Operations and Summary of Significant Accounting Policies

12 Months Ended

Jan. 31, 2012

Operations and Summary of Significant Accounting Policies [Abstract]

Operations and Summary of Significant Accounting Policies

(1) Operations and Summary of Significant Accounting Policies

(a) General

Hastings Entertainment, Inc. operates a chain of retail stores in 19 states, primarily in the Western and Midwestern United States. Revenues are generated from the sale of new and used books, music, DVDs, video games, and video game consoles, and new software, periodicals, consumables, and trends products. In addition, our revenues include the rental of DVDs, Blu-ray DVDs, and video games.

(b) Basis of Consolidation

The consolidated financial statements present the results of Hastings Entertainment, Inc. and its wholly-owned subsidiary. All inter-company transactions and balances have been eliminated in consolidation.

(c) Basis of Presentation

We operate in one reportable segment. Our fiscal years ended January 31, 2012, 2011 and 2010 are referred to as fiscal 2011, 2010 and 2009, respectively.

(d) Cash and Cash Equivalents

We consider all debit and credit card receivables totaling $1.2 million and $1.5 million at January 31, 2012 and 2011, respectively, from MasterCard, Visa, Discover, and American Express to be cash equivalents. All balances related to debit and credit card receivables typically settle within five days. We utilize a cash management process under which a book cash overdraft may exist for our primary disbursement accounts. These overdrafts represent un-cleared checks in excess of cash balances in bank accounts at the end of the reporting period and have been reclassified to accounts payable on the consolidated balance sheets. We transfer cash on an as-needed basis to fund clearing checks.

(e) Revenue Recognition

Merchandise and rental asset revenues are recognized at the point of sale or rental or at the time merchandise is shipped to the customer. Additionally, revenues are presented net of estimated returns and exclude all sales taxes. An allowance has been established to provide for expected merchandise returns.

We reduce our rental revenue through reserves for the estimated utilization of early return credits received by renters for early return of rentals. The reserve is relieved upon the redemption of these early return credits.

We provide our customers with the opportunity to trade in used DVDs, video games, CDs and books in exchange for cash consideration or store credit in the form of a gift card. Used merchandise inventory is recorded at a cost equal to the cash offer to the customer. If a customer chooses store credit, a gift card is issued for the amount of the cash offer plus a premium. Premiums associated with gift cards issued as a result of trade-in transactions are recorded as a reduction of revenue in the period in which the related gift cards are redeemed.

(f) Gift Cards and Breakage Revenue

We sell gift cards through each of our stores and through our web site www.goHastings.com. The gift cards we sell have no stated expiration dates or fees and are subject to potential escheatment rights in some of the jurisdictions in which we operate. Gift card liabilities are recorded as deferred revenue at the time of sale of such cards with the costs of designing, printing and distributing the cards recorded as expense as incurred. Prior to the fourth quarter of fiscal 2009, the liability was relieved and revenue was recognized only upon redemption of the gift cards. Beginning in the fourth quarter of fiscal 2009, we had sufficient historical data to analyze gift card redemption patterns and a final determination of the escheatment laws applicable to our operations. As a result, during the fourth quarter of fiscal 2009, we recorded approximately $8.5 million of revenue for the estimated breakage on gift cards we previously issued and sold. Subsequent to the initial change in estimate related to gift card breakage, gift card breakage revenue is recognized as gift cards are redeemed, based upon an analysis of the aging and utilization of gift cards, our determination that the likelihood of future redemption is remote and our determination that such balances are not subject to escheatment laws applicable to our operations. For fiscal 2011 and 2010, we recorded approximately $0.8 million of revenue related to gift card breakage. Unredeemed gift cards, net of estimated gift card breakage, approximated $10.9 million at January 31, 2012 and $11.1 million at both January 31, 2011 and 2010.

(g) Merchandise Inventories

Merchandise inventories are recorded at the lower of cost, which approximates the first-in, first-out (“FIFO”) method, or market. Amounts are presented net of an allowance for shrinkage and obsolescence.

Expenses included in cost of revenues include cost of product purchased from vendors; rental asset depreciation expense; revenue-sharing payments; shrinkage; inventory markdowns and write-offs; freight charges; receiving costs; inspection costs; and internal transfer costs. In addition, we include in cost of revenues all expenses associated with our distribution center, including freight, warehouse personnel costs, supplies, maintenance, depreciation, occupancy, property tax, and utility costs, in addition to costs associated with our returns center, including vendor refused product, handling charges, return fees, freight, return center personnel costs, supplies, maintenance, depreciation, rent and utilities. We include occupancy costs for retail locations in Selling, general and administrative (“SG&A”) expenses.

We transfer rental assets that have been converted to previously viewed titles for sale, from ‘Rental Assets’ to ‘Merchandise Inventories.’ The transfer to ‘Merchandise Inventories’ is recorded at the time of conversion, which is the first date the product is made available for sale. During fiscal 2011, 2010, and 2009, $10.3 million, $11.9 million, and $9.8 million, respectively, were transferred from rental assets to merchandise inventory at the lower of net book value or market.

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, in order to appropriately match the costs associated with the return of merchandise with the process of returning such merchandise, returns expense accruals are required for inventory that has been returned to vendors, 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. 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. There were no material adjustments in fiscal 2011, 2010, or 2009.

(h) Property and Equipment

Property and equipment are recorded at cost and depreciated using the straight-line method, except for rental assets, which are depreciated using an accelerated depreciation method. Furniture, fixtures, equipment and software are depreciated over their estimated useful lives of three to seven years. Leasehold improvements are amortized over the shorter of the related lease term or their estimated useful lives.

Expenditures for maintenance, repairs and renewals that do not materially extend the original useful lives of assets are charged to expense as incurred.

We evaluate underperforming stores on a quarterly basis to determine whether projected future cash flows over the remaining lease term are sufficient to recover the carrying value of the fixed asset investment in each individual store. If projected future cash flows are less than the carrying value of the fixed asset investment, an impairment charge is recognized if the estimated fair value is less than the carrying value of such assets. The carrying value of leasehold improvements as well as certain other property and equipment is subject to impairment write-down.

(i) Rental Asset Depreciation

Rental assets, except for initial purchases for new stores, are depreciated using an accelerated method over six months or nine months. The initial purchases of rental assets for new stores are depreciated over 36 months using the straight-line method. Rental assets, which include DVDs, Blu-rays, and video games, are depreciated to salvage values ranging from $4 to $10. Rental assets purchased for less than established salvage values are not depreciated.

(j) Financial Instruments

Our financial instruments include cash and cash equivalents, available for sale investments related to our non-qualified supplemental executive retirement plan, accounts payable, and long-term debt. The fair value of cash and cash equivalents and accounts payable approximates carrying values due to their short-term duration. See Note 7 Fair Value Measurements for discussion of the fair value of the available for sale investments and long-term debt.

(k) Stock Based Compensation

Determining the amount of share-based compensation expense requires us to develop estimates that are used in calculating the grant-date fair value of stock options. In determining the fair value of stock options, we use the Black-Scholes valuation model, which requires us to make estimates of the following assumptions:

• Expected volatility – The estimated stock price volatility is derived based upon our historical stock prices over the expected life of the option.

• Expected life of the option – The estimate of an expected life is calculated based on historical data relating to grants, exercises, and cancellations and the vesting period and contractual life of the option.

• Risk-free interest rate – The risk-free interest rate is based on the yield on zero-coupon U.S. Treasury securities for a period that is commensurate with the expected life of the option.

Our stock price volatility and expected option lives involve management’s best estimates at the time the valuation is conducted, both of which impact the fair value of the option calculated under the Black-Scholes pricing model and, ultimately, the expense that will be recognized over the vesting period of the option.

We recognize compensation expense only for the portion of options that are expected to vest. Therefore, we apply estimated forfeiture rates that are derived from historical employee termination behavior. If the actual number of forfeitures differs from those estimated by management, additional adjustments to compensation expense may be required in future periods.

In addition to stock options, we award restricted stock units. The grant date fair value of restricted stock units is equal to the average of the opening and closing stock price on the day on which they are granted.

(l) Advertising Costs

Advertising costs for newspaper, television and other media are expensed as incurred. Advertising expenses, net of reimbursement allowances from vendors, for the fiscal years 2011, 2010, and 2009 were $7.2 million, $7.7 million, and $7.8 million, respectively.

We receive payments and credits from vendors pursuant to cooperative advertising programs and display allowance agreements. During fiscal years 2011, 2010, and 2009, we received a total of approximately $6.7 million, $7.7 million, and $8.3 million, respectively, for such payments and credits. To the extent such payments are a reimbursement for a specific incremental and identifiable cost such amounts are recorded as a reduction in SG&A expenses at the time the associated advertisement is publicly released. The remainder of these payments and allowances are recorded as a reduction of merchandise inventory and the cost of rental assets and recognized in income as the related product is sold or rented.

(m) Pre-opening Costs

Pre-opening expenses include human resource costs, travel, rent, advertising, supplies and certain other costs incurred prior to a store’s opening and are expensed as incurred.

(n) Earnings Per Share

Basic earnings per share is computed by dividing net earnings by the weighted-average number of common shares outstanding during the period. Diluted earnings per share is similarly computed, but includes the dilutive effect of stock-based awards.

(o) Use of Management Estimates

The preparation of the financial statements in conformity with accounting principles generally accepted in the United States requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates.

(p) Impact of Recently Issued Accounting Standards

During June 2011, the Financial Accounting Standards Board issued ASU 2011-05: Comprehensive Income (Topic 220), Presentation of Comprehensive Income (“ASU 2011-05”), which amends existing guidance to allow companies two choices of how to present items of net income (loss), items of other comprehensive income (loss) and total comprehensive income (loss): (1) in one continuous statement of comprehensive income (loss) or (2) in two separate consecutive statements. Under the new guidance, companies will no longer be allowed to present other comprehensive income (loss) in the statement of stockholder’s equity. Also, companies will be required to present the components of other comprehensive income (loss) in their interim and annual financial statements. ASU 2011-05 requires retrospective application and is effective for public companies for fiscal years, and interim periods within those years, beginning after December 15, 2011. The Company early adopted ASU 2011-05 beginning with the fourth quarter of fiscal 2011, with no material impact on the Company’s consolidated financial statements.

In May 2011, the FASB issued ASU 2011-04, “Fair Value Measurement (Topic 820): Amendments to Achieve Common Fair Value Measurement and Disclosure Requirements in U.S. GAAP and International Financial Reporting Standards (“IFRSs”).” Under ASU 2011-04, the guidance amends certain accounting and disclosure requirements related to fair value measurements to ensure that fair value has the same meaning in U.S. GAAP and in IFRS and that their respective fair value measurement and disclosure requirements are the same. ASU 2011-04 is effective for public entities during interim and annual periods beginning after December 15, 2011. Early adoption is not permitted. The Company does not believe that the adoption of ASU 2011-04 will have a material impact on the Company’s results of operation and financial condition.