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FORM 10-Q
SECURITIES AND EXCHANGE COMMISSION
Washington, D. C. 20549
[X] Quarterly Report Pursuant to Section 13 or 15 (d) of the
Securities Exchange Act of 1934
For the quarterly period ended November 2, 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 1 - 9482
HANCOCK FABRICS, INC.
(Exact name of registrant as specified in its charter)
Delaware 64-0740905
(State or other jurisdiction (I. R. S. Employer
of incorporation or organization) Identification No.)
3406 West Main Street, Tupelo, MS 38801
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code
(662) 842-2834
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 X No
___ ___
Indicate the number of shares outstanding of each of the issuer's classes of
common stock, as of the latest practical date.
As of November 2, 2003, the registrant had outstanding an aggregate of
18,790,531 shares of common stock, $.01 par value.
INDEX
Part I. Financial Information:
Page Numbers
Item 1. Financial Statements (unaudited)
Consolidated Balance Sheet as of November 2, 2003
and February 2, 2003 3
Consolidated Statement of Earnings for the Thirteen
Weeks and Thirty-nine Weeks Ended November 2, 2003
and November 3, 2002 4
Consolidated Statement of Shareholders' Equity for the
Thirty-nine Weeks Ended November 2, 2003 5
Consolidated Statement of Cash Flows for the Thirty-nine
Weeks Ended November 2, 2003 and November 3, 2002 6
Notes to Consolidated Financial Statements 7 - 10
Item 2. Management's Discussion and Analysis of Financial
Condition and Results of Operations 10 - 13
Item 3. Quantitative and Qualitative Disclosures about Market
Risks 13
Item 4. Controls and Procedures 14
Part II. Other Information:
Item 6. Exhibits and Reports on Form 8-K 14
Signature 14
2
PART I. FINANCIAL INFORMATION
HANCOCK FABRICS, INC.
CONSOLIDATED BALANCE SHEET
(unaudited)
- ------------------------------------------------------------------------------------------
(in thousands, except for share and per share amounts) November 2, February 2,
2003 2003
- ------------------------------------------------------------------------------------------
Assets
Current assets:
Cash and cash equivalents $4,679 $4,589
Receivables, less allowance for doubtful accounts 1,177 1,100
Inventories 151,895 144,061
Prepaid expenses 2,810 2,570
- ------------------------------------------------------------------------------------------
Total current assets 160,561 152,320
Property and equipment, at depreciated cost 49,499 41,853
Deferred tax asset 4,465 4,465
Pension payment in excess of required contribution 16,660 18,829
Goodwill 4,480 4,480
Other assets 3,668 3,563
- ------------------------------------------------------------------------------------------
Total assets $239,333 $225,510
==========================================================================================
Liabilities and Shareholders' Equity
Current liabilities:
Accounts payable $39,227 $44,357
Accrued liabilities 18,064 21,039
Deferred tax liabilities 3,078 3,078
Income taxes 3,929 5,089
- ------------------------------------------------------------------------------------------
Total current liabilities 64,298 73,563
Long-term debt obligations 23,000 -
Postretirement benefits other than pensions 22,292 21,976
Reserve for store closings 471 878
Other liabilities 4,948 4,862
- ------------------------------------------------------------------------------------------
Total liabilities 115,009 101,279
- ------------------------------------------------------------------------------------------
Commitments and contingencies
Shareholders' equity:
Common stock, $.01 par value; 80,000,000 shares authorized;
31,878,669 and 31,481,715 issued and outstanding, respectively 319 315
Additional paid-in capital 69,312 63,805
Retained earnings 212,915 208,659
Treasury stock, at cost, 13,088,138 and 12,431,937
shares held, respectively (151,813) (142,545)
Deferred compensation on restricted stock
incentive plan (6,409) (6,003)
- ------------------------------------------------------------------------------------------
Total shareholders' equity 124,324 124,231
- ------------------------------------------------------------------------------------------
Total liabilities and shareholders' equity $239,333 $225,510
==========================================================================================
See accompanying notes to consolidated financial statements.
3
HANCOCK FABRICS, INC.
CONSOLIDATED STATEMENT OF EARNINGS
(unaudited)
- ---------------------------------------------------------------------------------------------------------------------------------
(in thousands, except Thirteen Weeks Ended Thirty-nine Weeks Ended
per share amounts) --------------------------------------------------------------------------------
November 2, November 3, November 2, November 3,
2003 2002 2003 2002
- ---------------------------------------------------------------------------------------------------------------------------------
Sales $112,699 $112,933 $316,438 $309,663
Cost of goods sold 55,274 55,643 154,505 152,287
- ---------------------------------------------------------------------------------------------------------------------------------
Gross profit 57,425 57,290 161,933 157,376
- ---------------------------------------------------------------------------------------------------------------------------------
Selling, general and administrative expense 49,022 46,757 141,386 135,937
Depreciation and amortization 1,608 1,373 4,645 4,048
- ---------------------------------------------------------------------------------------------------------------------------------
Operating income 6,795 9,160 15,902 17,391
Other expense (income)
Interest expense 189 148 463 302
Interest income (9) (23) (43) (73)
- ------------------------------------------------------------------------------------------------------------------------------
Earnings before income taxes 6,615 9,035 15,482 17,162
Income taxes 2,401 3,279 5,620 6,230
- ------------------------------------------------------------------------------------------------------------------------------
Net earnings and comprehensive income $4,214 $5,756 $9,862 $10,932
=================================================================================================================================
Earnings per share
Basic $0.24 $0.32 $0.56 $0.61
Diluted $0.23 $0.31 $0.53 $0.58
=================================================================================================================================
Weighted average shares outstanding
Basic 17,673 17,843 17,659 17,826
Diluted 18,560 18,773 18,509 18,877
=================================================================================================================================
Dividends per share $0.10 $0.08 $0.30 $0.24
=================================================================================================================================
See accompanying notes to consolidated financial statements.
4
HANCOCK FABRICS, INC.
CONSOLIDATED STATEMENT OF SHAREHOLDERS' EQUITY
(unaudited)
- ----------------------------------------------------------------------------------------------------------------------------------
(in thousands, except for
number of shares) Common Stock Additional Treasury Stock Total
---------------------- Paid-in Retained ------------------ Deferred Shareholders'
Shares Amount Capital Earnings Shares Amount Compensation Equity
- ----------------------------------------------------------------------------------------------------------------------------------
Thirty-nine weeks ended November 2, 2003
- ----------------------------------------------------------------------------------------------------------------------------------
Balance February 2, 2003 31,481,715 $315 $63,805 $208,659 (12,431,937)($142,545) ($6,003) $124,231
Net earnings 9,862 9,862
Cash dividend - $.10 per
share on a quarterly basis (5,606) (5,606)
Issuance of restricted stock 149,000 1 2,359 (2,360)
Cancellation of restricted stock (41,500) (359) 359
Amortization and vesting of
deferred compensation on restricted
stock incentive plan 133 1,595 1,728
Purchase of treasury stock (656,201) (9,268) (9,268)
Issurance of shares as compensation
for professional services 1,423 22 22
Issuance of shares under directors'
stock plan 8,631 135 135
Exercise of stock options 279,400 3 3,217 3,220
- ----------------------------------------------------------------------------------------------------------------------------------
Balance November 2, 2003 31,878,669 $319 $69,312 $212,915 (13,088,138)($151,813) ($6,409) $124,324
==================================================================================================================================
See accompanying notes to consolidated financial
statements.
5
HANCOCK FABRICS, INC.
CONSOLIDATED STATEMENT OF CASH FLOWS
(unaudited)
- --------------------------------------------------------------------------------------
(in thousands)
Thirty-Nine Weeks Ended
------------------------------
November 2, November 3,
2003 2002
- --------------------------------------------------------------------------------------
Cash flows from operating activities:
Net earnings $9,862 $10,932
Adjustments to reconcile net earnings to cash
flows from operating activities:
Depreciation and amortization 4,645 4,048
LIFO (500) (1,000)
Amortization of deferred compensation on
restricted stock incentive plan 1,595 1,664
Interest expense on closed store accrual 98 123
Gain on the disposition of real property - 691
Issuance of shares as compensation for 22 17
professional services
(Increase) decrease in assets:
Receivables and prepaid expenses (317) (1,181)
Inventory at current cost (7,334) (12,737)
Pension payment in excess of required contribution 2,169 (980)
Other noncurrent assets (105) 548
Increase (decrease) in liabilities:
Accounts payable (5,130) 3,084
Accrued liabilities (2,975) (1,205)
Current income tax obligations (1,027) 328
Postretirement benefits other than pensions 316 33
Reserve for store closings (505) (717)
Other liabilities 86 (454)
- --------------------------------------------------------------------------------------
Net cash provided by operating activities 900 3,194
- --------------------------------------------------------------------------------------
Cash flows from investing activities:
Additions to property and equipment (12,291) (15,697)
Proceeds from the disposition of real property - 993
- --------------------------------------------------------------------------------------
Net cash used in investing activities (12,291) (14,704)
- --------------------------------------------------------------------------------------
Cash flows from financing activities:
Net borrowings on revolving
credit agreement 23,000 7,000
Purchase of treasury stock (9,268) (6,220)
Issuance of shares under directors' stock plan 135 134
Exercise of stock options 3,220 12,814
Cash dividends paid (5,606) (4,551)
- --------------------------------------------------------------------------------------
Net cash provided by financing activities 11,481 9,177
- --------------------------------------------------------------------------------------
Increase (decrease) in cash and cash equivalents 90 (2,333)
Cash and cash equivalents:
Beginning of period 4,589 6,914
- --------------------------------------------------------------------------------------
End of period $4,679 $4,581
======================================================================================
Supplemental disclosures:
Cash paid during the period for:
Interest $360 $136
Income taxes $5,732 $3,497
======================================================================================
See accompanying notes to consolidated financial statements.
6
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (unaudited)
NOTE 1: BASIS OF PRESENTATION
The accompanying unaudited consolidated financial statements of Hancock Fabrics,
Inc. ("Hancock" or the "Company") have been prepared in accordance with the
instructions to Form 10-Q and therefore do not include all information and
footnotes necessary for a fair presentation of financial position, results of
operations and cash flows in conformity with generally accepted accounting
principles. The statements do reflect all adjustments (consisting of only normal
recurring entries), which are, in the opinion of management, necessary for a
fair presentation of financial position in conformity with generally accepted
accounting principles. The statements should be read in conjunction with the
Notes to the Consolidated Financial Statements for the fiscal year ended
February 2, 2003 incorporated into the Company's Annual Report on Form 10-K/A.
The results of operations for the thirteen and thirty-nine week periods are not
necessarily indicative of the results to be expected for the full fiscal year.
NOTE 2: STOCK OPTIONS
Stock options are accounted for using the methods prescribed by Accounting
Principles Board Opinion No. 25, Accounting for Stock Issued to Employees.
Compensation cost for stock options is measured as the excess, if any, of the
quoted market price of Hancock's stock at the date of grant over the amount an
employee must pay to acquire the stock. Pro forma information regarding net
income and earnings per share as calculated under the provisions of SFAS No.
123, Accounting for Stock-Based Compensation, based on the options' estimated
fair value net of tax at the grant dates, is presented below:
Thirteen Weeks Ended Thirty-nine Weeks Ended
--------------------------------- ---------------------------------
November 2, November 3, November 2, November 3,
2003 2002 2003 2002
--------------- ---------------- ------------- -----------------
Net earnings, as reported $ 4,214 $ 5,756 $ 9,862 $ 10,932
Deduct: Total stock-based employee compensation
expense determined under fair value based method
for all awards, net of related tax effects (265) (174) (689) (433)
--------------- --------------- ------------- -----------------
Pro forma net earnings $ 3,949 $ 5,582 $ 9,173 $ 10,499
=============== =============== ============= =================
Earnings per share:
Basic - as reported $0.24 $0.32 $0.56 $0.61
=============== =============== ============= =================
Basic - pro forma $0.22 $0.31 $0.52 $0.59
=============== =============== ============= =================
Diluted - as reported $0.23 $0.31 $0.53 $0.58
=============== =============== ============= =================
Diluted - pro forma $0.21 $0.30 $0.50 $0.56
=============== =============== ============= =================
7
NOTE 3: EARNINGS PER SHARE
Basic earnings per share excludes dilution and is computed by dividing income
available to common shareholders by the weighted-average number of common shares
outstanding for the period. Diluted earnings per share reflects the potential
dilution that could occur if securities or other contracts to issue common stock
were exercised or converted into common stock or resulted in the issuance of
common stock that then shared in the earnings of the Company.
COMPUTATION OF EARNINGS PER SHARE
(unaudited)
- -------------------------------------------------------------------------------------------------------------------------------
(in thousands, except for share and Thirteen Weeks Ended Thirty-nine Weeks Ended
per share amounts) -----------------------------------------------------------
November 2, November 3, November 2, November 3,
2003 2002 2003 2002
- -------------------------------------------------------------------------------------------------------------------------------
Basic earnings per share:
Net earnings $4,214 $5,756 $9,862 $10,932
============ ============ ================ ===============
Weighted average number of common shares outstanding during
period 17,673,313 17,842,533 17,659,362 17,826,394
============ ============ ================ ===============
Basic earnings per share $0.24 $0.32 $0.56 $0.61
============ ============ ================ ===============
Diluted earnings per share:
Net earnings $4,214 $5,756 $9,862 $10,932
============ ============ ================ ===============
Weighted average number of common shares outstanding during
period 17,673,313 17,842,533 17,659,362 17,826,394
Stock options 440,456 516,155 450,581 639,166
Restricted stock and deferred stock units 446,102 414,347 398,718 411,220
------------ ------------ ---------------- ---------------
Weighted average number of common shares outstanding during
period adjusted for dilutive securities 18,559,871 18,773,035 18,508,661 18,876,780
============ ============ ================ ===============
Diluted earnings per share $0.23 $0.31 $0.53 $0.58
============ ============ ================ ===============
Weighted average common stock equivalents not included in EPS
(stock options) because the effect would be anti-dilutive 421,658 449,964 431,795 237,965
------------ ------------ ---------------- ---------------
NOTE 4: RESERVE FOR STORE CLOSINGS
Reserves for store closings are established based on estimates of net lease
obligations and other store closing costs.
At November 2, 2003, the total reserve balance included in current and
noncurrent liabilities was $1,342,000 which represents the present value of the
future net lease obligations required for the locations which have been closed.
The 2003 activity in the reserve is as follows (in thousands):
February 2, Additions to November 2,
2003 Reserve Interest Payments 2003
----------- ------------ -------- -------- -----------
Lease Obligations $1,749 $0 $98 ($505) $1,342
=========== ============ ======== ======== ===========
8
NOTE 5: RECENT ACCOUNTING PRONOUNCEMENTS
In June 2001, the FASB issued SFAS No. 143, Accounting for Asset Retirement
Obligations. SFAS No. 143 requires that obligations associated with the
retirement of a tangible long-lived asset be recorded as a liability when those
obligations are incurred, with the amount of the liability initially measured at
fair value. Upon initially recognizing a liability for an asset retirement
obligation ("ARO"), an entity must capitalize the cost by recognizing an
increase in the carrying amount of the related long-lived asset. Over time, the
liability is accreted to its present value each period, and the capitalized cost
is depreciated over the useful life of the related asset. Upon settlement of the
liability, an entity either settles the obligation for its recorded amount or
incurs a gain or loss upon settlement. The Statement is effective for financial
statements for fiscal years beginning after June 15, 2002. Hancock adopted SFAS
No. 143 as of February 3, 2003, and there was no material impact on its
financial statements.
In May 2002, the FASB issued SFAS No. 145, Rescission of FASB Statements No. 4,
44, and 64, Amendment of FASB Statement No. 13 and Technical Corrections as of
April 2002. This Statement eliminates an inconsistency between the required
accounting for sale-leaseback transactions and the required accounting for
certain lease modifications that have economic effects that are similar to
sale-leaseback transactions. This Statement also amends other existing
authoritative pronouncements to make various technical corrections, clarify
meanings, or describe their applicability under changed conditions, and it
eliminates the treatment of early extinguishments of debt as extraordinary
items. The provisions of this Statement related to the rescission of SFAS No. 4
are effective for fiscal years beginning after May 15, 2002. The provisions
related to SFAS No. 13 are effective for transactions occurring after May 15,
2002. All other provisions of this Statement are effective for financial
statements issued on or after May 15, 2002. Hancock adopted SFAS No. 145 as of
May 15, 2002 and February 3, 2003, and there was no material impact on its
financial statements.
In July 2002, the FASB issued SFAS No. 146, Accounting for Costs Associated with
Exit or Disposal Activities. This Statement addresses financial accounting and
reporting for costs associated with exit or disposal activities and nullifies
Emerging Issues Task Force (EITF) Issue No. 94-3, Liability Recognition for
Certain Employee Termination Benefits and Other Costs to Exit an Activity
(including Certain Costs Incurred in a Restructuring). This Statement requires
that a liability for a cost associated with an exit or disposal activity be
recognized when the liability is incurred rather than at the date of an entity's
commitment as provided under Issue 94-3. This Statement also establishes that
fair value is the objective for initial measurement of the liability. The
provisions of this Statement are effective for exit or disposal activities that
are initiated after December 31, 2002. Hancock adopted SFAS No. 146 as of
January 1, 2003, and there was no material impact on its financial statements.
In April 2003, the FASB issued SFAS No. 149, Amendment of Statement 133 on
Derivative Instruments and Hedging Activities. This Statement amends and
clarifies financial accounting and reporting for derivative instruments,
including derivative instruments embedded in other contracts and for hedging
activities under FASB Statement No. 133. The provisions of this Statement are
effective for contracts entered into or modified after June 30, 2003 and for
hedging relationships designated after that date. Hancock adopted SFAS No. 149
as of July 1, 2003, and there was no impact on its financial statements.
In May 2003, the FASB issued SFAS No. 150, Accounting for Certain Financial
Instruments with Characteristics of both Liabilities and Equity. The Statement
establishes standards on how to classify and measure certain financial
instruments with characteristics of both liabilities and equity. This Statement
is effective for financial instruments entered into or modified after May 31,
2003, and otherwise for interim periods beginning after June 15, 2003. Hancock
adopted SFAS No. 150 as of June 1, 2003 and August 4, 2003, and there was no
impact on its financial statements.
9
During January 2003, the FASB issued FIN No. 46, Consolidation of Variable
Interest Entities. FIN No. 46 provides guidance for companies having ownership
of variable interest entities, typically referred to as special purpose
entities, in determining whether to consolidate such variable interest entities.
FIN No. 46 has immediate applicability for variable interest entities created
after January 31, 2003 or interests in variable interest entities obtained after
that date. For interests in variable interest entities obtained prior to
February 1, 2003, FIN No. 46 becomes effective on February 1, 2004. Because the
Company does not hold an interest in an entity governed by the pronouncement,
Hancock does not believe the adoption of this pronouncement will have a
material impact on the Company's financial statements.
During 2002, the EITF reached a consensus on Issue 02-16, "Accounting by a
Customer (Including a Reseller) for Certain Consideration Received From a
Vendor". EITF Issue 02-16 addresses the accounting treatment for vendor
allowances and co-operative advertising programs and is effective for agreements
modified or entered into after January 1, 2003. Hancock adopted EITF Issue 02-16
as of February 3, 2003, and there was no impact on its financial statements.
During November 2003, the EITF reached a consensus on Issue 03-10, "Application
of Issue No. 02-16 by Resellers to Sales Incentives Offered to Consumers by
Manufacturers". EITF 03-10 addresses the accounting and disclosure treatment for
consideration received by a reseller from a vendor that is a reimbursement by
the vendor for honoring the vendor's sales incentives offered directly to
consumers. EITF 03-10 is effective for sales incentives tendered to consumers
for fiscal years beginning after December 15, 2003. Hancock does not believe the
application of EITF 03-10 will have a material impact on its financial
statements.
ITEM 2: MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS
FINANCIAL CONDITION
Historically, cash flow from operations has been sufficient to finance the
expansion and operation of Hancock's business. Hancock's principal capital
requirements are for the financing of inventories and to a lesser extent for
capital expenditures relating to store locations and its warehouse and
distribution facility. Funds for such purposes are generated from Hancock's
operations and, if necessary, supplemented by borrowings from commercial
lenders. In addition to cash dividends, Hancock has historically used excess
cash and, if necessary, borrowings from commercial lenders to purchase treasury
stock as market and financial conditions dictate.
During the thirty-nine weeks ended November 2, 2003, net earnings and non-cash
charges and credits, including depreciation and amortization, totaling $15.7
million, borrowings of $23 million and proceeds from stock option exercises
totaling $3.2 million were used to fund a $7.3 million seasonal increase in
inventory, $9.3 million of treasury stock purchases, $5.6 million in cash
dividends, an $8.1 million decrease in accounts payable and accrued liabilities
and $12.3 million in additions to property and equipment. At November 2, 2003,
Hancock had outstanding debt of $23 million, or 15.6% of total capitalization,
compared to $7 million, or 6% of total capitalization at November 3, 2002.
Hancock opened six stores and closed five stores during the thirteen weeks ended
November 2, 2003, resulting in a total of 432 stores at quarter end. Hancock
opened 21 stores and closed 19 stores during the thirty-nine weeks ended
November 2, 2003.
10
RESULTS OF OPERATIONS
Thirteen weeks ended November 2, 2003 compared with thirteen weeks ended
November 3, 2002
Net earnings were $4.2 million, or $.23 per diluted share, compared with $5.8
million, or $.31 per diluted share, in the same period of the prior year. A
decrease in comparable store sales and increases in advertising and other fixed
expenses contributed to the earnings decline. In addition, the recognition of a
$440,000 after-tax gain on the sale of real estate along with a higher LIFO
credit in the third quarter of 2002 further contributed to the earnings
decrease.
Sales decreased to $112.7 million from $112.9 million in last year's third
quarter, as the result of a decrease of .5% in comparable store sales. While our
average sales ticket increased, customer traffic in our stores was lower during
the third quarter of 2003 versus 2002. The weakening of the general retailing
environment was the most significant factor in the quarter's sales results. In
addition, extended warm weather around the country had an adverse effect on our
fall and winter merchandise sales. Sales in some of our east coast districts
were also negatively impacted by Hurricane Isabel in the first part of the
quarter.
Gross margins increased to 51% from 50.7% last year as a result of the shift in
our merchandise mix towards more higher-margin home decorating products and our
ability to control promotional activities. The gross margin increase was
partially offset by a decrease in the LIFO credit from $500,000 in the third
quarter of 2002 to $300,000 in the third quarter of 2003.
In the third quarter of 2003, total selling, general and administrative expenses
as a percentage of sales rose to 43.5% from 41.4% in the third quarter of 2002
due primarily to higher advertising expenditures, the absence of sales leverage
on fixed expenses and a gain on the sale of real estate that reduced expenses in
2002. Advertising costs increased due to our efforts to expand our customer
base. Expenses also increased as a result of the Company's incurrence of
duplicate costs, such as depreciation and utilities, associated with the
transition of our distribution operations to a new facility in Baldwyn, MS.
Interest expense increased due to higher average outstanding debt of $28 million
during the third quarter of 2003 versus $13 million during the third quarter of
2002, which was partially offset by lower interest rates.
Thirty-nine weeks ended November 2, 2003 compared with thirty-nine weeks ended
November 3, 2002
Net earnings were $9.9 million, or $.53 per diluted share, compared with $10.9
million, or $.58 per diluted share, in the same period of the prior year. The
earnings decline was due to costs associated with the transition to a new
distribution center, the third quarter 2002 recognition of a $440,000 after-tax
gain on the sale of real estate and a higher 2002 LIFO credit.
Sales increased to $316.4 million from $309.7 million in the first three
quarters of 2003 as the result of an increase of 2.4% in comparable store sales.
Sales benefited from the continuing positive effects of our store repositioning
efforts and their related impact on our home decorating product line. The
Company also experienced increases in quilting, active wear, sewing machine and
seasonal product line sales due, in part, to our 2003 partnering efforts with
exclusive suppliers and industry personalities. In addition, Hancock's focus on
teaching activities in all of our store locations has contributed to increased
sales.
Gross margins increased to 51.2% from 50.8% last year as a result of mix
improvements and the Company's ability to refrain from significant promotional
activities which compromise margin. The increase was partially offset, however,
by a decrease in the LIFO credit from $1 million in 2002 to $500,000 this year
due to less product cost deflation in 2003.
11
In the first three quarters of 2003, total selling, general and administrative
expenses as a percentage of sales increased to 44.7% from 43.9% in the same
period of 2002. The increase was primarily due to the duplicate costs the
Company continues to incur for items such as depreciation and utilities as we
transition operations to our new distribution center and a gain on the sale of
real estate that reduced expenses in 2002.
Interest expense increased over the prior year due to an increase in the average
level of debt outstanding which was partially offset by lower interest rates
during 2003.
CRITICAL ACCOUNTING POLICIES AND ESTIMATES
The preparation of financial statements in conformity with accounting principles
generally accepted in the United States of America requires management to make
estimates and assumptions that affect the recorded amount of assets and
liabilities at the date of the financial statements and revenues and expenses
during the period. Significant accounting policies employed by Hancock,
including the use of estimates and assumptions, are presented in the Notes to
Consolidated Financial Statements contained in the Company's Annual Report on
Form 10-K/A. Management bases its estimates on its historical experience,
together with other relevant factors, in order to form the basis for making
judgments, which will affect the carrying values of assets and liabilities. On
an ongoing basis, management evaluates its estimates and makes changes to
carrying values as deemed necessary.
OFF-BALANCE SHEET ARRANGEMENTS
Hancock has no off-balance sheet financing arrangements.
CONTRACTUAL OBLIGATIONS AND COMMERCIAL COMMITMENTS
Hancock has an arrangement to secure up to $5 million in letters of credit. At
November 2, 2003, Hancock had commitments of $1.9 million on issued letters of
credit which support purchase orders for merchandise to be imported. Hancock
also has a $4.7 million standby letter of credit to guarantee payment of
potential future workers' compensation claims. Hancock leases its retail fabric
store locations under operating leases expiring at various dates through 2022.
Hancock has no standby repurchase obligations or guarantees of other entities'
debt.
EFFECTS OF INFLATION
The impact of inflation on labor and occupancy costs can significantly affect
Hancock's operations. Many of Hancock's employees are paid hourly rates related
to Federal and State minimum wage requirements; accordingly, any increases will
affect Hancock. In addition, payroll taxes, employee benefits and other employee
costs continue to increase. Health insurance and workers compensation insurance
costs, in particular, continue to rise at an unsettling rate in the United
States each year, and higher employer contributions to Hancock's pension plan
have been necessary recently in light of weaker investment returns. Costs of
leases for new store locations remain stable, but renewal costs of older leases
continue to increase. Property and casualty insurance premiums are now
increasing substantially after several years of soft pricing in the insurance
industry. Hancock believes the practice of maintaining adequate operating
margins through a combination of price adjustments and cost controls, careful
evaluation of occupancy needs and efficient purchasing practices are the most
effective tools for coping with increased costs and expenses.
12
Inflation is one of the key factors used in the calculation of the LIFO charge
or credit to Cost of Sales. During the first three quarters of 2003 and 2002,
decreases in the Producer Price Index resulted in LIFO credits of $500,000 and
$1,000,000, respectively.
SEASONALITY
Hancock's business is slightly seasonal. Peak sales periods occur during the
fall and pre-Easter weeks, while the lowest sales periods occur during the
summer and the month of January.
RECENT ACCOUNTING PRONOUNCEMENTS
See Note 5 of Notes to Consolidated Financial Statements, above, for the effect
of recent accounting pronouncements on Hancock.
FORWARD-LOOKING STATEMENTS
This Report contains forward-looking statements within the meaning of the
Private Litigation Reform Act of 1995. Such statements are not historical facts
and reflect the Company's current views regarding matters such as operations and
financial performance. In general, forward-looking statements are identified by
such words or phrases as "anticipates", "believes", "approximates", "estimates",
"expects", "intends" or "plans" or the negative of those words or other
terminology. Forward-looking statements involve inherent risks and
uncertainties; the Company's actual results could differ materially from those
expressed in our forward-looking statements. The risks and uncertainties that
could cause our actual results to differ from those expressed in our
forward-looking statements include, but are not limited to:
o Transition of operations to the Company's new distribution center and
corporate offices will result in higher operating expenses than
historically experienced and may disrupt our operations
o Changes in customer demand or purchase patterns
o Competitive changes, including but not limited to, liquidations of
inventory in Hancock's markets in connection with a competitor's store
closing or need to dispose of old inventory
o Adverse general economic trends
o Delays or interruptions in the flow of merchandise between Hancock's
suppliers and/or its distribution center and its stores
o Disruption in the Company's data processing services
o The stability of interest rates during periods of borrowing
Forward-looking statements speak only as of the date made, and neither Hancock
Fabrics nor its management undertakes any obligation to update or revise any
forward-looking statement.
ITEM 3: QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISKS
Hancock does not hold derivative financial or commodity instruments at November
2, 2003. Hancock is exposed to financial market risks, including changes in
interest rates. All borrowings under Hancock's Revolving Credit Agreement bear
interest at a negotiated rate, a floating rate (the higher of the federal funds
rate plus 1/2% or the prime rate), a rate derived from the money market rate, or
a rate derived from the London Interbank Offered Rate. An increase in interest
rates of 100 basis points would not significantly affect Hancock's results. All
of Hancock's business is transacted in U. S. dollars and, accordingly, foreign
exchange rate fluctuations have never had a significant impact on Hancock, and
they are not expected to in the foreseeable future.
13
ITEM 4: CONTROLS AND PROCEDURES
Evaluation of Disclosure Controls and Procedures
Hancock carried out an evaluation of the effectiveness of its disclosure
controls and procedures (as defined in Rule 13a-15(e) under the Securities
Exchange Act of 1934) as of the end of the period covered by this report under
the supervision and with the participation of its management, including its
chief executive officer and chief financial officer. Based on that evaluation,
Hancock's chief executive officer and chief financial officer have concluded
that its disclosure controls and procedures are effective to ensure that
material information relating to Hancock, including its consolidated
subsidiaries, is made known to them by others within such entities, particularly
during the period in which this report was prepared, in order to allow timely
decisions regarding required disclosure.
Change in Internal Control Over Financial Reporting
There was no change in Hancock's internal control over financial reporting (as
defined in Rule 13a-15(f) under the Securities Exchange Act of 1934) that
occurred during its most recent fiscal quarter that has materially affected, or
is reasonably likely to materially affect, its internal control over financial
reporting.
PART II. OTHER INFORMATION:
ITEM 6: EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits
31.1 Certification of Chief Executive Officer
31.2 Certification of Chief Financial Officer
32 Certification of Chief Executive Officer and Chief Financial
Officer Pursuant to 18 U.S.C. Section 1350
(b) Reports on Form 8-K
- - Current Report on Form 8-K filed September 22, 2003 announcing the retirement
of Jack W.Busby, Jr.
- - Current Report on Form 8-K filed August 20, 2003 announcing quarterly
earnings.
SIGNATURE
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.
HANCOCK FABRICS, INC.
(Registrant)
By: /s/ Bruce D. Smith
--------------------------
Bruce D. Smith
Senior Vice President and
Chief Financial Officer
(Principal Financial and
Accounting Officer)
December 12, 2003
14
Exhibit 31.1
Certification of Chief Executive Officer
I, Larry G. Kirk, certify that:
1. I have reviewed this quarterly report on Form 10-Q of Hancock Fabrics,
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 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 we 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 that has materially
affected, or is reasonably likely to affect, the registrant's
internal control over financial reporting; and
5. The registrant's other certifying officer 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 registrant's
board of directors:
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: December 12, 2003
/s/ Larry G. Kirk
- --------------------------
Larry G. Kirk
Chairman of the Board and Chief Executive Officer
15
Exhibit 31.2
Certification of Chief Financial Officer
I, Bruce D. Smith, certify that:
1. I have reviewed this quarterly report on Form 10-Q of Hancock Fabrics,
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 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 we 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 that has materially
affected, or is reasonably likely to affect, the registrant's
internal control over financial reporting; and
5. The registrant's other certifying officer 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 registrant's
board of directors:
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: December 12, 2003
/s/ Bruce D. Smith
- --------------------------
Bruce D. Smith
Senior Vice President and
Chief Financial Officer
16
Exhibit 32
Certification of Chief Executive Officer and Chief Financial Officer
Pursuant to 18 U.S.C. Section 1350
Each of the undersigned, Larry G. Kirk and Bruce D. Smith, certifies pursuant 18
U.S.C. Section 1350 that: (1) this quarterly report on Form 10-Q of Hancock
Fabrics, Inc. ("Hancock") for the quarter ended November 2, 2003 fully complies
with the requirements of Section 13(a) or 15(d) of the Securities Exchange Act
of 1934, and (2) the information contained in this quarterly report fairly
presents, in all material respects, the financial condition and results of
operations of Hancock.
Date: December 12, 2003
/s/ Larry G. Kirk
- --------------------------
Larry G. Kirk
Chairman of the Board and Chief Executive Officer
/s/ Bruce D. Smith
- ---------------------------
Bruce D. Smith
Senior Vice President and Chief Financial Officer
17