-----BEGIN PRIVACY-ENHANCED MESSAGE----- Proc-Type: 2001,MIC-CLEAR Originator-Name: webmaster@www.sec.gov Originator-Key-Asymmetric: MFgwCgYEVQgBAQICAf8DSgAwRwJAW2sNKK9AVtBzYZmr6aGjlWyK3XmZv3dTINen TWSM7vrzLADbmYQaionwg5sDW3P6oaM5D3tdezXMm7z1T+B+twIDAQAB MIC-Info: RSA-MD5,RSA, IGErwBSXeIHraERAGNpctZm2xCbUH1cLG84VLuQHSTBgCw9wLeClcNx8esItmWPe rG9iBgzVLxQaV0QZIilo7g== 0000950134-00-010552.txt : 20001218 0000950134-00-010552.hdr.sgml : 20001218 ACCESSION NUMBER: 0000950134-00-010552 CONFORMED SUBMISSION TYPE: 10-Q PUBLIC DOCUMENT COUNT: 3 CONFORMED PERIOD OF REPORT: 20001031 FILED AS OF DATE: 20001215 FILER: COMPANY DATA: COMPANY CONFORMED NAME: HASTINGS ENTERTAINMENT INC CENTRAL INDEX KEY: 0001054579 STANDARD INDUSTRIAL CLASSIFICATION: RETAIL-MISCELLANEOUS SHOPPING GOODS STORES [5940] IRS NUMBER: 751386375 STATE OF INCORPORATION: TX FISCAL YEAR END: 0131 FILING VALUES: FORM TYPE: 10-Q SEC ACT: SEC FILE NUMBER: 000-24381 FILM NUMBER: 790718 BUSINESS ADDRESS: STREET 1: 3601 PLANS BLVD STREET 2: SUITE 1 CITY: AMARILLO STATE: TX ZIP: 79102 BUSINESS PHONE: 8063512300 MAIL ADDRESS: STREET 1: P O BOX 35350 CITY: AMARILLO STATE: TX ZIP: 79120-5350 10-Q 1 d82698e10-q.txt FORM 10-Q FOR QUARTER ENDED OCTOBER 31, 2000 1 UNITED STATES SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D. C. 20549 FORM 10-Q (Mark One) [X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the quarterly period ended October 31, 2000 OR [ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15 (d) OF SECURITIES EXCHANGE ACTION OF 1934 For the transition period from __________________ to __________________ COMMISSION FILE NUMBER 000-24381 HASTINGS ENTERTAINMENT, INC. (Exact name of registrant as specified in its charter)
TEXAS 75-1386375 (State or other jurisdiction of (IRS Employer incorporation or organization) Identification No.)
3601 PLAINS BOULEVARD, AMARILLO, TEXAS 79102 (Address of principal executive offices) (Zip Code) (806) 351-2300 (Registrant's telephone number, including area code) 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 [ ] Number of shares outstanding of the registrant's common stock, as of December 10, 2000:
Class Shares Outstanding - -------------------------------------- ------------------ Common Stock, $.01 par value per share 11,642,644
2 HASTINGS ENTERTAINMENT, INC. AND SUBSIDIARIES FORM 10-Q FOR THE THREE MONTHS AND NINE MONTHS ENDED OCTOBER 31, 2000 INDEX
PAGE ---- PART I - FINANCIAL INFORMATION Item 1. Financial Statements Consolidated Balance Sheets as of October 31, 2000 (Unaudited) and January 31, 2000 3 Unaudited Consolidated Statements of Operations for the Three Months and Nine Months Ended October 31, 2000 and 1999 4 Unaudited Consolidated Statements of Cash Flows for the Nine Months Ended October 31, 2000 and 1999 5 Notes to the Unaudited Consolidated Financial Statements 6 Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations 16 Item 3. Quantitative and Qualitative Disclosures about Market Risk 23 PART II - OTHER INFORMATION Item 4. Submission of Matters to a Vote of Security Holders 24 Item 6. Exhibits and Reports on Form 8-K 25 SIGNATURE PAGE 26 INDEX TO EXHIBITS 27
2 3 PART 1 ITEM 1 - FINANCIAL STATEMENTS HASTINGS ENTERTAINMENT, INC. AND SUBSIDIARIES Consolidated Balance Sheets October 31, 2000 and January 31, 2000 (Dollars in thousands, except par value)
OCTOBER 31, JANUARY 31, 2000 2000 ----------- ----------- (UNAUDITED) ASSETS Current assets: Cash $ 5,139 $ 7,026 Merchandise inventories, net 146,356 152,065 Income taxes receivable 7,763 6,272 Deferred income taxes -- 656 Other current assets 4,293 4,968 --------- --------- Total current assets 163,551 170,987 Property and equipment, net of accumulated depreciation of $113,346 and $112,730, respectively 67,334 73,242 Deferred income taxes 4,162 3,026 Other assets 12 678 --------- --------- $ 235,059 $ 247,933 ========= ========= LIABILITIES AND SHAREHOLDERS' EQUITY Current liabilities: Current maturities on long-term debt $ 140 $ 5,372 Trade accounts payable 77,777 66,568 Accrued expenses and other current liabilities 30,800 31,752 Deferred income taxes 232 -- --------- --------- Total current liabilities 108,949 103,692 Long term debt, excluding current maturities 44,529 48,888 Other liabilities 6,169 5,262 Shareholders' equity: Preferred stock, $.01 par value; 5,000,000 shares authorized; none issued -- -- Common stock, $.01 par value; 75,000,000 shares authorized; 11,736,923 shares issued; 11,642,644 and 11,623,962 shares outstanding at October 31, 2000 and January 31, 2000, respectively 117 117 Additional paid-in capital 37,250 37,402 Retained earnings 39,172 53,951 Treasury stock, at cost (1,127) (1,379) --------- --------- 75,412 90,091 Commitments and contingencies -- -- --------- --------- $ 235,059 $ 247,933 ========= =========
See accompanying Notes to the Unaudited Consolidated Financial Statements. 3 4 HASTINGS ENTERTAINMENT, INC. AND SUBSIDIARIES Unaudited Consolidated Statements of Operations Three Months and Nine Months ended October 31, 2000 and 1999 (In thousands, except per share data)
THREE MONTHS ENDED OCTOBER 31, NINE MONTHS ENDED OCTOBER 31, ------------------------------ ----------------------------- 2000 1999 2000 1999 ---------- ----------- ---------- ---------- Merchandise revenue $ 81,193 $ 81,219 $ 254,688 $ 244,073 Rental video revenue 19,200 19,642 63,343 59,805 --------- --------- --------- --------- Total revenues 100,393 100,861 318,031 303,878 Merchandise cost of revenue 63,836 58,219 194,489 174,471 Rental video cost of revenue 9,284 9,242 27,026 21,978 --------- --------- --------- --------- Total cost of revenues 73,120 67,461 221,515 196,449 --------- --------- --------- --------- Gross profit 27,273 96,516 107,429 33,400 Selling, general and administrative expenses 38,409 35,999 110,343 101,875 Pre-opening expenses 119 801 123 1,518 --------- --------- --------- --------- Operating income (loss) (11,255) (3,400) (13,950) 4,036 Other income (expense): Interest expense (821) (1,026) (2,671) (2,802) Other, net 49 44 156 139 --------- --------- --------- --------- Income (loss) before income taxes (12,027) (4,382) (16,465) 1,373 Income tax expense (benefit) -- (1,646) (1,686) 545 --------- --------- --------- --------- Net income (loss) $ (12,027) $ (2,736) $ (14,779) $ 828 ========= ========= ========= ========= Basic income (loss) per share $ (1.03) $ (0.24) $ (1.27) $ 0.08 ========= ========= ========= ========= Diluted income (loss) per share $ (1.03) $ (0.24) $ (1.27) $ 0.08 ========= ========= ========= ========= Weighted average number of common shares outstanding--basic 11,643 11,552 11,638 10,060 Dilutive effect of stock options -- -- -- 140 --------- --------- --------- --------- Weighted average number of common shares outstanding--diluted 11,643 11,552 11,638 10,200 ========= ========= ========= =========
See accompanying Notes to the Unaudited Consolidated Financial Statements. 4 5 HASTINGS ENTERTAINMENT, INC. AND SUBSIDIARIES Unaudited Consolidated Statements of Cash Flows Three Months and Nine Months Ended October 31, 2000 and 1999 (Dollars in thousands)
NINE MONTHS ENDED OCTOBER 31, ----------------------------- 2000 1999 ---------- ---------- Cash flows from operating activities: Net income (loss) $ (14,779) $ 828 Adjustments to reconcile net income (loss) to net cash provided by operating activities: Depreciation and amortization 23,761 22,509 Loss on rental videos lost, stolen and defective 1,885 3,684 Loss on disposal of non-rental video assets 523 618 Deferred income tax (247) 309 Non cash compensation 101 36 Changes in operating assets and liabilities: Merchandise inventory 5,709 (12,265) Other current assets 675 (788) Trade accounts payable and accrued expenses 10,257 5,889 Income taxes receivable (1,491) 831 Other assets and liabilities, net 1,571 1,099 --------- --------- Net cash provided by operating activities 27,965 22,750 --------- --------- Cash flows from investing activities: Purchases of property and equipment (20,261) (39,708) --------- --------- Net cash used in investing activities (20,261) (39,708) --------- --------- Cash flows from financing activities: Borrowings under revolving credit facility 156,072 175,550 Repayments under revolving credit facility (160,443) (155,450) Payments under long-term debt and capital lease obligations (5,220) (4,924) Purchase of treasury stock 68 Additional Paid in Capital -- (16) --------- --------- Net cash provided by (used in) financing activities (9,591) 15,228 --------- --------- Net decrease in cash and cash equivalents (1,887) (1,730) Cash at beginning of period 7,026 5,394 --------- --------- Cash and cash equivalents at end of period $ 5,139 $ 3,664 ========= =========
See accompanying Notes to the Unaudited Consolidated Financial Statements. 5 6 HASTINGS ENTERTAINMENT, INC. AND SUBSIDIARIES Notes to the Unaudited Consolidated Financial Statements October 31, 2000 and 1999 1. BASIS OF PRESENTATION The accompanying unaudited consolidated financial statements of Hastings Entertainment, Inc. and its subsidiaries (the "Company") have been prepared in accordance with generally accepted accounting principles for interim financial information and with instructions in Form 10-Q and Article 10 of Regulation S-X. Certain information and footnote disclosures normally included in annual financial statements prepared in accordance with generally accepted accounting principles have been condensed or omitted pursuant to such principles and regulations of the Securities and Exchange Commission. All adjustments, consisting only of normal recurring adjustments except as described in Note 9 contained herein, have been made which, in the opinion of management, are necessary for a fair presentation of the results of the interim periods. The results of operations for such interim periods are not necessarily indicative of the results that may be expected for a full year. The unaudited consolidated financial statements contained herein should be read in conjunction with the audited consolidated financial statements and notes thereto included in the Company's annual report on Form 10-K for the fiscal year 1999. The results for the three month and nine month periods ended October 31, 1999 have been restated as disclosed in the Company's annual report on Form 10-K for fiscal year 1999 and Note 9 herein. Certain prior-year amounts have been reclassified to conform to the presentation used for the current year including a reclassification related to the total cost associated with the return of inventory as a cost of revenue instead of selling, general and administrative expenses, where these costs had been shown in previous filings. These costs include operational costs of the Company's return center, vendor return and handling fees, freight and variances in cost received for product returned to the vendor. The Company's fiscal year ends on January 31 and is identified as the fiscal year for the immediately preceding calendar year. For example, the fiscal year that will end on January 31, 2001 is referred to as fiscal 2000. 2. CONSOLIDATION POLICY The unaudited consolidated financial statements present the results of Hastings Entertainment, Inc. and its subsidiaries. All significant intercompany transactions and balances have been eliminated in consolidation. 3. STORE CLOSING RESERVES From time to time and in normal course of business, the Company evaluates its store base to determine if a need to close a store(s) is present. Management will evaluate, among other factors, current and future profitability, market trends, age of store and lease status and utilizes FAS 121 to determine impairment in making the proper closure decisions and estimates. In the fourth quarter of fiscal 1999 the Company recorded charges related to the closing of five stores, all of which were closed in the first quarter of 2000. For these stores, a charge of approximately $0.4 million was recorded during the three months ended October 31, 2000 as the Company reduced the sublease term estimate on one of the properties. Additionally during the third quarter of fiscal 2000 the Company identified two additional stores for closure resulting in third quarter of 2000 charges of $2.8 million relating to the net present value of minimum lease payments. The following table provides a rollforward of reserves that were established for these charges. (dollars in thousands) 6 7 HASTINGS ENTERTAINMENT, INC. AND SUBSIDIARIES Notes to the Unaudited Consolidated Financial Statements October 31, 2000 and 1999
ADDITIONS CHARGED JANUARY 31, 2000 TO COST AND EXPENSE CASH OUTLAYS OCTOBER 31, 2000 ---------------- ------------------- ------------ ---------------- Future lease payments (1) $ 2,500 $ 3,157 $ (792) $ 4,865 Other costs 300 17 (317) -- ------- ------- ------- ------- $ 2,800 $ 3,174 $(1,109) $ 4,865 ======= ======= ======= =======
(1) Reserve balances are included as a component of accrued expenses and other current liabilities and other liabilities. In connection with the store closings, the Company established a reserve for the net present value of future minimum lease payments. Costs are being charged against the reserve as incurred and the interest component related to lease payments is recorded as rent expense. Payments during the next five years that are to be charged against the reserve are expected to be approximately $1.0 million per year. Other costs were charged against the reserve in the first three quarters of 2000 as incurred. 4. LONG-TERM DEBT Long-term debt and capitalized lease obligations consisted of the following (dollars in thousands):
OCTOBER 31, 2000 JANUARY 31, 2000 ---------------- ---------------- Revolving credit facility $43,280 $32,250 Series A senior notes -- 20,000 Capitalized lease obligations 1,389 1,492 Other -- 518 ------- ------- 44,669 54,260 Less current maturities 140 5,372 ------- ------- $44,529 $48,888 ======= =======
On August 29, 2000, the Company entered into a three-year syndicated, secured Loan and Security Agreement with Fleet Retail Finance, Inc. and The CIT Group/Business Credit, Inc. (the "New Facility"). The initial proceeds from the New Facility were used to prepay the total amounts outstanding under a revolving credit facility, (the "Facility"), with Bank of America and a consortium of banks and Series A Senior Notes, (the "Senior Notes") with a financial institution. The amount outstanding under the New Facility is limited by a borrowing base predicated on eligible inventory, as defined, and certain rental video assets, net of accumulated depreciation less specifically defined reserves and is limited to a ceiling of $70 million, which increases to $80 million between October 15 and December 15 of each year of the New Facility, less a $10 million availability reserve. The New Facility bears interest based on the prevailing prime rate or LIBOR plus 2.00% at the Company's option. The average rate of interest being charged under the New Facility was 9.2% at October 31, 2000. The borrowing base under the New Facility is limited to an advance rate of 65% of eligible inventory and certain rental video assets net of accumulated amortization less specifically defined reserves. The New Facility contains no financial covenants and requires a minimum availability of $10 million at all times. The New Facility is secured by substantially all of the assets of the Company and its subsidiaries and is guaranteed by each of the Company's three consolidated subsidiaries. The New Facility expires on August 29, 2003. At December 11, 2000, the Company had $28.3 million available, after the $10 million availability reserve, under the New Facility. 7 8 HASTINGS ENTERTAINMENT, INC. AND SUBSIDIARIES Notes to the Unaudited Consolidated Financial Statements October 31, 2000 and 1999 5. INCOME (LOSS) PER SHARE Options to purchase 1,576,350 shares of Common Stock outstanding at October 31, 2000 and options to purchase 1,047,444 shares of Common Stock outstanding at October 31, 1999 were not included in the computation of diluted income per share because their inclusion would have been antidilutive. 6. LITIGATION AND CONTINGENCIES On March 7, 2000, the Company announced that its fourth quarter and fiscal 1999 results (and the previous four fiscal years' results) would be negatively impacted by certain accounting adjustments. Following the Company's initial announcement in March 2000 of the requirement for the accounting restatements, six purported class action lawsuits were filed in the United States District Court for the Northern District of Texas against the Company and certain of the current and former directors and officers of the Company asserting various claims under Sections 10(b) and 20(a) of the Securities Exchange Act of 1934. Although four of the lawsuits were originally filed in the Dallas Division of the Northern District of Texas, all of the five pending actions have been transferred to and consolidated in the Amarillo Division of the Northern District. One of the Section 10(b) and 20(a) lawsuits filed in the Dallas Division was voluntarily dismissed. On May 15, 2000, a lawsuit was filed in the United States District Court for the Northern District of Texas against the Company, its current and former directors and officers at the time of the Company's June 1998 initial public offering and three underwriters, Salomon Smith Barney, A.G. Edwards & Sons, Inc. and Furman Selz, LLC asserting various claims under Sections 11, 12(2) and 15 of the Securities Act of 1933. None of the six pending complaints specify the amount of damages sought. Although it is not feasible to predict or determine the final outcome of the proceedings or to estimate the potential range of loss with respect to these matters, an adverse outcome with respect to such proceedings could have a material adverse impact on the Company's financial position, results of operations and cash flows. The Company is also involved in various other claims and legal actions arising in the ordinary course of business. In the opinion of management, the ultimate disposition of these other matters will not have a material adverse effect on the Company's financial position, results of operations and cash flows. 7. SUPPLEMENTAL CASH FLOW INFORMATION Non-cash financing activities during the nine months ended October 31, 2000 includes the issuance of treasury stock to pay outside director fees of approximately $37,000. Non-cash financing activities during the nine months ended October 31, 1999 includes the receipt of shares of the Company's common stock valued at $1.0 million relating to the exercise of stock options and the issuance of treasury stock to pay outside director fees of approximately $36,000. 8 9 HASTINGS ENTERTAINMENT, INC. AND SUBSIDIARIES Notes to the Unaudited Consolidated Financial Statements October 31, 2000 and 1999 8. SEGMENT DISCLOSURES The Company has two operating segments, retail stores and Internet operations. The Internet operations became a reportable segment in fiscal 1999. The Company's chief operating decision maker, as that term is defined in the relevant accounting standard, regularly reviews financial information about each of the above operating segments for assessing performance and allocating resources. Revenue for retail stores is derived from the sale of merchandise and rental of videocassettes, video games and DVDs. Revenue for Internet operations is derived solely from the sale of merchandise. Segment information regarding the Company's retail stores and Internet operations for the three months and nine months ended October 31, 2000 and 1999 is presented below.
For the three months ended October 31, 2000: Retail Internet (Dollars in thousands) Stores Operations Total --------- ---------- --------- Total revenue $ 100,378 $ 15 $ 100,393 Depreciation and amortization $ 7,572 $ 106 $ 7,678 Operating loss $ (10,799) $ (456) $ (11,255) Interest expense $ (821) $ -- $ (821) Other income $ 49 $ -- $ 49 Loss before taxes $ (11,571) $ (456) $ (12,027) Total assets $ 233,828 $ 1,231 $ 235,059 Capital expenditures $ 8,030 $ 171 $ 8,201
For the three months ended October 31, 1999: Retail Internet (Dollars in thousands) Stores Operations Total --------- ---------- --------- Total revenue $ 100,810 $ 51 $ 100,861 Depreciation and amortization $ 8,963 $ 87 $ 9,050 Operating loss $ (2,864) $ (536) $ (3,400) Interest expense $ (1,026) -- $ (1,026) Other income $ 44 $ -- $ 44 Loss before taxes $ (3,846) $ (536) $ (4,382) Total assets $ 256,813 1,224 $ 258,037 Capital expenditures $ 12,001 631 $ 12,632
9 10 HASTINGS ENTERTAINMENT, INC. AND SUBSIDIARIES Notes to the Unaudited Consolidated Financial Statements October 31, 2000 and 1999 8. SEGMENT DISCLOSURES (CONTINUED)
For the Nine months ended October 31, 2000: Retail Internet (Dollars in thousands) Stores Operations Total --------- ---------- --------- Total revenue $ 317,980 $ 51 $ 318,031 Depreciation and amortization $ 23,501 $ 260 $ 23,761 Operating loss $ (12,690) $ (1,260) $ (13,950) Interest expense $ (2,671) $ -- $ (2,671) Other income $ 156 $ -- $ 156 Loss before taxes $ (15,205) $ (1,260) $ (16,465) Total assets $ 233,828 $ 1,231 $ 235,059 Capital expenditures $ 19,839 $ 422 $ 20,261
For the Nine months ended October 31, 1999: Retail Internet (Dollars in thousands) Stores Operations Total ----------- ----------- ------------ Total revenue $ 303,797 $ 81 $ 303,878 Depreciation and amortization $ 22,347 $ 162 $ 22,509 Operating income (loss) $ 5,286 $ (1,250) $ 4,036 Interest expense $ (2,802) $ -- $ (2,802) Other income $ 139 $ -- $ 139 Income (loss) before taxes $ 2,623 $ (1,250) $ 1,373 Total assets $ 256,806 $ 1,231 $ 258,037 Capital expenditures $ 41,936 $ 729 $ 42,665
10 11 HASTINGS ENTERTAINMENT, INC. AND SUBSIDIARIES Notes to the Unaudited Consolidated Financial Statements October 31, 2000 and 1999 9. FISCAL 1999 AND 1998 INTERIM FINANCIAL RESULTS (UNAUDITED) Accounting Restatement (the "Restatement "). As described in the Company's annual report on Form 10-K, on March 7, 2000, the Company announced that its fourth quarter and fiscal 1999 results (and the previous four fiscal years' results) would be negatively impacted by certain accounting adjustments. The effects on the previously reported net income for the first three quarters of fiscal 1999, fiscal 1998, fiscal 1997, and the fiscal years prior to fiscal 1997 amounted to decreases of $0.7 million, $4.8 million, $3.5 million and $16.3 million, respectively. Prior to the March 7, 2000 announcement, the Company determined that a portion of merchandise receipts had not been properly entered into the inventory system. As a result, the Company's accounting system did not completely capture certain merchandise cost of revenues specifically relating to shrinkage, and that merchandise cost of revenue had been understated for the periods noted above. The Company uses accounts payable clearing accounts that, in part, are based upon a process of matching vendor invoices to receipt transactions generated when merchandise is physically received. Clearing accounts are established by store to record inventory received until matched with vendor invoices. Once an invoice is matched with a receipt, the invoice is transferred from the accounts payable clearing account to trade accounts payable and is paid in accordance with the vendor's terms. Depending on the time of the year, over 100,000 invoices ($30 to $50 million) are processed through the individual store clearing accounts each month and in any fiscal year referenced above, merchandise receipts totaled between $250 million and $300 million. Greater than 95% of the receipts were processed correctly; however, between 1% and 5% of total receipts per year, were not captured and accounted for appropriately due to imprecise system design that did not capture exceptions to the receiving process. Although the Company believed that internal controls and procedures in place during the periods referenced above provided accurate financial statements, it was determined during the fourth quarter of fiscal 1999 that the reliance on these controls and procedures to capture the exceptions noted above was not warranted. The Company had, over time, developed a proprietary accounting software system for the accounts payable process as well as the inventory control system. The Company determined its accounting systems did not capture those exceptions where inventory receipts were not recorded or did not precisely match vendor invoices nor facilitate the proper reconciliation of the Company's accounts payable clearing accounts. Accounting system enhancements identified the errors in the Company's controls and processes and the impact upon the Company's financial statements. The Company has implemented changes in both its accounts payable and inventory control systems relating to (i) timely reconciliation, (ii) effective communication, (iii) management review, (iv) training for both store level and corporate personnel, and (v) modification of systems to correct the errors and to ensure that the Company's merchandise cost of revenue is properly stated. Collectively, the accounts payable clearing account adjustment aggregated $24.1 million pre-tax. In addition, the Company recorded adjustments totaling $7.4 million pre-tax including: (i) $5.8 million pre-tax to properly account for certain cost of inventory returned to vendors primarily wherein credit from those vendors was denied; (ii) $0.7 million to correct an accrual for benefit expense; (iii) $0.7 million to reconcile prior period balances of certain liability accounts; and (iv) $0.2 million to adjust certain prior period accruals and reserve accounts. After-tax charges/(benefits) to income relating to the Restatement of ($1.0) million or ($0.08) per diluted common share, $1.2 million or $0.10 per diluted common share, and $0.5 million or $0.04 per common share were included in the three months ended April 30, 1999, three months ended July 31, 1999 and the three months ended October 31, 1999, respectively. Quarterly statements for fiscal 1999 as presented in Form 10-Qs for the first, second and third quarters of fiscal 2000 reflect restated amounts. Additional summary of the impact of the Restatement on fiscal 1999 and 1998 and the respective quarters are presented below: 11 12 HASTINGS ENTERTAINMENT, INC. AND SUBSIDIARIES Notes to the Unaudited Consolidated Financial Statements October 31, 2000 and 1999 9. FISCAL 1999 AND 1998 INTERIM FINANCIAL RESULTS (UNAUDITED) (CONTINUED)
FISCAL 1999: QUARTER ------------------------------------------------------------------ Dollars in thousands, except per share data First Second Third Fourth ----------- ----------- ----------- ----------- As Restated As Restated As Restated Total revenues $ 100,579 $ 102,438 $ 100,861 $ 143,277 Total cost of revenues (a) 63,432 65,556 67,461 102,026 Selling, general and administrative expenses (b) 31,864 33,917 35,955 45,285 Development and pre-opening expenses 178 538 801 163 Operating income (loss) 5,105 2,427 (3,356) (4,197) Interest and other expense, net 822 955 1,026 700 Income (loss) before taxes 4,283 1,472 (4,382) (4,897) Income tax expense (benefit) 1,585 606 (1,646) (1,904) Net income (loss) 2,698 866 (2,736) (2,993) Basic income (loss) per share $ 0.23 $ 0.07 $ (0.24) $ (0.26) Diluted income (loss) per share $ 0.23 $ 0.07 $ (0.24) $ (0.26)
FISCAL 1998: QUARTER ----------------------------------------------------------------- Dollars in thousands, except per share data First Second Third Fourth ----------- ----------- ----------- ----------- As Restated As Restated As Restated As Restated Total revenues $ 89,882 $ 91,187 $ 91,622 $ 126,472 Total cost of revenues (c) 57,904 60,155 62,115 101,287 Selling, general and administrative expenses 27,809 28,959 30,289 33,084 Development and pre-opening expenses 159 611 647 57 Operating income (loss) 4,010 1,462 (1,429) (7,956) Interest and other expense, net 1,199 955 746 595 Gain on sale of mall stores (d) -- -- -- 454 Income (loss) before taxes 2,811 507 (2,175) (8,097) Income tax expense (benefit) 1,077 217 (831) (3,112) Net income (loss) 1,734 290 (1,344) (4,985) Basic income (loss) per share $ 0.20 $ 0.03 $ (0.12) $ (0.43) Diluted income (loss) per share $ 0.20 $ 0.03 $ (0.12) $ (0.43)
(a) The Company recorded a pre-tax charge of approximately $3.5 million in the fourth quarter of fiscal year 1999 for the write down of inventory to the lower of cost or market. (b) The Company recorded a pre-tax charge of approximately $5.1 million in the fourth quarter of fiscal year 1999 related to the closing of two of its superstores during fiscal 1999 and five of its stores during the first quarter of fiscal year 2000. This charge includes the net present value of future minimum lease payments, write-off of property and equipment, and other costs associated with the closing of these locations. (c) The Company adopted a new, accelerated method of amortizing its rental video assets in the fourth quarter of fiscal 1998. The adoption of the new amortization method was accounted for as a change in accounting estimate effected by a change in accounting principle and, accordingly, the Company recorded a non-cash, non-recurring, pre-tax charge of $18.5 million in rental video cost of revenues in the fourth quarter of fiscal 1998. 12 13 HASTINGS ENTERTAINMENT, INC. AND SUBSIDIARIES Notes to the Unaudited Consolidated Financial Statements October 31, 2000 and 1999 9. FISCAL 1999 AND 1998 INTERIM FINANCIAL RESULTS (UNAUDITED) (CONTINUED) (d) In fiscal 1996, the Company established a reserve of $2.5 million ($1.6 million after-tax charge) to cover potential losses related to certain mall store leases that were sold prior to fiscal 1995 to Camelot Music, Inc., which filed for bankruptcy protection in August 1996. In fiscal 1997, the reserve was reduced to $0.5 million, and $1.7 million was included in Gain on sale of mall stores. In fiscal 1998, the Company was released from any contingent liability on the remaining leases by order of a bankruptcy court. Accordingly, the Company reduced the remaining $0.5 million reserve to zero as of January 31, 1999. The effects of the adjustments on the previously reported results of operations for the first three quarters of fiscal 1999 are as follows:
QUARTER FISCAL 1999: ------------------------------------------ Dollars in thousands, except per share data First Second Third -------- -------- -------- Total cost of revenue: As previously reported $ 64,964 $ 63,669 $ 66,717 Adjustments: Cost of merchandise returns to vendors (536) 181 (547) Shrinkage expense (567) 954 1,311 Inventory costing (430) 752 (20) -------- -------- -------- As restated $ 63,431 $ 65,556 $ 67,461 ======== ======== ======== Operating income (loss): As previously reported $ 3,572 $ 4,314 $ (2,612) Adjustments 1,533 (1,887) (744) -------- -------- -------- As restated $ 5,105 $ 2,427 $ (3,356) ======== ======== ======== Income (loss) before taxes: As previously reported $ 2,750 $ 3,359 $ (3,638) Adjustments 1,533 (1,887) (744) -------- -------- -------- As restated $ 4,283 $ 1,472 $ (4,382) ======== ======== ======== Income tax expense (benefit): As previously reported $ 1,045 $ 1,271 $ (1,384) Adjustments 540 (665) (262) -------- -------- -------- As restated $ 1,585 $ 606 $ (1,646) ======== ======== ======== Net income (loss): As previously reported $ 1,705 $ 2,088 $ (2,254) Adjustments 993 (1,222) (482) -------- -------- -------- As restated $ 2,698 $ 866 $ (2,736) ======== ======== ======== Basic income (loss) per share: As previously reported $ 0.15 $ 0.18 $ (0.19) Adjustments 0.08 (0.11) (0.05) -------- -------- -------- As restated $ 0.23 $ 0.07 $ (0.24) ======== ======== ======== Diluted income (loss) per share: As previously reported $ 0.15 $ 0.18 $ (0.19) Adjustments 0.08 (0.11) (0.05) -------- -------- -------- As restated $ 0.23 $ 0.07 $ (0.24) ======== ======== ========
13 14 HASTINGS ENTERTAINMENT, INC. AND SUBSIDIARIES Notes to the Unaudited Consolidated Financial Statements October 31, 2000 and 1999 9. INTERIM FINANCIAL RESULTS (UNAUDITED) (CONTINUED) Restatement adjustments that significantly impact the Company's operating results for fiscal 1998 include certain revenues, costs and expenses that were not properly recorded (principally related to the timing of gift certificate revenue recognition, shrinkage expense, cost of merchandise returns and inventory costing recorded in cost of revenue and the timing of the reversal of the recognition of the loss on sale of mall stores). The impact of the adjustments to previously reported results of operations for the fiscal 1998 quarters is as follows:
QUARTER FISCAL 1998: --------------------------------------------------------------- Dollars in thousands, except per share data First Second Third Fourth ----------- ----------- ----------- ----------- As restated As restated As restated As restated Total revenues: As previously reported $ 89,387 $ 91,187 $ 91,622 $ 126,472 Adjustment: Timing of gift certificate revenue recognition 495 -- -- -- --------- --------- --------- --------- As restated $ 89,882 $ 91,187 $ 91,622 $ 126,472 ========= ========= ========= ========= Total cost of revenue: As previously reported $ 58,281 $ 57,685 $ 57,756 $ 100,433 Adjustments: Cost of merchandise returns to vendors (1,074) 1,389 2,323 2,129 Shrinkage expense 1,114 437 2,006 (874) Inventory costing (417) 644 30 (401) --------- --------- --------- --------- As restated $ 57,904 $ 60,155 $ 62,115 $ 101,287 ========= ========= ========= ========= Operating income (loss): As previously reported $ 3,138 $ 3,932 $ 2,930 $ (7,102) Adjustments 872 (2,470) (4,359) (854) --------- --------- --------- --------- As restated $ 4,010 $ 1,462 $ (1,429) $ (7,956) ========= ========= ========= ========= Gain on sale of mall stores As previously reported $ -- $ -- $ -- $ 1,454 Adjustments: Recognition of gain on mall stores -- -- -- (1,000) --------- --------- --------- --------- As restated $ -- $ -- $ -- $ 454 ========= ========= ========= ========= Income (loss) before taxes: As previously reported $ 1,939 $ 2,977 $ 2,184 $ (6,243) Adjustments 872 (2,470) (4,359) (1,854) --------- --------- --------- --------- As restated $ 2,811 $ 507 $ (2,175) $ (8,097) ========= ========= ========= ========= Income tax expense (benefit): As previously reported $ 737 $ 1,179 $ 866 $ (2,390) Adjustments 340 (962) (1,697) (722) --------- --------- --------- --------- As restated $ 1,077 $ 217 $ (831) $ (3,112) ========= ========= ========= ========= Net income (loss): As previously reported $ 1,202 $ 1,798 $ 1,318 $ (3,853) Adjustments 532 (1,508) (2,662) (1,132) --------- --------- --------- --------- As restated $ 1,734 $ 290 $ (1,344) $ (4,985) ========= ========= ========= ========= Basic income (loss) per share: $ 0.14 $ 0.18 $ 0.11 $ (0.33) As previously reported 0.06 (0.15) (0.23) (0.10) --------- --------- --------- --------- Adjustments $ 0.20 $ 0.03 $ (0.12) $ (0.43) ========= ========= ========= ========= As restated Diluted income (loss) per share: $ 0.14 $ 0.17 $ 0.11 $ (0.33) As previously reported 0.06 (0.14) (0.23) (0.10) --------- --------- --------- --------- Adjustments $ 0.20 $ 0.03 $ (0.12) $ (0.43) ========= ========= ========= ========= As restated
14 15 10. WRITE OFF OF IMPAIRED ASSET During fiscal year 1999, the Company entered into a barter transaction with a third party. The Company recognized inventory valuation adjustments in accordance with APB 29, "Accounting for Non-monetary Transactions" and recorded an asset related to the barter credit in the amount of $0.9 million. During the third quarter of fiscal 2000, the barter company had ceased operations and no longer appeared to be a going concern. Consequently, the Company deemed the entire credit to be fully impaired which resulted in a charge to income of $0.9 million in the third quarter of fiscal 2000. 15 16 ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATONS The following discussion should be read in conjunction with the unaudited consolidated financial statements of the Company and the related notes thereto appearing elsewhere in the Report on Form 10-Q. The results of operations for the three month and nine month periods ended October 31, 1999 have been restated as disclosed in the Company's annual report on Form 10-K for fiscal year 1999. A detail of the adjustments is presented in Note 9 of the Notes to the Unaudited Financial Statements contained in this Form 10-Q filing for fiscal years 1999 and 1998. This Report contains certain forward-looking statements concerning the intentions, hopes, beliefs, expectations, strategies, predictions or any other variation thereof or comparable phraseology of the future activities or other future events or conditions of the Company within the meaning of Section 27A of the Securities Act of 1933, as amended (the "1933 Act"), and Section 21E of the Securities Exchange Act of 1934, as amended (the "1934 Act"), which are intended to be covered by the safe harbors created thereby. Investors are cautioned that all forward-looking statements involve risks and uncertainty, including, without limitation, variations in quarterly results, volatility of stock price, development by competitors of superior services or product offerings, the entry into the market by new competitors, the sufficiency of the Company's working capital, the ability to retain management, to implement our business strategy, to attract and retain customers, to increase revenue, and to successfully defend our company in ongoing and future litigation and the risk factors described in the Company's annual report on Form 10-K for fiscal year 1999. Although the Company believes that the assumptions underlying the forward-looking statements contained herein are reasonable, any of the assumptions could be inaccurate, and, therefore, there can be no assurance that the forward-looking statements included in this Report will prove to be accurate. In light of the significant uncertainties inherent in the forward-looking statements included herein, the inclusion of such information should not be regarded as a representation by the Company or any other person that the Company's objectives and plans will be achieved and all forward-looking statements in this discussion are expressly qualified in their entirety by the cautionary statements set forth above. General The Company is a leading multimedia entertainment retailer that combines the sale of books, music, software, periodicals, videocassettes, video games and DVDs with the rental of videocassettes, video games and DVDs in a superstore and Internet Web site format. As of October 31, 2000, the Company operated 144 superstores averaging 21,500 square feet in small to medium-sized markets located in 22 states, primarily in the Western and Midwestern United States. During the quarter ending October 31, 2000, the Company elected to close 2 superstores, which will be in operation until the middle of the fourth fiscal quarter. The effects of this decision are reflected in operations and are detailed in the following discussions. The effect on revenues and gross profit for the quarter and year-to-date as a result of these closures are immaterial. The Company also operated one college bookstore. Each of the superstores and the college bookstore is wholly owned by the Company and operates under the name of Hastings. The Company's e-commerce Web site, www.gohastings.com, became operational in May 1999. Accounting Restatement (the "Restatement "). As described in the Company's annual report on Form 10-K, on March 7, 2000, the Company announced that its fourth quarter and fiscal 1999 results (and the previous four fiscal years' results) would be negatively impacted by certain accounting adjustments. The effects on the previously reported net income for the first three quarters of fiscal 1999, fiscal 1998, fiscal 1997, and the fiscal years prior to fiscal 1997 amounted to decreases of $0.7 million, $4.8 million, $3.5 million and $16.3 million, respectively. Prior to the March 7, 2000 announcement, the Company determined that a portion of merchandise receipts had not been properly entered into the inventory system. As a result, the Company's accounting system did not completely capture certain merchandise cost of revenues specifically relating to shrinkage, and that merchandise cost of revenue had been understated for the periods noted above. The Company uses accounts payable clearing accounts that, in part, are based upon a process of matching vendor invoices to receipt transactions generated when merchandise is physically received. Clearing accounts are established by store to record inventory received until matched with vendor invoices. Once an invoice is matched with a receipt, the invoice is transferred from the accounts payable clearing account to trade accounts payable and is 16 17 paid in accordance with the vendor's terms. Depending on the time of the year, over 100,000 invoices ($30 to $50 million) are processed through the individual store clearing accounts each month and in any fiscal year referenced above, merchandise receipts totaled between $250 million and $300 million. Greater than 95% of the receipts were processed correctly; however, between 1% and 5% of total receipts per year, were not captured and accounted for appropriately due to imprecise system design that did not capture exceptions to the receiving process. Although the Company believed that internal controls and procedures in place during the periods referenced above provided accurate financial statements, it was determined during the fourth quarter of fiscal 1999 that the reliance on these controls and procedures to capture the exceptions noted above was not warranted. The Company had, over time, developed a proprietary accounting software system for the accounts payable process as well as the inventory control system. The Company determined its accounting systems did not capture those exceptions where inventory receipts were not recorded or did not precisely match vendor invoices nor facilitate the proper reconciliation of the Company's accounts payable clearing accounts. Accounting system enhancements identified the errors in the Company's controls and processes and the impact upon the Company's financial statements. The Company has implemented changes in both its accounts payable and inventory control systems relating to (i) timely reconciliation, (ii) effective communication, (iii) management review, (iv) training for both store level and corporate personnel, and (v) modification of systems to correct the errors and to ensure that the Company's merchandise cost of revenue is properly stated. Collectively, the accounts payable clearing account adjustment aggregated $24.1 million pre-tax. In addition, the Company recorded adjustments totaling $7.4 million pre-tax including: (i) $5.8 million pre-tax to properly account for certain cost of inventory returned to vendors primarily wherein credit from those vendors was denied; (ii) $0.7 million to correct an accrual for benefit expense; (iii) $0.7 million to reconcile prior period balances of certain liability accounts; and (iv) $0.2 million to adjust certain prior period accruals and reserve accounts. After-tax charges/(benefits) to income relating to the Restatement of ($1.0) million or ($0.08) per diluted common share, $1.2 million or $0.10 per diluted common share, and $0.5 million or $0.04 per common share were included in the three months ended April 30, 1999, three months ended July 31, 1999 and the three months ended October 31, 1999, respectively. Following the Company's initial announcement in March 2000 of the requirement for the accounting restatements, six purported class action lawsuits were filed in the United States District Court for the Northern District of Texas against the Company and certain of the current and former directors and officers of the Company asserting various claims under Sections 10(b) and 20(a) of the Securities Exchange Act of 1934. Although four of the lawsuits were originally filed in the Dallas Division of the Northern District of Texas, all of the five pending actions have been transferred to and consolidated in the Amarillo Division of the Northern District. One of the Section 10(b) and 20(a) lawsuits filed in the Dallas Division was voluntarily dismissed. On May 15, 2000, a lawsuit was filed in the United States District Court for the Northern District of Texas against the Company, its current and former directors and officers at the time of the Company's June 1998 initial public offering and three underwriters, Salomon Smith Barney, A.G. Edwards & Sons, Inc. and Furman Selz, LLC asserting various claims under Sections 11, 12(2) and 15 of the Securities Act of 1933. None of the six pending complaints specify the amount of damages sought. Although it is not feasible to predict or determine the final outcome of the proceedings or to estimate the potential range of loss with respect to these matters, an adverse outcome with respect to such proceedings could have a material adverse impact on the Company's financial position, results of operations and cash flows. 17 18 Results of Operations The following tables present the Company's statement of operations data, expressed as a percentage of revenue, and the number of superstores open at the end of the periods presented herein.
Three Months Ended October 31, Nine Months Ended October 31, ------------------------------ ----------------------------- 2000 1999 2000 1999 ---------- ----------- ---------- ---------- Merchandise revenue 80.9% 80.5% 80.1% 80.3% Rental video revenue 19.1 19.5 19.9 19.7 ----- ----- ----- ------ Total revenues 100.0 100.0 100.0 100.0 Merchandise cost of revenue 78.6 71.7 76.4 71.5 Rental video cost of revenue 48.4 47.1 42.7 36.7 ----- ----- ----- ----- Total cost of revenues 72.8 66.9 69.7 64.6 ----- ----- ----- ----- Gross profit 27.2 33.1 30.3 35.4 Selling, general and administrative expenses 38.3 35.7 34.7 33.6 Pre-opening expenses 0.1 0.8 0.0 0.5 ----- ----- ----- ----- 38.4 36.5 34.7 34.1 ----- ----- ----- ----- Operating income (loss) (11.2) (3.4) (4.4) 1.3 Other income (expense): Interest expense (0.8) (1.0) (0.8) (0.9) Other, net 0.0 0.0 0.0 0.0 ----- ----- ----- ----- Income (loss) before income taxes (12.0) (4.4) (5.2) 0.4 Income tax expense (benefit) (0.0) (1.6) (0.5) 0.1 ----- ----- ----- ----- Net income (loss) (12.0)% (2.8)% (4.7)% 0.3% ===== ===== ===== =====
Summary of Superstore Activity
Quarter Ended Nine Months Ended Year Ended ------------------------ ----------------------- ------------- October 31, October 31, October 31, October 31, January 31, 2000 1999 2000 1999 2000 ----------- ----------- ----------- ----------- ----------- Hastings Superstores: Beginning number of stores 143 138 147 129 129 Openings 1 8 1 17 20 Closings -- -- (4) -- (2) ---- ---- ---- ---- ---- Ending number of stores 144 146 144 146 147 ==== ==== ==== ==== ====
18 19 THREE MONTHS ENDED OCTOBER 31, 2000 COMPARED TO THREE MONTHS ENDED OCTOBER 31, 1999: Revenues. For the three months ended October 31, 2000, total revenues decreased by $0.5 million, or 0.5%, to $100.4 million from $100.9 million for the three months ended October 31, 1999. The revenue decrease was due to a comparative store revenue decline of 1.6% resulting primarily from a decline in rental video revenue as a result of weaker performing box office titles that became available during the three months ended October 31, 2000 as compared to stronger performing titles that became available during the three months ended October 31, 1999. Gross Profit. Effective with the third quarter ending October 31, 2000, the Company has reclassified the total cost associated with the return of inventory as a cost of revenue instead of selling, general and administrative expenses, where these costs had been shown in previous filings (the "Reclass"). These costs include operational costs of the Company's return center, vendor return and handling fees, freight and variances in cost received for product returned to the vendor. All prior comparative periods have been adjusted to reflect the Reclass. Total gross profit as a percent of total revenue decreased for the three months ended October 31, 2000 to 27.2% compared to 33.1% for the same period last year. Merchandise gross profit was negatively impacted by: (i) a $3.9 million increase in the cost associated with the return of product. This increase is primarily a result of the Company's initiative during fiscal 2000 to permanently reduce inventory in order to improve inventory turnover. During fiscal 2000, management determined a need to improve inventory turns in order to improve cash flow, increase liquidity and profits, and balance the Company's inventory offering. This initiative generated an increase in the volume of returns throughout the year including the third quarter as well as compressed the timing of these returns that resulted in higher fees per return based on the pricing agreements with the Company's vendors. (ii) A pre-tax charge of $0.9 million relating to the write-off of a barter credit resulting from an inventory barter transaction in the prior fiscal year. During the third quarter of fiscal 2000, the barter company had ceased operations and no longer appeared to be a going concern. Consequently, the Company deemed the $0.9 million barter credit to be fully impaired. See Note 10 to the unaudited financial statements contained herein for a full discussion of the barter transaction. (iii) A $1.3 million increase in inventory markdowns to state balances at the lower of cost or market. Lower than anticipated sales volume in the third quarter of fiscal 2000 resulted in management's decision to increase promotional discounts on certain products to stimulate sales and to increase inventory turnover and enhance cash flows. Such discounts resulted in lower of cost or market inventory adjustments. (iv) Freight costs increased $0.4 million for the three months end October 31, 2000 due to freight carriers adding fuel surcharges of 4% to 8% to offset their increasing cost of fuel and increased merchandise return volume. Selling, General and Administrative Expenses. Selling, general and administrative ("SG&A") expenses increased to 38.3%, or $38.4 million, of total revenues for the three months ended October 31, 2000 from 35.7%, or $36.0 million, for the same period last year. This increase was due primarily to a $2.8 million pre-tax charge for the cost associated with the closing of two superstores. This charge includes the net present value of future minimum lease payments. See Note 2 to the unaudited financial statements contained herein for a full discussion of store closures. Pre-opening Expenses. Pre-opening expenses were $0.1 million for the three months ended October 31, 2000, as the Company opened one new superstore. For the three months ended October 31, 1999, pre-opening expenses were $0.8 million or 0.8% of revenues on the opening of 8 superstores. Pre-opening expenses include human resource costs, travel, rent, advertising, supplies and certain other costs incurred prior to a superstore's opening. Interest Expense. Interest expense was $0.8 million, or 0.8% of revenues, in the three months ended October 31, 2000 compared to $1.0 million, or 1.0% of revenues, in the three months ended October 31, 1999. Although higher interest rates have impacted the amount of interest expense expended by the Company, lower average borrowings resulted in lower expense compared to the same period last year. 19 20 Income taxes. During the third quarter of fiscal 2000, the Company reviewed its net deferred tax assets under the provisions set forth in Statement of Financial Accounting Standards No. 109, "Accounting for Income Taxes" (SFAS 109). While the Company believes the entire deferred tax asset will be realized by future operating results, due to the cumulative losses incurred in recent years a portion of the deferred tax asset does not currently meet the stringent criteria for recognition under SFAS 109. As a result, the Company did not recognize any income tax benefit in the third quarter. In the future, the Company will continue to evaluate the potential realization of its net deferred tax asset. NINE MONTHS ENDED OCTOBER 31, 2000 COMPARED TO NINE MONTHS ENDED OCTOBER 31, 1999: Revenues. For the nine months ended October 31, 2000, total revenues increased $14.1 million, or 4.7%, to $318.0 million from $303.9 million during the nine months ended October 31, 1999. The revenue growth consisted of a 4.4% increase in merchandise revenue and a 5.9% increase in rental video revenue. Comparable store revenue was flat when compared to last year. The increase in revenue was primarily due to a higher average number of superstores operating at October 31, 2000 compared to the same period last year. Gross Profit. Total gross profit as a percent of total revenue decreased for the nine months ended October 31, 2000 to 30.3% compared to 35.4% for the same period last year including the Reclass. Merchandise gross profit was negatively impacted by: (i) a $9.0 million increase in the cost associated with the return of product. This increase is primarily a result of the Company's initiative during fiscal 2000 to permanently reduce inventory to improve inventory turnover. During the first quarter of fiscal 2000, management determined a need to improve inventory turns in order to improve cash flow, increase liquidity and profits, and balance the Company's inventory offering. This initiative generated an increase in the volume of returns as well as compressed the timing of these returns which resulted in higher fees per return based on the pricing agreements with the Company's vendors. (ii) A pre-tax charge of $0.9 million relating to the write-off of a barter credit resulting from an inventory barter transaction in the prior fiscal year. During the third quarter of fiscal 2000, the barter company no longer appeared to be a going concern and the Company deemed the $0.9 million barter credit to be fully impaired. See Note 10 to the unaudited financial statements contained herein for a full discussion of the barter transaction (iii) $2.2 million pre-tax charges for the write down of inventory to the lower of cost or market. $1.3 million of the charge relates to an increase in inventory markdowns to state balances at the lower of cost or market. Lower than anticipated sales volume in the third quarter of fiscal 2000 resulted in management's decision to increase promotional discounts on certain products to stimulate sales and to increase inventory turnover and enhance cash flows. Such discounts resulted in lower of cost or market inventory adjustments. In addition, lower than anticipated sales volume during the second quarter of fiscal 2000 and higher than anticipated merchandise returns volume associated with the Company's initiative to improve inventory turnover in order to improve cash flow, increase liquidity and profits and balance the inventory offering all contributed to this write down. Inventory from the stores closed during fiscal 2000 was returned to the Company's return center during the first and second quarter of fiscal 2000 with the intent of returning the product for credit to the original vendor. During the second quarter, it was determined that certain merchandise was not returnable. Consequently, the Company evaluated other opportunities for maximizing recovery value of the merchandise. During the second quarter, the Company contracted with a liquidator to market $1.3 million of merchandise. Based upon the estimated recovery value provided by the liquidator, the Company wrote the inventory down to the estimated recovery value of approximately $0.4 million, reflecting the $0.9 million charge. (iv) Freight costs increased $1.0 million for the nine months end October 31, 2000 due to freight carriers adding fuel surcharges of 4% to 8% to offset their increasing cost of fuel and increased merchandise return volume. Rental video gross profit decreased as a percent of rental video revenue from 63.3% to 57.3%. Contributing to this decrease was (i) an increase in rental video revenue sharing to total rental video revenue which has lower profit margins and (ii) the gross profit margin on traditional rental video was higher in the first nine months of fiscal 1999 as compared to the first nine months of fiscal 2000, which resulted from higher than anticipated revenue from 20 21 videocassettes purchased prior to January 31, 1999, for which the Company had recorded a pre-tax charge of $18.5 million in the fourth quarter of fiscal 1998, relating to the Company's change in method of amortization. Selling, General and Administrative Expenses. Selling, general and administrative ("SG&A") expenses increased to 34.7%, or $110.3 million, of total revenues for the nine months ended October 31, 2000 from 33.6%, or $101.9 million, for the same period last year. This increase is primarily the result of a $2.8 million pre-tax charge for the cost associated with the closing of two superstores. This charge includes the net present value of future minimum lease payments. See Note 2 to the unaudited financial statements contained herein for a full discussion of store closures. Also, accounting and legal fees associated with the Restatement, as described in Notes 1 and 9 and in the Company's annual report on Form 10-K for fiscal 1999, contributed to the increase in SG&A. Amounts incurred during the first nine months of fiscal 2000 for the Restatement totaled approximately $2.7 million, or 0.9% of revenue and $0.02 per diluted common share, net of tax. Finally, the Company recognized additional expense of approximately $2.9 million compared to last year for the operation of a higher average number of stores for the nine months ended October 31, 2000. Pre-opening Expenses. Pre-opening expenses were $0.1 million for the nine months ended October 31, 2000, as the Company opened one new superstore during the period. For the nine months ended October 31, 1999, pre-opening expenses were $1.5 million or 0.54% of revenues as the Company opened 17 new superstores during this period. Pre-opening expenses include human resource costs, travel, rent, advertising, supplies and certain other costs incurred prior to a superstore's opening. Interest Expense. Interest expense was $2.7 million, or 0.8% of revenues, in the nine months ended October 31, 2000, compared to $2.8 million, or 0.9% of revenues, in the nine months ended October 31, 1999. Although higher interest rates have impacted the amount of interest expense expended by the Company, lower average borrowings resulted in lower expense over the same period last year. Income taxes. The Company's effective income tax rate for the nine months ended October 31, 2000 was 10.2% compared to 39.7% for the same period last year. The change was primarily due to a change in the estimation of the valuation allowance. During the third quarter of fiscal 2000, the Company reviewed its net deferred tax assets under the provisions set forth in Statement of Financial Accounting Standards No. 109, "Accounting for Income Taxes" (SFAS 109). While the Company believes the entire deferred tax asset will be realized by future operating results, due to the cumulative losses incurred in recent years a portion of the deferred tax asset does not currently meet the stringent criteria for recognition under SFAS 109. As a result, the Company did not recognize any income tax benefit in the third quarter. In the future, the Company will continue to evaluate the potential realization of its net deferred tax asset. LIQUIDITY AND CAPITAL RESOURCES The Company's principal capital requirements arise from purchasing, warehousing and merchandising inventory and rental videos, opening new superstores, expanding existing superstores, and funding the expansion of its Internet operations. The Company's primary sources of working capital are currently cash flows from operating activities, trade credit from vendors and borrowings from its New Facility. Cash flow from operations was $28.0 million and $22.8 million, for the nine months ended October 31, 2000 and 1999, respectively. Capital expenditures, including purchase of rental video assets, were $20.3 million and $39.7 million for the nine months ended October 31, 2000 and 1999, respectively. Cash flows from financing activities for the comparable periods primarily resulted from borrowings made under a then effective revolving credit facility, (the "Facility"), with Bank of America and a consortium of banks. Collectively the New Facility and the Facility will be termed the "Facilities". Net activity under the Facilities resulted in net payments of $4.4 million for the nine months ended October 31, 2000 and net borrowings of $20.1 million for the nine months ended October 31, 1999, respectively. On August 29, 2000, the Company entered into a three-year syndicated, secured Loan and Security Agreement with Fleet Retail Finance, Inc. and The CIT Group/Business Credit, Inc. (the "New Facility"). The initial proceeds from the New Facility were used to prepay the total amounts outstanding under the Facility and the Senior Notes. The amount outstanding under the New Facility is limited by a borrowing base predicated on eligible inventory, as defined, and certain rental video assets, net of accumulated depreciation and is limited to a ceiling of $70 million, 21 22 which increases to $80 million between October 15 and December 15 of each year of the New Facility, less a $10 million availability reserve. The New Facility bears interest based on the prevailing prime rate or LIBOR plus 2.00% at the Company's option. The average rate of interest being charged under the New Facility was 9.2% at October 31, 2000. The borrowing base under the New Facility is limited to an advance rate of 65% of eligible inventory and rental video assets net of accumulated amortization less specifically defined reserves. The New Facility contains no financial covenants and requires a minimum availability of $10 million at all times. The New Facility is secured by substantially all of the assets of the Company and its subsidiaries and is guaranteed by each of the Company's three consolidated subsidiaries. The New Facility expires on August 29, 2003. At December 11, 2000, the Company had $28.3 million available, after the $10 million availability reserve, under the New Facility. The long-term debt in the accompanying consolidated financial statements has been reclassified in accordance with the terms of the New Facility. The Company believes that, based on current and anticipated financial performance, cash flows from operating activities and borrowings under the New Facility will be adequate to meet anticipated requirements for capital expenditures, working capital and required principal and interest payments under the New Facility. The ability of the Company to satisfy its capital requirements will be dependent upon future financial performance of the Company, which in turn is subject to general economic conditions and to financial issues and other factors, including factors beyond the Company's control. The Company slowed its new store growth rate for fiscal 2000 from that previously accomplished and focused on the expansion and remodeling of its existing superstores. The Company invests generally between $1 million and $2 million in a new superstore, with the largest components of that amount being merchandise, videos, fixtures and leasehold improvements. The Company generally invests between $0.5 million to $1.0 million to expand a superstore. RECENT ACCOUNTING PRONOUNCEMENTS In June 1998, the Financial Accounting Standards Board (FASB) issued Statement of Financial Accounting Standards (SFAS) No. 133, "Accounting for Derivative Instruments and Hedging Activities" that impacts the Company's accounting treatment and/or its disclosure obligations. The statement establishes accounting and reporting standards for derivative instruments, including derivative instruments embedded in other contracts, and for hedging activities. It requires that an entity recognize all derivatives as either assets or liabilities in the statement of financial position and measure those instruments at fair value. The statement, as amended, will be adopted in the first quarter of fiscal 2001. The adoption of SFAS No. 133 is not expected to have a material impact on the Company. SEASONALITY AND INFLATION As is the case with many retailers, a significant portion of the Company's revenues, and an even greater portion of its operating profit, is generated in the fourth fiscal quarter, which includes the Christmas selling season. As a result, a substantial portion of the Company's annual earnings has been, and will continue to be, dependent on the results of this quarter. The Company experiences reduced rentals of video activity in the spring because customers spend more time outdoors. Major world or sporting events, such as the Super Bowl, the Olympic Games or the World Series, also have a temporary adverse effect on revenues. Future operating results may be affected by many factors, including variations in the number and timing of store openings, the number and popularity of new book, music and videocassette titles, the cost of the new release or "best renter" titles, changes in comparable-store revenues, competition, marketing programs, increases in the minimum wage, weather, special or unusual events, and other factors that may affect retailers in general and the Company in particular. The Company does not believe that inflation has materially impacted net income (loss) during the past three years. Substantial increases in costs and expenses could have a significant impact on the Company's operating results to the extent such increases are not passed along to customers. 22 23 ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK In the ordinary course of its business, the Company is exposed to certain market risks, primarily changes in interest rates. The Company's exposure to interest rate risk consists of variable rate debt, at the Company's option, based on the lender's base rate or LIBOR plus a specified percentage. The annual impact on the Company's results of operations of a 100 basis point interest rate change on the October 31, 2000 outstanding balance of the variable rate debt would be approximately $0.3 million. After an assessment of these risks to the Company's operations, the Company believes that its primary market risk exposures (within the meaning of Regulation S-K Item 305) are not material and are not expected to have any material adverse impact on the Company's financial position, results of operations or cash flows for the next fiscal year. The Company is not party to any derivative or interest rate hedging contracts. 23 24 PART II ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS The Company's Annual Meeting of Shareholders was held on August 31, 2000. At the close of business on the record date for the meeting (which was July 20, 2000), there were 11,642,644 shares of Common Stock outstanding and entitled to vote at the meeting. Holders of 10,944,196 shares of Common Stock (representing a like number of votes) were present at the meeting, either in person or by proxy. The following individuals were elected to the Company's Board of Directors to hold office for a term of three years and until their respective successors are duly elected and qualified.
Nominee In Favor Withheld ------- -------- -------- John H. Marmaduke 10,749,715 194,481 Gaines L. Godfrey 10,755,860 188,336 Jeffrey G. Shrader 10,753,344 190,852
24 25 ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K a. Listing of Exhibits 27 Financial Data Schedule for the Nine Months Ended October 31, 2000. 27.1 Restated Financial Data Schedule for the Nine Months Ended October 31, 1999. b. On September 29, 2000, registrant filed a current report on Form 8-K reporting, under "Item 4. Changes in Registrant's Certifying Accountants," the dismissal of KPMG LLP as its independent auditors. On October 24, 2000, registrant filed a current report on Form 8-K reporting, under "Item 4. Changes in Registrant's Certifying Accountants," the appointment of Ernst and Young LLP as its independent accountants. 25 26 SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned, on behalf of the registrant and as registrant's principal financial and accounting officer, thereunto duly authorized: HASTINGS ENTERTAINMENT, INC. DATE: December 15, 2000 By: /s/ Dan Crow -------------------------------------------- Dan Crow Vice President, Chief Financial Officer (Principal Financial and Accounting Officer) 26 27 INDEX TO EXHIBITS
EXHIBIT NUMBER DESCRIPTION - ------- ----------- 27 Financial Data Schedule for the Nine Months Ended October 31, 2000. 27.1 Restated Financial Data Schedule for the Nine Months Ended October 31, 1999.
27 EX-27 2 d82698ex27.txt FINANCIAL DATA SCHEDULE
5 THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM THE UNAUDITED FINANCIAL STATEMENTS OF AND AS OF THE NINE MONTHS ENDED OCTOBER 31, 2000 AND IS QUALIFIED IN ITS ENTIRETY BY REFERENCE TO SUCH. 1,000 9-MOS JAN-31-2001 FEB-01-2000 OCT-31-2000 5,139 0 0 0 146,356 163,551 180,680 113,346 235,059 108,949 44,669 0 0 117 75,295 235,059 254,688 318,031 194,489 221,515 0 0 2,671 (16,465) (1,686) (14,779) 0 0 0 (14,779) (1.27) (1.27)
EX-27.1 3 d82698ex27-1.txt RESTATED FINANCIAL DATA SCHEDULE
5 THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM THE UNAUDITED FINANCIAL STATEMENTS AS AND OF OCTOBER 31, 1999. 1,000 USDOLLARS 9-MOS JAN-31-2000 FEB-01-1999 OCT-31-1999 1 3,664 0 0 0 161,866 176,508 189,705 112,028 258,037 108,662 60,155 0 0 117 92,667 258,037 244,073 303,878 174,471 196,449 0 0 2,802 1,373 545 828 0 0 0 828 .08 .08
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