-----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, I5nqp52FUht4nq9tfMWcK8yPj3ehC6I7KgwjtfYNuBMMF4c74mvMQNUbYxScR55F z4bTh92g8AqSHX/A6NZmlg== 0000950134-03-012621.txt : 20030910 0000950134-03-012621.hdr.sgml : 20030910 20030910162500 ACCESSION NUMBER: 0000950134-03-012621 CONFORMED SUBMISSION TYPE: 10-Q PUBLIC DOCUMENT COUNT: 4 CONFORMED PERIOD OF REPORT: 20030731 FILED AS OF DATE: 20030910 FILER: COMPANY DATA: COMPANY CONFORMED NAME: HASTINGS ENTERTAINMENT INC CENTRAL INDEX KEY: 0001054579 STANDARD INDUSTRIAL CLASSIFICATION: RETAIL- COMPUTER & PRERECORDED TAPE STORES [5735] IRS NUMBER: 751386375 STATE OF INCORPORATION: TX FISCAL YEAR END: 0131 FILING VALUES: FORM TYPE: 10-Q SEC ACT: 1934 Act SEC FILE NUMBER: 000-24381 FILM NUMBER: 03890224 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 d08970e10vq.txt FORM 10-Q 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 July 31, 2003 OR [ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE SECURITIES EXCHANGE ACT 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 [ ] Indicate by check mark whether the registrant is an accelerated filer (as defined in Rule 12b-2 of the Exchange Act). Yes [ ] No [ X ] Number of shares outstanding of the registrant's common stock, as of August 29, 2003: Class Shares Outstanding - -------------------------------------- ------------------------ Common Stock, $.01 par value per share 11,299,946 HASTINGS ENTERTAINMENT, INC. AND SUBSIDIARIES FORM 10-Q FOR THE QUARTERLY PERIOD ENDED JULY 31, 2003 INDEX
PAGE ---- PART I - FINANCIAL INFORMATION Item 1. Financial Statements Consolidated Balance Sheets as of July 31, 2003 (Unaudited), July 31, 2002 (Unaudited) and January 31, 2003 3 Unaudited Consolidated Statements of Operations for the Three and Six Months Ended July 31, 2003 and 2002 4 Unaudited Consolidated Statements of Cash Flows for the Six Months Ended July 31, 2003 and 2002 5 Notes to Unaudited Consolidated Financial Statements 6 Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations 11 Item 3. Quantitative and Qualitative Disclosures about Market Risk 20 Item 4. Controls and Procedures 20 PART II - OTHER INFORMATION Item 1. Legal Proceedings 21 Item 4. Submission of Matters to a Vote of Security Holders 21 Item 6. Exhibits and Reports on Form 8-K 21 SIGNATURE PAGE 22 INDEX TO EXHIBITS 23
2 PART 1 ITEM 1 - FINANCIAL STATEMENTS HASTINGS ENTERTAINMENT, INC. AND SUBSIDIARIES Consolidated Balance Sheets July 31, 2003 and 2002, and January 31, 2003 (Dollars in thousands, except par value)
JULY 31, JULY 31, JANUARY 31, 2003 2002 2003 ---------- ---------- ----------- ASSETS (UNAUDITED) (UNAUDITED) Current assets: Cash $ 3,637 $ 7,863 $ 4,447 Merchandise inventories, net 139,871 137,512 148,395 Income taxes receivable 553 6,636 552 Prepaid expenses and other current assets 5,830 5,231 5,969 ---------- ---------- ---------- Total current assets 149,891 157,242 159,363 Property and equipment, net of accumulated depreciation of $141,248, $130,021 and $136,153 at July 31, 2003, and 2002 and January 31, 2003, respectively 77,188 70,165 76,283 Deferred income taxes, net of valuation allowance 1,016 1,091 971 Intangible assets, net 674 616 717 Other assets 188 11 188 ---------- ---------- ---------- $ 228,957 $ 229,125 $ 237,522 ========== ========== ========== LIABILITIES AND SHAREHOLDERS' EQUITY Current liabilities: Current maturities on capital lease obligations $ 206 $ 169 $ 193 Trade accounts payable 67,817 72,476 75,712 Accrued expenses and other current liabilities 30,238 31,635 32,543 ---------- ---------- ---------- Total current liabilities 98,261 104,280 108,448 Long term debt, excluding current maturities on capital lease obligations 49,060 43,258 46,519 Other liabilities 3,501 5,145 3,399 Commitments and contingencies Shareholders' equity: Preferred stock, $.01 par value; 5,000,000 shares authorized; none issued -- -- -- Common stock, $.01 par value; 75,000,000 shares authorized; 11,944,544 shares issued and 11,291,946 shares outstanding at July 31, 2003; 11,944,544 shares issued and 11,362,170 shares outstanding July 31, 2002; 11,944,544 shares issued and 11,336,473 shares outstanding at January 31, 2003 119 119 119 Additional paid-in capital 36,708 36,867 36,749 Retained earnings 44,378 42,315 45,259 Treasury stock, at cost 652,598 shares, 582,374 shares and 608,071 shares at July 31, 2003, and 2002 and January 31, 2003, respectively (3,070) (2,859) (2,971) ---------- ---------- ---------- 78,135 76,442 79,156 ---------- ---------- ---------- $ 228,957 $ 229,125 $ 237,522 ========== ========== ==========
See accompanying notes to unaudited consolidated financial statements. 3 HASTINGS ENTERTAINMENT, INC. AND SUBSIDIARIES Unaudited Consolidated Statements of Operations For the Three and Six Months Ended July 31, 2003 and 2002 (Dollars in thousands, except per share amounts)
THREE MONTHS ENDED JULY 31, SIX MONTHS ENDED JULY 31, --------------------------- ------------------------- 2003 2002 2003 2002 ---------- ---------- ---------- ---------- Merchandise revenue $ 89,547 $ 90,599 $ 181,003 $ 180,581 Rental video revenue 25,850 24,439 51,231 47,302 ---------- ---------- ---------- ---------- Total revenues 115,397 115,038 232,234 227,883 Merchandise cost of revenue 65,774 66,850 134,255 133,038 Rental video cost of revenue 9,137 10,116 19,040 19,165 ---------- ---------- ---------- ---------- Total cost of revenues 74,911 76,966 153,295 152,203 ---------- ---------- ---------- ---------- Gross profit 40,486 38,072 78,939 75,680 Selling, general and administrative expenses 39,789 40,331 78,765 76,913 Pre-opening expenses 68 163 181 181 ---------- ---------- ---------- ---------- Operating income (loss) 629 (2,422) (7) (1,414) Other income (expense): Interest expense (542) (516) (1,032) (1,016) Interest income -- 1,266 -- 1,266 Other, net 101 50 159 111 ---------- ---------- ---------- ---------- Income (loss) before income taxes 188 (1,622) (880) (1,053) Income tax expense -- -- -- -- ---------- ---------- ---------- ---------- Net income (loss) $ 188 $ (1,622) $ (880) $ (1,053) ========== ========== ========== ========== Basic income (loss) per share $ 0.02 $ (0.14) $ (0.08) $ (0.09) ========== ========== ========== ========== Diluted income (loss) per share $ 0.02 $ (0.14) $ (0.08) $ (0.09) ========== ========== ========== ========== Weighted-average common shares outstanding: Basic 11,303 11,348 11,320 11,330 Dilutive effect of stock options 101 -- -- -- ---------- ---------- ---------- ---------- Diluted 11,404 11,348 11,320 11,330 ========== ========== ========== ==========
See accompanying notes to unaudited consolidated financial statements. 4 HASTINGS ENTERTAINMENT, INC. AND SUBSIDIARIES Unaudited Consolidated Statements of Cash Flows For the Six Months Ended July 31, 2003 and 2002 (Dollars in thousands)
SIX MONTHS ENDED JULY 31, 2003 2002 ------------ ------------ Cash flows from operating activities: Net loss $ (880) $ (1,053) Adjustments to reconcile net loss to net cash provided by operating activities: Depreciation expense 18,805 18,846 Amortization expense 43 30 Loss on rental videos lost, stolen and defective 2,271 2,718 Loss on disposal of non-rental video assets 640 66 Non-cash compensation 90 150 Changes in operating assets and liabilities: Merchandise inventory 10,780 13,200 Other current assets 139 101 Trade accounts payable (7,895) (10,941) Accrued expenses and other current liabilities (2,305) 1,842 Income taxes receivable (46) (1,260) Other assets and liabilities, net 102 (721) ------------ ------------ Net cash provided by operating activities 21,744 22,978 ------------ ------------ Cash flows from investing activities: Purchases of rental video assets (13,791) (16,032) Purchases of property and equipment (11,085) (13,401) ------------ ------------ Net cash used in investing activities (24,876) (29,433) ------------ ------------ Cash flows from financing activities: Borrowings under revolving credit facility 240,560 247,600 Repayments under revolving credit facility (237,915) (237,521) Payments under capital lease obligations (91) (82) Purchase of treasury stock (235) (168) Proceeds from exercise of stock options 3 169 ------------ ------------ Net cash provided by financing activities 2,322 9,998 ------------ ------------ Net increase (decrease) in cash (810) 3,543 Cash at beginning of period 4,447 4,320 ------------ ------------ Cash at end of period $ 3,637 $ 7,863 ============ ============
See accompanying notes to unaudited consolidated financial statements. 5 Hastings Entertainment, Inc. and Subsidiaries Notes to Unaudited Consolidated Financial Statements July 31, 2003 and 2002 (Tabular amounts in thousands, except per share data or unless otherwise noted) 1. BASIS OF PRESENTATION The accompanying unaudited consolidated financial statements of Hastings Entertainment, Inc. and its subsidiaries (the "Company," "We," "Our," "Us") 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, 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, which may be expected for a full year because of, among other things, seasonality factors in the retail business. The unaudited consolidated financial statements contained herein should be read in conjunction with the audited consolidated financial statements and notes thereto included in our annual report on Form 10-K for the fiscal year 2002. Certain prior year amounts have been reclassified to conform with the fiscal 2003 presentation. Our 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, 2004 is referred to as fiscal 2003. 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. STOCK OPTION PLANS We account for our stock option plans in accordance with the provisions of Accounting Principles Board Opinion No. 25, Accounting for Stock Issued to Employees ("APB 25"), and related interpretations. Compensation expense is recorded on the date of grant only if the market price of the underlying stock exceeds the exercise price. Under Statement of Financial Accounting Standards No. 123, Accounting for Stock-based Compensation ("SFAS 123"), we may elect to recognize expense for stock-based compensation based on the fair value of the awards, or continue to account for stock-based compensation under APB 25 and disclose in the financial statements the effects of SFAS 123 as if the recognition provisions were adopted. We have elected to continue to apply the provisions of APB 25 and provide the pro forma disclosure provisions of SFAS 123. 6 Hastings Entertainment, Inc. and Subsidiaries Notes to Unaudited Consolidated Financial Statements July 31, 2003 and 2002 (Tabular amounts in thousands, except per share data or unless otherwise noted) The following schedule reflects the impact on net income (loss) and net income (loss) per share if we had applied the fair value recognition provisions of SFAS No. 123 to stock based compensation.
THREE MONTHS ENDED SIX MONTHS ENDED JULY 31, JULY 31, ------------------------- ------------------------- 2003 2002 2003 2002 ---------- ---------- ---------- ---------- Reported net income (loss) $ 188 $ (1,622) $ (880) $ (1,053) Less: Stock-based compensation expense determined under fair value based method, net of tax (153) (152) (292) (295) ---------- ---------- ---------- ---------- Proforma net income (loss) $ 35 $ (1,774) $ (1,172) $ (1,348) ========== ========== ========== ========== Basic income (loss) per share: Reported net income (loss) per share $ 0.02 $ (0.14) $ (0.08) $ (0.09) Less: Stock-based compensation expense determined under fair value based method, net of tax (0.02) (0.02) (0.02) (0.03) ---------- ---------- ---------- ---------- Proforma net income (loss) per share $ -- $ (0.16) $ (0.10) $ (0.12) ========== ========== ========== ========== Diluted income (loss) per share: Reported net income (loss) per share $ 0.02 $ (0.14) $ (0.08) $ (0.09) Less: Stock-based compensation expense determined under fair value based method, net of tax (0.02) (0.02) (0.02) (0.03) ---------- ---------- ---------- ---------- Proforma net income (loss) per share $ -- $ (0.16) $ (0.10) $ (0.12) ========== ========== ========== ==========
4. STORE CLOSING RESERVE From time to time and in the normal course of business, we evaluate our store base to determine if a need to close a store(s) is present. Such evaluations include, among other factors, current and future profitability, market trends, age of store and lease status. Amounts in accrued expenses and other liabilities at July 31, 2003 include accruals for the net present value of future minimum lease payments and other costs attributable to closed or relocated stores, net of estimated sublease income. Expenses related to store closings are included in selling, general and administrative expenses in our consolidated statement of operations. 7 Hastings Entertainment, Inc. and Subsidiaries Notes to Unaudited Consolidated Financial Statements July 31, 2003 and 2002 (Tabular amounts in thousands, except per share data or unless otherwise noted) The following tables provide a rollforward of reserves that were established for these charges for the six months ended July 31, 2003 and 2002.
Future Lease Payments Other Costs Total ------------ ----------- ----------- Balance at January 31, 2003 $ 2,958 $ -- 2,958 Changes in estimates 142 -- 142 Additions to provision -- 117 117 Cash outlay (726) (117) (843) ---------- ---------- ---------- Balance at July 31, 2003 $ 2,374 $ -- $ 2,374 ========== ========== ==========
Future Lease Payments Other Costs Total ------------ ----------- ----------- Balance at January 31, 2002 $ 5,919 $ 13 5,932 Changes in estimates 68 -- 68 Additions to provision 114 56 170 Cash outlay (868) (55) (923) ---------- ---------- ---------- Balance at July 31, 2002 $ 5,233 $ 14 $ 5,247 ========== ========== ==========
As of July 31, 2003, the reserve balance, which is net of estimated sublease income, is expected to be paid over the next six years. Other costs are charged against the reserve as incurred. 6. INCOME (LOSS) PER SHARE The computations for basic and diluted income (loss) per share are as follows:
Three Months Ended Six Months Ended July 31, July 31, 2003 2002 2003 2002 ------------ ------------ ------------ ------------ Net income (loss) $ 188 $ (1,622) $ (880) $ (1,053) ============ ============ ============ ============ Average shares outstanding: Basic 11,303 11,348 11,320 11,330 Effect of stock options 101 -- -- -- ------------ ------------ ------------ ------------ Diluted 11,404 11,348 11,320 11,330 ============ ============ ============ ============ Income (loss) per share: Basic $ 0.02 $ (0.14) $ (0.08) $ (0.09) ============ ============ ============ ============ Diluted $ 0.02 $ (0.14) $ (0.08) $ (0.09) ============ ============ ============ ============
Options to purchase 833,040 shares of common stock at exercise prices ranging from $3.65 per share to $14.03 per share outstanding for the three months ended July 31, 2003 and 2,087,783 shares of common stock at exercise prices ranging from $1.27 per share to $14.03 per share outstanding for the six months ended July 31, 2003 and options to purchase 1,834,923 shares of common stock at exercise prices ranging from $1.27 per share to $14.03 per share outstanding at July 31, 2002 were not included in the computation of diluted income (loss) per share because their inclusion would have been antidilutive. 8 Hastings Entertainment, Inc. and Subsidiaries Notes to Unaudited Consolidated Financial Statements July 31, 2003 and 2002 (Tabular amounts in thousands, except per share data or unless otherwise noted) 7. LITIGATION AND CONTINGENCIES In 2000, we restated our consolidated financial statements for the first three quarters of fiscal 1999 and the prior four fiscal years. As a result, lawsuits were filed against us and certain of our current and former directors and officers asserting various claims under Sections 10(b) and 20(a) of the Securities Exchange Act of 1934. We agreed to settle these lawsuits, and the settlement received final approval by the court on March 10, 2003. The settlement required a payment of $5.75 million on behalf of the defendants in the lawsuits ($3.15 million of which was funded from amounts remaining under our director and officer insurance policy after the payment of litigation expenses). The settlement resolves all claims against us and our current and former defendant officers and directors. Based on the foregoing, we recorded loss contingencies of $2.5 million, or $0.22 per share, and $0.1 million, or $0.00 per share, during the second and fourth fiscal quarters of fiscal 2002, respectively. All amounts required by the settlement agreement were funded by January 31, 2003. We are 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 matters will not have a material adverse effect on our financial position, results of operations and cash flows. 8. SEGMENT DISCLOSURES We have two operating segments, retail stores and Internet operations. Our 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 our retail stores and Internet operations for the three and six months ended July 31, 2003 and 2002 is presented below. For the three months ended July 31, 2003:
Retail Internet Stores Operations Total ---------- ---------- ---------- Total revenue $ 115,335 $ 62 $ 115,397 Depreciation and amortization 8,930 59 8,989 Operating income (loss) 868 (239) 629 Total assets 228,696 261 228,957 Capital expenditures $ 12,676 $ -- $ 12,676
For the three months ended July 31, 2002:
Retail Internet Stores Operations Total ---------- ---------- ---------- Total revenue $ 114,992 $ 46 $ 115,038 Depreciation and amortization 9,525 65 9,590 Operating loss (2,200) (222) (2,422) Total assets 228,810 315 229,125 Capital expenditures $ 16,086 $ 3 $ 16,089
For the six months ended July 31, 2003:
Retail Internet Stores Operations Total ---------- ---------- ---------- Total revenue $ 232,096 $ 138 $ 232,234 Depreciation and amortization 18,727 121 18,848 Operating income (loss) 472 (479) (7) Total assets 228,696 261 228,957 Capital expenditures $ 24,862 $ 14 $ 24,876
9 Hastings Entertainment, Inc. and Subsidiaries Notes to Unaudited Consolidated Financial Statements July 31, 2003 and 2002 (Tabular amounts in thousands, except per share data or unless otherwise noted) For the six months ended July 31, 2002:
Retail Internet Stores Operations Total ---------- ---------- ---------- Total revenue $ 227,790 $ 93 $ 227,883 Depreciation and amortization 18,742 134 18,876 Operating loss (933) (481) (1,414) Total assets 228,810 315 229,125 Capital expenditures $ 29,431 $ 2 $ 29,433
9. CHANGE IN ACCOUNTING PRINCIPLE In January 2003, the Emerging Issues Task Force reached a consensus on Issue No. 02-16, "Accounting by a Customer (Including a Reseller) for Certain Consideration Received from a Vendor" ("EITF 02-16"). The issue provides guidelines for specific treatment and classification of certain amounts received by a customer from a vendor in connection with product purchased from the vendor. EITF 02-16 was effective prospectively for new arrangements entered into after December 31, 2002. Accordingly, during the three and six months ended July 31, 2003, approximately $0.2 million, or $0.02 per diluted share, and approximately $0.7 million, or $0.06 per diluted share, respectively, of our vendor advertising allowances have been recorded as a reduction of merchandise inventory and the cost of rental videos and will be recognized in cost of revenues as inventory is sold and as rental videos are rented. As a result of these changes, selling, general and administrative expenses were increased by approximately $1.1 million and $2.0 million and total cost of revenues decreased $0.9 million and $1.3 million for the three and six months ended July 31, 2003, respectively. 10 ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS Forward-looking Statements Certain written and oral statements set forth below or made by Hastings or with the approval of an authorized executive officer of the company constitute "forward-looking statements" within the meaning of the Private Securities Litigation Reform Act of 1995. The words "believe," "expect," "intend," "anticipate," "project," "will" and similar expressions identify forward-looking statements, which convey the uncertainty of future events and generally are not historical in nature. All statements which address operating performance, events or developments that we expect or anticipate will occur in the future including statements relating to the business, expansion, merchandising and marketing strategies of Hastings, industry projections or forecasts, the impact on our financial statements of any adjustment to fair value of interest rate swaps, inflation, effect of critical accounting policies including lower of cost or market for inventory adjustments, the returns process, rental video amortization, our store closing reserve, revenue recognition, accounting for vendor allowances, sufficiency of cash flow from operations and borrowings under our amended revolving credit facility and statements expressing general optimism about future operating results are forward-looking statements. Such statements are based upon company management's current estimates, assumptions and expectations, which are based on information available at the time of the disclosure, and are subject to a number of factors and uncertainties, including, but not limited to: - whether our assumptions turn out to be correct; - our ability to attain such estimates and expectations; - a downturn in market conditions in any industry, including the current economic state of retailing, relating to the products we inventory, sell or rent; - the effects of, or changes in, economic and political conditions in the U.S. and the markets in which we operate our superstores, including the effects of inflation, deflation, recession, war, terrorism, changes in interest and tax rates, the availability of consumer credit and any other matters that influence customer confidence; - our ability to forecast and meet customer demand for products; - our ability to access suitable merchandise for acceptable terms from merchandise vendors; - our ability to attract quality employees and control our labor costs; and - our ability to find new sites to lease for our superstores upon acceptable terms. Any of foregoing factors and uncertainties could cause actual results to differ materially from those described herein. We undertake no obligation to affirm, publicly update or revise any forward-looking statements, whether as a result of new information, future events or otherwise. 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. General Hastings Entertainment 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 July 31, 2003, we operated 147 superstores averaging approximately 20,000 square feet in small to medium-sized markets located in 21 states, primarily in the Western and Midwestern United States. Each of our superstores is company-operated under the name of Hastings. Our operating strategy is to enhance our position as a multimedia entertainment retailer by expanding existing superstores, opening new superstores in selected markets and expanding our offering of products through our Internet Web site. References herein to fiscal years are to the twelve-month periods that end in January of the 11 following calendar year. For example, the twelve-month period ending January 31, 2004 is referred to as fiscal 2003. Critical Accounting Policies Our financial statements are prepared in accordance with accounting principles generally accepted in the United States, which require management to make estimates and assumptions that affect the reported amounts of assets and liabilities at the date of the financial statements, the disclosure of contingent assets and liabilities and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates. We believe the following critical accounting policies affect our more significant estimates and assumptions used in the preparation of our financial statements. Our significant estimates and assumptions are reviewed, and any required adjustments are recorded, on a monthly basis. Lower of Cost or Market for Merchandise Inventory. Our merchandise inventories are recorded at the lower of cost or market. As with any retailer, economic conditions, cyclical customer demand and changes in purchasing or distribution can affect the carrying value of inventory. As circumstances warrant, we record lower of cost or market inventory adjustments. In some instances, these adjustments can have a material effect on the financial results of an annual or interim period. In order to determine such adjustments, we evaluate the age, inventory turns and estimated fair value of merchandise inventory by product category and record any adjustment if estimated market value is below cost. Through merchandising and an automated-progressive markdown program, we quickly take the steps necessary to increase the sell-off of slower moving merchandise to eliminate or lessen the effect of these adjustments. Returns Process. Merchandise inventory owned by us is generally returnable based upon return agreements with our merchandise vendors. We continually return merchandise to vendors based on, among other factors, current and projected sales trends, overstock situations, authorized return timelines or changes in product offerings. At the end of any reporting period cost accruals are required for inventory that has been returned to vendors, or is in the process of being returned to vendors, or has been identified to be returned to vendors. These costs can include freight, valuation and quantity differences, and other fees charged by a vendor. In order to appropriately match the costs associated with the return of merchandise with the process of returning such merchandise, we utilize an allowance for cost of inventory returns. To accrue for such costs and estimate this allowance, we utilize historical experience adjusted for significant estimated or contractual modifications. Certain adjustments to the Allowance can have a material effect on the financial results of an annual or interim period. Rental Video Asset Cost Amortization. We have a series of direct revenue-sharing agreements with major studios and we anticipate that our future involvement in revenue-sharing agreements will be similar to that of fiscal year 2002. Revenue sharing allows us to acquire rental video assets at a lower up-front capital cost than traditional buying arrangements. We then share with studios a percentage of the actual net rental revenues generated over a contractually determined period of time. The increased access to additional copies of new releases under revenue-sharing agreements allows customer demand for new releases to be satisfied over a shorter period of time at a time when the new releases are most popular. Under the terms of the specific contracts with supplying studios, we expense revenue-sharing payments through rental video cost of revenue, as revenues are recognized. The capitalized cost of all rental video assets acquired for a fixed price is being amortized on an accelerated basis over six months to a salvage value of $4 per unit, except for rental video assets purchased for the initial stock of a new superstore, which are being amortized on a straight line basis over 36 months to a salvage value of $4. Rental video assets purchased for less than $4 are not amortized. Certain events, including a downturn in the rental video industry as a whole or in the markets within which we operate our superstores, further consolidation of rental video retailers, a change in the rental home video distribution window, which allows rental retailers an exclusive period of time to rent titles prior to being made available for pay-per-view, video on demand, and premium, basic cable, network and syndicated television, a substantial change in customer demand and a change in the mix of rental video revenues, could affect the salvage value we have assigned to our rental video assets. The effect could result in a material reduction of the carrying value of our rental video assets and have a material impact on the financial results of an annual or interim period. In particular, the growth of the DVD market and the shift of consumer purchases from VHS (videocassettes) to DVD could result in a decrease in the salvage value of rental videos. At some point during the rental cycle, a VHS item, as with DVD and games, is available for purchase by a customer as a previously viewed tape. Our current experience is that the amount received for a previously viewed tape is higher than our salvage value of that item in our rental inventory. Based in part on this factor and sales of previously viewed tapes, we believe our estimate of salvage value is appropriate. 12 Store Closing Reserve. On a quarterly basis, and in the normal course of business, we evaluate our store base to determine if a need to close or relocate a store(s) is present. Management will evaluate, among other factors, current and future profitability, market trends, age of store and lease status. The primary expense items associated with the closure of a store relate to the net present value of minimum lease payments (the present value of remaining lease payments under an active lease) and the write-off of leasehold improvements and other assets not remaining in our possession. Prior to December 31, 2002, such expense items were recorded as of the date that management made the decision to close or relocate a store. Subsequent to December 31, 2002, and in accordance with the adoption of SFAS No. 146, we now recognize such expense items at the time the location is closed or relocated. We do not anticipate that the recognition of expense under SFAS No. 146 will have a material impact on our financial position or results of operations. The amount recorded can fluctuate based on the age of the closing location, term and remaining years of the lease and the number of stores being closed or relocated. These charges can have a material effect on the financial results of an annual or interim period. We actively pursue sublease tenants on all closed or relocated locations and the impact of any sublease income is estimated in the determination of the incurred store closing reserve liability. Revenue Recognition. We generate revenue primarily from retail sales and rental of our products. Merchandise and rental revenues are recognized at the point of sale or rental or at the time merchandise is shipped to the customer. Revenues are presented net of estimated returns and exclude all taxes. Customers may return certain merchandise for exchange or refund within our policies, and an allowance has been established to provide for projected returns. There are no provisions for uncollectible amounts since payment is received at the time of sale. We, as with most retailers, also offer gift cards for sale. Deferred revenue, a current liability, is recognized at the time a gift card is sold with the costs of designing, printing and distributing the cards recorded as an expense as incurred. The deferred revenue liability is relieved and revenue is recognized upon the redemption of the gift cards. From time to time we will offer sales incentives, in the form of customer rebates, to customers. Revenue is reduced by the amount of estimated redemptions, based on experience of similar types of rebate offers, and a deferred revenue liability is established. The deferred revenue liability is relieved when the customer has completed all criteria necessary to file a valid rebate claim. Any remaining portion of deferred revenue is recorded as revenue following the termination of the extended redemption period and following completion of all outstanding rebate claims. Comparable-Store Revenue. Stores included in the comparable-store revenues calculation are those stores that have been open for a minimum of 60 weeks. Also included are stores that are remodeled or relocated. Sales via the internet are not included and closed stores are removed from each comparable period for the purpose of calculating comparable-store revenues. Vendor Allowances. In 2002, The Emerging Issues Task Force ("EITF") discussed issue no. 02-16 ("EITF 02-16"), which addresses the accounting for cash consideration received from a vendor by a reseller for various vendor-funded allowances, including cooperative advertising support. The EITF determined that cash consideration received from a vendor should be presumed to be a reduction of the prices of vendor's products and, therefore, should be shown as a reduction in the cost of goods sold when recognized in the reseller's income statements. The only exceptions to this rule are if the reimbursement is for specific, incremental identifiable costs. If the amount of cash consideration received exceeds the cost being reimbursed, that excess amount should be characterized as a reduction of cost of goods sold when recognized in the reseller's income statements. In January 2003, the EITF issued transition guidance concluding that this interpretation should be applied to all new or modified arrangements entered into after December 31, 2002. We adopted EITF 02-16 beginning February 1, 2003. Accordingly, during the three and six months ended July 31, 2003, approximately $0.2 million, or $0.02 per diluted share, and approximately $0.7 million, or $0.06 per diluted share, respectively, of our vendor advertising allowances have been recorded as a reduction of merchandise inventory and the cost of rental videos and will be recognized in cost of revenues as inventory is sold and as rental videos are rented. As a result of these changes, selling, general and administrative expenses were increased by approximately $1.1 million and $2.0 million and total cost of revenues decreased $0.9 million and $1.3 million for the three and six months ended July 31, 2003, respectively. 13 Results of Operations The following tables present our 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 Six Months Ended July 31, July 31, 2003 2002 2003 2002 ---------- ---------- ---------- ---------- Merchandise revenue 77.6% 78.8% 77.9% 79.2% Rental video revenue 22.4 21.2 22.1 20.8 ---------- ---------- ---------- ---------- Total revenues 100.0 100.0 100.0 100.0 Merchandise cost of revenue 73.5 73.7 74.2 73.7 Rental video cost of revenue 35.3 41.4 37.2 40.5 ---------- ---------- ---------- ---------- Total cost of revenues 64.9 66.9 66.0 66.8 ---------- ---------- ---------- ---------- Gross profit 35.1 33.1 34.0 33.2 Selling, general and administrative expenses 34.5 35.1 33.9 33.7 Pre-opening expenses 0.0 0.1 0.1 0.1 ---------- ---------- ---------- ---------- Operating income (loss) 0.6 (2.1) 0.0 (0.6) Other income (expense): Interest expense (0.5) (0.4) (0.4) (0.4) Interest income -- 1.1 -- 0.6 Other, net 0.1 0.0 0.1 0.0 ---------- ---------- ---------- ---------- Income (loss) before income taxes 0.2 (1.4) (0.3) (0.4) Income tax expense -- -- -- -- ---------- ---------- ---------- ---------- Net income (loss) 0.2% (1.4)% (0.3)% (0.4)% ========== ========== ========== ==========
Summary of Superstore Activity
Three Months Ended Six Months Ended Year Ended July 31, July 31, January 31, 2003 2002 2003 2002 2003 ---------- ---------- ---------- ---------- ----------- Beginning number of stores 146 141 146 142 142 Openings 2 2 3 2 7 Closings (1) -- (2) (1) (3) ---------- ---------- ---------- ---------- ---------- Ending number of stores 147 143 147 143 146 ========== ========== ========== ========== ==========
14 Three months ended July 31, 2003 compared to three months ended July 31, 2002 Revenues. Total revenues increased $0.4 million, or 0.3%, for the second quarter of fiscal 2003 to $115.4 million compared to $115.0 million for the second quarter of fiscal 2002. Total comparable-store revenues ("Comps"), which decreased by (0.3%) for this year's second quarter as compared to the second quarter of last year, were comprised of the following: Merchandise Comps (1.5)% Rental video Comps 4.0% Total Comps (0.3)%
The increase in rental video Comps was primarily the result of an increase in our rental video pricing initiated during the second quarter of fiscal 2003, which also contributed to an increase in total rental video revenues for the quarter of $1.4 million, or 5.8%, to $25.9 million, up from $24.4 million a year earlier. DVD rentals increased 51% during the three months ended July 31, 2003 compared to the same period last year. The increase in DVD rentals was partially offset by a 27% decline in VHS rentals. The acceptance of DVD by the consumer is the primary reason for the decline in VHS rental revenue, but part of the decline resulted from studios increasing the percentage of rental titles released simultaneously for sale at a lower price-point, which entices the consumer to purchase a title on VHS instead of renting. Total merchandise revenue for the second quarter decreased approximately $1.1 million, or 1.2%, to $89.5 million compared to $90.6 million for the same quarter last year, which we feel reflects the general state of retailing. Second quarter music Comps declined (14.3%) from the second quarter of fiscal 2002 while our book Comps increased 1.4%, partially offsetting the decline in music. Video games for sale continued to be our fastest growing category on a percentage basis with a gross revenue increase of 70% for the three months ended July 31, 2003 compared to the three months ended July 31, 2002. In addition, DVD for sale continued to increase during the second quarter of fiscal 2003 with gross revenues climbing 32% compared to the second quarter of fiscal 2002. This increase follows a 47% increase in DVD sales for the three months ended July 31, 2002 compared to the three months ended July 31, 2001. Gross Profit. Total gross profit of $40.5 million in the second quarter of fiscal 2003 increased $2.4 million, or 6.3%, from $38.1 million in the second quarter of fiscal 2002. Total gross profit as a percent of total revenue increased for the three months ended July 31, 2003 to 35.1% compared to 33.1% for the same period last year. Merchandise gross profit as a percent of merchandise revenue increased slightly to 26.5% for the second quarter of fiscal 2003 compared to 26.3% for the same quarter last year. Significant changes in the components of merchandise gross profit are as follows: (i) a decrease of approximately $1.4 million in the expense associated with the distribution and return of merchandise resulting from improved management and controls; (ii) a reduction of product costs of approximately $0.9 million as a result of the adoption of EITF 02-16, which governs the accounting by a customer for certain consideration received from a vendor; and (iii) an increase of approximately $0.4 million in certain trade and purchase discounts. Partially offsetting these increases in gross profit were: (i) lower product margins of approximately $0.7 million resulting from increased promotional pricing in our book category on new release titles and a shift in revenue mix from music to sale video and video games, which have a lower margin than music; and (ii) an increase in freight expense, which even though $0.4 million higher than the second quarter of fiscal year 2002, was less than our internal projections. Rental video gross profit as a percent of rental revenue increased to 64.7% for the second quarter of fiscal 2003 from 58.6% for the same quarter last year. This increase was primarily due to an increase in our rental video pricing and lower depreciation and amortization expense of approximately $1.2 million from improved procurement procedures, 15 inventory management and margins on videos acquired under revenue sharing agreements. Partially offsetting this increase in rental video margin was an increase in rental video shrinkage of approximately $0.4 million. Selling, General and Administrative Expenses. Selling, general and administrative ("SG&A") expenses for the second quarter ended July 31, 2003 decreased approximately $0.5 million to $39.8 million, or 34.5% of total revenues, down from $40.3 million, or 35.1% of total revenues for the second quarter ended July 31, 2002. This decrease was primarily the result of: (i) a decline of approximately $2.7 million in accounting and legal fees that were higher than normal during the second quarter of fiscal 2002 due to a $2.5 million charge for the settlement of the shareholder class action lawsuits; and (ii) a decrease in the costs associated with our group health plan of approximately $0.6 million the result of unplanned charges during the second quarter of fiscal 2002. Partially offsetting these decreases in SG&A were: (i) an increase in net advertising costs of approximately $1.2 million during the second quarter compared to the same period in fiscal 2002 primarily resulting from the adoption of EITF 02-16; (ii) an increase of approximately $1.0 million in costs associated with the operation of a greater number of superstores; and (iii) higher costs of approximately $0.3 million associated with the remodeling and expansion of certain of our existing superstores. Interest Expense. Interest expense remained unchanged at $0.5 million for the three months ended July 31, 2003, compared to the three months ended July 31, 2002 as higher debt levels during the current quarter compared to last year were offset by lower interest rates. Interest Income. During the second quarter of fiscal 2002, we recorded non-recurring interest income of approximately $1.3 million as a result of interest earned on income tax refunds for amended returns filed for fiscal years 1995 through 1998. Income Taxes. No income tax effect was recorded during the second quarters of fiscal 2003 and 2002 due to adjustments in the valuation allowance related to the net deferred tax asset. 16 Six months ended July 31, 2003 compared to six months ended July 31, 2002 Revenues. Total revenues increased $4.3 million, or 1.9%, for the six months ended July 31, 2003 to $232.2 million compared to $227.9 million for the same period last year. Total Comps, which increased by 0.8% for the first six months of fiscal 2003 as compared to same period last year, were comprised of the following: Merchandise Comps (0.8)% Rental video Comps 6.7% Total Comps 0.8% Total rental revenues for the six months ended July 31, 2003 increased $3.9 million, or 8.3%, to $51.2 million from $47.3 million for the six months ended July 31, 2002. This increase was primarily the result of titles released during the first quarter of fiscal 2003 having significantly stronger box-office revenues than those titles released during the first quarter of fiscal 2002, which resulted in higher rental transactions. In addition, an increase in our rental video pricing initiated during the second quarter of fiscal 2003 contributed to the increase. DVD rentals increased 56% during the six months ended July 31, 2003 compared to the same period last year. The increase in DVD rentals was partially offset by a 23% decline in VHS rentals. Total merchandise revenue for the first six months of fiscal 2003 increased approximately $0.4 million, or 0.2%, to $181.0 million compared to $180.6 million for the same period last year. Music Comps declined (13.0%) for the six months ended July 31, 2003, compared to the six months ended July 31, 2002, as the music industry reported a decline of approximately (9%) in units shipped for the year and continues to battle on-line and physical music piracy. Book Comps declined (1.9%) for the first six month period of fiscal 2003 as compared to the same period in 2002. Gross revenue from video games for sale increased 84% for the six months ended July 31, 2003 compared to the six months ended July 31, 2002. In addition, gross revenues from DVD for sale increased 40% during the first six month period compared to the same period a year earlier. Gross Profit. Total gross profit of $78.9 million for the six months ended July 31, 2003 increased $3.2 million, or 4.3%, from $75.7 million for the six months ended July 31, 2002. Total gross profit as a percent of total revenue increased for the six months ended July 31, 2003 to 34.0% compared to 33.2% for the same period last year. Merchandise margin as a percent of merchandise revenues decreased to 25.8% for the first six months of fiscal 2003 from 26.3% for the same period last year due primarily to: (i) an increase in freight expense resulting from higher shipping costs, which even though $1.8 million higher than the first six months of fiscal 2002, was in line with our internal projections; and (ii) lower product margins of approximately $1.8 million resulting from increased promotional pricing in our book category on new release titles and a shift in revenue mix from music to sale video and video games, which have a lower margin than music. Partially offsetting these decreases in gross profit were: (i) a reduction of product costs of approximately $1.3 million as a result of the adoption of EITF 02-16; (ii) lower merchandise shrinkage of approximately $0.9 milllion; (iii) a decrease of approximately $0.7 million in the expense associated with the distribution and return of merchandise resulting from improved management and controls; and (iv) a decrease of approximately $0.2 million in certain trade and purchase discounts. Rental video gross profit increased as a percent of rental revenues to 62.8% for the six months ended July 31, 2003 from 59.5% for the same period last year. This increase was primarily due to improved procurement procedures, inventory management and margins on videos acquired under revenue sharing agreements. Partially offsetting this increase in rental video margin was an increase in rental video shrinkage of approximately $0.8 million. SG&A Expenses. SG&A expenses for the six months ended July 31, 2003 increased approximately $1.9 million to $78.8 million, or 33.9% of total revenues, compared to $76.9 million, or 33.7% of total revenues, for the same period a year earlier. The increase was primarily the result of: 17 (i) an increase in net advertising costs of approximately $2.7 million during the first six months of fiscal 2003 compared to the same period in fiscal 2002, which is primarily comprised of approximately $2.0 million from the adoption of EITF 02-16 and $0.6 million from increased advertising expenditures in an attempt to offset the impact of the war in Iraq and soft merchandise sales during the first quarter of fiscal 2003; (ii) an increase of approximately $1.8 million in costs associated with the operation of a greater number of superstores; and (iii) higher costs of approximately $0.7 million associated with the remodeling and expansion of certain of our existing superstores. Partially offsetting these increases in SG&A were: (i) a decline of approximately $2.7 million in accounting and legal fees that were higher than normal during the first six months of fiscal 2002 due to a $2.5 million charge for the settlement of the shareholder class action lawsuits; and (ii) a decrease in the costs associated with our group health plan of approximately $0.4 million the result of unplanned charges during the first six months of fiscal 2002. Interest Expense. Interest expense remained unchanged at $1.0 million for the six months ended July 31, 2003, compared to the six months ended July 31, 2002 as higher debt levels during the current quarter compared to last year were offset by lower interest rates. Interest Income. During the second quarter, we recorded non-recurring interest income of $1.3 million as a result of interest earned on income tax refunds for amended returns filed for fiscal years 1995 through 1998. Income Taxes. No income tax effect was recorded during the second quarters of fiscal 2003 and 2002 due to adjustments in the valuation allowance related to the net deferred tax asset. 18 Liquidity and Capital Resources We generate cash from operations exclusively from the sale of merchandise and the rental of video products and we have substantial operating cash flow because most of our revenue is received in cash and cash equivalents. Other than our principal capital requirements arising from the purchase, warehousing and merchandising of inventory and rental videos, opening new superstores and expanding existing superstores and updating existing and implementing new information systems technology, we have no anticipated material capital commitments. Our primary sources of working capital are cash flow from operating activities, trade credit from vendors and borrowings under our amended revolving credit facility. We believe our cash flow from operations and borrowings under our amended revolving credit facility will be sufficient to fund our ongoing operations, new superstores and superstore expansions through fiscal 2005. Consolidated Cash Flows Operating Activities. Net cash flows from operating activities decreased $1.2 million, from $22.9 million for the six months ended July 31, 2002 to $21.7 million for the six months ended July 31, 2003. The primary reason for the decrease was a lesser decline in inventory of approximately $2.4 million during the first six months of fiscal 2003 compared to the first six months of fiscal 2002. Investing Activities. Net cash used in investing activities decreased $4.5 million, or 15.5%, to $24.9 million for the six months ended July 31, 2003 from $29.4 million for the six months ended July 31, 2002. This decrease was primarily the result of a higher amount of purchases of DVD rental video assets under revenue sharing agreements, which generally cost less than non-revenue sharing DVD assets, and improved rental video inventory procurement procedures. In addition, purchases of computer hardware and software upgrades were higher during the six months ended July 31, 2002. Financing Activities. Cash provided by financing activities is primarily associated with borrowings and payments made under debt agreements. For the six months ended July 31, 2003, net borrowings under debt agreements decreased $7.4 million compared to the six months ended July 31, 2002. Also included in cash provided by financing activities are amounts for the repurchase of our common stock. On September 18, 2001 we announced a stock repurchase program of up to $5.0 million of our common stock. As of July 31, 2003, a total of 796,423 shares have been repurchased at a cost of approximately $3.8 million, for an average cost of $4.74 per share. Capital Structure. On August 23, 2002, we executed an amendment to our syndicated secured Loan and Security Agreement with Fleet Retail Finance, Inc. and The CIT Group/Business Credit, Inc, (the "Facility"). The amount outstanding under the 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 $80 million, less a $10 million availability reserve. The Facility permits borrowings at various interest-rate options based on the prime rate or London Interbank Offer Rate (LIBOR) plus applicable margin depending upon the level of the Company's minimum availability. The borrowing base under the 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, which can be adjusted to reduce availability under the Facility. The Facility contains no financial covenants, restricts the payment of dividends and includes certain other debt and acquisition limitations, allows for the repurchase of up to $7.5 million of our common stock and requires a minimum availability of $10 million at all times. The Facility is secured by substantially all of the assets of the Company and our subsidiaries and is guaranteed by each of our three consolidated subsidiaries. The Facility matures on August 20, 2005. At July 31, 2003, we had $15.5 million in excess availability, after the $10 million availability reserve, under the Facility. At July 31, 2003 and January 31, 2003, respectively, we had borrowings outstanding of $48.3 million and $45.7 million under the Facility. The average rate of interest being charged under the Facility was 3.6% and 4.1% at July 31, 2003 and January 31, 2003, respectively. From time to time, we enter into interest rate swap agreements in order to obtain a fixed interest rate on a portion of our outstanding floating rate debt thereby reducing our exposure to interest rate volatility. On October 4, 2002, we cancelled, at no cost, two swap agreements entered into in November and December of 2001 with an aggregate notional amount of $20 million and replaced those agreements with one interest rate swap agreement with a financial institution. The notional amount of the swap is $20 million with a fixed interest rate of 2.45% for two years. We have designated the interest rate swap as a hedging instrument. At July 31, 2003, the fair value of the interest rate swap was not significant. 19 At July 31, 2003, our minimum operating lease commitments remaining for fiscal 2003 were approximately $9.3 million. The present value of total existing minimum operating lease commitments for fiscal years 2004 through 2018 discounted at 9.0% was approximately $68.4 million as of July 31, 2003. SEASONALITY AND INFLATION As is the case with many retailers, a significant portion of our revenues, and an even greater portion of our operating profit, is generated in the fourth fiscal quarter, which includes the Christmas selling season. As a result, a substantial portion of our annual earnings has been, and will continue to be, dependent on the results of this quarter. We experience reduced rentals of video activity in the spring because customers spend more time outdoors. Major world events, such as the war in Iraq, 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 Hastings in particular. We do not believe that inflation has materially impacted operating results during the past three years. Substantial increases in costs and expenses could have a significant impact on our operating results to the extent such increases are not passed along to customers. ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK In the ordinary course of our business, we are exposed to certain market risks, primarily changes in interest rates. Our exposure to interest rate risk consists of variable rate debt based on the lenders base rate or LIBOR plus a specified percentage at our option. The annual impact on our results of operations of a 100 basis point interest rate change on the July 31, 2003 outstanding balance of the variable rate debt would be approximately $0.3 million, including the effect of our interest rate swap. After an assessment of these risks to our operations, we believe that the 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 our financial position, results of operations or cash flows for the next fiscal year. In addition, we do not believe changes in the fair value of our interest rate swap entered into in October of 2002 with a notional amount of $20 million will be material. ITEM 4. CONTROLS AND PROCEDURES As required by Exchange Act Rules 13a-15 and 15d-15, an evaluation was conducted under the supervision and with the participation of management, including our Chief Executive Officer and Chief Financial Officer, of the effectiveness of the design and operation of our disclosure controls and procedures as of July 31, 2003, and based on this evaluation our Chief Executive Officer and Chief Financial Officer have concluded that our disclosure controls and procedures were effective as of such date to ensure that information required to be disclosed by us in our reports filed or submitted under the Exchange Act is recorded, processed, summarized and reported within the time periods specified in the SEC's rules and forms. There has not been any change in our internal control over financial reporting during the period covered by this report that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting. 20 PART II ITEM 1. LEGAL PROCEEDINGS In 2000, we restated our consolidated financial statements for the first three quarters of fiscal 1999 and the prior four fiscal years. As a result, lawsuits were filed against us and certain of our current and former directors and officers asserting various claims under Sections 10(b) and 20(a) of the Securities Exchange Act of 1934. We agreed to settle these lawsuits, and the settlement received final approval by the court on March 10, 2003. The settlement required a payment of $5.75 million on behalf of the defendants in the lawsuits ($3.15 million of which was funded from amounts remaining under our director and officer insurance policy after the payment of litigation expenses). The settlement resolves all claims against us and our current and former defendant officers and directors. Based on the foregoing, we recorded loss contingencies of $2.5 million, or $0.22 per share, and $0.1 million, or $0.00 per share, during the second and fourth fiscal quarters of fiscal 2002, respectively. All amounts required by the settlement agreement were funded by January 31, 2003. ITEM 4. SUBMISSIONS OF MATTERS TO A VOTE OF SECURITY HOLDERS We held our Annual Meeting of Shareholders on June 11, 2003. The sole item submitted by management to a vote of the shareholders was the election of John H. Marmaduke, Gaines L. Godfrey and Jeffrey G. Shrader as Directors of the Company for a term expiring in 2006. Proxies for the meeting were solicited pursuant to Regulation 14 under the Exchange Act, there was no solicitation in opposition to the Director nominees and all three Director nominees were elected. The vote tabulation with respect to each nominee Directors is as follows:
DIRECTOR NOMINEE VOTES FOR VOTES WITHHELD ---------------- ----------- -------------- John H. Marmaduke 10,028,471 263,780 Gaines L. Godfrey 10,032,670 259,581 Jeffrey G. Shrader 10,033,200 259,051
The total number of abstentions and broker non-votes was 1,045,386 out of a total of 11,337,637 shares entitled to vote on the matter. ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K a. Listing of exhibits
Exhibit Number Description of Documents ------- ------------------------ 31.1 Principal Executive Officer Certification Pursuant to Exchange Act Rule 13a-14(a)/15d-14(a) 31.2 Principal Financial Officer Certification Pursuant to Exchange Act Rule 13a-14(a)/15d-14(a) 32.1 Certification Pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002
b. On June 10, 2003, the Company filed a current report on Form 8-K reporting, under "Item 9. Regulation FD Disclosure," the officer certification of financial information required by 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. On May 21, 2003, the Company filed a current report on Form 8-K reporting, under "Item 9. Regulation FD Disclosure," that the Company had announced, among other things, its results for the quarter ended April 30, 2003. 21 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 thereunto duly authorized: HASTINGS ENTERTAINMENT, INC. Date: September 10, 2003 /s/ Dan Crow -------------------------------------------- Dan Crow Vice President and Chief Financial Officer (Principal Financial and Accounting Officer) 22 INDEX TO EXHIBITS
Exhibit Number Description of Documents ------- ------------------------ 31.1 Principal Executive Officer Certification Pursuant to Exchange Act Rule 13a-14(a)/15d-14(a) 31.2 Principal Financial Officer Certification Pursuant to Exchange Act Rule 13a-14(a)/15d-14(a) 32.1 Certification Pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002
23 EX-31.1 3 d08970exv31w1.txt PRINCIPAL EXECUTIVE OFFICER CERTIFICATION EXHIBIT 31.1 Principal Executive Officer Certification Pursuant to Exchange Act Rule 13a-14(a)/15d-14(a) I, John H. Marmaduke, President and Chief Executive Officer (Principal Executive Officer) of Hastings Entertainment, Inc., certify that: 1. I have reviewed this quarterly report on Form 10-Q of Hastings Entertainment, Inc.; 2. Based on my knowledge, this report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this report; 3. Based on my knowledge, the financial statements, and other financial information included in this report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this report; 4. The registrant's other certifying officer(s) and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) for the registrant and have: (a) Designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our supervision, to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this report is being prepared; (b) Evaluated the effectiveness of the registrant's disclosure controls and procedures and presented in this report our conclusions about the effectiveness of the disclosure controls and procedures, as of the end of the period covered by this report based on such evaluation; and (c) Disclosed in this report any change in the registrant's internal control over financial reporting that occurred during the registrant's most recent fiscal quarter (the registrant's fourth fiscal quarter in the case of an annual report) that has materially affected, or is reasonably likely to materially affect, the registrant's internal control over financial reporting. 5. The registrant's other certifying officer(s) and I have disclosed, based on our most recent evaluation of internal control over financial reporting, to the registrant's auditors and the audit committee of the registrant's board of directors (or persons performing the equivalent functions): (a) All significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are reasonably likely to adversely affect the registrant's ability to record, process, summarize and report financial information; and (b) Any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant's internal control over financial reporting. Date: September 10, 2003 /s/ John H. Marmaduke ------------------------------------- John H. Marmaduke President and Chief Executive Officer (Principal Executive Officer) EX-31.2 4 d08970exv31w2.txt PRINCIPAL FINANCIAL OFFICER CERTIFICATION EXHIBIT 31.2 Principal Financial Officer Certification Pursuant to Exchange Act Rule 13a-14(a)/15d-14(a) I, Dan Crow, Vice President and Chief Financial Officer (Principal Financial and Accounting Officer) of Hastings Entertainment, Inc., certify that: 1. I have reviewed this quarterly report on Form 10-Q of Hastings Entertainment, Inc.; 2. Based on my knowledge, this report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this report; 3. Based on my knowledge, the financial statements, and other financial information included in this report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this report; 4. The registrant's other certifying officer(s) and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) for the registrant and have: (a) Designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our supervision, to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this report is being prepared; (b) Evaluated the effectiveness of the registrant's disclosure controls and procedures and presented in this report our conclusions about the effectiveness of the disclosure controls and procedures, as of the end of the period covered by this report based on such evaluation; and (c) Disclosed in this report any change in the registrant's internal control over financial reporting that occurred during the registrant's most recent fiscal quarter (the registrant's fourth fiscal quarter in the case of an annual report) that has materially affected, or is reasonably likely to materially affect, the registrant's internal control over financial reporting. 5. The registrant's other certifying officer(s) and I have disclosed, based on our most recent evaluation of internal control over financial reporting, to the registrant's auditors and the audit committee of the registrant's board of directors (or persons performing the equivalent functions): (a) All significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are reasonably likely to adversely affect the registrant's ability to record, process, summarize and report financial information; and (b) Any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant's internal control over financial reporting. Date: September 10, 2003 /s/ Dan Crow -------------------------------------------- Dan Crow Vice President and Chief Financial Officer (Principal Financial and Accounting Officer) EX-32.1 5 d08970exv32w1.txt CERTIFICATION PURSUANT TO 18 U.S.C. SECTION 1350 EXHIBIT 32.1 CERTIFICATION PURSUANT TO 18 U.S.C. SECTION 1350, AS ADOPTED PURSUANT TO SECTION 906 OF THE SARBANES-OXLEY ACT OF 2002 September 10, 2003 In connection with the filing of the quarterly report on Form 10-Q of Hastings Entertainment, Inc., a Texas Corporation (the "Company"), for the quarterly period ended July 31, 2003, as filed with the Securities and Exchange Commission on the date hereof (the "Report"), each of the undersigned officers of the Company certifies that, to such officer's knowledge: (1) The Report fully complies with the requirements of Section 13(a) or 15(d) of the Securities Exchange Act of 1934, as amended; and (2) The information contained in the Report fairly presents, in all material respects, the financial condition and results of operations of the Company as of the dates and for the periods expressed in the Report. /s/ John M. Marmaduke - --------------------------------------------- John H. Marmaduke President and Chief Executive Officer (Principal Executive Officer) /s/ Dan Crow - --------------------------------------------- Dan Crow Vice President and Chief Financial Officer (Principal Financial and Accounting Officer) A SIGNED ORIGINAL OF THIS WRITTEN STATEMENT REQUIRED BY SECTION 906 OF THE SARBANES-OXLEY ACT OF 2002 HAS BEEN PROVIDED TO HASTINGS ENTERTAINMENT, INC. AND WILL BE RETAINED BY HASTINGS ENTERTAINMENT, INC. AND FURNISHED TO THE SECURITIES AND EXCHANGE COMMISSION, OR ITS STAFF, UPON REQUEST. -----END PRIVACY-ENHANCED MESSAGE-----