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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
----------------------------------
FORM 10-K
[X ] Annual Report Pursuant to Section 13 or 15 (d) of the
Securities Exchange Act of 1934
For the fiscal year ended February 1, 2004
or
[ ] Transition Report Pursuant to Section 13 or 15 (d) of the
Securities Exchange Act of 1934
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
Securities Registered Pursuant to Section 12 (b) of the Act:
Name of each exchange
Title of each class on which registered
- ------------------- ---------------------
Common stock ($.01 par value) New York Stock Exchange
Rights New York Stock Exchange
Securities Registered Pursuant to Section 12 (g) of the Act:
None
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 if disclosure of delinquent filers pursuant to Item 405
of Regulation S-K is not contained herein, and will not be contained, to the
best of the registrant's knowledge, in definitive proxy or information
statements incorporated by reference in Part III of the Form 10-K or any
amendment to this Form 10-K. [ X ]
Indicate by check mark whether the Registrant is an accelerated filer (as
defined in Exchange Act Rule 12b-2). Yes X No
--- ---
The aggregate market value of Hancock Fabrics, Inc. $.01 par value stock held by
non-affiliates as of August 3, 2003 was $325,492,767. As of August 3, 2003 there
were 18,695,682 shares of Hancock Fabrics, Inc. $.01 par value common stock
outstanding.
DOCUMENTS INCORPORATED BY REFERENCE
Portions of the Proxy Statement
for the 2004 Annual Meeting of Shareholders, to be
filed within 120 days of the Registrant's fiscal year-end. Part III
With the exception of those portions that are specifically incorporated herein
by reference, the aforesaid document is not deemed filed as part of this report.
2
2003 ANNUAL REPORT ON FORM 10-K
TABLE OF CONTENTS
PART 1 Page
Item 1. Business......................................................... 4
Item 2. Properties....................................................... 7
Item 3. Legal Proceedings................................................ 8
Item 4. Submission of Matters to a Vote of Security Holders.............. 8
PART II
Item 5. Market for the Registrant's Common Equity and Related
Stockholder Matters.......................................... 9
Item 6. Selected Financial Data......................................... 10
Item 7. Management's Discussion and Analysis of Financial Condition
and Results of Operations.................................... 10
Item 7a. Quantitative and Qualitative Disclosure About Market Risk....... 19
Item 8. Financial Statements and Supplementary Data..................... 20
Item 9. Changes in and Disagreements with Accountants on Accounting
and Financial Disclosure..................................... 38
Item 9a. Controls and Procedures......................................... 39
PART III
Item 10. Directors and Executive Officers of the Registrant............... 39
Item 11. Executive Compensation........................................... 40
Item 12. Security Ownership of Certain Beneficial Owners and Management
and Related Stockholders Matters............................... 40
Item 13. Certain Relationships and Related Transactions................... 40
Item 14. Principal Accountant Fees and Services........................... 40
PART IV
Item 15. Exhibits, Financial Statement Schedules and Reports on Form 8-K... 41
Signatures.................................................................. 43
3
PART 1
Item 1. BUSINESS
Hancock Fabrics, Inc., a Delaware corporation ("Hancock" or the "Company," which
may be referred to as we, us or our) was incorporated in 1987 as a successor to
the retail and wholesale fabric business of Hancock Textile Co., Inc., a
Mississippi corporation and a wholly owned subsidiary of Lucky Stores, Inc., a
Delaware corporation ("Lucky").
Founded in 1957, we operated as a private company until 1972 when we were
acquired by Lucky. We became a publicly owned company as a result of the
distribution of shares of common stock to the shareholders of Lucky on May 4,
1987.
The Company is engaged in the retail and wholesale fabric business, selling
fabrics and related accessories to the sewing and home decorating markets and at
wholesale to independent retailers. We are one of the largest fabric retailers
in the United States. At February 1, 2004, we operated 433 stores in 42 states.
As a wholesaler of fabrics and related items, we sell to independent retail
fabric stores through our wholesale distribution facility in Baldwyn,
Mississippi.
Operations
Our stores offer a wide selection of apparel fabrics, home decorating products
(which include drapery and upholstery fabrics, home accent pieces and small
furniture), notions (which include sewing aids and accessories such as zippers,
buttons, threads and ornamentation), sewing machines, patterns, yarn, quilting
materials and supplies and related items. Each of our retail stores maintains an
inventory that includes cotton, woolen and synthetic staple fabrics such as
broadcloth, poplin, gabardine, unbleached muslin and corduroy, as well as
seasonal and current fashion fabrics.
Our stores are primarily located in strip shopping centers. During 2003, we
opened 28 stores and closed 25.
As a wholesaler, we sell to independent retailers in markets in which the
Company has elected not to open our own stores. These wholesale customers
accounted for approximately 1% of our total sales for the fiscal year ended
February 1, 2004.
Marketing
The following table shows net sales for each of our merchandise categories as a
percentage of our total net sales:
Year Ended
--------------------------------------------
February 1, February 2, February 3,
2004 2003 2002
-------------- -------------- --------------
Notions & accessories 30% 31% 33%
Home decorating 28% 27% 24%
Other apparel & quilting fabric 25% 22% 14%
Fashion apparel fabric 8% 10% 16%
Special occasion fabric 5% 6% 9%
Patterns 4% 4% 4%
-------------- -------------- --------------
Total 100% 100% 100%
============== ============== ==============
We principally serve the sewing and home decorating markets, which largely
consist of women who make clothing for their families and decorations for their
homes or who hire professional seamstresses to sew for them. Quilters and
hobbyists also comprise a portion of the base of customers, as do consumers of
bridal, party and prom special occasion fabric.
4
We offer our customers a wide selection of products at prices that we believe
are generally lower than the prices charged by our competitors. In addition to
staple fabrics and notions for clothing and home decoration, we provide a
variety of seasonal and current fashion apparel merchandise.
We use promotional advertising, primarily through direct mail, newspapers and
television, to reach target customers. We mail fourteen to eighteen direct mail
promotions each year to approximately 1.2 million households. We also mail to
our customers three magazines published in-house that contain sewing
instructions and fashion, home decorating and holiday ideas. We advertise on
cable and network television nationally for corporate image and promotions.
Distribution and Supply
Our retail stores and wholesale customers are served by our headquarters
facility in Tupelo, Mississippi and our recently acquired 632,000 square foot
warehouse and distribution facility in Baldwyn, Mississippi. We expect to
transfer our headquarters to the Baldwyn facility during the third quarter of
2004. The Tupelo facility and related property are currently being actively
marketed for sale.
Contract trucking firms, common carriers and parcel delivery are used to deliver
merchandise from our warehouse and vendors to our retail stores and wholesale
customers.
Bulk quantities of fabric are purchased from domestic and foreign mills, fabric
jobbers and importers. We have no long-term contracts for the purchase of
merchandise and did not purchase more than 5% of our merchandise from any one
supplier during the fiscal year ended February 1, 2004. We have experienced no
difficulty in maintaining satisfactory sources of supply.
Competition
We are among the largest fabric retailers in the United States. We principally
compete with one national fabric/craft store chain, a few small fabric chains
and numerous independent fabric stores on the basis of price, selection,
quality, service and location.
Our competition has changed significantly in recent years due to rapid expansion
that began in the fabric industry in the late 1980's, which ultimately led to
financial difficulties for many of our competitors and to significant industry
contraction and consolidation.
Growth Strategy
Hancock's growth strategy is to continue to expand our reach in our core
business by:
Expanding Our Store Base. In recent years, we have focused on repositioning
almost 300 smaller, overlapping stores into larger, well-spaced locations that
have the square footage needed to showcase our complete product lines. Some
repositioning work remains to be done; however, the bulk of it is now behind us
and, in fact, in 2003 we opened more stores than we closed/relocated for the
first time since we began upgrading the store base in 1996. As we go forward, we
believe that there is a long-term opportunity to nearly double our store count
in the United States. Our goal is to continue to expand our selling square
footage each year through a combination of opening stores in new markets and
replacing the remaining small stores with units that are in the 13,000 to 15,000
square foot range.
Improving Our Sales Productivity. We believe that we have the potential to
improve our sales per square foot, which is currently at $88. Recent efforts to
remerchandise our stores have laid the foundation for further improving our mix.
Remodels in 319 stores to accommodate a store-within-a-store home decorating
concept, the addition of home accents, furniture and yarn to all stores, new
relationships with recognized design personalities and a significant enhancement
5
to our quilting line have positioned our stores to attract a new customer as
well as sell more to existing customers. We also believe that there are still
opportunities to improve our apparel fabric business, particularly in the area
of value-priced fashion goods. In addition, we are in the process of
implementing point-of-sale ("POS") systems in all of our stores. These systems
will provide us with detailed sales information at the item level. As a result,
we will be able to improve our purchasing decisions and better tailor our
merchandise mix across the chain and from store to store.
Extending Our Customer Reach. We regularly send advertising mailers to our core
list of 1.2 million customers. In addition, we use television ads to reach
potential customers that would be more likely to have an interest in certain of
our newer product offerings, particularly in the home side of the business. Of
course, the television ads also serve to encourage repeat visits by our existing
customers.
Information Technology
Hancock is committed to using information technology to improve operations and
efficiency and enhance the customer shopping experience. In late 2002, we began
implementing POS systems in our store locations. POS will improve our ability to
analyze sales, gross margin trends and customer buying habits, improve inventory
management and measure store productivity. At February 1, 2004, POS systems had
been installed in 160 stores; we expect to have all stores operating on POS
systems by the end of 2004.
During 2002, we upgraded our financial system by implementing new payroll, human
resource, accounts payable and accounts receivable systems. During the first
quarter of 2003, we also completed an upgrade of our general ledger system.
The Company is also in the process of upgrading our store time and attendance
system. We have started installing the software in our store locations and
expect to be completed by the end of 2004.
Service Mark
The Company has registered the service mark "Hancock Fabrics" with the United
States Patent and Trademark Office.
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.
Employees
At February 1, 2004, we employed approximately 6,400 people on a full-time and
part-time basis. Approximately 6,000 work in our retail stores. The remainder
work in the Tupelo headquarters facility and the Baldwyn warehouse and
distribution facility.
Government Regulation
The Company is subject to the Fair Labor Standards Act, which governs such
matters as minimum wages, overtime and other working conditions. A significant
number of our employees are paid at rates related to Federal and state minimum
wages and, accordingly, any increase in the minimum wage would affect our labor
cost.
Available Information
The Company's internet address is www.hancockfabrics.com. Our annual report on
Form 10-K, quarterly reports on Form 10-Q, current reports on Form 8-K and
amendments to reports filed pursuant to Sections 13(a) and 15(d) of the
Securities Exchange Act of 1934, as amended, are made available free of charge
6
on our website as soon as practical after these documents are filed with or
furnished to the Securities and Exchange Commission. We also provide copies of
such filings free of charge upon request.
Hancock has adopted corporate governance guidelines for its employees, officers
and directors. In addition, the Company has adopted charters for each of the
following committees of the Board of Directors: audit committee; corporate
governance and nominating committee; and management review and compensation
committee. Each of these documents are available free of charge on the Company's
website. In addition, we will also provide copies of these documents free of
charge upon request.
Item 2. PROPERTIES
As of February 1, 2004, the Company operated 433 stores in 42 states. The number
of store locations in each state is shown in the following table:
Number Number
State of Stores State of Stores
- ----- --------- ----- ---------
Alabama 11 Montana 2
Arizona 9 Nebraska 5
Arkansas 6 Nevada 4
California 24 New Mexico 1
Colorado 8 New York 2
Connecticut 1 North Carolina 19
Florida 12 North Dakota 4
Georgia 20 Ohio 13
Idaho 4 Oklahoma 15
Illinois 22 Oregon 1
Indiana 9 Pennsylvania 4
Iowa 12 Rhode Island 1
Kansas 4 South Carolina 10
Kentucky 10 South Dakota 2
Louisiana 15 Tennessee 19
Maryland 7 Texas 57
Massachusetts 2 Utah 6
Michigan 13 Virginia 16
Minnesota 13 Washington 12
Mississippi 8 Wisconsin 15
Missouri 13 Wyoming 2
7
Our store development for the last five years is shown in the following table:
Year Opened/Acquired Relocated/Closed Net Change Year-end Stores
1999 43 (52) (9) 453
2000 9 (19) (10) 443
2001 28 (32) (4) 439
2002 27 (36) (9) 430
2003 28 (25) 3 433
The Company's 433 retail stores average approximately 13,700 square feet and are
located principally in strip shopping centers.
With the exception of 5 owned locations, our retail stores are leased. The
original lease terms generally range from 10 to 20 years and most leases contain
one or more renewal options, usually of five years in length. At February 1,
2004, the remaining terms of leases for stores in operation, including renewal
options, averaged approximately 12 years. During 2004, 58 store leases will
expire. We are currently negotiating renewals on certain of these leases.
The 550,000 square foot warehouse, distribution and headquarters facility in
Tupelo, Mississippi is owned by the Company and is not subject to any mortgage
or similar encumbrances. This facility is located on approximately 59 acres of
land and is currently being marketed for sale.
We recently acquired a warehouse/distribution facility in Baldwyn, Mississippi,
which is located on 64 acres. The Baldwyn facility is owned by the Company and
is not subject to any mortgage or similar encumbrances. Additions in place at
year-end totaled approximately 159,000 square feet bringing the total size of
the Baldwyn facility up to approximately 632,000 square feet. Construction work
continues on 11,500 square feet of warehouse space and the 80,000 square foot
corporate office building.
Reference is made to the information contained in Note 7 to the Consolidated
Financial Statements for information concerning our long-term obligations under
leases.
Item 3. LEGAL PROCEEDINGS
The Company is a party to several legal proceedings and claims. Although the
outcome of such proceedings and claims cannot be determined with certainty, we
are of the opinion that it is unlikely that these proceedings and claims will
have a material effect on the financial condition or operating results of the
Company.
Item 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
No matters were submitted to a vote of security holders during the fourth
quarter of the fiscal year ended February 1, 2004, through the solicitation of
proxies or otherwise.
8
PART II
Item 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED
STOCKHOLDER MATTERS
The Company's common stock and the associated common stock purchase rights are
listed on the New York Stock Exchange ("NYSE") and trade under the symbol HKF.
The following table sets forth the high and low closing prices of our common
stock at year-end and during each quarter in 2003 and 2002, as reported on the
NYSE, together with dividends.
Cash
High Low Dividend
- ------------------------------------------------------------------------------------------
2003
First Quarter $ 17.76 $ 13.52 $ .10
Second Quarter 18.22 13.99 .10
Third Quarter 18.98 14.91 .10
Fourth Quarter 17.45 13.48 .10
- ------------------------------------------------------------------------------------------
Year Ended
February 1, 2004 $ 18.98 $ 13.48 $ .40
==========================================================================================
2002
First Quarter $ 20.40 $ 13.99 .08
Second Quarter 19.99 13.99 .08
Third Quarter 17.02 13.76 .08
Fourth Quarter 18.00 13.99 .08
- ------------------------------------------------------------------------------------------
Year Ended
February 2, 2003 $ 20.40 $ 13.76 $ .32
==========================================================================================
As of April 1, 2004, there were 4,595 record holders of Hancock's common stock.
On February 27, 2004, Hancock's Board of Directors declared a cash dividend of
$.12 per share payable April 15, 2004 to shareholders of record April 1, 2004.
Future dividends will be determined by our Board of Directors, in its sole
discretion, based on a number of factors including, but not limited to, our
results of operations, cash flows and capital requirements.
See Part III, Item 12 for a description of our equity compensation plans.
9
Item 6. SELECTED FINANCIAL DATA
The following financial information for the five most recent fiscal years has
been derived from our consolidated financial statements. This information should
be read in conjunction with "Management's Discussion and Analysis of Financial
Condition and Results of Operations", the consolidated financial statements and
notes thereto and other financial statements that we have previously filed with
the Securities and Exchange Commission.
- ------------------------------------------------------------------------------------------------------------------------------------
(dollars in thousands, except per
share data) 2003 2002 2001 2000 1999
- ------------------------------------------------------------------------------------------------------------------------------------
Results of Operations Data:
Sales $ 443,605 $ 438,287 $ 411,857 $ 385,245 $ 381,572
Gross profit $ 228,593 $ 223,913 $ 210,542 $ 195,834 $ 185,871
Earnings before income taxes $ 27,359 $ 30,971 $ 22,650 $ 16,742 $ 10,491
Net earnings $ 17,428 $ 19,728 $ 14,426 $ 10,670 $ 6,713
Percent of sales 3.9% 4.5% 3.5% 2.8% 1.8%
Percent of average shareholders' equity 13.6% 17.6% 15.9% 13.5% 8.7%
Financial Position Data:
Total assets $ 249,423 $ 225,510 $ 195,979 $ 193,026 $ 195,745
Capital expenditures $ 21,942 $ 17,089 $ 10,478 $ 4,041 $ 8,017
Long- term indebtedness $ 10,000 $ - $ - $ 16,000 $ 31,000
Common shareholders' equity $ 131,580 $ 124,231 $ 99,865 $ 82,047 $ 76,559
Current ratio 2.1 2.1 2.2 2.2 2.6
Per Share Data:
Basic $ 0.99 $ 1.11 $ 0.86 $ 0.63 $ 0.37
Diluted $ 0.94 $ 1.04 $ 0.84 $ 0.63 $ 0.37
Cash dividends per share $ 0.40 $ 0.32 $ 0.16 $ 0.10 $ 0.33
Shareholders' equity per share $ 6.98 $ 6.52 $ 5.48 $ 4.75 $ 4.10
Other Data:
Number of states 42 42 42 42 42
Number of stores 433 430 439 443 453
Number of shareholders 4,633 4,930 6,121 6,666 7,015
Number of shares outstanding, net of treasury shares 18,847,801 19,049,778 18,235,507 17,284,597 18,651,988
Comparable store sales percentage increase 1.2% 8.3% 6.3% 2.0% 0.0%
Total selling square footage 5,087,065 4,963,538 4,974,722 4,921,007 4,987,719
Item 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS
Overview
Hancock Fabrics, Inc. is a retail and wholesale merchant of fabric and related
home sewing and decorating accessories.
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
10
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. 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. Hancock believes that
estimates related to the following areas involve a higher degree of judgment
and/or complexity:
Inventories. Inventories are valued at the lower of cost or market; cost is
determined by the LIFO method. As with other retailers, it is not practical
to perform physical inventory counts for all stores on the last day of a
period; therefore, certain assumptions must be made in order to record cost
of sales and the related change in inventory for the period of time from
each store's most recent physical count to the end of the period. Although,
under certain circumstances, actual results could prove to be materially
different from the estimates used, Hancock has consistently used the same
methodology throughout its existence with dependable results, and
management believes that such methodology provides an inventory valuation
which results in carrying inventory at the lower of cost or market.
Insurance Reserves. Workers' compensation, general liability and employee
medical insurance programs are largely self-insured. It is Hancock's policy
to record its self-insurance liabilities using estimates of claims incurred
but not yet reported or paid, based on historical trends and other relevant
factors. Actual results can vary from estimates for many reasons including,
among others, future inflation rates, claim settlement patterns, litigation
trends and legal interpretations.
Store Closing Reserves. Store closing reserves include estimates for net
lease obligations and other store closing costs. Hancock recognizes store
closing reserves at fair value in the period that an operating lease is
considered terminated and a liability has been incurred in accordance with
the provisions of SFAS No. 146, Accounting for Costs Associated with Exit
or Disposal Activities. Adjustments to store closing reserves are made, as
necessary, in the period that events or circumstances requiring such
reserve adjustments occur.
Pension and Postretirement Benefit Obligations. The value of assets and
liabilities associated with pension and postretirement benefits is
determined on an actuarial basis. These values are affected by the market
value of plan assets and estimates of the expected return on plan assets
and assumed discount rates. Hancock determines the discount rates using
changes in the rates of high quality, fixed income investments. Actual
changes in the fair market value of plan assets, differences between the
actual return and the expected return on plan assets and changes in the
discount rate used affect the amount of pension expense recognized. Hancock
expects pension and postretirement benefit expenses to decrease by
approximately $500,000 during 2004.
Our pension and postretirement plans are further described in Note 10 to
the Consolidated Financial Statements.
Valuation of Long-Lived Assets. Hancock periodically reviews the net
realizable value of long-lived assets at the individual store level
whenever events and circumstances indicate impairment has occurred. In the
event that the carrying values of long-lived assets are in excess of
estimated gross future cash flows for those assets, the values of the
assets are written down to a level commensurate with a discounted cash flow
analysis of the estimated future cash flows.
Goodwill. Goodwill represents the excess of the purchase price over the
fair value of the net assets acquired and in accordance with generally
accepted accounting principles is no longer amortized. On an annual basis,
the fair value of Hancock's reporting units are compared with their
carrying values. If the carrying value of a reporting unit exceeds its fair
value, Hancock would recognize the difference as an impairment charge. The
fair value of the reporting unit is estimated using the discounted present
value of future cash flows.
11
Results of Operations
The following table sets forth, for the periods indicated, selected statement of
income data expressed as a percentage of sales for the period indicated. This
table should be read in conjunction with the following discussion and with our
consolidated financial statements, including the related notes.
Fiscal Year
--------------- ------------- --------------
2003 2002 2001
--------------- ------------- --------------
Sales 100.0% 100.0% 100.0%
Cost of goods sold 48.5% 48.9% 48.9%
--------------- ------------- --------------
Gross profit 51.5% 51.1% 51.1%
Selling, general and
administrative expenses 43.8% 42.7% 44.0%
Depreciation and amortization 1.4% 1.2% 1.4%
--------------- ------------- --------------
Operating income 6.3% 7.2% 5.7%
Interest expense, net 0.1% 0.1% 0.2%
--------------- ------------- --------------
Earnings before income taxes 6.2% 7.1% 5.5%
Income taxes 2.3% 2.6% 2.0%
--------------- ------------- --------------
Net earnings and comprehensive income 3.9% 4.5% 3.5%
=============== ============= ==============
2003 vs. 2002
Sales increased $5.3 million in 2003 due to a 1.2% increase in comparable stores
sales. During 2003, Hancock opened 28 stores and closed 25 stores, resulting in
433 stores at year-end.
The improvement in comparable store sales was primarily driven by a 4% sales
increase in our home decorating category, which accounted for 28% of sales in
2003 and 27% in 2002. Our store-within-a-store home decorating concept is now in
place in 319 of our store locations; and we are introducing a new program in
2004 to further grow this category by offering customers new value-priced items.
Comparable store sales in categories other than decorating were flat overall,
with quilting, yarn and sewing machine sales rising, while fashion and special
occasion fabric sales declined. Quilting has become one of our fastest growing
product lines due in part to partnerships with exclusive suppliers and industry
personalities which we plan to develop further in 2004. Hancock's focus on
teaching activities and product demonstrations in our stores also contributed to
higher sales during the year.
Gross margins increased to 51.5% in 2003 from 51.1% in 2002 as a result of
product mix adjustments and the Company's ability to better control promotional
activities. During 2003, we continued to shift our merchandise mix towards
higher-margin home decorating products. In addition, we focused on limiting
significant promotional activities, which compromise gross margin, despite deep
discounting activities by our competitors at various times during the year. The
increase in gross margin was partially offset, however, by a decrease in the
LIFO (last-in, first-out) credit from $1.5 million in 2002 to $1.4 million this
year due to slightly less product cost deflation in 2003.
Selling, general and administrative expenses as a percentage of sales increased
to 43.8% in 2003 from 42.7% in 2002, primarily due to costs associated with the
relocation of our distribution operations to a new facility in Baldwyn,
Mississippi. For most of the year, Hancock operated two distribution centers
which caused us to incur duplicate expenses for items such as depreciation,
insurance, utilities and maintenance. The actual transfer of inventory,
fixtures, equipment and systems between the two facilities also resulted in
higher expenses for items such as payroll and transportation. The relocation of
the distribution operations was completed just after fiscal year end. We expect
12
to complete construction of our new offices and transfer the corporate functions
to the Baldwyn facility during the third quarter of 2004. Normal selling,
general and administrative expenses as a percent of sales were adversely
impacted during 2003 by the absence of sales leverage on fixed expenses and a
$900 thousand (pretax) increase in pension expense due to negative returns on
plan assets in recent years and a lower discount rate. In addition, the expense
comparison in 2003 was negatively influenced by a gain of $690 thousand (pretax)
on the sale of real estate in 2002 which was reflected as a reduction of
expense.
Interest expense increased due to higher average outstanding debt of $18 million
during 2003 versus $5 million in the prior year. The additional debt was
primarily incurred to fund construction of the new distribution center and
corporate offices. The effect of higher borrowings was partially offset,
however, by lower interest rates. Income tax expense decreased $1.3 million in
2003 due to a reduction in pretax earnings from 2002. Hancock's effective tax
rate was 36.3% in both years.
2002 vs. 2001
Sales in 2002 increased $26.4 million from 2001 due to an 8.3% increase in
comparable store sales, partially offset by having one less week in 2002, which
added $8 million to sales in 2001, and a decrease in the number of stores.
Hancock opened 27 stores and closed 36 stores in 2002, resulting in 430 stores
at year-end.
Comparable store sales benefited from the continued repositioning of the store
base, the remerchandising of Hancock's product mix and efforts to appeal to a
more diverse customer base. The store repositioning strategy has consisted of
closing smaller, low potential stores that were often located too close
together, while opening or acquiring larger stores spaced farther apart to
better support an expanded product offering within Hancock's core merchandise
competency. The store-within-a-store home decorating concept introduced in late
2000 reached 285 stores at year-end, and the decorating category increased to
27% of sales in 2002, up from 24% in 2001.
Gross margins were 51.1% in both 2002 and 2001. The effect of adjustments to the
LIFO reserve, reflecting inflation or deflation in inventories, was to increase
pretax earnings by $1.5 million in 2002 and reduce pretax earnings in 2001 by
$125 thousand.
Total selling, general and administrative expenses as a percentage of sales
decreased to 42.7% from 44.0% in 2001 due to leverage from comparable store
sales increases, improved store labor controls and a gain of $690 thousand
(pretax) on the sale of real estate in the third quarter. Such improvements were
partially offset by rising employee health insurance and higher pension costs
resulting from a three-year weakness in investment returns. During 2002, pension
expense was $1.2 million higher than in the previous year due to the negative
returns on plan assets and a reduction in the discount rate assumption.
Interest expense decreased due to a reduced level of outstanding debt and lower
interest rates throughout 2002. At year-end, no borrowings were outstanding
under Hancock's credit facilities. Income tax expense increased by $3.0 million
in 2002 due to the improvement in pretax earnings over 2001. The effective tax
rate was 36.3% in both years.
Liquidity and Capital Resources
Hancock has historically financed its operations with internally generated cash
flow.
13
Hancock maintains a strong financial position as evidenced by the following
information as of the end of fiscal years 2003, 2002 and 2001 (dollars in
thousands):
2003 2002 2001
-------------- -------------- -------------
Cash and cash equivalents $ 4,080 $ 4,589 $ 6,914
Net cash flows provided (used):
Operating activites $ 25,328 $ 15,400 $ 29,204
Investing activities $ (21,867) $ (16,042) $ (10,395)
Financing activites $ (3,970) $ (1,683) $ (15,786)
Working Capital $ 86,644 $ 78,757 $ 78,200
Long-term indebtedness to total capitalization 7.1% 0.0% 0.0%
Changes in cash and cash equivalents
Cash flows from operating activities in 2003 increased from the prior year due
to a 2002 voluntary pension plan contribution of $17.4 million made to improve
the funding status of the plan. The increase was partially offset by increases
in inventory over 2002 levels due to the addition of new product lines, such as
yarn and small furniture, and the expansion of our quilting category. In
addition, the Company intentionally increased stock levels of high-turn basic
fabric and notion items in order to protect against any supply disruptions
associated with the transfer of inventory to the new distribution center during
the fourth quarter. Inventory levels for these high-turn items are expected to
recede to normal levels in a relatively short time.
Cash used for investing activities increased over the prior year due to capital
expenditures associated with the new headquarters/distribution center and the
installation of point-of-sale ("POS") systems in 160 stores.
Cash used for financing activities increased from 2002 due to a decline in
proceeds from stock option exercises, an increase in the cash dividend rate and
a greater amount of treasury stock purchases, partially offset by borrowings of
$10 million.
Over the past three years, cash flows from operations, together with proceeds
from the exercise of stock options, were sufficient to allow Hancock to repay $6
million of debt, purchase almost $50 million of property and equipment, pay over
$16 million of dividends and purchase more than $16 million of treasury stock.
Capital expenditures
Hancock's primary capital requirements are for the financing of inventories and,
to a lesser extent, for capital expenditures relating to store locations and its
distribution facility. Funds for such purposes are generated from Hancock's
operations and, if necessary, supplemented by borrowings from commercial
lenders.
Capital expenditures amounted to $21.9 million in 2003, $17.1 million in 2002
and $10.5 million in 2001. Approximately $13 million of the capital expenditures
in 2003 were invested in the new distribution center, $3 million in the
implementation of POS systems, $2.7 million in opening new stores and $3.2
million in ongoing maintenance.
Equity
In prior years and continuing in 2003, Hancock has repurchased over 13 million
shares, or approximately 41% of its outstanding stock. Hancock plans to use
future cash in excess of operating needs and capital investment for the payment
of cash dividends and the purchase of treasury stock, as market and financial
conditions dictate. In evaluating treasury stock purchases, consideration is
given to overall liquidity issues related to Hancock's stock. As of February 1,
2004, a total of 378,000 shares were available for repurchase under Hancock's
most recent authorization.
14
Bank credit facilities
In addition to its operating cash flows, Hancock has two revolving credit
facilities available with three banks, which provide a total of $50 million of
borrowing capacity. Management believes the total of $50 million is adequate for
Hancock's foreseeable needs in the near term. As of February 1, 2004, Hancock
had outstanding debt of $10 million under these revolving credit agreements. See
Note 6 to the Consolidated Financial Statements for further information
regarding the Company's credit facilities.
General
Hancock estimates that capital expenditures for 2004 will approximate $25
million. Anticipated expenditures include approximately $10 million related to
the completion of the new distribution center and corporate offices, $6 million
for implementation of POS in the remaining store locations, $4 million for store
openings and $5 million for ongoing maintenance in existing stores, the
distribution center and corporate offices. Internally generated funds
supplemented by borrowings are expected to be sufficient to finance anticipated
capital requirements in the near term.
Off-Balance Sheet Arrangements
Hancock has no off-balance sheet financing arrangements. However, Hancock does
finance the use of its retail fabric locations under noncancelable operating
leases. Since the terms of these arrangements meet the definition of operating
leases, the sum of the future lease payments is not reflected on Hancock's
balance sheet. Such minimum rental payments are reflected in the table below.
Contractual Obligations and Commercial Commitments
The following table summarizes our future cash outflows resulting from
contractual obligations and commitments as of February 1, 2004:
(in thousands)
Less More
than 1 1-3 3-5 than 5
Contractual Obligations Total Year Years Years Years
------------ ------------ ----------- ----------- ------------
Long-term debt $10,000 - $10,000 - -
Minimum rental payments 147,281 29,162 49,627 31,865 36,627
Standby LC for insurance 4,731 4,731 - - -
Trade LC's 2,935 2,935 - - -
------------ ----------------------------------------------------
Total $164,947 $36,828 $59,627 $31,865 $36,627
============ ====================================================
As disclosed in Note 6 to the Consolidated Financial Statements, Hancock has
arrangements that provide for up to $9.7 million in letters of credit.
The Company has no standby repurchase obligations or guarantees of other
entities' debt.
During the first quarter of 2003, Hancock entered into a cost-plus contract for
the construction of the Company's new distribution center and corporate offices.
At February 1, 2004, Hancock's remaining commitment is approximately $10
million, which is expected to be disbursed during 2004.
15
Related Party Transactions
Hancock has no balances with any related parties, nor has it had any material
transactions with related parties during the three-year period reflected in the
Consolidated Statements of Income.
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 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. 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.
Inflation is one of the key factors used in the calculation of the LIFO charge
or credit to Cost of Sales. In 2001, an increase in the Producer Price Index,
which more than offset the effect of inventory reductions, resulted in a LIFO
charge. A deflationary trend in product costs in 2002 and 2003 more than offset
inventory increases and caused a LIFO credit.
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.
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, those that are
discussed below. 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.
Competitive changes could have a material adverse effect on our operations.
Although we are one of the largest fabric retailers in the United States and
principally compete with only one national fabric/craft store chain, a few small
fabric chains and numerous independent fabric stores, changes in our competitive
environment could adversely impact our operations. Such changes include, but are
not limited to, the following:
- liquidation of inventory in Hancock's markets caused by a competitor store
closure or need to dispose of inventory;
- new entrants into the retail fabric industry;
- expansion by existing competitors into our markets; and
16
- increased competitive pricing strategies.
Adverse general economic factors can significantly impact our business.
General economic conditions that are beyond the Company's control can adversely
impact our operating results. These factors include increased interest rates in
periods of borrowings, consumer debt levels, tax rates and policies,
unemployment trends, recession, inflation, deflation and other matters that
effect consumer confidence and spending.
Delays or interruptions in the flow of merchandise through our distribution
center could adversely impact our operating results.
Approximately two-thirds of Hancock's store shipments pass through the Company's
distribution center. The remainder of merchandise is drop-shipped by our vendors
directly to our store locations. Damage or interruption to the distribution
center from factors such as fire, power loss, storm damage or unanticipated
supplier shipment delays could cause damage to our facility and/or a disruption
in our operations. The occurrence of unanticipated problems at our distribution
center would likely result in increased operating expenses and reduced sales
which would negatively impact our operating results.
Implementation of our point-of-sale system could create disruptions in the
operations of our stores.
We are in the process of installing a point-of-sale system to all stores which
we believe is extremely important in the management of our business.
Disruptions, if any, experienced in connection with the implementation of the
new system could have a materially adverse impact on our financial condition and
results of operations.
A disruption in the performance of our information systems could occur.
We depend on our management information systems for many aspects of our
business. Our operations and financial performance would be materially adversely
affected if our management information systems are disrupted or if we are unable
to maintain, upgrade or expand our systems.
We are vulnerable to risks associated with obtaining merchandise from foreign
suppliers.
Hancock relies to a material extent on foreign suppliers for various products.
In addition, some of our domestic suppliers manufacture their products overseas
or purchase them from foreign vendors. Political or financial instability, trade
restrictions, tariffs, currency exchange rates, transport capacity and costs and
other factors relating to foreign trade are beyond our control and could
adversely impact our operating results.
A weak fourth quarter would materially adversely affect our operating results
for the year.
Like many retailers, the Company's strongest quarter in terms of sales, net
earnings and cash flow is the fourth quarter. If, for any reason, our fourth
quarter results were substantially below expectations, our operating results for
the full year would be negatively impacted, and we could have substantial excess
inventory that could be difficult to liquidate.
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 impact on its financial
statements.
17
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 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 impact on its 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.
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.
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 adopted EITF Issue
03-10 on February 2, 2004, and there was no impact on its financial statements.
During December 2003, the FASB issued SFAS No. 132 (revised 2003), Employers'
Disclosure about Pensions and Other Postretirement Benefits, an amendment of
FASB Statements No. 87, 88, and 106. This Statement revises employers'
disclosures about pension and other postretirement benefit plans and replaces
SFAS No. 132, Employers' Disclosure about Pensions and Other Postretirement
Benefits. SFAS No. 132 (revised) requires additional disclosures to those in
SFAS No. 132 about assets, obligations, cash flows, net periodic benefit cost of
defined benefit pension plans and other postretirement plans. SFAS No. 132
(revised) is effective for fiscal years ending after December 15, 2003. Hancock
adopted the disclosure requirements of SFAS No. 132 (revised) as of February 1,
2004.
During December 2003, the FASB issued FIN No. 46 (revised December 2003),
Consolidation of Variable Interest Entities. FIN No. 46 (revised) replaces FIN
No. 46, Consolidation of Variable Interest Entities, and 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 (revised) is effective for public entities with
interests in variable interest entities or potential variable interest entities
for periods ending after December 15, 2003. For public entities with interests
in all other types of entities, FIN No. 46 (revised) is effective for financial
statements for periods ending after March 15, 2004, with early adoption
permitted. Hancock adopted FIN No. 46 (revised) as of February 1, 2004 and there
was no impact on its financial statements.
18
During January 2004, the FASB issued FASB Staff Position No. 106-1, Accounting
and Disclosure Requirements Related to the Medicare Prescription Drug,
Improvement and Modernization Act of 2003, which allows the deferral of
financial recognition of the Medicare Prescription Drug Improvement and
Modernization Act until the FASB issues final accounting guidance. Refer to Note
10 in the Consolidated Financial Statements for additional information.
Item 7a. QUANTITATIVE AND QUALITATIVE DISCLOSURE ABOUT MARKET RISK
The Company did not hold derivative financial or commodity instruments at
February 1, 2004.
Interest Rate Risk
The Company is exposed to financial market risks, including changes in interest
rates. All borrowings under the Company's revolving credit agreements 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 the Company's results.
As of February 1, 2004, the Company had borrowings outstanding of $10 million
under these agreements.
Foreign Currency Risk
All of the Company's business is transacted in U. S. dollars and, accordingly,
foreign exchange rate fluctuations have not had a significant impact on the
Company, and none is expected in the foreseeable future. As of February 1, 2004
the Company had no financial instruments outstanding that were sensitive to
changes in foreign currency rates.
19
Item 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
INDEX TO CONSOLIDATED FINANCIAL STATEMENTS
HANCOCK FABRICS, INC.
Page
----
Consolidated Balance Sheets as of February 1, 2004 and February 2, 2003 21
Consolidated Statements of Income for each of the three years in the
period ended February 1, 2004 22
Consolidated Statements of Cash Flows for each of the three years in
the period ended February 1, 2004 23
Consolidated Statements of Shareholders' Equity for each of the three
years in the period ended February 1, 2004 24
Notes to Consolidated Financial Statements 25 - 37
Report of Independent Auditors 37
20
Hancock Fabrics, Inc.
Consolidated Balance Sheets
- ---------------------------------------------------------------------------------------------------
February 1, 2004 and February 2, 2003
(in thousands, except for share and per share amounts) 2003 2002
- ---------------------------------------------------------------------------------------------------
Assets
Current assets:
Cash and cash equivalents $ 4,080 $ 4,589
Receivables, less allowance for doubtful accounts 966 1,100
Inventories 154,984 144,061
Prepaid expenses 2,304 2,570
- ---------------------------------------------------------------------------------------------------
Total current assets 162,334 152,320
Property and equipment, at depreciated cost 57,142 41,853
Deferred tax assets 6,207 4,465
Pension payment in excess of required contribution 15,936 18,829
Goodwill 4,480 4,480
Other assets 3,324 3,563
- ---------------------------------------------------------------------------------------------------
Total assets $ 249,423 $ 225,510
===================================================================================================
Liabilities and Shareholders' Equity
Current liabilities:
Accounts payable $ 42,704 44,357
Accrued liabilities 22,574 21,039
Deferred tax liabilities 3,113 3,078
Income taxes 7,299 5,089
- ---------------------------------------------------------------------------------------------------
Total current liabilities 75,690 73,563
Long-term debt obligations 10,000 -
Postretirement benefits other than pensions 22,368 21,976
Reserve for store closings 592 878
Other liabilities 9,193 4,862
- ---------------------------------------------------------------------------------------------------
Total liabilities 117,843 101,279
- ---------------------------------------------------------------------------------------------------
Commitments and contingencies (See Notes 7 and 12)
- ---------------------------------------------------------------------------------------------------
Shareholders' equity:
Common stock, $.01 par value; 80,000,000 shares authorized;
31,941,582 and 31,481,715 issued and outstanding, respectively 319 315
Additional paid-in capital 70,105 63,805
Retained earnings 218,612 208,659
Treasury stock, at cost, 13,093,781 and 12,431,937
shares held, respectively (151,905) (142,545)
Deferred compensation on restricted stock incentive plan (5,551) (6,003)
- ---------------------------------------------------------------------------------------------------
Total shareholders' equity 131,580 124,231
- ---------------------------------------------------------------------------------------------------
Total liabilities and shareholders' equity $ 249,423 225,510
===================================================================================================
See accompanying notes to consolidated financial statements.
21
Hancock Fabrics, Inc.
Consolidated Statements of Income
- ---------------------------------------------------------------------------------------------------------------------------
Years Ended February 1, 2004, February 2, 2003 and February 3, 2002
(in thousands, except per share amounts) 2003 2002 2001
- ---------------------------------------------------------------------------------------------------------------------------
Sales $ 443,605 $ 438,287 $ 411,857
Cost of goods sold 215,012 214,374 201,315
- ---------------------------------------------------------------------------------------------------------------------------
Gross profit 228,593 223,913 210,542
- ---------------------------------------------------------------------------------------------------------------------------
Selling, general and administrative expense 194,444 187,222 181,097
Depreciation and amortization 6,275 5,456 5,628
- ---------------------------------------------------------------------------------------------------------------------------
Operating income 27,874 31,235 23,817
Other expense (income)
Interest expense 570 372 1,283
Interest income (55) (108) (116)
- ---------------------------------------------------------------------------------------------------------------------------
Earnings before income taxes 27,359 30,971 22,650
Income taxes 9,931 11,243 8,224
- ---------------------------------------------------------------------------------------------------------------------------
Net earnings and comprehensive income $ 17,428 $ 19,728 $ 14,426
===========================================================================================================================
Earnings per share
Basic $ .99 $ 1.11 $ .86
Diluted $ .94 $ 1.04 $ .84
===========================================================================================================================
Weighted average shares outstanding
Basic 17,677 17,847 16,763
Diluted 18,599 18,889 17,187
===========================================================================================================================
See accompanying notes to consolidated financial statements.
22
Hancock Fabrics, Inc.
Consolidated Statements of Cash Flows
- --------------------------------------------------------------------------------------------------------------------
Years Ended February 1, 2004, February 2, 2003 and
February 3, 2002 (in thousands) 2003 2002 2001
- --------------------------------------------------------------------------------------------------------------------
Cash flows from operating activities:
Net earnings and comprehensive income $ 17,428 $ 19,728 $ 14,426
Adjustments to reconcile net earnings to cash
flows from operating activities
Depreciation and amortization 6,275 5,456 5,628
LIFO charge (credit) (1,375) (1,525) 125
Deferred income taxes (1,707) 3,728 942
Amortization of deferred compensation on
restricted stock incentive plan 2,436 2,241 2,006
Closed stores reserve charges (credits) 303 (284) 128
(Gain) loss on disposition of property and equipment 303 (660) 159
Interest expense on closed stores accrual 127 159 198
Issuance of shares as compensation for professional
services 30 25 15
Issuance of shares under directors' stock plan 180 179 171
(Increase) decrease in assets
Receivables and prepaid expenses 400 (1,014) (390)
Inventory at current cost (9,548) (6,864) 2,860
Pension payment in excess of required contribution 2,893 (15,405) (346)
Other noncurrent assets 239 579 (270)
Increase (decrease) in liabilities
Accounts payable (1,653) 4,210 1,482
Accrued liabilities 1,437 1,433 3,631
Current income tax obligations 2,429 1,095 (1,879)
Postretirement benefits other than pensions 392 105 593
Reserve for store closings (618) (1,010) (1,518)
Other liabilities 4,331 (283) 194
Tax benefit of stock options exercised 1,026 3,507 1,049
- --------------------------------------------------------------------------------------------------------------------
Net cash provided by operating activities 25,328 15,400 29,204
- --------------------------------------------------------------------------------------------------------------------
Cash flows from investing activities:
Additions to property and equipment (21,942) (17,089) (10,478)
Proceeds from the disposition of property and equipment 75 1,047 83
- --------------------------------------------------------------------------------------------------------------------
Net cash used in investing activities (21,867) (16,042) (10,395)
- --------------------------------------------------------------------------------------------------------------------
Cash flows from financing activities:
Borrowings (repayments) on revolving credit agreement 10,000 - (16,000)
Purchase of treasury stock (9,360) (6,234) (728)
Proceeds from exercise of stock options 2,865 10,620 3,780
Cash dividends paid (7,475) (6,069) (2,838)
- --------------------------------------------------------------------------------------------------------------------
Net cash used in financing activities (3,970) (1,683) (15,786)
- --------------------------------------------------------------------------------------------------------------------
Increase (decrease) in cash and cash equivalents (509) (2,325) 3,023
Cash and cash equivalents:
Beginning of period 4,589 6,914 3,891
- --------------------------------------------------------------------------------------------------------------------
End of period $ 4,080 $ 4,589 $ 6,914
====================================================================================================================
Supplemental disclosures:
Cash paid during the period for:
Interest $ 442 $ 213 $ 1,095
Income taxes $ 8,209 $ 3,590 $ 8,112
====================================================================================================================
See accompanying notes to consolidated financial statements.
23
Hancock Fabrics, Inc.
Consolidated Statement of Shareholders' Equity
- ------------------------------------------------------------------------------------------------------------------------------------
Years Ended February 1, 2004, February 2, 2003 and February 3, 2002
(in thousands, except number of shares)
- ------------------------------------------------------------------------------------------------------------------------------------
Additional Total
Common Stock Paid-in Retained Treasury Stock Deferred Shareholders'
------------------- -----------------
Shares Amount Capital Earnings Shares Amount Compensation Equity
- ------------------------------------------------------------------------------------------------------------------------------------
Balance January 28, 2001 29,190,335 $292 $39,094 $183,412 (11,905,738)($135,583) ($5,168) $82,047
Net earnings and comprehensive income 14,426 14,426
Cash dividends ($.16 per share) (2,838) (2,838)
Issuance of restricted stock 459,100 5 3,477 (3,482)
Cancellation of restricted stock (4,100) (31) 31
Amortization & vesting of deferred
compensation on restricted stock incentive plan (63) 2,006 1,943
Issuance of shares under directors' stock
plan 20,189 171 171
Issuance of shares as compensation for
professional services 1,527 15 15
Purchase of treasury stock (104,856) (728) (728)
Stock options exercised 579,050 5 3,775 3,780
Tax benefit of stock options exercised 1,049 1,049
- ------------------------------------------------------------------------------------------------------------------------------------
Balance February 3, 2002 30,246,101 302 47,487 195,000 (12,010,594) (136,311) (6,613) 99,865
Net earnings and comprehensive income 19,728 19,728
Cash dividends ($.32 per share) (6,069) (6,069)
Issuance of restricted stock 97,600 1 1,764 (1,765)
Cancellation of restricted stock (16,400) (134) 134
Amortization & vesting of deferred
compensation on restricted stock incentive plan 369 2,241 2,610
Issuance of shares under directors' stock
plan 10,911 179 179
Issuance of shares as compensation for
professional services 1,528 25 25
Purchase of treasury stock (421,343) (6,234) (6,234)
Stock options exercised 1,141,975 12 10,608 10,620
Tax benefit of stock options exercised 3,507 3,507
- ------------------------------------------------------------------------------------------------------------------------------------
Balance February 2, 2003 31,481,715 315 63,805 208,659 (12,431,937) (142,545) (6,003) 124,231
Net earnings and comprehensive income 17,428 17,428
Cash dividends ($.40 per share) (7,475) (7,475)
Issuance of restricted stock 149,000 1 2,359 (2,360)
Cancellation of restricted stock (43,500) (376) 376
Amortization & vesting of deferred
compensation on restricted stock incentive plan 219 2,436 2,655
Issuance of shares under directors' stock
plan 11,955 180 180
Issuance of shares as compensation for
professional services 1,937 30 30
Purchase of treasury stock (661,844) (9,360) (9,360)
Stock options exercised 340,475 3 2,862 2,865
Tax benefit of stock options exercised 1,026 1,026
- ------------------------------------------------------------------------------------------------------------------------------------
Balance February 1, 2004 31,941,582 $319 $70,105 $218,612 (13,093,781)($151,905) ($5,551) $131,580
====================================================================================================================================
See accompanying notes to consolidated financial statements.
24
Notes to Consolidated Financial Statements
Note 1 - Description of Business
Hancock Fabrics, Inc. ("Hancock") is a retail and wholesale merchant of fabric
and related home sewing and decorating accessories. Hancock operates 433 stores
in 42 states, supplies various independent retailers at wholesale prices and
operates an internet store under its two domain names, hancockfabrics.com and
homedecoratingaccents.com. Hancock conducts business in one operating business
segment.
Note 2 - Summary of Accounting Policies
Consolidated financial statements include the accounts of Hancock and its wholly
owned subsidiaries. All intercompany accounts and transactions are eliminated.
Hancock maintains its financial records on a 52-53 week fiscal year ending on
the Sunday closest to January 31. Fiscal years 2003, 2002 and 2001, as used
herein, refer to the years ended February 1, 2004, February 2, 2003, and
February 3, 2002, respectively. Fiscal year 2001 contained 53 weeks and fiscal
years 2003 and 2002 each contained 52 weeks.
Use of estimates and assumptions that affect the reported amount of assets and
liabilities and disclosure of contingent assets and liabilities at the date of
the consolidated financial statements and the reported amount of revenues and
expenses during the reporting period is required by management in the
preparation of the consolidated financial statements in accordance with
accounting principles generally accepted in the United States of America. Actual
results could differ from those estimates.
Revenue recognition occurs at the time of sale of merchandise to Hancock's
customers. Sales include the sale of merchandise from Company-owned stores, net
of returns and exclusive of sales taxes. Sales to independent retailers at
wholesale prices are recorded based on the shipping terms with customers.
Cost of goods sold includes merchandise and freight and handling costs and
excludes depreciation and amortization, which are shown separately in the
Consolidated Statement of Income.
Cash and cash equivalents include cash on hand, amounts due from banks and
repurchase agreements having original maturities of three months or less and are
reflected as such for purposes of reporting cash flows.
Inventories consist of fabrics, sewing notions and related accessories held for
resale and are valued at the lower of cost or market; cost is determined by the
last-in, first-out ("LIFO") method. The current cost of inventories exceeded the
LIFO cost by approximately $37 million at February 1, 2004 and $38 million at
February 2, 2003.
Property and equipment are stated at cost less accumulated depreciation and
amortization. Depreciation is computed by use of the straight-line method over
the estimated useful lives of buildings, fixtures and equipment. Leasehold costs
and improvements are amortized over the lesser of their estimated useful lives
or the remaining lease term. Average depreciable lives are as follows: buildings
and improvements 15-30 years and fixtures and equipment 3-8 years.
Long-lived asset impairment is periodically assessed at the individual store
level by comparing the carrying value of the assets with their estimated future
undiscounted cash flows in accordance with SFAS No. 144, Accounting for the
Impairment and Disposal of Long-Lived Assets. If it is determined that an
impairment loss has occurred, the loss would be recognized during that period.
The impairment loss is calculated as the difference between asset carrying
values and the present value of estimated net cash flows or comparable market
values, giving consideration to recent operating performance and pricing trends.
No impairment losses were recorded in 2003, 2002, or 2001.
Maintenance and repairs are charged to expense as incurred and major
improvements are capitalized.
Advertising, including production costs, is charged to expense the first day of
the advertising period. Advertising expense for 2003, 2002 and 2001, was $17.2
million, $15.5 million and $15.2 million, respectively.
Pre-opening costs of new stores are charged to expense as incurred.
Long-term investments are recorded using the equity method of accounting.
25
Earnings per share is presented for basic and diluted 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 Hancock (see Note 11).
Financial instruments are evaluated using the following methods and assumptions
to estimate the fair value of each class of financial instruments: cash and
receivables - the carrying amounts approximate fair value because of the short
maturity of those instruments; long-term debt - the fair value of Hancock's
long-term debt is estimated based on the current borrowing rates available to
Hancock for bank loans with similar terms and average maturities. Throughout all
years presented, Hancock did not have any financial derivative instruments
outstanding.
Deferred tax assets and liabilities are determined based on the difference
between the financial statement and tax bases of assets and liabilities, using
enacted tax rates in effect for the year in which the differences are expected
to reverse.
Stock options are accounted for using the intrinsic value method where
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. For each of the three years in the
period ended February 1, 2004, the exercise price of all options granted had
equaled the fair market value at the date of grant; accordingly, no compensation
expense for stock options has been recorded.
Pro-forma information regarding net income and earnings per share as if the fair
value method had been applied in measuring compensation expense is presented
below (in thousands, except per share amounts):
2003 2002 2001
-------------- -------------- --------------
Net earnings, as reported $ 17,428 $ 19,728 $ 14,426
Deduct: Total stock-based employee compensation
expense determined under fair value based method
for all awards, net of related tax effects (963) (604) (515)
-------------- -------------- --------------
Pro forma net earnings $ 16,465 $ 19,124 $ 13,911
============== ============== ==============
Earnings per share:
Basic - as reported $ .99 $ 1.11 $ .86
============== ============== ==============
Basic - pro forma $ .93 $ 1.07 $ .83
============== ============== ==============
Diluted - as reported $ .94 $ 1.04 $ .84
============== ============== ==============
Diluted - pro forma $ .89 $ 1.01 $ .81
============== ============== ==============
Comprehensive income and the components of accumulated comprehensive income are
not presented since Hancock did not have any comprehensive income items in any
of the three fiscal years in the period ended February 1, 2004.
Treasury stock is repurchased periodically by Hancock. These treasury stock
transactions are recorded using the cost method.
26
Recently Adopted Accounting Pronouncements include SFAS No. 142, Goodwill and
Other Intangible Assets, issued by the Financial Accounting Standards Board
("FASB") during July 2001. SFAS No. 142 changed the accounting for goodwill and
other indefinite-lived intangible assets from an amortization method to an
impairment-only approach. Amortization of goodwill and other indefinite-lived
intangible assets ceased upon adoption of this statement. Hancock adopted SFAS
No. 142 in 2002. The transitional impairment test of goodwill was performed in
the fourth quarter and no impairment was noted. The only change in the carrying
amount of goodwill in 2001 resulted from amortization expense of $383,000. The
following table presents net earnings and earnings per share as adjusted for
goodwill amortization, net of income tax expense, recognized in the periods
prior to the adoption of SFAS No. 142 (in thousands, except per share amounts):
2001
-------------------
Reported net earnings $ 14,426
Add: Goodwill amortization, net of income taxes 244
-------------------
Adjusted net earnings $ 14,670
===================
Basic net earnings per share $ .88
===================
Diluted net earnings per share $ .85
===================
Recent Accounting Pronouncements include SFAS No. 143, Accounting for Asset
Retirement Obligations, issued by the FASB in June 2001. 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 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 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 impact on its 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.
27
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.
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 adopted EITF Issue
03-10 on February 2, 2004, and there was no impact on its financial statements.
During December 2003, the FASB issued SFAS No. 132 (revised 2003), Employers'
Disclosure about Pensions and Other Postretirement Benefits, an amendment of
FASB Statements No. 87, 88, and 106. This Statement revises employers'
disclosures about pension and other postretirement benefit plans and replaces
SFAS No. 132, Employers' Disclosure about Pensions and Other Postretirement
Benefits. SFAS No. 132 (revised) requires additional disclosures to those in
SFAS No. 132 about assets, obligations, cash flows, net periodic benefit cost of
defined benefit pension plans and other postretirement plans. SFAS No. 132
(revised) is effective for fiscal years ending after December 15, 2003. Hancock
adopted the disclosure requirements of SFAS No. 132 (revised) as of February 1,
2004.
During December 2003, the FASB issued FIN No. 46 (revised December 2003),
Consolidation of Variable Interest Entities. FIN No. 46 (revised) replaces FIN
No. 46, Consolidation of Variable Interest Entities, and 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 (revised) is effective for public entities with
interests in variable interest entities or potential variable interest entities
for periods ending after December 15, 2003. For public entities with interests
in all other types of entities, FIN No. 46 (revised) is effective for financial
statements for periods ending after March 15, 2004, with early adoption
permitted. Hancock adopted FIN No. 46 (revised) as of February 1, 2004 and there
was no impact on its financial statements.
During January 2004, the FASB issued FASB Staff Position No. 106-1, Accounting
and Disclosure Requirements Related to the Medicare Prescription Drug,
Improvement and Modernization Act of 2003, which allows the deferral of
financial recognition of the Medicare Prescription Drug Improvement and
Modernization Act until the FASB issues final accounting guidance. Refer to Note
10 in the Consolidated Financial Statements for additional information.
Reclassifications
Certain prior year amounts have been reclassified to conform to the 2003
presentation including the tax benefit of stock options exercised in the
consolidated statements of cash flows.
Note 3 - Acquisition of Heilig-Meyers' Leases
Beginning in 2000 and continuing through 2001, Hancock acquired certain
operating leases of Heilig-Meyers' stores for cash payments of approximately
$1.2 million. Fourteen lease assignments were made for stores operating across
the United States. These acquisitions were accounted for as purchases. As no
tangible assets were acquired, the entire purchase price was assigned to
intangible assets. Aggregate amortization expense for these intangibles for the
next five years totals approximately $300,000. Operating results for former
Heilig-Meyers' locations have been included with those of Hancock as these
stores were opened during 2000 and 2001.
28
Note 4 - Property and Equipment (in thousands)
2003 2002
------------------- -------------------
Buildings and improvements $ 21,084 $ 14,025
Leasehold improvements 11,194 9,847
Fixtures and equipment 64,873 57,642
Construction in progress 13,785 10,083
------------------- -------------------
110,936 91,597
Accumulated depreciation and amortization (57,912) (53,409)
------------------- -------------------
53,024 38,188
Land 4,118 3,665
------------------- -------------------
$ 57,142 $ 41,853
=================== ===================
Note 5 - Accrued Liabilities (in thousands)
2003 2002
------------------- -------------------
Payroll and benefits $ 6,384 $ 7,161
Property taxes 4,664 4,172
Sales taxes 2,196 2,341
Current portion of reserve for store closings (Note 13) 969 871
Other 8,361 6,494
------------------- -------------------
$ 22,574 $ 21,039
=================== ===================
Note 6 - Long-Term Debt Obligations
Hancock has two uncollateralized revolving credit arrangements totaling $50
million with a group of banks. These agreements provide for an annual facility
fee, which was .20% of the total facility amount as of February 1, 2004.
Borrowings under the revolving credit agreements 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. Hancock anticipates that these credit
arrangements will be extended through March 26, 2007.
At February 1, 2004 and February 2, 2003, Hancock had outstanding borrowings of
$10 million and $0, respectively, under the revolving credit arrangements. At
February 1, 2004, the effective interest rate on the outstanding borrowings was
1.62%. The revolving credit arrangements contain certain restrictive covenants
which, among other things, require the Company to comply with certain financial
covenants, including maintenance of a specified consolidated tangible net worth,
a debt to cash flow ratio and a fixed charge coverage ratio. As of February 1,
2004, the Company was in compliance with the covenants.
Hancock has an arrangement that provides for up to $5 million in letters of
credit. At February 1, 2004, Hancock had commitments under this arrangement of
$2.9 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.
29
Note 7 - Long-Term Leases
Hancock leases its retail fabric store locations under noncancelable operating
leases expiring at various dates through 2024. Most of the Company's store
leases have an average initial term of ten years and provide for renewal
options. In addition, the majority of Hancock's store leases contain escalation
clauses and require the Company to pay its pro rata share of taxes, insurance
and common area maintenance expenses. Certain of the leases for store locations
also provide for additional rent based on sales volume.
Rent expense consists of the following (in thousands):
2003 2002 2001
--------------- ---------------- ---------------
Minimum rent $ 32,837 $ 31,661 $ 31,070
Additional rent based on sales 234 342 342
--------------- ---------------- ---------------
$ 33,071 $ 32,003 $ 31,412
=============== ================ ===============
Minimum rental payments as of February 1, 2004 are as follows (in thousands):
Fiscal Year
2004 $ 29,162
2005 26,482
2006 23,145
2007 18,172
2008 13,693
Thereafter 36,627
-------------------
Total minimum lease payments $ 147,281
===================
Note 8 - Income Taxes
The components of income tax expense (benefit) are as follows (in thousands):
2003 2002 2001
------------------ ----------------- -----------------
Currently payable
Federal $ 10,967 $ 7,097 $ 6,877
State 671 418 405
------------------ ----------------- -----------------
11,638 7,515 7,282
------------------ ----------------- -----------------
Deferred
Current 35 110 (1,757)
Noncurrent (1,742) 3,618 2,699
------------------ ----------------- -----------------
(1,707) 3,728 942
------------------ ----------------- -----------------
$ 9,931 $ 11,243 $ 8,224
================== ================= =================
Deferred income taxes are provided in recognition of temporary differences in
reporting certain revenues and expenses for financial statement and income tax
purposes.
30
The deferred tax assets (liabilities) are comprised of the following (in
thousands):
2003 2002
------------------ ------------------
Inventory valuation methods $ (6,488) $ (4,835)
Accelerated depreciation (783) (715)
Accruals not currently deductible:
Postretirement benefits other than pensions 7,785 7,643
Other employee benefit costs 3,098 2,624
Deferred compensation 2,589 1,036
Store closing costs 567 635
Insurance reserves 878 985
Pension payment in excess of required contributions (5,785) (6,266)
Other 1,233 280
------------------ ------------------
$ 3,094 $ 1,387
================== ==================
Management expects the deferred tax assets to be fully recoverable and the
deferred tax liabilities to be fully satisfied through the reversal of taxable
temporary differences in future years as a result of normal business activities.
A reconciliation of the statutory Federal income tax rate to the effective tax
rate is as follows:
2003 2002 2001
--------------- --------------- ----------------
Statutory Federal income tax rate 35.0% 35.0% 35.0%
State income taxes, net of Federal income tax effect 1.3 1.3 1.3
--------------- --------------- ----------------
Effective tax rate 36.3% 36.3% 36.3%
=============== =============== ================
Note 9 - Shareholders' Interest
Authorized Capital. Hancock's authorized capital includes five million shares of
$.01 par value preferred stock, none of which have been issued.
Common Stock Purchase Rights. Hancock has entered into a Common Stock Purchase
Rights Agreement, as amended (the "Rights Agreement"), with Continental Stock
Transfer & Trust Company as Rights Agent. The Rights Agreement, in certain
circumstances, would permit shareholders to purchase common stock at prices
which would be substantially below market value. These circumstances include the
earlier of (i) the tenth day after an announcement that a person or group has
acquired beneficial ownership of 20% or more of Hancock's shares, with certain
exceptions such as a tender offer that is approved by a majority of Hancock's
Board of Directors, or (ii) the tenth day, or such later date as set by
Hancock's Board of Directors, after a person or group commences, or announces
its intention to commence, a tender or exchange offer, the consummation of which
would result in beneficial ownership of 30% or more of Hancock's shares.
Stock Repurchase Plan. In prior years and continuing in fiscal 2003, repurchases
of approximately 13,100,000 shares have been made. As of February 1, 2004,
378,000 shares are available for repurchase under the most recent authorization.
Note 10 - Employee Benefit Plans
Stock Options. In 1996, Hancock adopted the 1996 Stock Option Plan (the "1996
Plan") which authorized the granting of options to employees for up to 2,000,000
shares of common stock at an exercise price of no less than 50% of fair market
value on the date the options are granted. The exercise price of all options
granted under this Plan have equaled the fair market value on the grant date.
The employee stock options granted under the 1996 Plan vest ratably over a
period of not less than two years and expire ten years after the date of grant.
The 1996 Plan expired on September 30, 2001 and a preceding plan, the 1987 Stock
Option Plan expired on March 22, 1997. Both plans prohibit grants after the
expiration date.
31
In 2001, Hancock adopted the 2001 Stock Incentive Plan (the "2001 Plan") which
authorizes the granting of options or restricted stock to key employees for up
to 2,800,000 shares of common stock in total, with no more than 1,000,000 of
those shares being allocated to restricted stock. The 2001 Plan also provides
for the granting of options to directors as specified in the plan document. The
options granted under the 2001 Plan can have an exercise price of no less than
100% of fair market value on the date the options are granted. Options and
restricted stock issued under the 2001 Plan vest ratably over a minimum
four-year period and options expire ten years after the date of grant. As of
February 1, 2004, a total of 997,850 shares remain available for grant under the
2001 Plan, including 365,150 shares which can be issued as restricted stock.
A summary of activity in the plans for the years ended February 1, 2004,
February 2, 2003 and February 3, 2002 follows:
2003 2002 2001
----------------------------- ----------------------------------- -----------------------------------
Weighted Weighted Weighted
Average Average Average
Exercise Exercise Exercise
Options Price Options Price Options Price
----------------------------- ----------------------------------- -----------------------------------
Outstanding at
beginning of year 2,196,250 $ 10.82 2,926,450 $ 9.07 3,121,500 $ 8.83
Granted 463,500 $ 15.85 461,900 $ 18.04 488,200 $ 7.50
Canceled (110,650) $ 13.50 (50,125) $ 9.80 (104,200) $ 8.13
Exercised (340,475) $ 8.42 (1,141,975) $ 9.30 (579,050) $ 6.53
-------------- --------------- --------------
Outstanding
at end of year 2,208,625 $ 12.13 2,196,250 $ 10.82 2,926,450 $ 9.07
============== =============== ==============
Exercisable
at end of year 1,239,600 $ 10.14 1,400,600 $ 9.30 2,182,600 $ 10.00
============== =============== ==============
The weighted average remaining contractual life of all outstanding options was
6.32 years at February 1, 2004.
The weighted average grant-date fair value of options granted during 2003, 2002
and 2001 was $6.38, $6.75 and $2.85, respectively. The fair value of each option
grant is estimated on the date of the grant using the Black-Scholes option
pricing model with the following weighted-average assumptions for 2003, 2002 and
2001, respectively: dividend yields of 1.64%, 1.64% and 1.37%; average expected
volatility of .51, .48 and .48; risk-free interest rates of 3.47%, 2.54% and
4.19%; and an average expected life of 4.5 years in 2003, 4.5 years in 2002 and
4.0 years in 2001.
Options Outstanding Options Exercisable
- ------------------------------------------------------------------------- -----------------------------------
Weighted Weighted Weighted
Number Average Average Number Average
Range of Outstanding Remaining Exercise Exercisable Exercise
Exercise Prices at 2/1/04 Life (Years) Price at 2/1/04 Price
- ------------------------------------------------------------------------- -----------------------------------
$ 4.25 to $ 5.81 271,775 5.98 $ 4.84 271,775 $ 4.84
$ 7.50 to $ 7.50 356,450 7.29 7.50 138,350 7.50
$ 8.13 to $11.00 318,800 1.92 9.55 318,800 9.55
$12.63 to $13.13 391,000 3.75 12.93 391,000 12.93
$14.25 to $15.84 453,900 9.23 15.79 14,250 14.64
$16.42 to $18.09 416,700 8.31 18.07 105,425 18.09
---------------- ----------------
$4.25 to $18.09 2,208,625 6.32 12.13 1,239,600 10.14
================ ================
Restricted Stock. On December 6, 1995, Hancock adopted the 1995 Restricted Stock
Plan to provide for the issuance of restricted stock awards to employees. The
aggregate number of shares that may be issued or reserved for issuance pursuant
to the 1995 Restricted Stock Plan shall not exceed one million shares. In 2001,
Hancock adopted the 2001 Stock Incentive Plan which authorized the granting of
up to 1,000,000 shares of restricted stock. During 2003, 2002 and 2001,
restricted shares totaling 149,000, 97,600 and 459,100, respectively, were
issued to officers and key employees under the Plans. As of February 1, 2004, a
total of 1,061,900 shares are outstanding for which restrictions have not been
32
lifted. Compensation expense related to restricted shares issued is recognized
over the period for which restrictions apply. This expense totaled $2,436,000,
$2,241,000 and $2,006,000 in 2003, 2002 and 2001, respectively.
Retirement Plan. Hancock maintains a noncontributory defined benefit retirement
plan that covers substantially all of its full-time employees. The plan provides
for pension and disability benefits based primarily on years of service and
employee compensation. Hancock uses a December 31st measurement date for its
retirement plan.
Changes in Projected Benefit Obligation and Fair Value of Plan Assets (in
thousands)
2003 2002
----------------- -----------------
Change in benefit obligation
Benefit obligation at beginning of year $ 56,682 $ 48,435
Service costs 2,479 2,214
Interest costs 3,676 3,542
Benefits paid (2,469) (2,346)
Actuarial adjustments 2,871 4,837
----------------- -----------------
Benefit obligation at end of year $ 63,239 $ 56,682
================= =================
Change in plan assets
Fair value of plan assets at beginning of year $ 54,193 $ 44,792
Actual return on plan assets 11,501 (5,681)
Employer contributions - 17,428
Benefits paid (2,469) (2,346)
----------------- -----------------
Fair value of plan assets at end of year $ 63,225 $ 54,193
================= =================
Funded Status
The funded status and the amounts recognized in Hancock's consolidated balance
sheet for the retirement plan based on an actuarial valuation were as follows
(in thousands):
2003 2002
------------------ ------------------
Funded status $ (14) $ (2,489)
Prior service cost 250 328
Actuarial adjustments 15,700 20,990
------------------ ------------------
Net amount recognized $ 15,936 $ 18,829
================== ==================
Components of Net Periodic Benefit Cost (in thousands)
2003 2002 2001
------------------ ----------------- -----------------
Service costs $ 2,479 $ 2,214 $ 1,955
Interest costs 3,676 3,542 3,238
Expected return on plan assets (4,641) (4,112) (4,430)
Amortization and deferrals 78 101 107
Recognized net actuarial (gain) loss 1,301 279 -
------------------ ----------------- -----------------
Net periodic benefit cost $ 2,893 $ 2,024 $ 870
================== ================= =================
Accumulated Benefit Obligation
The accumulated benefit obligation for the retirement plan was $59,673,000 and
$53,908,000 at December 31, 2003 and 2002, respectively.
33
Assumptions
Weighted-average actuarial assumptions used in the period-end valuations to
determine benefit obligations were as follows:
2003 2002 2001
--------------- --------------- ----------------
Discount rate 6.25% 6.75% 7.25%
Rate of increase in compensation levels 4.00% 4.00% 4.00%
Weighted-average actuarial assumptions used in the period-end valuations to
determine net periodic benefit cost were as follows:
2003 2002 2001
------------ ----------- ------------
Discount rate 6.75% 7.25% 7.50%
Rate of increase in compensation levels 4.00% 4.00% 4.25%
Expected long-term rate of return on assets 8.75% 9.25% 9.25%
The expected long-term rate of return on plan assets reflects Hancock's
expectations of long-term average rates of return on funds invested to provide
for benefits included in the projected benefit obligation. In developing the
expected long-term rate of return assumption, Hancock evaluated input from the
Company's third party actuarial and investment firms and considered other
factors including inflation, interest rates, peer data and historical returns.
Plan Assets
Hancock's retirement plan weighted-average asset and target allocations were as
follows:
Percentage of Plan
Assets Target
at December 31 Allocation
-------------- ----------
Asset Category 2003 2002
- -------------- ----------- ----------
Equity securities 66.1% 47.4% 65%
Fixed income securities 33.9% 52.6% 35%
----------- ---------- ------------
Total 100.0% 100.0% 100%
=========== ========== ============
Hancock invests in a diversified portfolio of equity and fixed income securities
designed to maximize returns while minimizing risk associated with return
volatility. Risk tolerance is established through careful consideration of plan
liabilities, plan funded status, and the Company's financial condition.
Investment risk is measured and monitored on an ongoing basis through quarterly
investment portfolio reviews, annual liability measurements, and periodic
asset/liability studies. In addition, the target asset allocation is
periodically reviewed and adjusted, as appropriate. On December 31, 2002, the
Company made a $15 million contribution to the retirement plan which was
initially placed into a money-market fund prior to being distributed to equity
and fixed income securities in accordance with target allocation percentages.
Accordingly, on that date, the actual allocation between equity and fixed income
securities varies from the target allocation by an amount that is more than the
typical variation.
Contributions
Hancock's minimum required contribution for 2004 is $0, while the maximum amount
that may be contributed and deducted for income tax purposes is $4,335,000.
Hancock has not yet decided whether it will make a contribution in 2004.
Postretirement Benefit Plan. Hancock maintains a postretirement
medical/dental/life insurance plan for all employees and retirees hired before
January 1, 2003. Eligibility for the plan is limited to employees completing 15
years of credited service while being eligible for the Company's employee
medical benefit program. The Company currently contributes to the plan as
benefits are paid. Hancock uses a December 31st measurement date for its
postretirement benefit plan.
34
On December 8, 2003, the "Medicare Prescription Drug, Improvement and
Modernization Act of 2003" (the Act) was signed into law. The Act expands
Medicare to include coverage for prescription drugs. Hancock sponsors medical
programs, including prescription drug coverage for retirees, and the Company
expects that this legislation will eventually reduce the Company's cost for some
of these programs. On January 12, 2004, the FASB issued FASB Staff Position No.
106-1, Accounting and Disclosure Requirements Related to the Medicare
Prescription Drug, Improvement and Modernization Act of 2003, which allows the
deferral of financial recognition of the Act until the FASB issues final
accounting guidance. Hancock elected to defer the recognition of the Act.
Therefore, the Company's accumulated postretirement obligation does not reflect
the effects of the Act. The FASB's specific authoritative guidance on accounting
for the federal subsidy is pending, and that guidance, when issued, could
require a change to the amounts recorded in the financial statements and
disclosed in the Notes to the Consolidated Financial Statements.
Changes in Accumulated Postretirement Benefit Obligation (in thousands)
2003 2002
------------------ -----------------
Change in benefit obligation
Benefit obligation at beginning of year $ 13,731 $ 11,874
Service costs 560 485
Interest costs 932 852
Benefits paid (490) (500)
Actuarial adjustments 1,359 1,020
------------------ ------------------
Benefit obligation at end of year $ 16,092 $ 13,731
================== ==================
Funded Status
The Company currently contributes to the plan as benefits are paid. The funded
status and the amounts recognized in Hancock's consolidated balance sheet for
other postretirement benefits based on an actuarial valuation were as follows
(in thousands):
2003 2002
------------------ ------------------
Funded status $ (16,092) $ (13,731)
Prior service cost (1,923) (2,173)
Actuarial adjustments (4,353) (6,072)
------------------ ------------------
Net amount recognized $ (22,368) $ (21,976)
================== ==================
Components of Net Periodic Benefit Cost (in thousands)
2003 2002 2001
----------------- ----------------- -----------------
Service costs $ 560 $ 485 $ 635
Interest costs 932 852 1,027
Amortization and deferrals (610) (732) (520)
----------------- ----------------- -----------------
Net periodic postretirement costs $ 882 $ 605 $ 1,142
================= ================= =================
Assumptions
Weighed-average actuarial assumptions used in the period-end valuations to
determine benefit obligations were as follows:
2003 2002 2001
----------------- ----------------- -----------------
Discount rate 6.25% 6.75% 7.25%
Rate of increase in compensation levels 4.00% 4.00% 4.00%
35
Weighted-average actuarial assumptions used in the period-end valuations to
determine net periodic benefit cost were as follows:
2003 2002 2001
----------------- ----------------- -----------------
Discount rate 6.75% 7.25% 7.50%
Rate of increase in compensation levels 4.00% 4.00% 4.25%
Assumed Health Care Cost Trend Rates
2003 2002
-------------------------------------- ----------------------------------------
Employees Employees Employees Employees
under age 65 age 65 or older under age 65 age 65 or older
--------------------------------------------------------------------------------
Health care cost trend rate assumed for next year 7.25% 9.00% 7.75% 9.75%
Rate that the cost trend rate gradually declines to 4.75% 4.75% 4.75% 4.75%
Year that the rate reaches the rate it is assumed to
remain at 2009 2010 2009 2010
Assumed health care cost trend rates have a significant effect on the amounts
reported for the health care plans. A one-percentage point change in the assumed
health care trend rates would have the following effects (in thousands):
One-Percentage Point One-Percentage Point
Increase Decrease
--------------------------------------------------------
Effect on total service and interest costs $275 ($218)
Effect on postretirement benefit obligation $2,467 ($1,900)
Contributions
Hancock currently contributes to the plan as benefits are paid and expects to
continue to do so in 2004. Claims paid in 2003, 2002 and 2001 totaled $490,000,
$500,000 and $549,000, respectively. The Company expects claims for 2004 to be
similar to the three preceding years.
Note 11 - Earnings per Share
A reconciliation of basic earnings per share to diluted earnings per share
follows (in thousands, except per share amounts):
Years Ended
--------------------------------------------------------------------------------------------------
February 1, 2004 February 2, 2003 February 3, 2002
------------------------------- ------------------------------ ---------------------------------
Net Per Share Net Per Share Net Per Share
Earnings Shares Amount Earnings Shares Amount Earnings Shares Amount
--------- -------- ----------- -------- ------- ----------- --------- -------- ------------
Basic EPS
Earnings available to
common shareholders $ 17,428 17,677 $ .99 $ 19,728 17,847 $ 1.11 $ 14,426 16,763 $ .86
Effect of Dilutive
Securities
Stock options 423 607 354
Restricted stock 499 435 70
--------- --------- ----------
Diluted EPS
Earnings available to
common shareholders
plus conversions $ 17,428 18,599 $ .94 $ 19,728 18,889 $ 1.04 14,426 17,187 $ .84
========= ========= ========== ======== ========= ========== ========= ========== ============
Certain options to purchase shares of Hancock's common stock totaling 539,174,
289,974 and 1,291,988 shares were outstanding during the years ended February 1,
2004, February 2, 2003 and February 3, 2002, respectively, but were not included
in the computation of diluted EPS because the exercise price was greater than
the average price of common shares.
36
Note 12 - Commitments and Contingencies
Concentration of Credit Risk. Financial instruments which potentially subject
Hancock to concentrations of risk are primarily cash and cash equivalents.
Hancock places its cash and cash equivalents in various insured depository
institutions which limits the amount of credit exposure to any one institution.
Litigation. Hancock is a party to several pending legal proceedings and claims.
Although the outcome of such proceedings and claims cannot be determined with
certainty, Hancock's management is of the opinion that it is unlikely that these
proceedings and claims will have a material effect on the financial condition or
operating results of Hancock.
Other. During the first quarter of 2003, Hancock entered into a cost-plus
contract for the construction of the Company's new distribution center and
corporate offices. At February 1, 2004, Hancock's remaining commitment is
approximately $10 million which is expected to be disbursed during 2004.
Note 13 - Reserve for Store Closings
The reserve for store closings is based on estimates of net lease obligations
and other store closing costs. During 2002, Hancock recorded a reduction in the
reserve of $550,000 for sub-lease arrangements reached during the year that were
not previously anticipated. In addition, Hancock increased the reserve by
$266,000 for the remaining cost of net lease obligations for stores closed
during 2002. During 2003, Hancock increased the reserve by $89,000 to reflect
changes in prospects for sub-leasing certain properties and by $214,000 for the
remaining cost of net lease obligations for stores closed during 2003.
The 2002 and 2003 activity in the reserve is as follows (in thousands):
Addition to
Beginning (Reduction in) End of
of Year Reserve Interest Payments Year
---------------- ------------------- --------------- ---------------- ---------------
2002
Lease obligations $ 2,884 $ (284) $ 159 $ (1,010) $ 1,749
================ =================== =============== ================ ===============
2003
Lease obligations $ 1,749 $ 303 $ 127 $ (618) $ 1,561
================ =================== =============== ================ ===============
Report of Independent Auditors
To the Board of Directors and
Shareholders of Hancock Fabrics, Inc.
In our opinion, the accompanying consolidated balance sheets and the related
consolidated statements of income, shareholders' equity and cash flows present
fairly, in all material respects, the financial position of Hancock Fabrics,
Inc. and its subsidiaries at February 1, 2004 and February 2, 2003, and the
results of their operations and their cash flows for each of the three fiscal
years in the period ended February 1, 2004, in conformity with accounting
principles generally accepted in the United States of America. These financial
statements are the responsibility of the Company's management; our
responsibility is to express an opinion on these financial statements based on
our audits. We conducted our audits of these statements in accordance with
auditing standards generally accepted in the United States of America which
require that we plan and perform the audit to obtain reasonable assurance about
whether the financial statements are free of material misstatement. An audit
includes the examining, on a test basis, evidence supporting the amounts and
disclosures in the financial statements, assessing the accounting principles
used and significant estimates made by management, and evaluating the overall
financial statement presentation. We believe that our audits provide a
reasonable basis for our opinion.
PricewaterhouseCoopers, LLP
Memphis, Tennessee
March 5, 2004
37
QUARTERLY FINANCIAL DATA (unaudited)
Years ended February 1, 2004 and February 2, 2003
(in thousands, except per share amounts)
Per Common Share
-------------------------------------------
Gross Net Net Earnings* Cash
-----------------------------
Sales Profit Earnings Basic Diluted Dividend
- --------------------------------------------------------------------------------------------------------------
2003
First Quarter $ 107,636 $ 54,739 $ 4,071 $ .23 $ .22 $ .10
Second Quarter 96,103 49,769 1,577 .09 .09 .10
Third Quarter 112,699 57,425 4,214 .24 .23 .10
Fourth Quarter 127,167 66,660 7,566 .43 .41 .10
- --------------------------------------------------------------------------------------------------------------
$ 443,605 $ 228,593 $ 17,428 $ .99 $ .94 $ .40
==============================================================================================================
2002
First Quarter $ 104,054 $ 52,535 $ 3,691 $ .21 $ .20 $ .08
Second Quarter 92,676 47,551 1,485 .08 .08 .08
Third Quarter 112,933 57,290 5,756 .32 .31 .08
Fourth Quarter 128,624 66,537 8,796 .49 .47 .08
- --------------------------------------------------------------------------------------------------------------
$ 438,287 $ 223,913 $ 19,728 $ 1.11 $ 1.04 $ .32
==============================================================================================================
* Per share amounts are based on average shares outstanding during each quarter
and may not add to the total for the year.
Eleven-Year Summary (unaudited) Earnings
(dollars in thousands) Before
LIFO Interest Net Number
Gross Credit and Interest Net of
Year Sales Profit (Charge) Taxes Expense Earnings Stores
- ---------------------------------------------------------------------------------------------------------------------
2003 $ 443,605 $ 228,593 $ 1,375 $ 27,874 $ 515 $ 17,428 433
2002 438,287 223,913 1,525 31,235 264 19,728 430
2001 411,857 210,542 (125) 23,817 1,167 14,426 439
2000 385,245 195,834 (650) 18,965 2,223 10,670 443
1999 381,572 185,871 475 12,871 2,380 6,713 453
1998 392,303 190,782 300 6,802 1,273 3,517 (1) 462
1997 381,910 186,764 700 24,947 162 15,289 481
1996 378,218 183,325 (2,505) 21,128 957 12,413 462
1995 364,192 172,169 (3,016) 16,586 1,937 8,907 498
1994 366,816 171,387 (500) 19,089 2,230 10,159 500
1993 367,745 161,491 (6,600) 10,677 2,076 5,399 500
(1) Net earnings in 1998 included a net charge of $6,349,000 related principally
to net lease obligations for stores closed at January 31, 1999 and stores
committed to closing in fiscal 1999.
Item 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON
ACCOUNTING AND FINANCIAL DISCLOSURE
None.
38
Item 9a. 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 III
Item 10. DIRCTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
Information about the Directors of the Company and our Code of Business Conduct
and Ethics is incorporated by reference to our Proxy Statement for the 2004
Annual Meeting of Shareholders.
Office Presently Held and Business
Name Age Experience During the Last Five Years
- ---- --- -------------------------------------
Larry G. Kirk 57 Chairman of the Board from June 1997 and Chief Executive Officer from
June 1996. Director from 1990.
Jack W. Busby, Jr. 61 President and Chief Operating Officer from June 1997 through February
2004. Director from 1997.
James A. Austin 50 Executive Vice President from June 2001 and Chief Operating Officer from
February 2004. Prior to June 2001, Division Merchandise Manager-Linens,
Domestics and Window Fashions for Wards.
Bruce D. Smith 45 Senior Vice President, Chief Financial Officer and
Treasurer from March 1997.
The term of each of the officers expires June 10, 2004.
There are no family relationships among the executive officers, directors or
nominees for director.
There are no arrangements or understandings pursuant to which any person was
selected as an officer.
Section 16(a) Beneficial Ownership Reporting Compliance
Based solely upon a review of Forms 3 and 4 and amendments thereto furnished to
the Company during its most recent fiscal year and Forms 5 and amendments
39
thereto furnished to the Company with respect to its most recent fiscal year and
certain written representations of the Company's directors and executive
officers, no director, officer or beneficial owner of more than ten percent of
the company's common stock failed to file on a timely basis reports required by
Section 16(a) of the Securities Exchange Act of 1934, as amended.
Item 11. EXECUTIVE COMPENSATION
Information about executive compensation is incorporated by reference to our
Proxy Statement for the 2004 Annual Meeting of Shareholders.
Item 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND
MANAGEMENT AND RELATED STOCKHOLDER MATTERS
Information about security ownership of certain beneficial owners and management
is incorporated by reference to our Proxy Statement for the 2004 Annual Meeting
of Shareholders.
Equity Compensation Plan Information
The following table details information regarding the Company's existing equity
compensation plans as of February 1, 2004:
(a) (b) (c)
Number of Number of securities
securities to be remaining available for
issued upon Weighted-average future issuance under
exercise of exercise price of equity compensation
outstanding outstanding plans (excluding
options, warrants options, warrants securities reflected
Plan Category and rights and rights in column (a)) (2)
- -------------------------------------- ------------------ ------------------- ------------------------
Equity compensation plans
approved by security holders (1) 2,208,625 $12.13 997,850
Equity compensation plans not
approved by security holders - - -
------------------ -----------------------------------------------
Total 2,208,625 $12.13 997,850
================== ===============================================
- --------------------------------------
(1) These plans are the Company's 1987 Stock Option Plan, 1996 Stock Option Plan
and 2001 Stock Incentive Plan.
(2) These securities include shares available under the Company's 2001 Stock
Incentive Plan.
Item 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
None.
Item 14. PRINCIPAL ACCOUNTANT FEES AND SERVICES
Information about principal accountant fees and services is incorporated by
reference to our Proxy Statement for the 2004 Annual Meeting of Shareholders.
40
PART IV
Item 15. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON
FORM 8-K
All schedules have been omitted because they are not applicable or the required
information is included in the consolidated financial statements or notes
thereto.
Exhibits
3.1 c Certificate of Incorporation.
3.2 d By-Laws.
4.1 j Amended and restated Rights Agreement with Continental
Stock and Transfer Company dated March 23, 1987 and
amended and restated most recently on March 4, 2001.
4.2 b Agreement with Continental Stock and Transfer Company (as
Rights Agent) dated July 16, 1992.
10.1 f Credit Agreement with Wachovia Bank as Agent and Lenders
as Signatories Hereto ("Revolving Credit Agreement")
dated April 16, 1999.
10.2 k Credit Agreement with SouthTrust Bank as Lender as
Signatories Hereto ("SouthTrust Credit Agreement") dated
March 26, 2002.
10.3 k Amendment to Revolving Credit Agreement dated
March 26, 2002.
10.4 d Form of Indemnification Agreement dated June 8, 1995 for
each of Jack W. Busby, Jr., Don L. Fruge', Larry G. Kirk
and Donna L. Weaver.
10.5 e Indemnification Agreement for Bruce D. Smith dated
December 10, 1996.
10.6 f #Agreement (deferred compensation) with Jack W. Busby dated
June 9, 1998.
10.7 f #Agreement to Secure Certain Contingent Payments with Jack W.
Busby dated June 9, 1998.
10.8 f #Agreement (deferred compensation) with Larry G. Kirk dated
June 9, 1998.
10.9 f #Agreement to Secure Certain Contingent Payments with Larry
G. Kirk dated June 9, 1998.
10.10 d #Form of Amendment, Extension and Restatement of Severance
Agreement for each of Jack W. Busby, Jr. and Larry G. Kirk
dated March 14, 1996.
10.11 e #Amendment of Deferred Compensation Agreement, Severance
Agreement and Agreement to Secure Contingent Payments with
Larry G. Kirk dated June 13, 1996.
10.12 e #Amendment of Deferred Compensation Agreement and Agreement
to Secure Contingent Payments with Jack W. Busby, Jr.
dated June 13, 1996.
10.13 e #Agreement (deferred compensation) with Bruce D. Smith dated
December 10, 1996.
10.14 e #Severance Agreement with Bruce D. Smith dated December 10,
1996.
10.15 e #Agreement to Secure Certain Contingent Payments with Bruce
D. Smith dated December 10, 1996.
10.16 c #Supplemental Retirement Plan, as amended.
10.17 e #1996 Stock Option Plan.
10.18 a #Extra Compensation Plan.
10.19 g Indemnification Agreement for Roger T. Knox dated June 21,
1999.
10.20 g #Form of Agreement and Renewal of Severance Agreement for
each of Larry G. Kirk, Jack W. Busby, Jr. and Bruce D.
Smith dated May 4, 1999.
10.21 h #2000 Stock Compensation Plan for Non-Employee Directors.
10.22 i #2001 Stock Incentive Plan.
10.23 i #Agreement (deferred compensation) with James A. Austin dated
June 14, 2001.
10.24 i Indemnification Agreement for James A. Austin dated June 14,
2001.
10.25 i #Severance Agreement with James A. Austin dated June 14,
2001.
10.26 i #Agreement to Secure Certain Contingent Payments with James
A. Austin dated June 14, 2001.
10.27 l #Officer Incentive Compensation Plan as amended.
41
10.28 l #Amended and Restated 1995 Restricted Stock Plan and Deferred
Stock Unit Plan.
21 * Subsidiaries of the Registrant.
23 * Consent of PricewaterhouseCoopers LLP.
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
* Filed herewith.
Incorporated by reference to (Commission file number for Section 13 reports is
001-9482):
a Form 10-K dated April 27, 1992.
b Form 10-K dated April 26, 1993.
c Form 10-K dated April 24, 1995.
d Form 10-K dated April 22, 1996.
e Form 10-K dated April 22, 1997.
f Form 10-K dated April 30, 1999.
g Form 10-K dated April 25, 2000.
h Form S-8 dated December 27, 2000 and amended on April 26, 2001.
i Form 10-Q dated September 12, 2001.
j Form 8-K dated April 6, 2001.
k Form 10-K dated April 29, 2002.
l Form 10-K dated April 28, 2003.
# Denotes management contract or compensatory plan or arrangement.
(b) Reports on Form 8-K
- Current Report on Form 8-K filed November 24, 2003 announcing quarterly
earnings.
42
SIGNATURES
Pursuant to the requirements of Section 13 or 15 (d) 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, on the 14th day of April
2004.
HANCOCK FABRICS, INC.
By /s/ Larry G. Kirk
-----------------------
Larry G. Kirk
Chairman of the Board,
Director and Chief Executive
Officer
By /s/ Bruce D. Smith
-----------------------
Bruce D. Smith
Senior Vice President and
Chief Financial Officer
(Principal Financial and
Accounting Officer)
Signature Title
--------- -----
/s/ Jack W. Busby, Jr. Director
- --------------------------
Jack W. Busby, Jr.
/s/ Don L. Fruge' Director
- --------------------------
Don L. Fruge'
/s/ Roger T. Knox Director
- --------------------------
Roger T. Knox
/s/ Donna L. Weaver Director
- --------------------------
Donna L. Weaver
43
EXHIBIT 21
Subsidiaries of the Registrant
State of Names Under Which
Name Incorporation Subsidiary Does Business
- --------------------------- ------------- ------------------------
HF Enterprises, Inc. Delaware HF Enterprises
HF Resources, Inc. Delaware HF Resources
HF Merchandising Delaware HF Merchandising
Hancock Fabrics of MI, Inc. Delaware Hancock Fabrics
Hancock Fabrics, LLC Delaware Hancock Fabrics
hancockfabrics.com, Inc. Delaware hancockfabrics.com
Sewing Centers, LLC Delaware Singer Sewing Center
44
EXHIBIT 23
Consent of Independent Accountants
We hereby consent to the incorporation by reference in this Registration
Statement on Form S-8 (Nos. 33-17215, 33-29138, 33-55419, 333-32295, 333-32299,
333-52788, and 333-69086) of our report dated March 5, 2004 relating to the
financial statements, which appears in Hancock Fabrics, Inc.'s Annual Report on
Form 10-K for the year ended February 1, 2004.
PricewaterhouseCoopers, LLP
Memphis, Tennessee
April 14, 2004
45
EXHIBIT 31.1
Certification of Chief Executive Officer
I, Larry G. Kirk, certify that:
1. I have reviewed this annual report on Form 10-K 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 fourth 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: April 14, 2004
/s/ Larry G. Kirk
- -------------------
Larry G. Kirk
Chairman of the Board and Chief Executive Officer
46
EXHIBIT 31.2
Certification of Chief Financial Officer
I, Bruce D. Smith, certify that:
1. I have reviewed this annual report on Form 10-K 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 fourth 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: April 14, 2004
/s/ Bruce D. Smith
- ---------------------
Bruce D. Smith
Senior Vice President and
Chief Financial Officer
47
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 to
18 U.S.C. Section 1350, that: (1) this annual report on Form 10-K of Hancock
Fabrics, Inc. ("Hancock") for the year ended February 1, 2004 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 annual report fairly
presents, in all material respects, the financial condition and results of
operations of Hancock.
Date: April 14, 2004
/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
48