UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 

FORM 10-Q

 

 

 

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

 

For the quarterly period ended August 4, 2002

 

OR

 

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

 

Commission File Number 0-20269

 

DUCKWALL-ALCO STORES, INC.

(Exact name of registrant as specified in its charter)

 

                                                                    Kansas                                                          48-0201080

                                                       (State or other jurisdiction of                                     (I.R.S. Employer

                                                        incorporation or organization)                                   Identification No.)

 

                                                              401 Cottage Street

                                                                  Abilene, Kansas                                                67410-2832

                                                (Address of principal executive offices)                                 (Zip Code)

 

 

Registrant's telephone number including area code: (785) 263-3350

 

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___

 

APPLICABLE ONLY TO CORPORATE ISSUERS:

 

4,259,195 shares of common stock, $.0001 par value (the issuer's only class of common stock), were outstanding as of August 4, 2002.

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Duckwall-ALCO Stores, Inc.

And Subsidiaries

Notes to Unaudited Consolidated Financial Statements

 

 

(1)     Basis of Presentation

 

The accompanying unaudited consolidated financial statements are for interim periods and, consequently, do not include all disclosures required by generally accepted accounting principles for annual financial statements. It is suggested that the accompanying unaudited consolidated financial statements be read in conjunction with the consolidated financial statements included in the Company's fiscal 2002 Annual Report. In the opinion of management of Duckwall-ALCO Stores, Inc., the accompanying unaudited consolidated financial statements reflect all adjustments (consisting of normal recurring accruals) necessary to present fairly the financial position of the Company and the results of its operations and cash flows for the interim periods.

 

(2)     Principles of Consolidation

 

The consolidated financial statements include the accounts of Duckwall-ALCO Stores, Inc. and its wholly owned subsidiaries. All significant intercompany transactions and balances have been eliminated in consolidation.

 

(3)     Adoption of New Accounting Policy (dollars in thousands)

 

Effective January 29, 2001, the Company adopted Statement of Financial Accounting Standards (SFAS) No. 133, "Accounting for Derivative Investments and Hedging Activities." SFAS No. 133 requires that all derivative instruments be recorded on the balance sheet at fair value. The accounting for changes in the fair value of a derivative depends on its designation and effectiveness. For derivatives that qualify as effective hedges, the change in fair value has no net impact on earnings until the hedged transaction affects earnings. For derivatives that are not designated as hedging instruments, or for the ineffective portion of a hedging instrument, the change in fair value is recognized in current period earnings.

 

The Company entered into an interest rate swap agreement in December, 2000 with a notional principal amount of $10,000 whereby the Company paid a fixed rate of interest and received interest based on LIBOR for the period from April 15, 2001 to April 15, 2002. The purpose of the interest rate swap agreement was to mitigate the Company's interest rate risk under its revolving credit facility.

 

Prior to January 29, 2001, the Company had accounted for the interest rate swap agreement as a cash flow hedge. Upon adoption of SFAS No. 133, the Company elected to not use hedge accounting for the interest rate swap agreement. Accordingly, a cumulative‑effect‑type adjustment was made to Accumulated Other Comprehensive Income in the amount of $76 on January 30, 2001, which represented the fair value of the interest rate swap at the date of adoption of SFAS No. 133 ($123) net of income tax effect ($47). The cumulative effect adjustment was amortized to earnings over the period from April 15, 2001 to April 15, 2002. During the thirteen weeks ended August 4, 2002 and July 29, 2001, respectively, the Company recorded interest expense of $0 ($0 net of tax), and $31 ($19 net of tax) to amortize the cumulative effect adjustment.

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

 

(Dollars in thousands)

 

The thirteen weeks ended August 4, 2002 and July 29, 2001 are referred to herein as the second quarter of fiscal 2003 and 2002 respectively.

 

As used below the term "competitive market" refers to any market wherein there is one or more national or regional full-line discount stores located in the market served by the Company. The term "non-competitive market" refers to any market where there is no national or regional full-line discount store located in the market served by the Company. Even in a non-competitive market, the Company faces competition from a variety of sources.

 

RESULTS OF OPERATIONS

 

Thirteen and Twenty-Six Weeks Ended August 4, 2002 Compared to Thirteen and Twenty-Six Weeks Ended July 29, 2001.

 

The Company continues to execute its basic strategy of opening stores in under-served markets that have no competition from national or regional full-line discount retailers. During the second quarter of fiscal 2003 the Company opened 1 ALCO store, which was in a new, non-competitive market, resulting in a quarter end total of 264 stores. For the twenty-six week period ending August 4, 2002, the Company opened two stores and closed two stores. As of August 4, 2002, over 80% of the stores were located in non-competitive markets. Through the second quarter, the Company has completed the remodel of 16 of the planned 32 ALCO stores targeted for the completion in the current fiscal year.

 

Net sales for the second quarter of fiscal 2003 increased $1,707 or 1.7% to $103,470 compared to $101,763 for the second quarter of fiscal 2002. When sales are compared to the similar period in the prior year, which ended on August 5, 2001, sales rose $2,082 or 2.1%, with same store sales rising $521, or 0.5%.

 

Net sales for the twenty-six week period ending August 4, 2002 increased $6,690 or 3.5% to $200,247 compared to $193,557 in the comparable twenty-six week period of the prior fiscal year. When sales are compared to the similar twenty-six week period in the prior year, which ended on August 5, 2001, sales rose $6,523, or 3.4%, with same store sales rising $3,832, or 2.0%.

 

Gross margin for the second quarter of fiscal 2003 increased $1,307 or 3.9% to $34,480 compared to $33,173 in the second quarter of fiscal 2002. Gross margin as a percentage of sales was 33.3% for the second quarter of fiscal 2003 compared to 32.6% for the second quarter of fiscal 2002. This was primarily due to a more favorable mix of sales and a strong sell through of spring and summer products, resulting in lower markdowns and reduced shrinkage.

 

Gross margin for the twenty-six week period ended August 4, 2002 was $66,706, which was $3,878 or 6.2% higher than last year's twenty-six week gross margin of $62,828. As a percent of net sales, gross margin for the twenty-six week period ended August 4, 2002 was 33.3% compared to 32.5% in the twenty-six week period of the prior fiscal year. The improvement in gross margin percentage was attributable to a mix of sales that included more higher margin items, lower markdowns, and reduced shrinkage.

 

Selling, general and administrative expense increased $1,100 or 3.7% to $30,441 in the second quarter of fiscal 2003 compared to $29,341 in the second quarter of fiscal 2002. As a percentage of net sales, selling, general and administrative expenses in the second quarter of fiscal 2003 was 29.4%, compared to 28.8% in the second quarter of fiscal 2002. The increase in the selling, general and administrative expense was due to higher distribution center costs related to the launch of a new warehouse management software package, a reduction in marketing support from vendors, and higher insurance costs.

 

Selling, general and administrative expenses increased $3,069 or 5.4% to $59,752 for the twenty-six week period ended August 4, 2002 compared to $56,683 for the comparable twenty-six week period of the prior fiscal year. Selling, general and administrative expense as a percent of net sales was 29.8% for the twenty-six week period ending August 4, 2002 compared to 29.3% for the twenty-six week period ended July 29, 2001. The increase in the selling, general, and administrative expense was due to reduced marketing support and insurance costs mentioned above, along with higher incentive compensation.

 

Depreciation and amortization expense increased $112 or 7.1% to $1,684 in the second quarter of fiscal 2003 compared to $1,572 in the second quarter of fiscal 2002. Depreciation and amortization expense increased $189 or 6.1% to $3,304 for the twenty-six week period ended August 4, 2002 compared to $3,115 in the comparable twenty-six week period of the prior fiscal year.

 

Provision for asset impairment and store closure was $0 in the second quarter of both fiscal 2003 and 2002.

 

Provision for asset impairment and store closure was $6 for the twenty-six week period ended August 4, 2002 compared to ($8) for the comparable twenty-six week period of the prior fiscal year.

 

Income from operations increased $95 or 4.2% to $2,355 in the second quarter of fiscal 2003 compared to $2,260 in the second quarter of fiscal 2002. Income from operations as a percentage of net sales was 2.3% in the second quarter of fiscal 2003 compared to 2.2% in the second quarter of fiscal 2002.

 

Income from operations increased $606 or 19.9% to $3,644 for the twenty-six week period ended August 4, 2002 compared to $3,038 in the comparable twenty-six week period of the prior fiscal year.

 

Interest expense decreased $387 or 52.5% in the second quarter of fiscal 2003 compared to the second quarter of fiscal 2002. Interest expense decreased $678 or 45.9% to $800 for the twenty-six week period ended August 4, 2002 compared to $1,478 in the comparable twenty-six week period of the prior fiscal year. Interest expense decreased because of lower rates as well as lower levels of borrowing due to reduced levels of inventory.

 

Net earnings for the second quarter of fiscal 2003 were $1,269, an increase of $326 or 34.6% over the net earnings of $943 for the second quarter of fiscal 2002. Net earnings increased $834 or 86.3% to $1,800 in the comparable twenty-six week period of the prior fiscal year.

 

LIQUIDITY AND CAPITAL RESOURCES

 

The Company's primary sources of funds are cash flows from operations, borrowings under its revolving loan credit facility, mortgage financing and vendor trade credit financing (increases in accounts payable).

 

At August 4, 2002 working capital (defined as current assets less current liabilities) was $85,926 compared to $71,098 at the end of fiscal 2002. The increase in working capital was due to the classification of the revolving loan as a long-term liability as it was replaced by a Senior Secured Revolving credit facility that is due in April 2006.

 

Operating activities generated cash in the amount of $7,820 and $1,183 in the twenty-six week period of fiscal 2003, and 2002 respectively. The increase in the amount of cash generated by operating activities in the twenty-six week period of fiscal 2003 compared to the twenty-six week period of fiscal 2002 was primarily due to a decrease in inventory offset by a reduction of income taxes payable.

 

Cash used in investing activities in the twenty-six week period of fiscal 2003 and 2002 totaled $3,563 and $3,086 respectively. Total anticipated cash payments for acquisition of property and equipment in fiscal 2003, principally for store buildings and store and warehouse fixtures and equipment, are approximately $7,500.

 

The Company used cash from financing activities in the twenty-six week period of fiscal 2003 in the amount of $5,216 and $2,512 in the twenty-six week period of fiscal 2002. Cash was used to pay down the revolver as well as to make principal payments on long-term notes and capital leases.

 

 

 

 

BUSINESS OPERATIONS AND SEGMENT INFORMATION

 

The Company's business activities include operation of ALCO discount stores in towns with populations which are typically less than 5,000 not served by other regional or national full-line discount chains and Duckwall variety stores that offer a more limited selection of merchandise which are primarily located in communities of less than 2,500 residents.

 

For financial reporting purposes, the Company has established two operating segments: "ALCO Discount Stores", and "All Other", which includes the Duckwall variety stores and other business activities, such as general office, warehouse and distribution activities.

 

 

 

 

Income from operations as reflected in the above segment information has been determined differently than income from operations in the accompanying consolidated statements of operations as follows:

 

Intercompany Sales

Intercompany sales represent transfers of merchandise from the warehouse to ALCO discount stores and Duckwall variety stores.

 

Intercompany Expense Allocations

General and administrative expenses incurred at the general office have not been allocated to the ALCO Discount Stores for purposes of determining income from operations for the segment information.

 

Warehousing and distribution costs including freight applicable to merchandise purchases, have been allocated to the ALCO Discount Stores segment based on the Company's customary method of allocation for such costs (primarily as a stipulated percentage of merchandise purchases).

 

Inventories

Inventories are based on the FIFO method for segment information purposes and on the LIFO method for the consolidated statements of operations.

 

Leases

All leases are accounted for as operating leases for purposes of determining income from operations for purposes of determining the segment information for the ALCO Discount Stores whereas capital leases are accounted for as such in the consolidated statements of operations.

 

 

 

 

 

CHANGE IN ACCOUNTING PRINCIPLES

 

Effective January 29, 2001, the Company adopted Statement of Financial Accounting Standards (SFAS) No. 133, "Accounting for Derivative Investments and Hedging Activities." See additional discussion in Note 3 to Unaudited Consolidated Financial Statements.

 

In August 2001, the FASB issued SFAS No. 144, Accounting for the Impairment or Disposal of Long‑Lived Assets (SFAS No. 144). SFAS No. 144 addresses significant issues relating to the implementation of SFAS No. 121, "Accounting for the Impairment of Long‑Lived Assets and for Long‑Lived Assets to Be Disposed Of," and develops a single accounting method under which long‑lived assets that are to be disposed of by sale are measured at the lower of book value or fair value less cost to sell. Additionally, SFAS No. 144 expands the scope of discontinued operations to include all components of an entity with operations that (1) can be distinguished from the rest of the entity and (2) will be eliminated from the ongoing operations of the entity in a disposal transaction. SFAS No. 144 is effective for financial statements issued for fiscal years beginning after December 15, 2001 and its provisions are to be applied prospectively. This accounting principle was adopted by the Company effective February 4, 2002. Management believes that the adoption of SFAS No. 144 did not have a significant impact on the financial statements.

 

MARKET RISK DISCLOSURE

 

The revolving credit facility has a floating interest rate that is affected by changes in market interest rates. The Company entered into an interest rate swap in December 2000 with a notional principal amount of $10,000 whereby the Company paid a fixed rate of interest and received interest based on LIBOR for the period April 15, 2001 to April 15, 2002 to mitigate a portion of its interest rate risk under the revolving credit facility.

 

On April 15, 2002, the Company replaced the existing line of credit with a new line of credit with Fleet Retail Finance Inc. that expires in April 2006. The credit line available is $70,000,000, which carries a variable rate of interest.

 

OTHER INFORMATION

 

    PART II

 

                        Item 1. Legal Proceedings

No legal proceedings except those covered by insurance occurred during the thirteen-week period ended August 4, 2002.

 

                        Item 2. Changes in Securities

                                    Not applicable

 

                        Item 3. Defaults Upon Senior Securities

                                    Not Applicable

 

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

                                    Not Applicable

 

                        Item 5. Other Information

                                    None

 

                        Item 6. Exhibits and Reports on Form 8-K

(a) None

                                        (b) Reports on Form 8-K

                                             No reports filed

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.

 

 

 

 

                                                                   DUCKWALL-ALCO STORES, INC.

                                                                                         (Registrant)

 

 

 

 

                                        Date, September 16, 2002  /s/ Richard A. Mansfield

                                                                                  Richard A. Mansfield

                                                                                  Vice President - Finance

                                                                                  Chief Financial Officer

 

                                                                                   Signing on behalf of the

                                                                                   registrant and as principal

                                                                                   financial officer

 

 

 

CERTIFICATIONS

 

I,  Glen L. Shank, certify that:

1. I have reviewed this quarterly report on Form 10-Q of Duckwall-ALCO Stores, Inc.;

2. Based on my knowledge, this quarterly 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 quarterly report;

3. Based on my knowledge, the financial statements, and other financial information included in this quarterly 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 quarterly report;

 

                                                                    Date: September 16, 2002

                                                                    /s/ Glen L. Shank
                                                                   President, Chairman of the Board

I,   Richard A. Mansfield, certify that:

1. I have reviewed this quarterly report on Form 10-Q of Duckwall-ALCO Stores, Inc.;

2. Based on my knowledge, this quarterly 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 quarterly report;

3. Based on my knowledge, the financial statements, and other financial information included in this quarterly 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 quarterly report;

 

                                                                   Date: September 16, 2002

                                                                   /s/ Richard A. Mansfield

                                                                   Vice President, Chief Financial Officer