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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D. C. 20549
FORM 10-Q
[X] Quarterly Report Pursuant to Section 13 or 15 (d) of the
Securities Exchange Act of 1934
For the quarterly period ended October 31, 2004
OR
[ ] Transition Report Pursuant to Section 13 or 15 (d) of the
Securities Exchange Act of 1934
For the transition period from_____________to___________.
Commission File 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.)
One Fashion Way, Baldwyn, MS 38824
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code
(662) 365-6000
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15 (d) of the Securities Exchange Act of 1934
during the preceding 12 months (or for such shorter period that the registrant
was required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days.
Yes X No
---- ----
Indicate by check mark whether the registrant is an accelerated filer (as
defined in Rule 12b-2 of the Exchange Act). Yes X No
---- ----
Indicate the number of shares outstanding of each of the issuer's classes of
common stock, as of the latest practical date.
As of October 31, 2004, the registrant had outstanding an aggregate of
19,098,735 shares of common stock, $.01 par value.
INDEX
Part I. Financial Information:
Page Numbers
Item 1. Financial Statements (unaudited)
Consolidated Balance Sheets as of October 31, 2004
and February 1, 2004 3
Consolidated Statements of Operations for the Thirteen
Weeks and Thirty-nine Weeks Ended October 31, 2004 and
November 2, 2003 4
Consolidated Statements of Cash Flows for the Thirty-nine
Weeks Ended October 31, 2004 and November 2, 2003 5
Consolidated Statement of Shareholders' Equity for the
Thirty-nine Weeks Ended October 31, 2004 6
Notes to Consolidated Financial Statements 7 - 10
Item 2. Management's Discussion and Analysis of Financial
Condition and Results of Operations 11 - 14
Item 3. Quantitative and Qualitative Disclosures about Market
Risks 14
Item 4. Controls and Procedures 14
Part II. Other Information:
Item 2. Unregistered Sales of Equity Securities and Use of
Proceeds 15
Item 6. Exhibits 15
Signature 16
2
PART I. FINANCIAL INFORMATION
HANCOCK FABRICS, INC.
CONSOLIDATED BALANCE SHEETS
(unaudited)
- ---------------------------------------------------------------------------------------------------
October 31, February 1,
(in thousands, except for share and per share amounts) 2004 2004
- ---------------------------------------------------------------------------------------------------
Assets
Current assets:
Cash and cash equivalents $ 4,616 $ 4,080
Receivables, less allowance for doubtful accounts 1,165 966
Inventories 163,874 154,984
Income taxes refundable 2,339 -
Prepaid expenses 3,065 2,304
- ---------------------------------------------------------------------------------------------------
Total current assets 175,059 162,334
Property and equipment, at depreciated cost 70,998 57,142
Deferred tax assets 4,322 6,207
Pension payment in excess of required contribution 14,261 15,936
Goodwill 4,480 4,480
Other assets 3,138 3,324
- ---------------------------------------------------------------------------------------------------
Total assets $ 272,258 $ 249,423
===================================================================================================
Liabilities and Shareholders' Equity
Current liabilities:
Accounts payable $ 45,416 $ 42,704
Accrued liabilities 19,124 22,574
Deferred tax liabilities 4,579 3,113
Income taxes - 7,299
- ---------------------------------------------------------------------------------------------------
Total current liabilities 69,119 75,690
Long-term debt obligations 44,000 10,000
Postretirement benefits other than pensions 22,655 22,368
Reserve for store closings 487 592
Other liabilities 8,665 9,193
- ---------------------------------------------------------------------------------------------------
Total liabilities 144,926 117,843
- ---------------------------------------------------------------------------------------------------
Commitments and contingencies
- ---------------------------------------------------------------------------------------------------
Shareholders' equity:
Common stock, $.01 par value; 80,000,000 shares authorized;
32,318,276 and 31,941,582 issued and outstanding,
respectively 323 319
Additional paid-in capital 75,423 70,105
Retained earnings 210,908 218,612
Treasury stock, at cost, 13,219,541 and 13,093,781
shares held, respectively (153,812) (151,905)
Deferred compensation on restricted stock incentive plan (5,510) (5,551)
- ---------------------------------------------------------------------------------------------------
Total shareholders' equity 127,332 131,580
- ---------------------------------------------------------------------------------------------------
Total liabilities and shareholders' equity $ 272,258 $ 249,423
===================================================================================================
See accompanying notes to consolidated financial statements.
3
HANCOCK FABRICS, INC.
CONSOLIDATED STATEMENTS OF OPERATIONS
(unaudited)
- -------------------------------------------------------------------------------------------- ------------------------------------
Thirteen Weeks Ended Thirty-nine Weeks Ended
October 31, November 2, October 31, November 2,
(in thousands, except per share amounts) 2004 2003 2004 2003
- -------------------------------------------------------------------------------------------- ------------------------------------
Sales $ 109,914 $ 112,699 $ 304,770 $ 316,438
Cost of goods sold (1) 57,290 55,274 156,197 154,505
- -------------------------------------------------------------------------------------------- ------------------------------------
Gross profit 52,624 57,425 148,573 161,933
- -------------------------------------------------------------------------------------------- ------------------------------------
Selling, general and administrative expense 48,846 49,022 143,931 141,386
Depreciation and amortization 1,923 1,608 5,435 4,645
- -------------------------------------------------------------------------------------------- ------------------------------------
Operating income (loss) 1,855 6,795 (793) 15,902
Other expense (income)
Interest expense 335 189 639 463
Interest income (14) (9) (38) (43)
- -------------------------------------------------------------------------------------------- ------------------------------------
Earnings (loss) before income taxes 1,534 6,615 (1,394) 15,482
Income taxes 557 2,401 (505) 5,620
- -------------------------------------------------------------------------------------------- ------------------------------------
Net earnings (loss) and comprehensive income (loss) $ 977 4,214 (889) 9,862
============================================================================================ ====================================
Earnings (loss) per share
Basic $ .05 $ .24 $ (.05) $ .56
Diluted $ .05 $ .23 $ (.05) $ .53
============================================================================================ ====================================
Weighted average shares outstanding
Basic 18,246 17,673 18,149 17,659
Diluted 18,624 18,560 18,149 18,509
============================================================================================ ====================================
Dividends per share $0.12 $0.10 $0.36 $0.30
============================================================================================ ======================================
(1) Excluding depreciation and amortization
See accompanying notes to consolidated financial statements.
4
Hancock Fabrics, Inc.
Consolidated Statements of Cash Flows
(unaudited)
- -----------------------------------------------------------------------------------------------------
(in thousands)
Thirty-nine Weeks Ended
October 31, November 2,
2004 2003
- -----------------------------------------------------------------------------------------------------
Cash flows from operating activities:
Net earnings (loss) and comprehensive income (loss) $ (889) 9,862
Adjustments to reconcile net earnings (loss) to cash
flows (used in) provided by operating activities
Depreciation and amortization 5,435 4,645
LIFO charge (credit) 550 (500)
Deferred income taxes 3,351 -
Amortization of deferred compensation on
restricted stock incentive plan 1,821 1,595
Loss on disposition of property and equipment 596 -
Interest expense on reserve for store closings 77 98
Issuance of shares as compensation for professional
services 27 22
Issuance of shares under directors' stock plan 150 135
(Increase) decrease in assets
Receivables and prepaid expenses (960) (317)
Inventory at current cost (9,440) (7,334)
Income taxes refundable (2,339) -
Pension expense 1,675 2,169
Other assets 186 (105)
Increase (decrease) in liabilities
Accounts payable 2,712 (5,130)
Accrued liabilities (3,140) (2,975)
Income taxes (6,155) (1,902)
Postretirement benefits other than pensions 287 316
Reserve for store closings (492) (505)
Other liabilities (528) 86
Tax benefit of stock options exercised 563 875
- -----------------------------------------------------------------------------------------------------
Net cash (used in) provided by operating activities (6,513) 1,035
- -----------------------------------------------------------------------------------------------------
Cash flows from investing activities:
Additions to property and equipment (19,906) (12,291)
Proceeds from the disposition of property and equipment 19 -
- -----------------------------------------------------------------------------------------------------
Net cash used in investing activities (19,887) (12,291)
- -----------------------------------------------------------------------------------------------------
Cash flows from financing activities:
Borrowings on revolving credit agreement 34,000 23,000
Purchase of treasury stock (1,907) (9,268)
Proceeds from exercise of stock options 1,658 3,220
Cash dividends paid (6,815) (5,606)
- -----------------------------------------------------------------------------------------------------
Net cash provided by financing activities 26,936 11,346
- -----------------------------------------------------------------------------------------------------
Increase in cash and cash equivalents 536 90
Cash and cash equivalents:
Beginning of period 4,080 4,589
- -----------------------------------------------------------------------------------------------------
End of period $ 4,616 $ 4,679
=====================================================================================================
Supplemental disclosures:
Cash paid during the period for:
Interest $ 551 $ 360
Income taxes $ 4,085 5,732
=====================================================================================================
See accompanying notes to consolidated financial statements.
5
HANCOCK FABRICS, INC.
CONSOLIDATED STATEMENT OF SHAREHOLDERS' EQUITY
(unaudited)
- -----------------------------------------------------------------------------------------------------------------------------------
(in thousands, except for number of shares)
- -----------------------------------------------------------------------------------------------------------------------------------
Additional Deferred Total
Common Stock Paid-in Retained Treasury Stock Compen- Shareholders'
----------------------- ------------------------
Shares Amount Capital Earnings Shares Amount sation Equity
- -----------------------------------------------------------------------------------------------------------------------------------
Balance February 1, 2004 31,941,582 $319 $70,105 $218,612 (13,093,781) ($151,905) ($5,551) $131,580
Net earnings (loss) and comprehensive
income (loss) (889) (889)
Cash dividends ($.36 per share) (6,815) (6,815)
Issuance of restricted Stock 151,500 1 1,849 (1,850) 0
Cancellation of restricted stock (7,350) (70) 70
Amortization & vesting of deferred
compensation on restricted stock
incentive plan 1,144 1,821 2,965
Issuance of shares under directors'
stock plan 11,403 150 150
Issuance of shares as compensation for
professional services 2,116 27 27
Purchase of treasury stock (125,760) (1,907) (1,907)
Stock options exercised 219,025 3 1,655 1,658
Tax benefit of stock options exercised 563 563
- -----------------------------------------------------------------------------------------------------------------------------------
Balance October 31, 2004 32,318,276 $323 $75,423 $210,908 (13,219,541) ($153,812) ($5,510) $127,332
===================================================================================================================================
See accompanying notes to consolidated financial statements.
6
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (unaudited)
NOTE 1: BASIS OF PRESENTATION
The accompanying unaudited consolidated financial statements of Hancock Fabrics,
Inc. ("Hancock" or the "Company") have been prepared in accordance with the
instructions to Form 10-Q and therefore do not include all information and
footnotes necessary for a fair presentation of financial position, results of
operations and cash flows in conformity with generally accepted accounting
principles. The statements do reflect all adjustments (consisting of only normal
recurring entries) which are, in the opinion of management, necessary for a fair
presentation of financial position in conformity with generally accepted
accounting principles. The statements should be read in conjunction with the
Notes to the Consolidated Financial Statements for the fiscal year ended
February 1, 2004 incorporated into the Company's Annual Report on Form 10-K.
The results of operations for the thirteen and thirty-nine week periods are not
necessarily indicative of the results to be expected for the full fiscal year.
NOTE 2: STOCK OPTIONS
Stock options are accounted for using the 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 all periods presented, the exercise
price of all options granted 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 earnings (loss) and earnings (loss) per
share as if the fair value method had been applied in measuring compensation
expense is presented below (in thousands, except per share amounts):
Thirteen Weeks Ended Thirty-nine Weeks Ended
------------------------------ -------------------------------
October 31, November 2, October 31, November 2,
2004 2003 2004 2003
------------------------------ -------------------------------
Net earnings (loss), as reported $ 977 $ 4,214 $ (889) $ 9,862
Deduct: Total stock-based employee compensation
expense determined under fair value based method
for all awards, net of related tax effects (389) (265) (1,199) (689)
------------ --------------- ------------- ---------------
Pro forma net earnings (loss) $ 588 $ 3,949 $ (2,088) $ 9,173
============ =============== ============= ===============
Earnings (loss) per share:
Basic - as reported $ .05 $ .24 $ (.05) $ .56
============ =============== ============= ===============
Basic - pro forma $ .03 $ .22 $ (.12) $ .52
============ =============== ============= ===============
Diluted - as reported $ .05 $ .23 $ (.05) $ .53
============ =============== ============= ===============
Diluted - pro forma $ .03 $ .21 $ (.12) $ .50
============ =============== ============= ===============
7
NOTE 3: EARNINGS PER SHARE
Basic earnings per share excludes dilution and is computed by dividing income
available to common shareholders by the weighted-average number of shares of
common stock, par value $.01 ("Common Stock"), outstanding for the period.
Diluted earnings per share reflects the potential dilution that could occur if
securities or other contracts to issue Common Stock were exercised or converted
into Common Stock or resulted in the issuance of Common Stock that then shared
in the earnings of the Company.
COMPUTATION OF EARNINGS (LOSS) PER SHARE
(unaudited)
- -----------------------------------------------------------------------------------------------------------------------------
(in thousands, except for share and Thirteen Weeks Ended Thirty-nine Weeks Ended
---------------------------------------------------------
per share amounts) October 31, November 2, October 31, November 2,
2004 2003 2004 2003
- -----------------------------------------------------------------------------------------------------------------------------
Basic earnings (loss) per share:
Net earnings (loss) $977 $4,214 ($889) $9,862
============ ============ ============ ============
Weighted average number of common shares outstanding
during period 18,246,095 17,673,313 18,149,320 17,659,362
============ ============ ============ ============
Basic earnings (loss) per share $0.05 $0.24 ($0.05) $0.56
============ ============ ============ ============
Diluted earnings (loss) per share:
Net earnings (loss) $977 $4,214 ($889) $9,862
============ ============ ============ ============
Weighted average number of common shares outstanding
during period 18,246,095 17,673,313 18,149,320 17,659,362
Stock options 168,580 440,456 - 450,581
Restricted stock and deferred stock units 209,216 446,102 - 398,718
------------ ------------ ------------ ------------
Weighted average number of common shares outstanding
during period adjusted for dilutive securities 18,623,891 18,559,871 18,149,320 18,508,661
============ ============ ============ ============
Diluted earnings (loss) per share $0.05 $0.23 ($0.05) $0.53
============ ============ ============ ============
Weighted average common stock equivalents not included in EPS
(stock options) because the effect would be anti-dilutive 1,679,477 421,658 1,605,068 431,795
============ ============ ============ ============
8
NOTE 4: RESERVE FOR STORE CLOSINGS
Reserves for store closings are established based on estimates of net lease
obligations and other store closing costs.
At October 31, 2004, the total reserve balance included in current and
noncurrent liabilities was $1,146,000 which represents the present value of the
future net lease obligations for the locations which have been closed. The 2004
activity in the reserve is as follows (in thousands):
Addition to
February 1, (Reduction in) October 31,
2004 Reserve Interest Payments 2004
---------------- ------------------- --------------- ---------------- ---------------
2004
Lease obligations $ 1,561 $ - $ 77 $ (492) $ 1,146
================ =================== =============== ================ ===============
NOTE 5: RETIREMENT BENEFITS
On December 9, 2003, the Medicare Prescription Drug, Improvement and
Modernization Act of 2003 (the "Act") was signed into law. The Act introduces a
prescription drug benefit under Medicare, as well as a federal subsidy to
sponsors of retiree health benefit plans that provide prescription drug benefits
that are at least actuarially equivalent to Medicare's prescription drug
benefits. During the third quarter of 2004, Hancock adopted FASB Staff Position
No. 106-2, Accounting and Disclosure Requirements Related to the Medicare
Prescription Drug, Improvement and Modernization Act of 2003, and determined
that the Company's prescription drug coverage for retirees is at least
actuarially equivalent to the Medicare coverage provided under the Act. The
Company elected to adopt the provisions of FSP No. 106-2 prospectively. The
reduction in Hancock's accumulated postretirement benefit obligation related to
the subsidy is $3.3 million and the Company recognized a reduction in net
periodic postretirement benefit cost of approximately $150 thousand for the
third quarter and the nine months ended October 31, 2004.
The following summarizes the net periodic benefit cost for Hancock's defined
benefit pension retirement plan and its postretirement health care benefit plan
for the thirty-nine weeks ended October 31, 2004 and November 2, 2003:
Retirement Plan Postretirement Benefit Plan
(Dollars in thousands) 2004 2003 2004 2003
- --------------------------------------------------------------------------------------------------------------
Service costs $ 2,136 $ 1,859 $ 457 $ 420
Interest cost 2,912 2,757 701 699
Expected return on assets (4,069) (3,482)
Amortization of prior service costs 50 60 (186) (189)
Recognized net actuarial (gain) loss 646 975 (247) (270)
- --------------------------------------------------------------------------------------------------------------
Net periodic benefit cost $ 1,675 $ 2,169 $ 725 $ 660
- --------------------------------------------------------------------------------------------------------------
Hancock's minimum required contribution for 2004 under its retirement plan is
$0, while the maximum amount that may be contributed and deducted for income tax
purposes is $4,335,000. Hancock does not expect to make a contribution in 2004.
9
NOTE 6: RECENT ACCOUNTING PRONOUNCEMENTS
In August 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.
In April 2004, the FASB issued FASB Staff Position (FSP) FAS 106-2, "Accounting
and Disclosure Requirements Related to the Medicare Prescription Drug,
Improvement and Modernization Act of 2003" (MMA). The FSP requires companies to
assess the effect of MMA on their retirement-related benefit costs and
obligations and reflect the effects in the financial statements, pursuant to
SFAS 106, "Employer's Accounting for Post-retirement Benefits Other Than
Pensions." In order to estimate the impact of the MMA, companies must first
determine if the benefits provided under its plan are actuarially equivalent to
the benefits provided under Part D of the MMA. If a company is unable to
determine actuarial equivalency, due to the lack of authoritative guidance, the
company is required to disclose the existence of the Act and the absence of any
impact on the accumulated post-retirement benefit obligation and net periodic
post-retirement benefit cost. Once actuarial equivalency is determined, the
effect of the FSP is reflected either prospectively or retroactively and the
impact is disclosed. As disclosed in Note 5, the Company prospectively adopted
FAS 106-2 during the third quarter of 2004.
10
ITEM 2: MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
FINANCIAL CONDITION
Historically, cash flow from operations has been sufficient to finance the
expansion and operation of Hancock's business. Hancock's principal capital
requirements are for the financing of inventories and to a lesser extent for
capital expenditures relating to store locations and its distribution facility.
Funds for such purposes are generated from Hancock's operations and, if
necessary, supplemented by borrowings from commercial lenders. In addition to
cash dividends, Hancock has historically used excess cash and, if necessary,
borrowings from commercial lenders to purchase treasury stock as market and
financial conditions allow.
For the first nine months of the year, inventory increased $8.9 million,
partially offset by a $3.5 million increase in accounts payable, as the Company
seasonally prepared for its busiest quarter and purchased merchandise for next
spring early this year to avoid distribution bottlenecks. Property and equipment
also increased $13.9 million due to capital expenditures in excess of $19
million related, primarily, to the new Baldwyn distribution center and corporate
offices, as well as the continuing installation of point-of-sale equipment in
our stores. Depreciation expense totaling $5.4 million partially offset the
increase in property and equipment. Income taxes payable of $7.3 million swung
to a refundable of $2.3 million during the thirty-nine week period due to a
reduction of net income and the timing of the payment of 2003 income taxes.
During the thirty-nine weeks ended October 31, 2004, borrowings of $34.0 million
and proceeds from stock option exercises totaling $1.7 million were used to fund
the aforementioned capital expenditures and increase in inventory, $6.8 million
in cash dividends paid and $1.9 million of treasury stock purchases. At October
31, 2004, Hancock had outstanding debt of $44 million, or 25.7% of total
capitalization, compared to $23 million, or 7.1% of total capitalization at
February 2, 2004. Hancock opened 21 stores and closed 21 stores during the
thirty-nine weeks ended October 31, 2004, resulting in a total of 433 stores at
quarter end. We expect to open 10 to 15 stores and close 5 to 10 stores in the
fourth quarter and plan to have 5 to 10 net additions for the year.
RESULTS OF OPERATIONS
Thirteen weeks ended October 31, 2004 compared with thirteen weeks ended
November 2, 2003
Net earnings were $1.0 million, or $.05 per diluted share, compared with $4.2
million, or $.23 per diluted share, in the same period of 2003. Operations were
adversely affected by a decline in both sales and gross margin, including an
increase in the Producer Price Index that resulted in a LIFO charge of $750
thousand in the third quarter of 2004 compared to a $300 thousand credit in the
same period of 2003.
Sales decreased to $109.9 million from $112.7 million in the same period of the
previous year as the result of a 2.6% decline in sales of stores which were open
more than one full year ("comparable store sales"). Comparable store sales were
adversely affected by sluggish consumer behavior, particularly in the home
decorating area. In addition, four hurricanes in our southeastern and Atlantic
coast markets hurt sales in September. Approximately three-fourths of the sales
decline was due to a lower average ticket, with the remainder being due to a
reduction in customer traffic. Store selling square footage increased from
5,060,000 at the end of last year's third quarter to 5,111,000 this year due to
new stores being larger in size than the stores that were closed and the net
addition of one store.
11
Gross margins declined from 51.0% to 47.9% due largely to promotional efforts to
improve the slowing sales, more aggressive markdowns to clear inventory before
the end of the season and the impact of the current year LIFO charge versus the
prior year LIFO credit.
Selling, general and administrative expenses as a percentage of sales were 44.4%
compared to 43.5% in the third quarter of 2003. The deleveraging impact on the
expense ratio that results from negative comparable store sales drove the
percentage increase as expense dollars were actually down $176 thousand.
Depreciation and amortization increased to 1.8% of sales from 1.4% due primarily
to capital expenditures related to the new distribution center and the continued
roll-out of point-of-sale ("POS") systems to our stores. At quarter end, POS had
been installed in 374 stores, and the Company is on track to complete the
roll-out in the remaining stores by fiscal year end.
Interest expense increased $146 thousand versus the prior year as a result of an
increase in the average debt outstanding during the quarter incurred in
connection with funding construction of the new distribution center and
corporate offices.
Income tax expense decreased $1.8 million due to the reduction in pretax
earnings from the same period in 2003. Hancock's effective tax rate was 36.3% in
both years.
Thirty-nine weeks ended October 31, 2004 compared with Thirty-nine weeks ended
November 2, 2003
A net loss of $889 thousand, or ($.05) per diluted share, was recognized in the
first three quarters of the year, compared with income of $9.8 million, or $.53
per diluted share, in the same period of 2003.
Sales decreased to $304.8 million from $316.4 million in the same period of the
previous year primarily as the result of a 4.0% decline in comparable store
sales. Sales were adversely affected by a weaker offering of spring merchandise,
together with a delay in the first quarter in delivering the spring assortments
to our stores on a timely basis as the result of relocating our distribution
center to a new facility. In addition, there was a loss of sales in the second
quarter from product changeovers that were phased out prior to the replacement
lines becoming available.
Gross margins declined from 51.2% to 48.7% due largely to promotional efforts to
improve the slowing sales, more aggressive markdowns to clear inventory before
the end of the season and the impact of a current year LIFO charge of $550
thousand versus a prior year credit of $500 thousand.
Selling, general and administrative expenses as a percentage of sales were 47.2%
compared to 44.7% in the same period of 2003. The deleveraging impact on the
expense ratio that results from negative comparable store sales was the primary
factor affecting the comparison. Also, the Company incurred some additional
costs in the first quarter in connection with the transition to the new
distribution facility.
Depreciation and amortization increased to 1.8% of sales from 1.5% due primarily
to capital expenditures related to the new distribution center and the continued
roll-out of the POS systems to our stores.
Interest expense increased due to higher average outstanding debt levels
incurred in connection with funding construction of the new distribution center
and corporate offices.
Income tax expense decreased $6.1 million due to the reduction in pretax
earnings from the same period in 2003. Hancock's effective tax rate was 36.3% in
both years.
12
CRITICAL ACCOUNTING POLICIES AND ESTIMATES
The preparation of financial statements in conformity with accounting principles
generally accepted in the United States of America requires management to make
estimates and assumptions that affect the recorded amount of assets and
liabilities at the date of the financial statements and revenues and expenses
during the period. Significant accounting policies employed by Hancock,
including the use of estimates and assumptions, are presented in the Notes to
Consolidated Financial Statements contained in the Company's Annual Report on
Form 10-K. Management bases its estimates on its historical experience, together
with other relevant factors, in order to form the basis for making judgments,
which will affect the carrying values of assets and liabilities. On an ongoing
basis, management evaluates its estimates and makes changes to carrying values
as deemed necessary.
OFF-BALANCE SHEET ARRANGEMENTS
Hancock has no off-balance sheet financing arrangements.
CONTRACTUAL OBLIGATIONS AND COMMERCIAL COMMITMENTS
Hancock has an arrangement that provides up to $5 million in letters of credit.
At October 31, 2004, Hancock had commitments under this arrangement of $2.1
million on issued letters of credit which support purchase orders for
merchandise to be imported. Hancock also has a $5.5 million standby letter of
credit to guarantee payment of potential future workers' compensation claims.
Hancock leases its retail fabric store locations under operating leases expiring
at various dates through 2024.
Hancock has no standby repurchase obligations or guarantees of other entities'
debt.
EFFECTS OF INFLATION
The impact of inflation on labor and occupancy costs can significantly affect
Hancock's operations. Many of Hancock's employees are paid hourly rates related
to Federal and State minimum wage requirements; accordingly, any increases will
affect Hancock. In addition, payroll taxes, employee benefits and other employee
costs continue to increase. Health insurance and workers' compensation insurance
costs, in particular, continue to rise at an unsettling rate in the United
States each year, and higher employer contributions to Hancock's pension plan
have been necessary recently in light of weaker investment returns. Costs of
leases for new store locations remain stable, but renewal costs of older leases
continue to increase. 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. During the first nine months of 2004, an increase in
the Producer Price Index resulted in a LIFO charge of $550,000. During the same
period of 2003, the company recorded a LIFO credit of $500,000.
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
13
and reflect the Company's current views regarding matters such as operations and
financial performance. In general, forward-looking statements are identified by
such words or phrases as "anticipates", "believes", "approximates", "estimates",
"expects", "intends" or "plans" or the negative of those words or other
terminology. Forward-looking statements involve inherent risks and
uncertainties; the Company's actual results could differ materially from those
expressed in our forward-looking statements. The risks and uncertainties that
could cause our actual results to differ from those expressed in our
forward-looking statements include, but are not limited to:
o Changes in customer demand or purchase patterns
o Competitive changes, including but not limited to, an increase in
advertising, an increase in promotional pricing activity and
liquidations of inventory in Hancock's markets in connection with a
competitor's store closing or need to dispose of old inventory
o Adverse general economic trends
o Delays or interruptions in the flow of merchandise between Hancock's
suppliers and/or its distribution center and its stores
o Disruption in the Company's data processing services
o The stability of interest rates during periods of borrowing
Forward-looking statements speak only as of the date made, and neither Hancock
nor its management undertakes any obligation to update or revise any
forward-looking statement.
ITEM 3: QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISKS
Hancock does not hold derivative financial or commodity instruments at October
31, 2004. Hancock is exposed to financial market risks, including changes in
interest rates. All borrowings under Hancock's Revolving Credit Agreement bear
interest at a negotiated rate, a floating rate (the higher of the federal funds
rate plus 1/2% or the prime rate), a rate derived from the money market rate, or
a rate derived from the London Interbank Offered Rate. An increase in interest
rates of 100 basis points would not significantly affect Hancock's results. All
of Hancock's business is transacted in U. S. dollars and, accordingly, foreign
exchange rate fluctuations have never had a significant impact on Hancock, and
they are not expected to in the foreseeable future.
ITEM 4: CONTROLS AND PROCEDURES
Evaluation of Disclosure Controls and Procedures
Hancock carried out an evaluation of the effectiveness of its disclosure
controls and procedures (as defined in Rule 13a-15(e) under the Securities
Exchange Act of 1934) as of the end of the period covered by this report under
the supervision and with the participation of its management, including its
chief executive officer and chief financial officer. Based on that evaluation,
Hancock's chief executive officer and chief financial officer have concluded
that its disclosure controls and procedures are effective to ensure that
material information relating to Hancock, including its consolidated
subsidiaries, is made known to them by others within such entities, particularly
during the period in which this report was prepared, in order to allow timely
decisions regarding required disclosure.
Change in Internal Control Over Financial Reporting
There was no change in Hancock's internal control over financial reporting (as
defined in Rule 13a-15(f) under the Securities Exchange Act of 1934) that
occurred during its most recent fiscal quarter that has materially affected, or
is reasonably likely to materially affect, its internal control over financial
reporting.
14
PART II. OTHER INFORMATION:
ITEM 2: UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS
This table provides information with respect to purchases by the Company of
shares of its Common Stock during the third quarter of 2004:
Issuer Purchases of Equity Securities
- ------------------------------------------------------------------------------------------------------------------------
Total Number of Maximum
Shares Purchased as Number of Shares That
Total number of (1) Average Price Part of Publicly May Yet Be Purchased
Period Shares Purchased Paid Per Share Announced Plans (2) Under the Plans
- ------------------------------------------------------------------------------------------------------------------------
August 2, 2004 through
September 5, 2004 24 $11.17 24 253,813
- ----------------------------------------------------------------------------------------------------------------------
September 6, 2004 through
October 3, 2004 - - - 253,813
- ----------------------------------------------------------------------------------------------------------------------
October 4, 2004 through
October 31, 2004 1,724 $10.29 1,724 252,089
- ----------------------------------------------------------------------------------------------------------------------
Total 1,748 $10.30 1,748
- ------------------------------------------------------------------------------------------------------------------------
(1)The number of shares purchased during the third quarter includes 1,724
shares deemed surrendered to the Company to satisfy tax withholding
obligations arising from the lapse of restrictions on shares.
(2)In June of 2000 the Board of Directors authorized the repurchase of up
to 2,000,000 shares of the Company's Common Stock from time to time when
warranted by market conditions. There have been 1,747,911 shares purchased
under this authorization through October 31, 2004.
ITEM 6: EXHIBITS
31.1 Certification of Chief Executive Officer
31.2 Certification of Chief Financial Officer
32 Certification of Chief Executive Officer and Chief Financial
Officer Pursuant to 18 U.S.C. Section 1350
15
SIGNATURE
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
HANCOCK FABRICS, INC.
(Registrant)
By: /s/ Bruce D. Smith
-----------------------
Bruce D. Smith
Senior Vice President and
Chief Financial Officer
(Principal Financial and
Accounting Officer)
December 9, 2004
16
Exhibit 31.1
Certification of Chief Executive Officer
I, Larry G. Kirk, certify that:
1. I have reviewed this quarterly report on Form 10-Q of Hancock Fabrics,
Inc.;
2. Based on my knowledge, this report does not contain any untrue statement
of a material fact or omit to state a material fact necessary to make the
statements made, in light of the circumstances under which such
statements were made, not misleading with respect to the period covered
by this report;
3. Based on my knowledge, the financial statements, and other financial
information included in this report, fairly present in all material
respects the financial condition, results of operations and cash flows of
the registrant as of, and for, the periods presented in this report;
4. The registrant's other certifying officer and I are responsible for
establishing and maintaining disclosure controls and procedures (as
defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) for the registrant
and we have:
a) designed such disclosure controls and procedures, or caused such
disclosure controls and procedures to be designed under our
supervision, to ensure that material information relating to the
registrant, including its consolidated subsidiaries, is made known
to us by others within those entities, particularly during the
period in which this report is being prepared;
b) evaluated the effectiveness of the registrant's disclosure
controls and procedures and presented in this report our
conclusions about the effectiveness of the disclosure controls and
procedures, as of the end of the period covered by this report
based on such evaluation; and
c) disclosed in this report any change in the registrant's internal
control over financial reporting that occurred during the
registrant's most recent fiscal quarter that has materially
affected, or is reasonably likely to affect, the registrant's
internal control over financial reporting; and
5. The registrant's other certifying officer and I have disclosed, based on
our most recent evaluation of internal control over financial reporting,
to the registrant's auditors and the audit committee of registrant's
board of directors:
a) all significant deficiencies and material weaknesses in the design
or operation of internal control over financial reporting which
are reasonably likely to adversely affect the registrant's ability
to record, process, summarize and report financial information;
and
b) any fraud, whether or not material, that involves management or
other employees who have a significant role in the registrant's
internal control over financial reporting.
Date: December 9, 2004
/s/ Larry G. Kirk
- -----------------------
Larry G. Kirk
Chairman of the Board and Chief Executive Officer
17
Exhibit 31.2
Certification of Chief Financial Officer
I, Bruce D. Smith, certify that:
1. I have reviewed this quarterly report on Form 10-Q of Hancock Fabrics,
Inc.;
2. Based on my knowledge, this report does not contain any untrue statement
of a material fact or omit to state a material fact necessary to make the
statements made, in light of the circumstances under which such
statements were made, not misleading with respect to the period covered
by this report;
3. Based on my knowledge, the financial statements, and other financial
information included in this report, fairly present in all material
respects the financial condition, results of operations and cash flows of
the registrant as of, and for, the periods presented in this report;
4. The registrant's other certifying officer and I are responsible for
establishing and maintaining disclosure controls and procedures (as
defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) for the registrant
and we have:
a) designed such disclosure controls and procedures, or caused such
disclosure controls and procedures to be designed under our
supervision, to ensure that material information relating to the
registrant, including its consolidated subsidiaries, is made known
to us by others within those entities, particularly during the
period in which this report is being prepared;
b) evaluated the effectiveness of the registrant's disclosure
controls and procedures and presented in this report our
conclusions about the effectiveness of the disclosure controls and
procedures, as of the end of the period covered by this report
based on such evaluation; and
c) disclosed in this report any change in the registrant's internal
control over financial reporting that occurred during the
registrant's most recent fiscal quarter that has materially
affected, or is reasonably likely to affect, the registrant's
internal control over financial reporting; and
5. The registrant's other certifying officer and I have disclosed, based on
our most recent evaluation of internal control over financial reporting,
to the registrant's auditors and the audit committee of registrant's
board of directors:
a) all significant deficiencies and material weaknesses in the design
or operation of internal control over financial reporting which
are reasonably likely to adversely affect the registrant's ability
to record, process, summarize and report financial information;
and
b) any fraud, whether or not material, that involves management or
other employees who have a significant role in the registrant's
internal control over financial reporting.
Date: December 9, 2004
/s/ Bruce D. Smith
- --------------------------
Bruce D. Smith
Senior Vice President and
Chief Financial Officer
18
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 quarterly report on Form 10-Q of Hancock
Fabrics, Inc. ("Hancock") for the quarter ended October 31, 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 quarterly report fairly
presents, in all material respects, the financial condition and results of
operations of Hancock.
Date: December 9, 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
19