2
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 July 31, 2004
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 No. 1-10892
HAROLD'S STORES, INC.
(Exact name of registrant as specified in its charter)
Oklahoma 73-1308796
(State or other (IRS Employer
jurisdiction of Identification No.)
incorporation or
organization)
5919 Maple Avenue (214) 366-0600
Dallas, Texas 75235 (Registrant's telephone
(Address of principal number,
executive offices) including area code)
(Zip 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]
Indicate the number of shares outstanding of each of the issuer's
classes of common stock, as of the latest practicable date.
As of August 31, 2004, the registrant had 6,219,292 shares of Common
Stock outstanding.
Harold's Stores, Inc. & Subsidiaries
Index to
Quarterly Report on Form 10-Q
For the Period Ended July 31, 2004
Part I - FINANCIAL INFORMATION Pag
e
Item Financial Statements
1.
Consolidated Balance Sheets - July 31, 2004 (unaudited) and 3
January 31, 2004
Consolidated Statements of Operations -
Thirteen and Twenty-Six Weeks ended July 31, 2004 5
(unaudited) and August 2, 2003 (unaudited)
Consolidated Statements of Cash Flows -
Twenty-six Weeks ended July 31, 2004 (unaudited) and 6
August 2, 2003 (unaudited)
Notes to Interim Consolidated Financial Statements 7
Item Management's Discussion and Analysis of Financial Condition and 12
2. Results of Operations
Item Quantitative and Qualitative Disclosure About Market Risk 15
3.
Item Controls and Procedures 15
4.
Part II - OTHER INFORMATION
Item Legal Proceedings 16
1.
Item Unregistered sales of Equity Securities and Use of Proceeds 16
2.
Item Defaults Upon Senior Securities 16
3.
Item Submission of Matters to a Vote of Security Holders 17
4.
Item Other Information 17
5.
Item Exhibits and Reports on Form 8-K 17
6.
Signatures 7 18
HAROLD'S STORES, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
ASSETS
(In Thousands)
July 31, January
2004 31,
2004
(Unaudit
ed)
Current assets:
Cash and cash equivalents $ $
767 1,118
Trade accounts receivable, less
allowance for doubtful accounts 6,311 7,120
of $200 as of July 31 and
January 31
Note and other receivables 51 109
Merchandise inventories 18,696 17,713
Prepaid expenses 1,872 1,130
Total current assets 27,697 27,190
Property and equipment, at cost 30,693 30,037
Less accumulated depreciation (21,25 (20,06
and amortization 5) 4)
Net property and equipment 9,438 9,973
Total assets $37,13 $37,16
5 3
HAROLD'S STORES, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
LIABILITIES AND STOCKHOLDERS' DEFICIT
(In Thousands Except Share Data)
July 31, January
2004 31,
2004
(Unaudi
ted)
Current liabilities:
Accounts payable $ $
7,012 7,526
Redeemable gift certificates 677 926
Accrued payroll expenses and 891 890
bonuses
Accrued rent expense 125 102
Current maturities of long-term 18,449 16,85
debt (See Note 5) 8
Total current liabilities 27,154 26,30
2
Accrued rent expense, net of 1,270 1,247
current maturities
Long-term debt, net of current 1,279 1,358
maturities
Total liabilities 29,703 28,90
7
Commitments and contingencies
(See Note 7)
Convertible preferred stock of
$.01 par value
Amended Series 2001-A,
authorized 600,000 shares,
issued and outstanding 333,862 6,677 6,627
as of July 31 and 331,631 as of
January 31
Series 2002-A, authorized
300,000 shares, issued and
outstanding 213,154 as of July 4,234 4,133
31 and 208,803 as of January 31
Series 2003-A, authorized
100,000 shares, issued and
outstanding 53,964 as of July 31 5,358 5,151
and 52,024 as of January 31
2001-A and 2002-A entitled to
$20.00 per share, and 2003-A
entitled to $100.00 per share,
in each case plus accrued but
unpaid dividends in liquidation
16,269 15,91
1
Stockholders' deficit:
Common stock of $.01 par value
Authorized 25,000,000 shares;
issued and outstanding 62 62
6,218,692 as of July 31 and
6,209,147 as of January 31
Additional paid-in capital 34,463 34,44
9
Accumulated deficit (43,36 (42,1
0) 64)
(8,835 (7,65
) 3)
Less: Treasury stock of 205 shares
as of July 31 and January 31 (2) (2)
recorded at cost
Total stockholders' deficit (8,837 (7,65
) 5)
Total liabilities and $37,13 $37,1
stockholders' deficit 5 63
HAROLD'S STORES, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
(In Thousands Except Per Share Data)
13 Weeks Ended 26 Weeks Ended
July August July August
31, 2, 31, 2,
2004 2003 2004 2003
(Unaudited)
Sales $19,2 $19,5 $43,4 $44,2
90 61 58 55
Costs and expenses:
Costs of goods sold (including
occupancy and central buying
expenses, exclusive of items 13,13 13,73 28,27 31,25
shown separately below) 4 7 1 8
Selling, general and 6,412 6,381 13,66 13,37
administrative expenses 9 9
Depreciation and amortization 770 939 1,551 1,908
Store closing expenses - 462 - 1,630
Interest expense 203 201 418 428
Total costs and expenses 20,51 21,72 43,90 48,60
9 0 9 3
Loss before income taxes (1,229 (2,15 (451) (4,34
) 9) 8)
Benefit for income taxes - - - -
Net loss $(1,22 $(2,1 $ $(4,3
9) 59) (451) 48)
NET LOSS APPLICABLE TO COMMON
STOCKHOLDERS:
Net loss $(1,22 $(2,1 $ $(4,3
9) 59) (451) 48)
Less: Preferred stock
dividends and accretion of 205 376 746 702
preferred stock issuance
costs
Net loss applicable to common $(1,43 $(2,53 $(1,19 $(5,05
stockholders 4) 5) 7) 0)
Net loss per common share:
Basic and diluted $(0.23 $(0.4 $(0.1 $(0.8
) 2) 9) 3)
HAROLD'S STORES, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(In Thousands)
26 Weeks Ended
July 31, August
2004 2,
2003
(Unaudited)
Cash flows from operating
activities:
Net loss $ $
(451) (4,348)
Adjustments to reconcile net loss
to net cash used in operating
activities:
Depreciation and amortization 1,551 1,908
Gain on sale of assets (45) (54)
Changes in assets and
liabilities:
Decrease in trade and other 860 302
accounts receivable
Increase (decrease) in (983) 955
merchandise inventories
Increase (decrease) in prepaid (742) 134
expenses
Decrease in accounts payable (372) (2,294)
Decrease in accrued expenses (202) (503)
Net cash used in operating (384) (3,900)
activities
Cash flows from investing
activities:
Acquisition of property and (1,017) (315)
equipment
Proceeds from disposal of 45 77
property and equipment
Issuance of note receivable (2) -
Payments received for notes 9 5
receivable
Net cash used in investing (965) (233)
activities
Cash flows from financing
activities:
Payments on long-term debt (135) (1,149
)
Advances on revolving line of 49,963 50,903
credit
Payments on revolving line of (48,316 (50,228
credit ) )
Proceeds from sale of preferred - 4,986
stock
Proceeds from issuance of common 14 -
stock
Preferred stock dividends (528) (426)
Net cash provided by financing 998 4,086
activities
Decrease in cash (351) (47)
Cash and cash equivalents at 1,118 483
beginning of period
Cash and cash equivalents at end $ $
of period 767 436
Non-cash investing and financing
activities:
Issuance of preferred stock in 142 -
lieu of rent
Preferred stock dividends paid 184 205
in shares of stock
HAROLD'S STORES, INC. AND SUBSIDIARIES
NOTES TO INTERIM CONSOLIDATED FINANCIAL STATEMENTS
July 31, 2004 and August 2, 2003
(Unaudited)
1. Unaudited Interim Periods
In the opinion of the Company's management, all adjustments
(all of which are normal and recurring) have been made which are
necessary to fairly state the financial position of the Company
as of July 31, 2004 and the results of its operations and cash
flows for the thirteen week and twenty-six week periods ended
July 31, 2004 and August 2, 2003. The results of operations for
the thirteen week and twenty-six week periods ended July 31, 2004
and August 2, 2003 are not necessarily indicative of the results
of operations that may be achieved for the entire year. For
further information, refer to the consolidated financial
statements and footnotes thereto included in the Company's Annual
Report on Form 10-K for the year ended January 31, 2004.
2. Definition of Fiscal Year
The Company has a 52-53 week year which ends on the Saturday
closest to January 31. The period from February 1, 2004 through
January 29, 2005, has been designated as 2004.
3. Basis of Presentation
The consolidated financial statements include the accounts
of the Company and its subsidiaries, all of which are wholly
owned. All significant intercompany accounts and transactions
have been eliminated.
4. Impact of New Accounting Pronouncements
On May 15, 2003, the FASB issued SFAS No. 150, "Accounting
for Certain Financial Instruments with Characteristics of both
Liabilities and Equity". SFAS No. 150 establishes standards for
classifying and measuring as liabilities certain financial
instruments that embody obligations of the issuer and have
characteristics of both liabilities and equity. Instruments that
are indexed to and potentially settled in an issuer's own shares
that are not within the scope of SFAS 150 remain subject to
existing guidance under EITF 00-14. SFAS No. 150 generally
requires liability classification for two broad classes of
financial instruments: 1. instruments that represent, or are
indexed to, an obligation to buy back the issuer's shares,
regardless of whether the instrument is settled on a net-cash or
gross physical basis, or 2. obligations that can be settled in
shares but meet one of the following conditions: derive their
value predominately from some other underlying obligation, have a
fixed value, or have a value to the counterparty that moves in
the opposite direction as the issuer's shares. SFAS No. 150 must
be applied immediately to instruments entered into or modified
after May 31, 2003 and to all other instruments that exist as of
the beginning of the first interim financial reporting period
beginning after June 15, 2003. The Company adopted this standard
August 3, 2003, which did not have a material impact on the
Company's consolidated financial position.
In January 2003, the FASB issued Interpretation No. 46,
"Consolidation of Variable Interest Entities, an interpretation
of Accounting Research Bulletin No. 51" ("FIN 46"). FIN 46
requires the consolidation of entities in which an enterprise
absorbs a majority of the entity's expected losses, receives a
majority of the entity's expected residual returns, or both, as a
result of ownership, contractual or other financial interests in
the entity. Currently, entities are generally consolidated by an
enterprise when it has a controlling financial interest through
ownership of a majority voting interest in the entity. FIN 46
applies immediately to variable interest entities created after
January 31, 2003, and to variable interest entities in which an
enterprise obtains an interest after that date. It applies in
the first fiscal year or interim period beginning after June 15,
2003, to variable interest entities in which an enterprise holds
a variable interest that it acquired before February 1, 2003.
FIN 46 may be applied prospectively with a cumulative-effect
adjustment as of the date on which it is first applied or by
restating previously issued financial statements for one or more
years with a cumulative-effect adjustment as of the beginning of
the first year restated. On October 8, 2003, the FASB deferred
the effective date of FIN 46 for all variable interests held in
all entities acquired prior to February 1, 2003 until December
31, 2003. The Company's adoption of FIN 46 did not have a
material impact on the Company's financial position.
5. Long-term Debt
The Company's original three-year credit facility with Wells
Fargo Retail Finance II, LLC, ("WFRF") was entered into on
February 5, 2003 and provided the Company with a maximum
available credit limit of $22 million. This agreement was
scheduled to expire in February, 2006. As discussed below, on
April 29, 2004, the maximum available credit line was increased
to the lesser of $25 million or $22 million plus outstanding
participant advances, and the expiration date was extended to
February 5, 2007. The credit facility is secured by
substantially all assets of the Company and its subsidiaries and
is subject to a borrowing base calculation based primarily on
inventory and accounts receivable. The facility has two
financial covenants, a minimum excess availability covenant of
$1.35 million and a maximum capital expenditure covenant,
established at $2.75 million for 2004. Interest rates under the
facility are at prime plus 0.5% or LIBOR plus 2.50%, with the
ability to reduce the rate if the Company achieves certain
financial criteria. The balance outstanding on the Company's
line of credit at July 31, 2004 was $18,267,000 which includes
the $4 million outstanding under the bridge facility discussed
below. At July 31, 2004 the Company's availability under the
WFRF line of credit was approximately $3.7 million above the
minimum availability requirement of $1.35 million and the average
interest rate on the credit line was 3.94%.
Subsequent to securing the initial credit facility, the
Company negotiated an increase of $2 million in its total
borrowing availability under its existing credit facility with
WFRF. The Company obtained this increase in order to provide for
additional working capital. The full $2 million was available
for borrowing on July 15, 2003 and has been extended to the
Company by Wells Fargo based upon a loan participation agreement
between Wells Fargo and RonHow, LLC, an entity established in
July 2003 which is owned and controlled directly or indirectly by
Ronald de Waal and W. Howard Lester. Mr. de Waal and Mr. Lester
are both major beneficial owners of the Company's common stock,
and Mr. Lester is also a director of the Company.
In order to achieve additional liquidity, on April 29, 2004,
the Company completed an amendment to the credit facility with
WFRF which increased the Company's borrowing availability under
the facility. The amendment increased the Company's maximum
inventory advance rate cap from 75% to 80% during non-peak times
and from 80% to 85% during peak times. Peak times were amended
to include the eight weeks prior to Easter and the eight weeks
prior to October 1. The increase in advance rates is expected to
increase the availability under the facility by as much as $3
million depending on the level of inventories. Additionally, the
amendment extended the term of the credit facility by one year,
with a new expiration of February 5, 2007. The amendment also
increased the maximum revolver amount from $22 million to the
lesser of $25 million or $22 million plus outstanding participant
advances. Finally, the amendment provided for an additional
increase of $2 million in the Company's borrowing availability
under the facility based upon an increase in the existing loan
participation agreement between WFRF and RonHow, LLC. WFRF will
continue to serve as the lending agent for the Company under the
credit facility, and the principal covenants and conditions
imposed upon the Company pursuant to the WRFR credit facility
agreement have not materially changed. RonHow, LLC's right to
repayment of any advances under the credit facility that are
attributable to its total $4 million participation is generally
subordinate to the repayment rights of the other credit facility
lenders. However, the Company may repay these advances provided
it meets certain conditions, including the maintenance of an
average daily excess availability under the credit facility of at
least $2.5 million for the 30 days prior to and 30 days projected
immediately following the repayment. The average excess
availability requirement is higher than the excess availability
otherwise required of the Company under the credit facility. If
the Company does not repay the new $2 million loan participation
of RonHow during the 18 months subsequent to April 29, 2004,
RonHow will have an option at that time to convert any of the
incremental $2 million not repaid into shares of authorized but
unissued 2003-A Preferred Stock, which will be convertible into
shares of common stock at a price of $2.524 per share, which was
the 20-day average closing price of the Company's common stock
for the period ending immediately before closing of the loan
amendment. Additionally, if the Company has not repaid the
initial $2 million of loan participation by February 2006, the
Company will pay an additional 4% fee per annum on the
outstanding participation amount up to $2 million. This
transaction was approved by the independent directors.
The Company was in compliance with its debt covenants for
the quarter ended July 31, 2004. Although the Company's line of
credit with WFRF does not expire until February 2007, the Company
has classified its borrowings under its line of credit as current
in its consolidated balance sheet due to the terms of its
agreement with the lender. Under the bank agreement, there is an
acceleration clause which potentially allows the bank to demand
immediate payment of all outstanding borrowings upon the
occurrence of a material adverse change in the Company's
operations or financial position. Determination of what
constitutes a material adverse change is at the discretion of the
bank, however, it is subject to reasonableness standards. In
addition, the Company is required to maintain a lock-box
agreement with the bank whereby all cash received is applied
against current borrowings. As a result of these items, the
Company is required to classify its borrowings as current as
proscribed by EITF 95-22, "Balance Sheet Classification of
Borrowings Outstanding under Revolving Credit Agreements that
include both a Subjective Acceleration Clause and a Lock-Box
Arrangement."
6. Income Taxes
The Company's net operating loss carryforwards will begin to
expire in 2010. During 2002, the Company increased its valuation
allowance to fully provide for all remaining deferred tax assets
because the Company's recent history of operating losses makes
the realization of these assets uncertain. The Company's
valuation allowance as of January 31, 2004 and July 31, 2004, is
equal to 100% of its deferred tax assets.
The ability of the Company to utilize net operating loss
carryforwards to reduce future federal taxable income and federal
income tax of the Company is subject to various limitations under
the Internal Revenue Code of 1986 ("the Code"), as amended. The
utilization of such carryforwards may be limited upon the
occurrence of certain ownership changes, including the issuance
or exercise of rights to acquire stock, the purchase or sale of
stock by 5% stockholders, as defined in the Treasury regulations,
and the offering of stock by the Company during any three-year
period resulting in an aggregate change of more than 50% in the
beneficial ownership of the Company.
In the event of an ownership change (as defined for income
tax purposes), Section 382 of the Code imposes an annual
limitation on the amount of a corporation's taxable income that
can be offset by these carryforwards. The limitation is
generally equal to the product of (i) the fair market value of
the equity of the Company multiplied by (ii) a percentage
approximately equivalent to the yield on long-term tax exempt
bonds during the month in which an ownership change occurs.
7. Commitments and Contingencies
The Company is occasionally involved in various claims,
administrative agency proceedings and litigation arising out of
the normal conduct of its business. At July 31, 2004, there
existed only one minor litigation matter. Although the ultimate
outcome of such litigation cannot be predicted, the management of
the Company, after discussions with counsel, believes that
resulting liability, if any, will not have a material effect upon
the Company's financial position or results of operations.
8. Preferred Stock
On February 28, 2001, the Company executed a definitive
agreement to allow an investor to purchase from the Company
300,000 shares of convertible preferred stock for a total
purchase price of $6 million. Under this preferred stock
agreement, each of the 300,000 initially issued shares of
preferred stock are convertible into 15.6863 shares of common
stock of the Company. The preferred shares have voting rights
equal to the number of common shares into which they may be
converted. Until converted, the preferred stock is entitled to
receive quarterly dividends that cumulate annually at a rate of
10% per annum, which are reduced to 8% per annum if the
Company's operating income for any fiscal year ending after
February 28, 2001 exceeds $4,735,000. Dividends are payable
50% in cash and 50% in additional shares of preferred stock
until February 28, 2003 and thereafter in additional shares of
preferred stock or cash as the holder of the preferred stock
may elect. Shares of preferred stock issued in respect of
dividends are convertible into common stock based upon an
average market price of the common stock as of the respective
dividend dates. Following the third anniversary of the
original issuance date, the preferred shares are redeemable at
the option of the Company at a price equal to the initial
purchase price plus cumulated and accrued but unpaid dividends.
On August 2, 2002, the Company executed a definitive
agreement to allow a group of investors to purchase from the
Company 200,000 shares of Series 2002-A convertible preferred
stock for a total purchase price of $4 million. Under this
preferred stock agreement, each of the 200,000 issued shares of
preferred stock are convertible into common stock of the
Company at a fixed rate of $2.72 per share. The preferred
shares have voting rights equal to the number of common shares
into which they may be converted. Until converted, the
preferred stock is entitled to receive quarterly dividends that
cumulate annually at a rate of 8% per annum, which is reduced
to 6% per annum if certain profitability targets are met by the
Company. Dividends are payable 50% in cash and 50% in
additional shares of preferred stock until July 1, 2003 and
thereafter in additional shares of preferred stock or cash as
the holder of the preferred stock may elect. Following the
third anniversary of the original issuance date, the Series
2002-A Preferred Stock is redeemable at the option of the
Company at a price equal to the initial purchase price plus
cumulated and accrued but unpaid dividends.
On February 5, 2003, the Company closed on a $5 million
private equity investment by Inter-Him, N.V., of which Ronald
de Waal is a Managing Director, and W. Howard Lester, a
director of the Company (the "Investors"). The Investors
purchased an aggregate of 50,000 shares of a new series of
preferred stock, designated Series 2003-A Preferred Stock, at a
purchase price of $100.00 per share. The Series 2003-A
Preferred Stock is convertible into common stock at a fixed
rate of $1.15 per share, and otherwise provides rights and
preferences substantially similar to the Company's existing
2002-A Preferred Stock. The percentage ownership of common
stock on an as-converted basis by Inter-Him and Mr. de Waal is
approximately 52.0% (assuming conversion of all of the
Company's outstanding preferred stock).
None of the Company's outstanding preferred shares are
included in the stockholders' equity section of the balance
sheet because the preferred shareholders have special voting
rights that empower them to elect a majority of the board of
directors and maintain effective control over the Company.
9. Stock Options
The Company follows the intrinsic value method of accounting
for common stock options to employees, in accordance with the
provisions of Accounting Principles Board Opinion No. 25,
"Accounting for Stock Issued to Employees", and related
interpretations.
Had the Company elected to recognize compensation expense
based on the fair value of the stock options granted as of their
grant date per the standards of Statement of Financial Accounting
Standards No. 123, the Company's 2004 and 2003 pro forma net loss
and pro forma net loss per share would have differed from the
amounts actually reported as shown in the table below. The pro
forma amounts shown reflect only options granted in 1995 through
2004. Therefore, the full impact of calculating compensation
cost for stock options based on their fair value is not reflected
in the pro forma net loss amounts presented because compensation
cost is reflected over the options' vesting period of up to 10
years and compensation cost for options granted prior to January
29, 1995 is not considered.
13 Weeks Ended 26 Weeks Ended
July August July August
31, 2, 31, 2,
2004 2003 2004 2003
(In thousands, except per share
data)
Net loss applicable to common $(1,434 $(2,53 $(1,19 $
stockholders, as reported ) 5) 7) (5,050)
Add:
Stock-based employee
compensation expense included - - - -
in reported net loss
Deduct:
Stock-based employee
compensation expense determined 205 102 420 362
under fair value method for all
awards
Pro forma net loss applicable $(1,639 $(2,637 $(1,617 $(5,412
to common stockholders ) ) ) )
Net loss per average common
share:
Basic, as reported $(0.23) $(0.42 $(0.19 $(0.83
) ) )
Basic, pro forma $(0.26) $(0.43 $(0.26 $(0.89
) ) )
Diluted, as reported $(0.23) $(0.42 $(0.19 $(0.83
) ) )
Diluted, pro forma $(0.26) $(0.43 $(0.26 $(0.89
) ) )
10. Revenue Recognition
Sales from store locations represented 99% of the Company's
total sales for the first half of 2004. These sales are
recognized at the time of the customer's purchase. During the
third quarter of 2003, the Company returned to the direct channel
business by offering direct response catalogs. The sales related
to these catalogs were approximately one percent of total sales
for the twenty-six weeks ended July 31, 2004, and a return
reserve was established for this revenue stream beginning August
2003. Direct channel sales are recognized at the time the order
is shipped to the customer. All sales are net of returns and
exclude sales tax. Gift card sales are recognized as revenue
when the gift card is redeemed, not when it is sold.
11. Earnings per Share
Outstanding shares for purposes of basic and diluted
earnings per share were calculated as follows:
13 Weeks Ended 26 Weeks Ended
July August July August
31, 2, 31, 2,
2004 2003 2004 2003
(in thousands)
Net loss applicable to
common shareholders - $(1,434 $(2,53 $(1,19 $(5,050
basic and diluted ) 5) 7) )
Average common shares 6,215 6,099 6,213 6,099
outstanding
Effect of dilutive
securities:
Employee stock options - - - -
Convertible preferred - - - -
stock
Diluted average common 6,215 6,099 6,213 6,099
shares outstanding
Approximately 907,842 shares and 2,095,314 shares for the
twenty-six weeks ended July 31, 2004 and August 2, 2003,
respectively, related to outstanding employee stock options, were
not included in the calculation of diluted earnings per average
common share because the effect of including those shares is anti-
dilutive as the exercise price of the stock options exceeded the
average common stock market price during the respective period.
Approximately 600,980 and 588,209 preferred shares convertible
into 11,299,851 and 11,091,008 common shares, for the twenty-six
weeks ended July 31, 2004 and August 2, 2003, respectively, were
not included in the calculation of diluted earnings per average
common share because the effect of including those shares is anti-
dilutive.
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
From time to time, the Company may publish forward-looking
statements relating to certain matters including anticipated
financial performance, business prospects, the future opening or
closing of stores, inventory levels, anticipated capital
expenditures, and other matters. All statements other than
statements of historical fact contained in this Form 10-Q or in
any other report of the Company are forward-looking statements.
The Private Securities Litigation Reform Act of 1995 provides a
safe harbor for forward-looking statements. In order to comply
with the terms of that safe harbor, the Company notes that a
variety of factors, individually or in the aggregate, could cause
the Company's actual results and experience to differ materially
from the anticipated results or other expectations expressed in
the Company's forward-looking statements including, without
limitation, the following: the ability of the Company to
generate cash flow from operations in amounts sufficient to meet
debt obligations and provide working capital and funds for
growth, consumer spending trends and habits; competition in the
retail clothing segment; weather conditions in the Company's
operating regions; laws and government regulations; general
business and economic conditions; availability of capital;
success of operating initiatives and marketing and promotional
efforts; and changes in accounting policies. In addition, the
Company disclaims any intent or obligation to update those
forward-looking statements.
Results of Operations
The following table sets forth for the periods indicated,
the percentage of net sales represented by items in the Company's
statement of operations.
13 Weeks Ended 26 Weeks Ended
July August July August
31, 2, 31, 2,
2004 2003 2004 2003
Sales 100.0% 100.0% 100.0% 100.0%
Costs of goods sold (68.1) (70.2) (65.0) (70.6)
Selling, general and (33.2) (32.6) (31.4) (30.2)
administrative expenses
Depreciation and (4.0) (4.8) (3.6) (4.3)
amortization
Store closing expenses - (2.4) - (3.7)
Interest expense (1.1) (1.0) (1.0) (1.0)
Loss before income taxes (6.4) (11.0) (1.0) (9.8)
Benefit for income taxes - - - -
Net loss (6.4)% (11.0)% (1.0)% (9.8)%
The following table reflects the sources of the changes in
Company sales for the periods indicated, with percentage changes
compared to the comparable period of the prior year.
13 Weeks Ended 26 Weeks Ended
July August July August
31, 2, 31, 2,
2004 2003 2004 2003
Sales (000's) 19,290 19,561 43,458 44,255
Total sales (decrease) (1.4)% 0.2% (1.8)% 1.4%
increase
Change in comparable
store sales 2.3% 9.4% 5.7% 7.9%
(52 week basis)
Store locations:
Existing stores 41 45 42 50
Stores closed - (3) (1) (8)
New stores opened - - - -
Total stores at end of 41 42 41 42
period
The Company opened no new stores, relocated one store and
closed one store during the twenty-six weeks ended July 31, 2004
compared to the twenty-six weeks ended August 2, 2003 in which no
new stores were opened, one store was relocated, one store was
expanded and eight stores were closed. The Company has no plans
to close additional stores. The 2003 store closings were
responsible for the total sales decline for the twenty-six weeks
ended July 31, 2004 compared to the same period of the prior
year. The increasing 2004 comparable store sales are primarily
due to the favorable response by the Company's customers to the
merchandise assortments.
The Company's gross margin was 31.9% for the second quarter
of 2004, as compared to 29.8% in the same period of last year.
The gross margin also increased for the twenty-six week period
ended July 31, 2004 to 35.0% from 29.4% during the same period of
the prior year. As previously outlined in the Company's
strategic objectives, these significant increases in the gross
margins are primarily due to increased rates of selling
merchandise at full price, resulting in fewer markdowns of
merchandise.
Selling, general and administrative expenses (including
advertising and catalog production costs) increased to 33.2% of
sales for the second quarter of 2004 compared to 32.6% for the
second quarter of 2003 and increased to 31.4% of sales for the
twenty-six weeks ended July 31, 2004 compared to 30.2% for the
same period of the prior year. The increases are primarily due
to costs associated with the transition in senior management.
The Company reported a net loss of $1,229,000 or $0.23 per
basic and diluted share during the second quarter of 2004, as
compared to a net loss of $2,159,000 or $0.42 per basic and
diluted share for the second quarter of last year. For the
twenty-six week period ended July 31, 2004, the Company reported
a net loss of $451,000 or $0.19 per basic and diluted share
compared to a net loss of $4,348,000 or $0.83 per basic and
diluted share for the same period of the prior year. Included in
the results of the first half of 2003 were costs associated with
the closing of eight unprofitable stores, and losses associated
with an event conducted to liquidate excess inventory. The store
closing expenses recorded in the first half of 2003 were
$1,630,000.
The average balance of total outstanding debt was
$19,195,000 for the twenty-six weeks ended July 31, 2004 compared
to $18,478,000 for the same period of 2003. This slight increase
in average balances resulted principally from the timing of fall
merchandise receipts which were weighted more to the second
quarter in 2004 than in 2003. While inventory at July 31, 2004,
was slightly below the levels of the same period of the prior
year, the current inventory consists of a greater portion of new
fall merchandise and a much lower level of clearance inventory.
Liquidity and Capital Resources
The Company's primary needs for liquidity are to finance its
inventories and revolving charge accounts, cover operating cash
flow deficits and to invest in remodeling, fixtures and
equipment. The Company has relied on its bank credit facility to
meet these needs as well as proceeds from preferred stock
investments of $6 million in February 2001, $4 million in August
2002 and $5 million in February 2003. The Company experienced
deficit operating cash flows of $384,000 for the twenty-six weeks
ended July 31, 2004 compared to deficit operating cash flows of
$3,900,000 for the twenty-six weeks ended August 2, 2003. This
increase in cash flows is principally related to the decrease of
the Company's net loss for the first half of 2004 compared to the
same period of 2003. The Company's ability to achieve positive
cash flows from operating activities depends on its ability to
continue to improve sales and gross margin which should allow the
Company to sustain a return to profitability. Additionally, the
Company may experience needs for additional capital. While the
Company has been successful in covering cash flow deficits
through line of credit borrowings and private equity investments
from its principal shareholders, there can be no assurances that
these, or any other financing resources will be available for
future needs.
The Company's original three-year credit facility with Wells
Fargo Retail Finance II, LLC, ("WFRF") was entered into on
February 5, 2003 and provided the Company with a maximum
available credit limit of $22 million. This agreement was
scheduled to expire in February, 2006. As discussed below, on
April 29, 2004, the maximum available credit line was increased
to the lesser of $25 million or $22 million plus outstanding
participant advances, and the expiration date was extended to
February 5, 2007. The credit facility is secured by
substantially all assets of the Company and its subsidiaries and
is subject to a borrowing base calculation based primarily on
inventory and accounts receivable. The facility has two
financial covenants, a minimum excess availability covenant of
$1.35 million and a maximum capital expenditure covenant,
established at $2.75 million for 2004. Interest rates under the
facility are at prime plus 0.5% or LIBOR plus 2.50%, with the
ability to reduce the rate if the Company achieves certain
financial criteria. The balance outstanding on the Company's
line of credit at July 31, 2004 was $18,267,000 which includes
the $4 million outstanding under the bridge facility discussed
below. At July 31, 2004 the Company's availability under the
WFRF line of credit was approximately $3.7 million above the
minimum availability requirement of $1.35 million and the average
interest rate on the credit line was 3.94%.
Subsequent to securing the initial credit facility, the
Company negotiated an increase of $2 million in its total
borrowing availability under its existing credit facility with
WFRF. The Company obtained this increase in order to provide for
additional working capital. The full $2 million was available
for borrowing on July 15, 2003 and has been extended to the
Company by Wells Fargo based upon a loan participation agreement
between Wells Fargo and RonHow, LLC, an entity established in
July 2003 which is owned and controlled directly or indirectly by
Ronald de Waal and W. Howard Lester. Mr. de Waal and Mr. Lester
are both major beneficial owners of the Company's common stock,
and Mr. Lester is also a director of the Company.
In order to achieve additional liquidity, on April 29, 2004,
the Company completed an amendment to the credit facility with
WFRF which increased the Company's borrowing availability under
the facility. The amendment increased the Company's maximum
inventory advance rate cap from 75% to 80% during non-peak times
and from 80% to 85% during peak times. Peak times were amended
to include the eight weeks prior to Easter and the eight weeks
prior to October 1. The increase in advance rates is expected to
increase the availability under the facility by as much as $3
million depending on the level of inventories. Additionally, the
amendment extended the term of the credit facility by one year,
with a new expiration of February 5, 2007. The amendment also
increased the maximum revolver amount from $22 million to the
lesser of $25 million or $22 million plus outstanding participant
advances. Finally, the amendment provided for an additional
increase of $2 million in the Company's borrowing availability
under the facility based upon an increase in the existing loan
participation agreement between WFRF and RonHow, LLC. WFRF will
continue to serve as the lending agent for the Company under the
credit facility, and the principal covenants and conditions
imposed upon the Company pursuant to the WRFR credit facility
agreement have not materially changed. RonHow, LLC's right to
repayment of any advances under the credit facility that are
attributable to its total $4 million participation is generally
subordinate to the repayment rights of the other credit facility
lenders. However, the Company may repay these advances provided
it meets certain conditions, including the maintenance of an
average daily excess availability under the credit facility of at
least $2.5 million for the 30 days prior to and 30 days projected
immediately following the repayment. The average excess
availability requirement is higher than the excess availability
otherwise required of the Company under the credit facility. If
the Company does not repay the new $2 million loan participation
of RonHow during the 18 months subsequent to April 29, 2004,
RonHow will have an option at that time to convert any of the
incremental $2 million not repaid into shares of authorized but
unissued 2003-A Preferred Stock, which will be convertible into
shares of common stock at a price of $2.524 per share, which was
the 20-day average closing price of the Company's common stock
for the period ending immediately before closing of the loan
amendment. Additionally, if the Company has not repaid the
initial $2 million of loan participation by February 2006, the
Company will pay an additional 4% fee per annum on the
outstanding participation amount up to $2 million. This
transaction was approved by the independent directors.
The Company was in compliance with its debt covenants for
the quarter ended July 31, 2004. Although the Company's line of
credit with WFRF does not expire until February 2007, the Company
has classified its borrowings under its line of credit as current
in its consolidated balance sheet due to the terms of its
agreement with the lender. Under the bank agreement, there is an
acceleration clause which potentially allows the bank to demand
immediate payment of all outstanding borrowings upon the
occurrence of a material adverse change in the Company's
operations or financial position. Determination of what
constitutes a material adverse change is at the discretion of the
bank, however, it is subject to reasonableness standards. In
addition, the Company is required to maintain a lock-box
agreement with the bank whereby all cash received is applied
against current borrowings. As a result of these items, the
Company is required to classify its borrowings as current as
proscribed by EITF 95-22, "Balance Sheet Classification of
Borrowings Outstanding under Revolving Credit Agreements that
include both a Subjective Acceleration Clause and a Lock-Box
Arrangement."
At July 31, 2004 the Company's availability under the WFRF
line of credit was approximately $3,657,000 million above the
minimum availability requirement of $1.35 million and the average
interest rate on the credit line was 3.94%. The Company's credit
line had an average balance of $17,663,000 and $16,648,000 for
the twenty-six weeks ended July 31, 2004 and August 2, 2003,
respectively. During the twenty-six weeks ended July 31, 2004,
the WFRF line of credit had a high balance of $18,494,000. The
balance outstanding on July 31, 2004 was $18,267,000.
The Company considers the following as measures of liquidity and
capital resources as of the dates indicated:
July Januar August
31, y 31, 2,
2004 2004 2003
Working capital (000's) $ $888 $1,886
(1) 543
Current ratio (1) 1.02:1 1.03:1 1.07:1
Ratio of working capital .01:1 .02:1 .05:1
to total assets (1)
Ratio of total debt to 2.65:1 2.21:1 1.80:1
stockholders' equity (2)
( Long-term debt is classified as current to comply
1 with accounting pronouncement EITF 95-22. See Note 5
) to the Consolidated Financial Statements for more
information. If the debt under the Company's line of
credit was classified as long-term, working capital
would be $18,810, $17,508 and $18,654 in July 2004,
January 2004 and August 2003, respectively; current
ratio would be 3.12:1, 2.81:1 and 2.95 in July 2004,
January 2004 and August 2003, respectively; and
working capital to total assets would be .51:1, .47:1
and .47:1 in July 2004, January 2004 and August 2003,
respectively.
( Preferred stock is treated as equity for this
2 calculation.
)
Seasonality
The Company's business is subject to seasonal influences,
with the major portion of sales realized during the fall season
(third and fourth quarters) of each year, which includes the back-
to-school and holiday selling seasons. In light of this pattern,
selling, general and administrative expenses are typically higher
as a percentage of sales during the spring season (first and
second quarters) of each year.
Inflation
Inflation affects the costs incurred by the Company in its
purchase of merchandise and in certain components of its selling,
general and administrative expenses. The Company attempts to
offset the effects of inflation through price increases and
control of expenses, although the Company's ability to increase
prices is limited by competitive factors in its markets.
Inflation has had no meaningful effect on the Company's
operations.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET
RISK
The primary objective of this disclosure is to provide
forward-looking quantitative and qualitative information about
the Company's potential exposure to market risks. The term
"market risk" for the Company refers to the risk of loss arising
from adverse changes in interest rates and various foreign
currencies. The disclosures are not meant to be precise
indicators of expected future losses, but rather indicators of
reasonably possible losses. There have been no significant
changes to this forward-looking information during the second
quarter of 2004 that would materially alter the Company's market
risk exposures.
ITEM 4. CONTROLS AND PROCEDURES
The Company's Principal Executive Officer and Principal
Financial Officer have reviewed and evaluated the effectiveness
of the Company's disclosure controls and procedures (as defined
in Exchange Act Rule 240.13a-14(c)) as of the end of the period
covered by this report. Based on that evaluation, the Principal
Executive Officer and the Principal Financial Officer have
concluded that the Company's current disclosure controls and
procedures are effective to ensure that information required to
be disclosed by the Company in the reports that it files or
submits under the Exchange Act is recorded, processed, summarized
and reported, within the time periods specified in the Securities
and Exchange Commission's rules and forms.
PART II
ITEM 1. LEGAL PROCEEDINGS
None.
ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF
PROCEEDS
No shares of the Company's Amended Series 2001-A Preferred
Stock ("2001 Preferred") were issued as dividends during the
second quarter ended July 31, 2004.
On July 1, 2004, 2,197 shares of the Company's Series 2002-A
Preferred Stock ("2002 Preferred") were issued as a dividend to
two of the existing holders of 2002 Preferred at their election
pursuant to the original terms of the 2002 Preferred. Each share
of 2002 Preferred issued in this dividend is convertible into
approximately 7.78 shares of Company common stock.
Also, on July 1, 2004, 264 shares of the Company's Series
2003-A Preferred Stock ("2003 Preferred") were issued as a pro
rata dividend to the existing holders of the 2003 Preferred in
accordance with the original terms of the 2003 Preferred. Each
share of 2003 Preferred issued in this dividend is convertible
into approximately 38.91 shares of Company common stock.
Because the shares of 2002 Preferred and 2003 Preferred
described above were all issued as stock dividends in accordance
with the original terms of each series, the Company believes that
no sale of securities has occurred which would require the
registration of such shares under the Securities Act. However,
even if the issuance of such shares is deemed to be a sale for
purposes of the Securities Act, the Company believes the issuance
of such shares was, in each case, exempt from registration under
the Securities Act pursuant to Section 4(2) thereof. These
shares were issued without any public solicitation to a limited
group of investors, all of whom are either directors of the
Company or beneficially own in excess of 10% of the Company's
outstanding common stock and all of whom acquired such shares for
investment.
ITEM 3. DEFAULTS UPON SENIOR SECURITIES
None.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY
HOLDERS
The 2004 Annual Meeting of Shareholders of the Company was
held on June 24, 2004. The following matters were submitted to a
vote of the Company's shareholders:
1. The election of seven directors (constituting the entire
board of directors) for the ensuing year and until their
successors are duly elected and qualified. The results of the
election for each director were as follows:
Director Votes For Votes
Withheld
Hubert W. Mullins 14,999, 851,094
021
Clark J. Hinkley 14,997, 852,756
359
Rebecca Powell 14,994, 855,194
Casey 921
William E. Haslam 6,601,6 * -
69
James D. Abrams 4,545,4 -
52
Robert L. 6,601,6 * -
Anderson 69
Margaret A. 4,545,4 -
Gilliam 52
W. Howard Lester 6,601,6 * -
69
Leonard M. Snyder 15,831, 18,810
305
*The Company has three series of preferred stock as follows:
Amended Series 2001-A, Series 2002-A and Series 2003-A
("Preferred Stock"). The holders of Preferred Stock are
entitled to vote together with all the other holders of the
Company's Common Stock on all matters presented to the
shareholders (including with respect to the election of
directors), and each share of Preferred Stock is entitled to
cast a number of votes equal to the number of shares of Common
Stock into which such share of Preferred Stock could be
converted at the conversion rates described in the preferred
stock agreements. The holders of the Preferred Stock are
entitled voting as a separate class to elect a specified
number of directors. With respect to these three directors,
the votes represent shares of Preferred Stock voted in favor
of their election.
ITEM 5. OTHER INFORMATION
None.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits: The following exhibits are filed as a part of this
report:
Exhib
it Description
Numbe
r
31.1 Certification of Chief Executive Officer
Pursuant to Rule 13a-14(a) under the
Securities Exchange Act of 1934.
31.2 Certification of Chief Financial Officer
Pursuant to Rule 13a-14(a) under the
Securities Exchange Act of 1934.
32.1 Certification of Chief Executive Officer
Pursuant to 18 U.S.C. Section 1350.
32.2 Certification of Chief Financial Officer
Pursuant to 18 U.S.C. Section 1350
(b) Reports on Form 8-K: The Company filed a Form 8-K dated May
25, 2004, reporting under Item 12 a press release announcing its
earnings and operating results for the quarter ended May 1, 2004.
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, hereunto duly authorized.
HAROLD'S STORES, INC.
By: /s/ Hugh Mullins
Hugh Mullins
President and Chief Executive Officer
By: /s/ Jodi L. Taylor
Jodi L. Taylor
Chief Financial Officer
Date: September 13, 2004
INDEX TO EXHIBITS
Exhib
it Description
Numbe
r
31.1 Certification of Chief Executive Officer
Pursuant to Rule 13a-14(a) under the
Securities Exchange Act of 1934.
31.2 Certification of Chief Financial Officer
Pursuant to Rule 13a-14(a) under the
Securities Exchange Act of 1934.
32.1 Certification of Chief Executive Officer
Pursuant to 18 U.S.C. Section 1350.
32.2 Certification of Chief Financial Officer
Pursuant to 18 U.S.C. Section 1350