy W. Bentson
Controller

Dated: March 15, 1997

Pursuant to the requirements of the Securities Exchange Act of 1934, this
report has been signed below by the following persons on behalf of the
registrant and in the capacities and on the dates indicated.

/s/ W. Philip Woodward President, Chief March 15, 1997
-------------------------------------------- Executive Officer,
W. Philip Woodward and Director (Principal
Executive Officer)

/s/ Richard H. Graff Chairman of the Board March 15, 1997
-------------------------------------------- of Directors
Richard H. Graff

/s/ William L. Hamilton Executive Vice President, March 15, 1997
-------------------------------------------- Chief Financial Officer,
William L. Hamilton and Director (Principal
Financial and Principal
Accounting Officer)

/s/ Wendy W. Bentson Controller March 15, 1997
--------------------------------------------
Wendy W. Bentson

43.

/s/ C. Richard Kramlich Director March 15, 1997
--------------------------------------------
C. Richard Kramlich

/s/ William G. Myers Director March 15, 1997
--------------------------------------------
William G. Myers

/s/ James H. Niven Director March 15, 1997
--------------------------------------------
James H. Niven

/s/ Eric de Rothschild Director March 15, 1997
--------------------------------------------
Eric de Rothschild

/s/ Christophe Salin Director March 15, 1997
--------------------------------------------
Christophe Salin

/s/ Mark Hojel Director March 15, 1997
--------------------------------------------
Mark Hojel

/s/ Yves-Andre Istel Director March 15, 1997
--------------------------------------------
Yves-Andre Istel

/s/ Phillip M. Plant Director March 15, 1997
--------------------------------------------
Phillip M. Plant

44.