As filed with the Securities and Exchange Commission on February 22, 2010

No. 333-164902

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 

 

AMENDMENT NO. 1

TO

FORM S-1

REGISTRATION STATEMENT UNDER

THE SECURITIES ACT OF 1933

 

 

rue21, inc.

(Exact name of registrant as specified in its charter)

 

 

800 Commonwealth Drive

Suite 100

Warrendale, Pennsylvania 15086

(724) 776-9780

(Address, including zip code, and telephone number, including area code, of registrant’s principal executive offices)

 

 

Robert N. Fisch

President and Chief Executive Officer

rue21, inc.

800 Commonwealth Drive

Suite 100

Warrendale, Pennsylvania 15086

(724) 776-9780

(Name, address, including zip code, and telephone number, including area code, of agent for service)

 

 

Copies of all communications, including communications sent to agent for service, should be sent to:

 

 

Approximate date of commencement of proposed sale to the public: As soon as practicable after this Registration Statement becomes effective.

 

 

If any of the securities being registered on this Form are to be offered on a delayed or continuous basis pursuant to Rule 415 under the Securities Act, check the following box: o

 

If this Form is filed to register additional securities for an offering pursuant to Rule 462(b) under the Securities Act, please check the following box and list the Securities Act registration statement number of the earlier effective registration statement for the same offering. o

 

If this Form is a post-effective amendment filed pursuant to Rule 462(c) under the Securities Act, check the following box and list the Securities act registration statement number of the earlier effective registration statement for the same offering. o

 

If this Form is a post-effective amendment filed pursuant to Rule 462(d) under the Securities Act, check the following box and list the Securities Act registration statement number of the earlier effective registration statement for the same offering. o

 

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act (Check one):

 

                                       (Do not check if a smaller reporting company)

 

The Registrant hereby amends this Registration Statement on such date or dates as may be necessary to delay its effective date until the Registrant shall file a further amendment which specifically states that this Registration Statement shall thereafter become effective in accordance with Section 8(a) of the Securities Act of 1933 or until this Registration Statement shall become effective on such date as the Commission, acting pursuant to said Section 8(a), may determine.

 

 

Subject to Completion, Dated February 22, 2010

 

5,053,877 Shares

 

rue21, inc.

 

Common Stock

 

 

 

 

The selling stockholders identified in this prospectus, which include certain members of our management, are offering all of the shares offered hereby and will receive all of the proceeds from the offering. We will not receive any proceeds from the offering. See “Principal and Selling Stockholders.”

 

Our common stock is listed on The NASDAQ Global Select Market under the symbol “rue.” On February 19, 2010 the closing price of our common stock as reported on The NASDAQ Global Select Market was $27.44.

 

 

 

 

See “Risk Factors” beginning on page 9 to read about factors you should consider before buying shares of our common stock.

 

 

 

 

Neither the Securities and Exchange Commission nor any state securities commission has approved or disapproved of these securities or passed upon the adequacy or accuracy of this prospectus. Any representation to the contrary is a criminal offense.

 

 

 

 

 

To the extent that the underwriters sell more than 5,053,877 shares of common stock, the underwriters have the option to purchase up to an additional 758,081 shares of common stock from certain of the selling stockholders at the public offering price less the underwriting discount.

 

 

 

 

The underwriters expect to deliver the shares against payment in New York, New York on March   , 2010.

 

 

Prospectus dated          , 2010.

TABLE OF CONTENTS

 

 

 

You should rely only on the information contained in this prospectus or in any free-writing prospectus we may specifically authorize to be delivered or made available to you. We have not, the selling stockholders have not, and the underwriters have not authorized anyone to provide you with additional or different information. The selling stockholders are offering to sell, and seeking offers to buy, shares of our common stock only in jurisdictions where such offers and sales are permitted. The information in this prospectus or a free-writing prospectus is accurate only as of its date, regardless of its time of delivery or of any sale of shares of our common stock. Our business, financial condition, results of operations and prospects may have changed since that date.

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PROSPECTUS SUMMARY

	•	Diversified Product — girls, guys, rue21 etc!  We offer a broad range of girls and guys apparel, accessories, footwear, jewelry and fragrances. Over the last few years, we have expanded and developed a number of product categories to complement our extensive apparel offerings, including rue21 etc!, our girls jewelry and accessories category; tarea by rue21, our intimate apparel category; Carbon, our guys apparel and accessories category; rueKicks, one of our footwear lines; and a full line of fragrances for both girls and guys.
	•	Flexible Real Estate — strip centers, regional malls, outlet centers.  As of January 30, 2010, approximately 52% of our stores were located in strip centers, 27% in regional malls and 21% in outlet centers. Our stores are located primarily in small- and middle-market communities that we believe have been underserved by traditional specialty apparel retailers. As a result, we are often the only junior and young men’s specialty apparel retailer in such communities. In these markets, our limited competition comes from large value retailers and department stores.
	•	Balanced Growth — new stores, store conversions, comparable store sales.  We drive sales growth through opening new stores, converting existing stores into our new, larger rue21 etc! layout and increasing our comparable store sales. In fiscal year 2009, we opened 88 new stores and converted 26 stores to a larger layout that includes a separate rue21 etc! store-in-store. In fiscal year 2010, we plan to open 100 new stores and convert 30 stores to a larger layout that includes a separate rue21 etc!

		store-in-store. We believe our merchandising initiatives and new category introductions will further enhance our comparable store sales growth.

	•	Compelling “fashion meets value” proposition.  We offer the newest fashion for girls and guys at prices lower than many other similar apparel retailers. Our broad product assortment, ranging from apparel to accessories to footwear, enables our customers to create a complete look. In addition, we provide our customers with a distinctive shopping experience in a fun-to-shop environment, further enhancing our branded value proposition.
	•	Flexible, fast-fashion business model.  Our merchandising model allows us to quickly identify and respond to trends and bring proven concepts and styles to our stores. Our sourcing model is designed to achieve lower cost, faster turnaround and lower inventory levels. Our vendor network consists of domestic importers and domestic suppliers. Our collaborative relationship with our vendors allows us to test small quantities of new products in select stores before broadly distributing them to our stores which, in turn, reduces markdown risk. By carrying the newest styles and regularly updating our floor sets, we provide our customers with a reason to frequently shop our stores.
	•	Presence in locations with limited direct competition.  We focus on small- and middle-market communities, which we define as communities with populations between 25,000 and 200,000 people, where household incomes do not typically support higher-priced retailers. As a result, we often are the only junior and young men’s specialty apparel retailer in a shopping center and face limited direct competition in these communities.
	•	Attractive new store economics.  We operate a proven and efficient store model that delivers strong cash flow. Not only do our stores provide a distinctive shopping experience and compelling merchandise assortment, but with low store build-out costs, competitive lease terms and a low-cost operating model, our stores also generate a strong return on investment. All of our new stores feature our rue21 etc! store-in-store layout, showcasing an expanded accessories offering. Our new stores average approximately 4,700 square feet, which is larger than our historical store layout, and pay back our investment in less than one year.
	•	Distinct company and customer culture.  We have a strong core culture that emanates from our employees, many of whom are high school and college students who live in the community and are rue21 customers. Through our viral marketing efforts and the support of our online rueCommunity, we bring the rue21 culture to our customer base. We believe our culture enables us to connect to our employees and customers, differentiate our in-store shopping experience and ultimately strengthen our brand image and drive customer loyalty.
	•	Strong and experienced management team.  Our senior management team has extensive experience across a broad range of disciplines in the specialty retail industry, including merchandising, real estate, supply chain and finance. Bob Fisch, our President and Chief Executive Officer, has more than 30 years of experience in the apparel industry. Upon completion of this offering, our executive officers will own

		8.8% of our common stock and will own options that will enable them to own, in the aggregate, up to 11.5% of our common stock.

	•	Increase Square Footage.  We intend to drive our square footage growth by opening new stores and converting existing stores to our larger rue21 etc! layout. We believe there is a significant opportunity to expand our store base from 535 locations as of January 30, 2010 to more than 1,000 stores within five years. In fiscal year 2009, we opened 88 new stores and converted 26 stores. In fiscal year 2010, we plan to open 100 new stores and convert 30 stores.
	•	Drive Comparable Store Sales.  We seek to maximize our comparable store sales by increasing the penetration of our diversified product categories, increasing our rue21 brand awareness, continuing to provide our distinctive store experience and converting existing stores to our larger rue21 etc! layout. We believe that our fashionable merchandise selections and affordable prices create shopping excitement for our customers, increase our brand loyalty and drive sales.
	•	Improve Profit Margins.  We believe we have the opportunity to drive margin expansion through scale efficiencies, continued cost discipline and changes in merchandise mix. We believe our expected strong store growth will permit us to take advantage of economies of scale in sourcing and to leverage our existing infrastructure, corporate overhead and fixed costs. We believe the expansion of our higher margin categories, such as accessories and footwear, will increase our overall margins over time.

	•	we may not be able to effectively identify and respond to changing fashion trends and customer preferences in a timely manner or at all;
	•	we may not be able to execute on our growth strategy because we are unable to identify suitable locations to open new stores or convert existing stores into our rue21 etc! layout, obtain favorable lease terms, attract customers to our stores, hire and retain personnel and maintain sufficient levels of cash flow and any necessary financing to support our expansion;
	•	we may not be able to effectively manage our operations, which have grown rapidly, or our future growth;
	•	we may not be able to maintain and enhance our brand image, which could adversely affect our business;

	•	we may not be able to maintain or improve levels of comparable store sales;
	•	we may lose key personnel, which could adversely impact our business;
	•	we may face increased competition, which could adversely affect our business; and
	•	we rely on key relationships with numerous vendors and we may not be able to maintain or add to these relationships by identifying vendors that appeal to our customer base or obtain sufficient inventory from these vendors to support our growth.

Common stock offered by the selling stockholders		5,053,877 shares

Common stock to be outstanding immediately after this offering		24,241,462 shares

Use of proceeds		The selling stockholders will receive all of the proceeds from this offering and we will not receive any proceeds from the sale of shares in this offering. The selling stockholders include members of our management. Funds advised by Apax Partners are our principal stockholders and are a selling stockholder in this offering. See “Principal and Selling Stockholders.”

Principal stockholders		Upon completion of this offering, funds advised by Apax Partners, L.P. will own 37.1% of our common stock.

Dividend policy		We have not declared or paid any dividends on our common stock. We currently expect to retain future earnings, if any, for use in the operation and expansion of our business and do not anticipate paying any cash dividends in the foreseeable future. Our ability to pay dividends on our common stock is limited by the covenants of our senior secured credit facility and may be further restricted by the terms of any of our future debt or preferred securities. See “Dividend Policy.”
Risk factors		Investing in our common stock involves a high degree of risk. See “Risk Factors” beginning on page 9 of this prospectus for a discussion of factors you should carefully consider before deciding to invest in our common stock.
Symbol for trading on The NASDAQ Global Select Market		“rue.”

	•	excludes 3,585,000 shares of common stock reserved for future grants under our equity compensation plan; and

	•	assumes no exercise by the underwriters of their option to purchase up to an additional 758,081 shares from certain of the selling stockholders to cover their option to purchase additional shares.

		Fiscal Year Ended												Thirty-Nine Weeks Ended
		February 3,				February 2,				January 31,				November 1,				October 31,
		2007				2008				2009				2008				2009
														(unaudited)
		(in thousands, except per share and operating data)
Statement of Income Data:
Net sales		$	225,559			$	296,887			$	391,414			$	272,302			$	370,214
Cost of goods sold(1)			150,163				195,034				257,853				177,219				237,733
Gross profit			75,396				101,853				133,561				95,083				132,481
Selling, general and administrative expense			57,575				76,039				99,886				72,350				96,217
Depreciation and amortization expense			5,926				8,241				11,532				8,245				12,194
Income from operations			11,895				17,573				22,143				14,488				24,070
Interest expense, net			2,645				2,520				1,477				1,258				433
Provision for income taxes			1,452				5,920				8,027				5,185				9,342
Net income		$	7,798			$	9,133			$	12,639			$	8,045			$	14,295
Net income per common share
Basic		$	0.39			$	0.42			$	0.58			$	0.37			$	0.65
Diluted		$	0.36			$	0.40			$	0.55			$	0.35			$	0.63
Weighted average shares outstanding
Basic			19,782				21,705				21,914				21,894				22,111
Diluted			21,888				22,842				22,814				22,823				22,828

		Fiscal Year Ended												Thirty-Nine Weeks Ended
		February 3,				February 2,				January 31,				November 1,				October 31,
		2007				2008				2009				2008				2009
Operating Data (unaudited)
Sales per gross square foot		$	234			$	236			$	235			$	174			$	177
Comparable store sales change(2)			(4.7	)%			7.8	%			3.7	%			0.8	%			7.4	%
Number of stores open at end of period			278				352				449				433				534
Total gross square feet at end of period (in thousands)			1,095				1,448				1,949				1,869				2,364
Store conversions during period			18				20				21				19				25
Capital expenditures (in thousands)		$	16,586			$	20,265			$	26,464			$	16,398			$	26,499

		January 31,				October 31, 2009
		2009				Actual				Pro Forma(3)(4)
						(unaudited)
		(in thousands)
Balance Sheet Data:
Cash and cash equivalents		$	4,611			$	5,330			$	5,330
Working capital			798				8,004				11,564
Total assets			141,200				179,748				183,308
Total long-term debt			19,476				21,176				—
Stockholders’ equity		$	18,393			$	32,890			$	57,626

(1)		Includes certain buying, freight, distribution facility and store occupancy expenses.
(2)		Comparable store sales in fiscal years 2006 and 2007 are adjusted for the 53rd week in fiscal year 2006.

(3)		Reflects the balance sheet data as further adjusted for (a) our receipt of the net proceeds from the sale of shares of common stock by us at the initial public offering price of $19.00 per share after deducting estimated underwriting discounts and commissions and estimated offering expenses payable by us and (b) the repayment of outstanding indebtedness. See “Capitalization.”

(4)		Reflects 24,241,462 shares of common stock outstanding after completion of this offering.

 

This offering and an investment in our common stock involve a high degree of risk. You should consider carefully the risks described below, together with the financial and other information contained in this prospectus, before you decide to purchase shares of our common stock. If any of the following risks actually occurs, our business, financial condition, results of operations, cash flow and prospects could be materially and adversely affected. As a result, the trading price of our common stock could decline and you could lose all or part of your investment in our common stock.

 

Risks Related to Our Business

 

Our business is highly dependent upon our ability to identify and respond to new and changing fashion trends, customer preferences and other related factors.

 

Fashion trends and customer tastes are volatile and can change rapidly. Our success depends in large part upon our ability to effectively identify and respond to changing fashion trends and consumer demands, and to translate market trends into appropriate, saleable product offerings in a timely manner. A small number of our employees, including our divisional merchandise managers, our Senior Vice President and General Merchandise Manager and our President and Chief Executive Officer, are primarily responsible for performing this analysis and making related product purchase decisions. Failure of these employees to identify and react appropriately to new and changing trends or tastes or to accurately forecast demand for certain product offerings could lead to, among other things, excess inventories, markdowns and write-offs, which could materially adversely affect us and our brand image. Because our success depends significantly on our brand image, damage to our brand in particular would have a negative impact on us. There can be no assurance that our new product offerings will be met with the same level of acceptance as our past product offerings or that we will be able to adequately and timely respond to the preferences of our customers. The failure of any new product offerings could have a material adverse effect on our business plan, results of operations and financial condition.

 

Our growth strategy depends upon our ability to successfully open and operate a significant number of new stores each year in a timely and cost-effective manner without affecting the success of our existing store base.

 

Our net sales have grown appreciably during the past several years, primarily as a result of the opening of new stores. We intend to continue to pursue our growth strategy of opening new stores for the foreseeable future, and our future operating results will depend largely upon our ability to successfully open and operate a significant number of new stores each year in a timely and cost-effective manner, and to profitably manage a significantly larger business. We believe there is a significant opportunity to expand our store base from 535 locations as of January 30, 2010 to more than 1,000 stores within five years. In fiscal year 2010, we plan to open 100 new stores and convert 30 stores.

 

Our ability to successfully open and operate new stores depends on many factors including, among others, our ability to:

 

 

 

In addition, as the number of our stores increases, we may face risks associated with market saturation of our product offerings. To the extent our new store openings are in markets where we have existing stores, we may experience reduced net sales in existing stores in those markets. Finally, there can be no assurance that any newly opened stores will be received as well as, or achieve net sales or profitability levels comparable to those of, our existing stores in the time periods estimated by us, or at all. If our stores fail to achieve, or are unable to sustain, acceptable net sales and profitability levels, our business may be materially harmed and we may incur significant costs associated with closing those stores.

 

Our failure to effectively address challenges such as these could adversely affect our ability to successfully open and operate new stores in a timely and cost-effective manner, and could have a material adverse effect on our business, results of operations and financial condition. In addition, our current expansion plans are only estimates. The actual number of new stores we open each year and actual number of suitable locations for our new stores could differ significantly from these estimates. Any failure to successfully open and operate new stores in the time frames and at the costs estimated by us could have a material adverse effect on our business and result in a decline in the price of our common stock.

 

Our growth strategy will require us to expand and improve our operations and could strain our existing resources and cause the performance of our existing stores to suffer.

 

Our operating complexity will increase as our store base grows. Such increased complexity will require that we continue to expand and improve our operating capabilities, and grow, train and manage our employee base. We will need to continually evaluate the adequacy of our information and distribution systems and controls and procedures related to financial reporting. Implementing new systems, controls and procedures and any changes to existing systems, controls and procedures could present challenges we do not anticipate and could negatively impact us.

 

In addition, we may be unable to hire, train and retain a sufficient number of personnel or successfully manage our growth; moreover, our planned expansion will place increased demands on our existing operational, managerial, administrative and other resources. These increased demands could cause us to operate our business less effectively, which in turn could cause deterioration in the financial performance of our individual stores or our overall business.

 

Our rapid growth also makes it difficult for us to adequately predict the expenditures we will need to make in the future. This growth may also place increased burdens on our vendors, as we will likely increase the size of our merchandise orders. In addition, increased orders may negatively impact our approach of generally striving to minimize the time from purchase order to product delivery, and may increase our markdown risk. If we do not make the necessary capital or other expenditures necessary to accommodate our future growth, we may not be successful in our growth strategy. We cannot anticipate all of the demands that our expanding operations will impose on our business, personnel, systems and controls and procedures, and our failure to appropriately address such demands could have a material adverse effect on us.

Our business depends in part on a strong brand image, and if we are not able to maintain and enhance our brand, particularly in new markets where we have limited brand recognition, we may be unable to attract a sufficient number of customers to our stores or sell sufficient quantities of our products.

 

We believe that the brand image we have developed has contributed significantly to the success of our business. We also believe that maintaining and enhancing our brand image, particularly in new markets where we have limited brand recognition, is important to maintaining and expanding our customer base. Maintaining and enhancing our brand image may require us to make substantial investments in areas such as merchandising, marketing, store operations, community relations, store promotions and employee training, and these investments may not be successful. Moreover, we do not utilize some of the advertising and marketing media used by some of our competitors, including advertising through the use of newspapers, magazines, billboards, television and radio. We believe our customers rely on word-of-mouth and social media marketing. As a result, we employ a viral approach to marketing that is designed to capture the interest of our customers and drive them into our stores. For example, we offer promotions and contests through our website, we provide product knowledge, trend statements and fashion blogs through Facebook, MySpace, Twitter and YouTube and we send regular “e-blasts” to customers to highlight key trends, new products and promotional events.

 

Because we do not rely on traditional advertising channels, such as newspaper or television advertisements, if our viral marketing efforts are not successful, there may be no immediately available alternative marketing channel for us to build awareness of our products in a manner that we think will be successful. This may impair our ability to successfully integrate new stores into the surrounding communities, to expand into new markets or to maintain the strength or distinctiveness of our brand image in our existing markets. In addition, if our viral marketing efforts are unsuccessful or we are otherwise required to use traditional advertising channels in our overall marketing strategy, then we will incur additional expenses associated with the transition to and operation of traditional advertising channels. Failure to successfully market our products and brand in new and existing markets could harm our business, results of operations and financial condition.

 

As of January 30, 2010, our 535 stores are located in 516 cities in 43 states. A primary component of our strategy involves expanding into new geographic markets. As we expand into new geographic markets, we may be unable to develop, and consumers in these markets may not accept, our brand without significant additional expenditures or at all. Maintaining and enhancing our brand image will depend largely on our ability to offer a differentiated in-store experience to our customers and to continue to provide high quality products, which we may not continue to do successfully. In addition, our brand image may also be adversely affected if our public image or reputation is tarnished by negative publicity. The strength of our brand image is also dependent on our ability to successfully market our brand and product offerings to our customer demographic. To the extent the store and merchandise preferences of these customers change, the popularity of our brand may decline and our business may suffer.

 

Our inability to maintain or improve levels of comparable store sales could cause our stock price to decline.

 

We may not be able to maintain or improve the levels of comparable store sales that we have experienced in the recent past. Although we have sustained net sales growth since fiscal year 2005, our quarter-to-quarter comparable store sales have ranged from a decrease of 8.1% to an increase of 14.2%. We have recently experienced strong comparable store sales, which we may not be able to sustain. If our future comparable store sales decline or fail to meet market expectations, the price of our common stock could decline. In addition, the aggregate results of operations of our stores have fluctuated in the past and will fluctuate in the future. A variety of factors affect comparable store sales, including fashion trends, competition, current national and regional economic conditions, pricing, inflation, the timing of the release of new merchandise and promotional events, changes in our merchandise mix, inventory shrinkage, the success of our multi-channel marketing programs, the timing and level of markdowns and weather conditions. In addition, many retailers have been unable to sustain high levels of comparable store sales growth during and after periods of substantial expansion. These factors may cause our comparable store sales results to be materially lower than in recent periods and our expectations, which could harm our business and result in a decline in the price of our common stock.

Our business is sensitive to global, national and regional consumer spending and economic conditions.

 

Consumer purchases of discretionary retail items and specialty retail products, including our products, may be affected by economic conditions such as employment levels, salary and wage levels, the availability of consumer credit, inflation, high interest rates, high tax rates, high fuel prices and consumer confidence in future economic conditions. These consumer purchases may decline during recessionary periods or at other times when disposable income is lower. These risks may be exacerbated for retailers such as us that focus on selling discretionary fashion merchandise. Consumer sentiment has recently declined and may decline further due to national and regional economic conditions, which has resulted in a general decrease in discretionary purchases. Our financial performance is particularly susceptible to economic and other conditions in regions or states where we have a significant number of stores, such as Texas or Georgia. Current economic conditions and further slowdown in the economy could further adversely affect strip center and regional mall traffic and new strip center and regional mall development and could materially adversely affect us and our growth plans.

 

Our plans to convert our existing stores and expand our product offerings may not be successful, and implementation of these plans may divert our operational, managerial and administrative resources, which could impact our competitive position.

 

In addition to our store growth strategy, we plan to convert many of our existing stores and grow our business by expanding some of our existing product categories, including our rue21 etc! girls jewelry and accessories category, our footwear category and our Carbon guys apparel and accessories category. These plans involve various risks discussed elsewhere in these risk factors, including:

 

 

In addition, our ability to successfully carry out our plans to expand our product offerings may be affected by, among other things, inventory shrinkage that can result from an inventory that consists of smaller and easily concealable items such as jewelry, economic and competitive conditions, changes in consumer spending patterns and changes in consumer preferences and style trends. Our expansion plans could be delayed or abandoned, could cost more than anticipated or could divert resources from other areas of our business, any one of which could negatively impact our competitive position and reduce our revenue and profitability.

 

We could face increased competition from other retailers that could adversely affect us and our growth strategy.

 

We face competition in the specialty retail industry. We compete on the basis of a combination of factors, including among others, price, breadth, quality and style of merchandise offered, in-store experience, level of customer service, ability to identify and respond to new and emerging fashion trends, brand image and scalability. We compete with a wide variety of large and small retailers for customers, vendors, suitable store locations and personnel. We face competition from major specialty apparel retailers that offer their own private label assortment, including Aéropostale, American Eagle Outfitters, Charlotte Russe, Forever 21, the Gap, J. Crew, Metropark, Old Navy and Wet Seal, as well as national off-price apparel chains such as TJX Companies, Burlington Coat Factory, and Ross Stores. We also face competition from department stores such as Dillard’s, and JC Penney, and large value retailers such as Walmart, Target and Kohl’s. We also compete against local off-price and specialty retail stores, regional retail chains, web-based retail stores and other direct retailers that

engage in the retail sale of junior and young men’s apparel, accessories, footwear and similar merchandise, which offer a variety of products, including apparel, for the value-conscious consumer. The competitive landscape we face, particularly among specialty retailers, is subject to rapid change which can affect customer preferences.

 

Many of our competitors have substantially greater name recognition as well as financial, marketing and other resources and therefore may be able to adapt to changes in customer preferences more quickly, devote greater resources to marketing and sale of their products, generate national brand recognition or adopt more aggressive pricing policies than we can. Many of our competitors also utilize advertising and marketing media which we do not, including advertising through use of newspapers, magazines, billboards, television and radio, which may provide them with greater brand recognition than we have.

 

Our competitors may also sell certain products or substantially similar products through the Internet or through outlet centers or discount stores, increasing the competitive pricing pressure for those products. We cannot assure you that we will continue to be able to compete successfully against existing or future competitors. Our expansion into markets served by our competitors and entry of new competitors or expansion of existing competitors into our markets could have a material adverse effect on us. Competitive forces and pressures may intensify as our presence in the retail marketplace grows.

 

We do not possess exclusive rights to many of the elements that comprise our in-store experience and product offerings. Some specialty retailers offer a personalized shopping experience that in some ways is similar to the one we strive to provide to our customers. Our competitors may seek to emulate facets of our business strategy and in-store experience, which could result in a reduction of any competitive advantage or special appeal that we might possess. In addition, some of our product offerings are sold to us on a non-exclusive basis. As a result, our current and future competitors may be able to duplicate or improve upon some or all of our in-store experience or product offerings that we believe are important in differentiating our stores and our customers’ shopping experience, especially those competitors with significantly greater financial, marketing and other resources than ours. If our competitors were to duplicate or improve upon some or all of our in-store experience or product offerings, our competitive position and our business could suffer.

 

We depend on key personnel and may not be able to retain or replace these individuals or recruit additional personnel, which could harm our business.

 

We believe that we have benefited substantially from the leadership and experience of our key personnel, including our President and Chief Executive Officer, Robert N. Fisch, and our Senior Vice President and General Merchandise Manager, Kim A. Reynolds. The loss of the services of any of our key personnel could have a material adverse effect on our business and prospects, as we may not be able to find suitable individuals to replace such personnel on a timely basis. In addition, any such departure could be viewed in a negative light by investors and analysts, which could cause our common stock price to decline. None of our employees are subject to non-compete obligations at the present time. In addition, except for our President and Chief Executive Officer and employees subject to stock option award agreements, our employees are not subject to non-solicitation obligations. Moreover, we do not have employment agreements with any of our employees and we do not maintain “key man” or “key woman” insurance policies on the lives of these individuals, except for our President and Chief Executive Officer. As a result, their employment may be terminated by us or them at any time. We do, however, anticipate entering into an employment agreement with certain members of senior management. As our business expands, our future success will depend greatly on our continued ability to attract and retain highly skilled and qualified personnel. There is a high level of competition for experienced, successful personnel in the retail industry. Our inability to meet our staffing requirements in the future could impair our growth and harm our business.

Our ability to attract customers to our stores that are located in strip centers, regional malls and outlet centers depends heavily on the success of the shopping centers in which our stores are located, and any decrease in customer traffic in these shopping centers could cause our net sales to be less than expected.

 

Our stores are located in strip centers, regional malls and outlet centers and our expansion is expected to be predominantly focused on strip centers and regional malls. Net sales at these stores are derived, to a significant degree, from the volume of traffic in those shopping centers and the surrounding area. Our stores benefit from the ability of shopping centers’ other tenants, particularly anchor stores such as Walmart, Target and Kohl’s, to generate consumer traffic in the vicinity of our stores and the continuing popularity of the strip centers, regional malls and outlet centers as shopping destinations. Our sales volume and traffic may be adversely affected by, among other things, economic downturns nationally or regionally, high fuel prices, increased competition, changes in consumer demographics, a decrease in popularity of shopping centers or of stores in the shopping centers in which our stores are located, the closing of anchor stores important to our business, or a deterioration in the financial condition of shopping center operators or developers which could, for example, limit their ability to finance tenant improvements for us and other retailers. A reduction in consumer traffic as a result of these or any other factors, or our inability to obtain or maintain prominent store locations within shopping centers, could have a material adverse effect on us. Although we do not have specific information in respect to the strip centers, regional malls and outlet centers in which we locate or plan to locate our stores, we believe strip center, regional mall and outlet center vacancy rates have been rising and traffic has been decreasing nationally.

 

We plan to use cash from operations to fund our expanding business and execute on our growth strategy and may require additional financing, which may not be available to us.

 

We have grown rapidly, with our net sales increasing from $146.9 million for fiscal year 2004 to $391.4 million for fiscal year 2008. During fiscal year 2008, capital expenditures, net of tenant allowances, were $17.6 million, of which $8.5 million was related to the 99 new stores we opened during fiscal year 2008. In addition, we spent approximately $2.4 million to convert our existing stores during fiscal year 2008. We plan to continue our growth and expansion, including opening a significant number of additional stores, as well as converting existing stores. Our plans to expand our store base may not be successful and the implementation of these plans may not result in expected increases in our net sales even though they increase our costs.

 

To support our expanding business and execute on our growth strategy, we will need significant amounts of cash from operations, including funds to pay our lease obligations, build out new store space, purchase inventory, pay personnel, further invest in our infrastructure and facilities, and pay for the increased costs associated with operating as a public company. In particular, payments under the operating leases associated with our stores and our distribution facility account for a significant portion of our operating expenses.

 

We primarily depend on cash flow from operations and our senior secured credit facility to fund our business and growth plans. If our business does not generate sufficient cash flow from operations to fund these activities, and sufficient funds are not otherwise available to us from our senior secured credit facility, we may need additional equity or debt financing. If such financing is not available to us on satisfactory terms, our ability to run and expand our business or to respond to competitive pressures would be limited and we could be required to delay, significantly curtail or eliminate planned store openings or operations or other elements of our growth strategy. If we raise additional capital by issuing equity securities or securities convertible into equity securities, your ownership may be diluted. Our senior secured credit facility and any additional debt financing we may incur may impose upon us covenants that restrict our operations, including limitations on our ability to incur liens or additional debt, pay dividends, redeem our common stock, make certain investments and engage in certain merger, consolidation or asset sale transactions. Moreover, any borrowings under any future debt financing will require interest payments and need to be repaid or refinanced, and would create additional cash demands and financial risk for us, which could be exacerbated by then-existing business or prevailing financial market conditions.

We have many important vendor relationships and our ability to obtain merchandise at competitive prices could suffer as a result of any deterioration or change in those relationships or events that adversely affect our vendors or their ability to obtain financing for their operations.

 

We have many important vendor relationships that we believe provide us with a competitive advantage. We do not own or operate any manufacturing facilities. We instead purchase all of our merchandise from third-party vendors. Over the last twelve months, we sourced a majority of our merchandise from our various merchandise vendors, with no single vendor accounting for more than 8% of our merchandise. Our financial performance depends in large part on our ability to purchase desired merchandise in sufficient quantities at competitive prices from these and other vendors. In some cases, we obtain exclusive use of select products from our vendors for a period of time. Moreover, from time to time, some of our vendors, with their prior consent, allow us to return certain merchandise purchased from them. In addition, we are typically able to return merchandise that does not meet our preset specifications. However, we generally have no long-term purchase contracts or other contractual assurances of continued supply, pricing or access to new products. Any of our vendors could discontinue supplying us with desired products in sufficient quantities for a variety of reasons. The benefits we currently experience from our vendor relationships could be adversely affected if our vendors:

 

 

Some of our vendors are small and specialized with limited resources, production capacities and operating histories. Events that adversely affect our vendors could impair our ability to obtain desired merchandise in sufficient quantities. Such events include difficulties or problems associated with our vendors’ business, finances, labor, importation of products, costs, production, insurance and reputation. For example, some of our vendors are extended credit by units of the CIT Group, or CIT, and if CIT ceases to do business or materially decreases its level of credit to our vendors, we may be required to pay for merchandise from our vendors earlier than our historical practice.

 

There can be no assurance that we will be able to acquire desired merchandise in sufficient quantities on acceptable terms or at all in the future, especially if we need significantly greater amounts of inventory in connection with the growth of our business. Any inability to acquire suitable merchandise in sufficient quantities and at acceptable prices, in particular exclusive merchandise, due to the loss of or a deterioration or change in our relationship with one or more key vendors, or events harmful to our vendors, may materially adversely affect us.

 

We are subject to risks associated with leasing substantial amounts of space, including future increases in occupancy costs.

 

We do not own any real estate. Instead, we lease all of our store locations, our corporate headquarters in Warrendale, Pennsylvania and our distribution facility in Weirton, West Virginia. We lease our distribution facility from the State of West Virginia under a lease that expires in 2011, with two five-year renewal options.

Although some of our leases are for ten-year periods, we typically occupy our stores under operating leases with terms of five years, with additional five-year renewal options. We have been able to negotiate favorable rental rates over the last year due in part to the state of the economy and high vacancy rates within some shopping centers; however, there is no guarantee that we will be able to continue to negotiate such favorable terms, and this can cause our occupancy rates to be higher in future years or may force us to close stores in desirable locations. Some of our leases have early cancellation clauses, which permit the lease to be terminated by us or the landlord if certain sales levels are not met in specific periods or if the strip center does not meet specified occupancy standards. In addition to future minimum lease payments, some of our store leases provide for additional rental payments based on a percentage of net sales, or “percentage rent,” if sales at the respective stores exceed specified levels, as well as the payment of common area maintenance charges, real property insurance and real estate taxes. Many of our lease agreements have defined escalating rent provisions over the initial term and any extensions. As we expand our store base, our lease expense and our cash outlays for rent under the lease agreements will increase. Our substantial operating lease obligations could have significant negative consequences, including:

 

 

Any of these consequences could place us at a disadvantage with respect to our competitors. We depend on cash flow from operations to pay our lease expenses and to fulfill our other cash needs. If our business does not generate sufficient cash flow from operating activities to fund these expenses and needs, we may not be able to service our lease expenses, grow our business, respond to competitive challenges or to fund our other liquidity and capital needs, which would harm our business.

 

Additional sites that we lease may be subject to long-term non-cancelable leases if we are unable to negotiate our current standard lease terms. If an existing or future store is not profitable, and we decide to close it, we may nonetheless be committed to perform our obligations under the applicable lease including, among other things, paying the base rent for the balance of the lease term. Moreover, even if a lease has an early cancellation clause, we may not satisfy the contractual requirements for early cancellation under that lease. Our inability to enter into new leases or renew existing leases on terms acceptable to us or be released from our obligations under leases for stores that we close would materially adversely affect us.

 

Our failure to find store employees that reflect our brand image and embody our culture, especially in light of our growth strategy, could adversely affect our business.

 

Our success depends in part upon our ability to attract, motivate and retain a sufficient number of store employees, including store managers, who understand and appreciate our corporate culture and customers, and are able to adequately and effectively represent our culture and establish credibility with our customers. The store employee turnover rate in the retail industry is generally high. If we are unable to hire and retain store personnel capable of consistently providing a high level of customer service, as demonstrated by their enthusiasm for our culture, understanding of our customers and knowledge of the merchandise we offer, our ability to open new stores may be impaired, the performance of our existing and new stores could be materially adversely affected and our brand image may be negatively impacted. We are also dependent upon temporary personnel to adequately staff our stores and distribution facility, with heightened dependence during busy periods such as the Easter and spring break season, back-to-school season and the winter holiday season and when multiple new stores are opening. There can be no assurance that we will receive adequate assistance from our temporary personnel, or that there will be sufficient sources of suitable temporary personnel to meet our demand. Any such failure to meet our staffing needs or any material increases in employee turnover rates could have a material adverse effect on our business or results of operations.

Our net sales and inventory levels fluctuate on a seasonal basis or due to store events or promotions, leaving our operating results particularly susceptible to changes in seasonal shopping patterns and related risks.

 

Our net sales are typically disproportionately higher in the second and fourth fiscal quarters due to increased net sales during the summer and winter holiday seasons. Net sales during these periods cannot be used as an accurate indicator of annual results. Likewise, as is the case with many retailers of apparel, accessories and gifts, we typically experience lower net sales in the first fiscal quarter relative to other quarters. Any significant decrease in net sales during the summer or winter holiday seasons would have a material adverse effect on us. In addition, in order to prepare for these seasons, we must order and keep in stock significantly more merchandise than we carry during other parts of the year. This inventory build-up may require us to expend cash faster than is generated by our operations during this period. Any unanticipated decrease in demand for our products during these peak shopping seasons could require us to sell excess inventory at a substantial markdown, which could have a material adverse effect on our business, profitability, ability to repay any indebtedness and our brand image. In addition, we may experience variability in net sales as a result of a variety of other factors, including the timing of new store openings, store events, promotions or other marketing activities, which may cause our results of operations to fluctuate on a quarterly basis and relative to corresponding periods in prior years.

 

We only have one distribution facility and have not yet implemented disaster recovery procedures, and if we encounter difficulties associated with our distribution facility or if it were to shut down for any reason, we could face shortages of inventory that would have a material adverse effect on our business operations and harm our reputation.

 

Our only distribution facility is located in Weirton, West Virginia. Our distribution facility supports our entire business. All of our merchandise is shipped to the distribution facility from our vendors, and then packaged and shipped from our distribution facility to our stores. The success of our stores depends on their timely receipt of merchandise. The efficient flow of our merchandise requires that we have adequate capacity in our distribution facility to support our current level of operations, and the anticipated increased levels that may follow from our growth plans. If we encounter difficulties associated with our distribution facility or if it were to shut down for any reason, including by fire or other natural disaster, we could face shortages of inventory, resulting in “out-of-stock” conditions in our stores, and incur significantly higher costs and longer lead times associated with distributing merchandise to our stores. This could have a material adverse effect on our business and harm our reputation. We are in the process of developing disaster recovery and business continuity plans that would allow us to be fully operational regardless of casualties or unforeseen events that may affect our corporate headquarters or distribution center. Without proper disaster recovery and business continuity plans, if we encounter difficulties with our distribution facility or other problems or disasters arise, we cannot ensure that critical systems and operations will be restored in a timely manner or at all, and this would have a material adverse effect on our business.

 

We completed an upgrade of our distribution facility during fiscal year 2009, which we believe will support our growth to approximately 1,300 stores with little additional capital investment. We may need to further increase the capacity of this facility to support additional growth, which may require us to secure additional favorable real estate or may require us to obtain additional financing. Appropriate locations or financing for the purchase or lease of such additional real estate may not be available at reasonable costs or at all. Our failure to provide adequate order fulfillment and secure additional distribution capacity when necessary could impede our growth plans, and the further increase of this capacity would increase our costs.

 

We rely upon independent third-party transportation providers for substantially all of our product shipments.

 

We currently rely upon independent third-party transportation providers for substantially all of our product shipments, including shipments to all of our stores. Our utilization of their delivery services for shipments, or those of any other shipping companies we may elect to use, is subject to risks, including increases in fuel prices, which would increase our shipping costs, and employee strikes and inclement weather, which may impact the shipping company’s abilities to provide delivery services that adequately meet our shipping needs.

If we change shipping companies, we could face logistical difficulties that could adversely affect deliveries and we would incur costs and expend resources in connection with such change. Moreover, we may not be able to obtain terms as favorable as those received from the independent third-party transportation providers we currently use, which in turn would increase our costs. We also face shipping and distribution risks and uncertainties associated with the upgrade of our distribution facility and related systems.

 

Our ability to source our merchandise profitably or at all could be hurt if new trade restrictions are imposed or existing trade restrictions become more burdensome.

 

Trade restrictions, including increased tariffs, safeguards or quotas, on apparel and accessories could increase the cost or reduce the supply of merchandise available to us. Under the World Trade Organization, or WTO, Agreement, effective January 1, 2005, the United States and other WTO member countries removed quotas on goods from WTO members, which in certain instances affords us greater flexibility in importing textile and apparel products from WTO countries from which we source our merchandise. However, as the removal of quotas resulted in an import surge from China, the United States in May 2005 imposed safeguard quotas on seven categories of goods and apparel imported from China. Effective January 1, 2006, the United States imposed quotas on approximately twelve categories of goods and apparel from China, and may impose additional quotas in the future. These and other trade restrictions could have a significant impact on our sourcing patterns in the future. The extent of this impact, if any, and the possible effect on our purchasing patterns and costs, cannot be determined at this time. We cannot predict whether any of the countries in which our merchandise is currently manufactured or may be manufactured in the future will be subject to additional trade restrictions imposed by the United States and foreign governments, nor can we predict the likelihood, type or effect of any such restrictions. Trade restrictions, including increased tariffs or quotas, embargoes, safeguards and customs restrictions against apparel items, as well as United States or foreign labor strikes, work stoppages or boycotts, could increase the cost or reduce the supply of apparel available to us or may require us to modify our current business practices, any of which could hurt our profitability.

 

We rely significantly on information systems and any failure, inadequacy, interruption or security failure of those systems could harm our ability to effectively operate our business.

 

Our ability to effectively manage and maintain our inventory, and to ship products to our stores and our customers on a timely basis, depends significantly on our information systems, including our Island Pacific Inc., or Island Pacific, enterprise resource planning system and Epicor Software Corporation, or Epicor, including its Customer Relationship Management and store point-of-sale, or POS, system. We believe that utilizing this suite of products has allowed us to avoid the expense associated with internally developing and managing our own hardware and software systems. See “Business—Management Information Systems.” To manage the growth of our operations, personnel and real estate portfolio, we will need to continue to improve and expand our operational and financial systems, real estate management systems, transaction processing and internal controls and business processes; in doing so, we could encounter transitional issues and incur substantial additional expenses. If we are unable to maintain our current relationships with Island Pacific or Epicor, there is no assurance that we will be able to locate replacements on a timely basis or on acceptable terms. The failure of our information systems to operate effectively, problems with transitioning to upgraded or replacement systems or expanding them into new stores, or a breach in security of these systems, could adversely impact the promptness and accuracy of our merchandise distribution, transaction processing, financial accounting and reporting, the efficiency of our operations and our ability to properly forecast earnings and cash requirements. We could be required to make significant additional expenditures to remediate any such failure, problem or breach. Such events may have a material adverse effect on us.

 

In addition, we may now and in the future implement new systems to increase efficiencies and profitability. To manage growth of our operations and personnel, we will need to continue to improve and expand our operational and financial systems, transaction processing, and internal controls and business processes. In doing any implementation or change to existing processes, we may encounter transitional issues and incur substantial additional expenses.

System security risk issues could disrupt our internal operations or information technology services, and any such disruption could harm our net sales, increase our expenses, and harm our reputation and stock price.

 

Experienced computer programmers and hackers, or even internal users, may be able to penetrate our network security or that of Island Pacific or Epicor and misappropriate our confidential information or that of third parties, create system disruptions or cause shutdowns. As a result, we could incur significant expenses addressing problems created by security breaches of our network. This risk is heightened because we collect and store customer information for marketing purposes. Any compromise of customer information could subject us to customer or government litigation and harm our reputation, which could adversely affect our business and growth. Moreover, we could incur significant expenses or disruptions of our operations in connection with system failures or breaches. In addition, sophisticated hardware and operating system software and applications that we procure from third parties, including that of Island Pacific or Epicor, may contain defects in design or manufacture, including “bugs” and other problems that could unexpectedly interfere with the operation of the systems. The costs to us to eliminate or alleviate security problems, viruses and bugs, or any problems associated with the outsourced services provided by Island Pacific or Epicor, could be significant, and such efforts to address these problems could result in interruptions, delays or cessation of service that may impede our sales, distribution or other critical functions.

 

We may suffer risks if our vendors fail to follow our vendor guidelines, including the risk we could acquire merchandise without full rights to sell it and the risks that a vendor or a manufacturer may fail to use acceptable labor practices, comply with other applicable laws or face interruption with its operations.

 

We sometimes purchase merchandise from vendors who hold manufacturing and distribution rights under the terms of certain licenses or who themselves own intellectual property rights to the merchandise. In addition, we purchase merchandise that may be subject to design copyrights, design patents, or otherwise may incorporate protected intellectual property. We are not involved in the manufacture of any of the merchandise we purchase from our vendors for sale to our customers, and we do not independently investigate whether these vendors legally hold intellectual property rights to merchandise that they are manufacturing or distributing. As a result, we rely upon vendors’ representations set forth in our purchase orders and vendor agreements concerning their right to sell us the products that we purchase from them. If a third party claims to have licensing rights with respect to merchandise we purchased from a vendor, or we acquire unlicensed merchandise, we could be obligated to remove such merchandise from our stores, incur costs associated with destruction of such merchandise if the distributor or vendor is unwilling or unable to reimburse us, and be subject to liability under various civil and criminal causes of action, including actions to recover unpaid royalties and other damages and injunctions. Although our purchase orders and vendor agreement with each vendor require the vendor to indemnify us against such claims, a vendor may not have the financial resources to defend itself or us against such claims, in which case, we may have to pay the costs and expenses associated with defending such claim. Any of these results could harm our brand image and have a material adverse effect on our business and growth.

 

Many of the products sold in our stores are manufactured outside of the United States, which may increase the risk that the labor, manufacturing safety and other practices followed by the manufacturers of these products may differ from those generally accepted in the United States. Although we require each of our vendors to sign a purchase order and vendor agreement that requires adherence to accepted labor practices and compliance with labor, manufacturing safety and other laws, we do not supervise, control or audit our vendors or the manufacturers that produce the merchandise we sell to our customers, and we have no direct relationship and very limited contact with any of the manufacturers. We do reserve the right to conduct random testing of products and we use a third-party resource to conduct such random testing on designated categories of items to further address our concern for customer safety. However, some of our vendors are small and may not have adequate procedures in place to assure compliance with applicable labor, manufacturing safety and other laws. The violation of such labor, manufacturing safety or other laws by any of our vendors or these manufacturers, or the divergence of the labor practices followed by any of our vendors or these manufacturers from those generally accepted in the United States, could interrupt, or otherwise disrupt, the

shipment of finished products to us or damage our brand image and/or subject us to boycotts by our customers or activist groups.

 

In fiscal year 2009, substantially all of our merchandise was sourced from foreign factories, many of which were located in China and India. Any event causing a sudden disruption of manufacturing or imports from Asia, Central America or elsewhere, including the imposition of additional import restrictions, could materially harm our operations. We have no long-term merchandise supply contracts, and many of our imports are subject to existing or potential duties, tariffs or quotas that may limit the quantity of certain types of goods that may be imported into the United States from countries in Asia, Central America or elsewhere. We compete with other companies for production facilities and import quota capacity.

 

Our vendors’ sourcing operations may also be hurt by political and financial instability, strikes, health concerns regarding infectious diseases in countries in which our merchandise is produced, adverse weather conditions or natural disasters that may occur in Asia, Central America or elsewhere or acts of war or terrorism in the United States or worldwide, to the extent these acts affect the production, shipment or receipt of merchandise. Our future operations and performance will be subject to these factors, which are beyond our control, and these factors could materially hurt our business, financial condition and results of operations or may require us to modify our current business practices or incur increased costs.

 

There are claims made against us from time to time that can result in litigation or regulatory proceedings which could distract management from our business activities and result in significant liability or damage to our brand image.

 

As a growing company with expanding operations, we increasingly face the risk of litigation and other claims against us. Litigation and other claims may arise in the ordinary course of our business and include employee claims, commercial disputes, intellectual property issues, product-oriented allegations and slip and fall claims. Often these cases raise complex factual and legal issues, which are subject to risks and uncertainties and which could require significant management time. Litigation and other claims against us could result in unexpected expenses and liability, as well as materially adversely affect our operations and our reputation.

 

We may be subject to liability if we infringe upon the trademarks or other intellectual property rights of third parties.

 

We may be subject to liability if we infringe upon the trademarks or other intellectual property rights of third parties. If we were to be found liable for any such infringement, we could be required to pay substantial damages and could be subject to injunctions preventing further infringement. Such infringement claims could subject us to boycotts by our customers or otherwise harm our brand image. In addition, any payments we are required to make and any injunctions we are required to comply with as a result of such infringement actions could adversely affect our financial results.

 

Changes in laws, including employment laws and laws related to our merchandise, could make conducting our business more expensive or otherwise change the way we do business.

 

We are subject to numerous regulations, including labor and employment, customs, truth-in-advertising, consumer protection and zoning and occupancy laws and ordinances that regulate retailers generally and/or govern the importation, promotion and sale of merchandise and the operation of stores and warehouse facilities. If these regulations were to change or were violated by our management, employees, vendors, buying agents or trading companies, the costs of certain goods could increase, or we could experience delays in shipments of our goods, be subject to fines or penalties, or suffer reputational harm, which could reduce demand for our merchandise and hurt our business and results of operations.

 

In addition to increased regulatory compliance requirements, changes in laws could make ordinary conduct of our business more expensive or require us to change the way we do business. For example, changes in federal and state minimum wage laws could raise the wage requirements for certain of our employees, which would likely cause us to reexamine our entire wage structure for stores. Other laws related to employee

benefits and treatment of employees, including laws related to limitations on employee hours, supervisory status, leaves of absence, mandated health benefits or overtime pay, could also negatively impact us, such as by increasing compensation and benefits costs for overtime and medical expenses. Moreover, changes in product safety or other consumer protection laws could lead to increased costs to us for certain merchandise, or additional labor costs associated with readying merchandise for sale. For example, in August 2008, the Consumer Product Safety Improvement Act of 2008, or CPSIA, was signed into law. The CPSIA imposes new requirements for the textile and apparel industries. These new requirements relate to all products marketed to children 12 years of age and under. Among other requirements, the Consumer Product Safety Commission requires certification and testing of lead paint levels as applied to certain products, along with testing of the lead content of the product as a whole. We have engaged an accredited third party testing service to ensure our vendors’ compliance with consumer safety laws and to meet further product safety goals. It is often difficult for us to plan and prepare for potential changes to applicable laws and future actions or payments related to such changes could be material to us.

 

We may incur indebtedness in the future and that indebtedness could adversely affect our financial health and harm our ability to react to changes to our business. Any future indebtedness may contain covenants that limit our business activities.

 

We may incur indebtedness in the future. Any increase in the amount of our indebtedness could require us to divert funds identified for other purposes for debt service and impair our liquidity position. If we cannot generate sufficient cash flow from operations to service our debt, we may need to refinance our debt, dispose of assets or issue equity to obtain necessary funds. We do not know whether we will be able to take any of such actions on a timely basis, on terms satisfactory to us or at all.

 

Our level of indebtedness has important consequences to you and your investment in our common stock. For example, our level of indebtedness may:

 

 

We cannot assure you that our business will generate sufficient cash flow from operations or that future borrowings will be available to us in amounts sufficient to enable us to make payments on our indebtedness or to fund our operations. Any indebtedness we incur may contain covenants that restrict our ability to incur additional debt, pay dividends, make acquisitions or investments or do certain other things that may impact the value of our common stock.

 

The terms of our senior secured credit facility may restrict our current and future operations, which would adversely affect our ability to respond to changes in our business and to manage our operations.

 

Our senior secured credit facility contains, and any future indebtedness of ours would likely contain, a number of restrictive covenants that impose significant operating and financial restrictions on us, including restrictions on our ability to, among other things:

 

 

 

A failure by us to comply with the covenants or financial ratios contained in our senior secured credit facility could result in an event of default under our credit facility, which could adversely affect our ability to respond to changes in our business and manage our operations. A change in control of our company is also an event of default under our senior secured credit facility. Under our senior secured credit facility, a change in control of our company will occur if, among other things, any person or entity other than the funds advised by Apax Partners or us or our subsidiaries acquires, directly or indirectly, more than 35% of the outstanding equity interests of us or a greater percentage of the equity interest than is beneficially owned by the funds advised by Apax Partners. Upon the occurrence of an event of default under our senior secured credit facility, the lenders could elect to declare all amounts outstanding to be due and payable, require us to apply all of our available cash to repay these amounts and exercise other remedies as set forth in the senior secured credit facility. If the indebtedness under our senior secured credit facility were to be accelerated, there can be no assurance that our assets would be sufficient to repay this indebtedness in full. See “Description of Certain Indebtedness—Senior Secured Credit Facility.”

 

We may be unable to protect our trademarks or other intellectual property rights.

 

We are not aware of any claims of infringement upon or challenges to our right to use any of our brand names or trademarks in the United States. Nevertheless, there can be no assurance that the actions we have taken to establish and protect our trademarks will be adequate to prevent imitation of our products by others or to prevent others from seeking to block sales of our products as a violation of the trademarks or proprietary rights of others. Also, others may assert rights in, or ownership of, our trademarks and other proprietary rights or claim that we are infringing on their proprietary rights, and we may not be able to successfully resolve these types of conflicts to our satisfaction. In addition, we do not register our marks internationally, and the laws of certain foreign countries may not protect proprietary rights to the same extent as do the laws of the United States.

 

Because we have not registered our trademarks in any foreign countries, international protection of our brand image and the use of these marks could be limited. Other entities may have rights to trademarks that contain portions of our marks or may have registered similar or competing marks for apparel and accessories in foreign countries in which our vendors source our merchandise. There may also be other prior registrations in other foreign countries of which we are not aware. Accordingly, it may be possible for others to enjoin the manufacture, sale or exportation of our branded goods to the United States. If we were unable to reach a licensing arrangement with these parties, our vendors may be unable to manufacture our products in those countries. Our inability to register our trademarks or purchase or license the right to use our trademarks or logos in these jurisdictions could limit our ability to obtain supplies from less costly markets or penetrate new markets should our business plan change to include selling our merchandise in those jurisdictions outside the United States.

We may be subject to unionization, work stoppages, slowdowns or increased labor costs, especially if the Employee Free Choice Act is adopted.

 

Currently, none of our employees is represented by a union. However, our employees have the right at any time under the National Labor Relations Act to form or affiliate with a union. If some or all of our workforce were to become unionized and the terms of the collective bargaining agreement were significantly different from our current compensation arrangements, it could increase our costs and adversely impact our profitability. The Employee Free Choice Act of 2007: H.R. 800, or EFCA, was passed in the United States House of Representatives last year and the same legislation has been introduced again in 2009 as H.R. 1409 and S. 560. President Obama and leaders of Congress have made public statements in support of this bill. Accordingly, this bill or a variation of it could be enacted in the future and the enactment of this bill could have an adverse impact on our business, by making it easier for workers to obtain union representation and increasing the penalties employers may incur if they engage in labor practices in violation of the National Labor Relations Act.

 

Maintaining and improving our financial controls and the requirements of being a public company may strain our resources, divert management’s attention and affect our ability to attract and retain qualified board members.

 

As a public company, we are subject to the reporting requirements of the Securities Exchange Act of 1934, or the Exchange Act, the Sarbanes-Oxley Act of 2002, or the Sarbanes-Oxley Act, and The NASDAQ Stock Market rules. The requirements of these rules and regulations have significantly increased our legal and financial compliance costs, including costs associated with the hiring of additional personnel, making some activities more difficult, time-consuming or costly, and may also place undue strain on our personnel, systems and resources. The Exchange Act requires, among other things, that we file annual, quarterly and current reports with respect to our business and financial condition.

 

The Sarbanes-Oxley Act requires, among other things, that we maintain effective disclosure controls and procedures and internal control over financial reporting. Ensuring that we have adequate internal financial and accounting controls and procedures in place is a costly and time-consuming effort that needs to be re-evaluated frequently. We are in the initial stage of documenting our internal control procedures and have not begun testing these procedures in order to comply with the requirements of Section 404 of the Sarbanes-Oxley Act, or Section 404. Section 404, which requires annual management assessments of the effectiveness of our internal control over financial reporting and a report by our independent registered public accounting firm auditing our effectiveness of internal control over financial reporting beginning with fiscal year 2010. Both we and our independent registered public accounting firm will be testing our internal controls in connection with the Section 404 requirements and could, as part of that documentation and testing, identify material weaknesses, significant deficiencies or other areas for further attention or improvement. Implementing any appropriate changes to our internal controls may require specific compliance training for our directors, officers and employees, require the hiring of additional finance, accounting and other personnel, entail substantial costs to modify our existing accounting systems, and take a significant period of time to complete. Such changes may not, however, be effective in maintaining the adequacy of our internal controls, and any failure to maintain that adequacy, or consequent inability to produce accurate financial statements on a timely basis, could increase our operating costs and could materially impair our ability to operate our business. Moreover, effective internal controls are necessary for us to produce reliable financial reports and are important to help prevent fraud. As a result, our failure to satisfy the requirements of Section 404 on a timely basis could result in the loss of investor confidence in the reliability of our financial statements, which in turn could cause the market value of our common stock to decline.

 

Various rules and regulations applicable to public companies make it more difficult and more expensive for us to maintain directors’ and officers’ liability insurance, and we may be required to accept reduced coverage or incur substantially higher costs to maintain coverage. If we are unable to maintain adequate directors’ and officers’ insurance, our ability to recruit and retain qualified officers and directors, especially those directors who may be deemed independent for purposes of The NASDAQ Stock Market rules, will be significantly curtailed.

Risks Related to this Offering and Ownership of Our Common Stock

 

Concentration of ownership among our existing executive officers, directors and principal stockholders may prevent new investors from influencing significant corporate decisions.

 

Upon consummation of this offering our executive officers, directors and principal stockholders will own, in the aggregate, approximately 45.9% of our outstanding common stock and will own options that will enable them to own, in the aggregate, approximately 47.0% of our outstanding common stock assuming no exercise of the underwriters’ option to purchase additional shares. As a result, these stockholders will be able to exercise significant influence over all matters requiring stockholder approval, including the election of directors and approval of significant corporate transactions and will have significant influence over our management and policies. This concentration of influence could be disadvantageous to other stockholders with interests different from those of our officers, directors and principal stockholders. For example, our officers, directors and principal stockholders could delay or prevent an acquisition or merger even if the transaction would benefit other stockholders. In addition, this significant concentration of share ownership may adversely affect the trading price of our common stock because investors often perceive disadvantages in owning stock in companies with principal stockholders.

 

In addition, our amended and restated certificate of incorporation provides that the provisions of Section 203 of the Delaware General Corporation Law, or the DGCL, that relate to business combinations with interested stockholders applies to us. Section 203 of the DGCL prohibits a publicly held Delaware corporation from engaging in a business combination transaction with an interested stockholder for a period of three years after the interested stockholder became such unless the transaction fits within an applicable exemption, such as board approval of the business combination or the transaction which resulted in such stockholder becoming an interested stockholder. The provisions of Section 203 of the DGCL may delay, prevent or deter a merger, acquisition, tender offer or other transaction that might otherwise result in our stockholders receiving a premium over the market price for their common stock.

 

Our amended and restated certificate of incorporation provides that the doctrine of corporate opportunity does not apply against Apax Partners, funds advised by Apax Partners, or any of our directors who are employees of or affiliated with Apax Partners or funds advised by Apax Partners, in a manner that would prohibit them from investing or participating in competing businesses. To the extent they invest in such other businesses, Apax Partners or funds advised by Apax Partners may have differing interests than our other stockholders.

 

We are currently a controlled company within the meaning of The NASDAQ Stock Market rules, and, as a result, we rely on exemptions from certain corporate governance requirements that provide protection to stockholders of other companies.

 

Funds advised by Apax Partners currently own more than 50% of the total voting power of our common stock and we are currently a controlled company under The NASDAQ Stock Market corporate governance listing standards. As a controlled company, certain exemptions under The NASDAQ Stock Market listing standards exempt us from the obligation to comply with certain of The NASDAQ Stock Market corporate governance requirements, including the requirements:

 

 

Accordingly, for so long as we are a controlled company, holders of our common stock will not have the same protections afforded to stockholders of companies that are subject to all of The NASDAQ Stock Market corporate governance requirements. Upon completion of this offering, we will cease to be a controlled company and we will have one year from the date we cease to be a controlled company to comply with The NASDAQ Stock Market rules.

Our stock price may continue to be volatile or may decline regardless of our operating performance, and you may not be able to resell your shares at or above the price at which you purchase them.

 

Shares of our common stock were sold in our initial public offering in November 2009 at a price of $19.00 per share, and our common stock has subsequently traded as high as $32.82. There has been a public market for our common stock for only a short period of time. An active, liquid and orderly market for our common stock may not be sustained, which could depress the trading price of our common stock. An inactive market may also impair our ability to raise capital to continue to fund operations by selling shares and may impair our ability to acquire other companies by using our shares as consideration. In addition, the market price of our common stock may fluctuate significantly in response to a number of factors, most of which we cannot control, including:

 

 

In addition, the stock markets, and in particular The NASDAQ Global Select Market, have experienced extreme price and volume fluctuations that have affected and continue to affect the market prices of equity securities of many retail companies. In the past, stockholders have instituted securities class action litigation following periods of market volatility. If we were involved in securities litigation, we could incur substantial costs and our resources and the attention of management could be diverted from our business.

 

Future sales of our common stock, or the perception in the public markets that these sales may occur, may depress our stock price.

 

Sales of substantial amounts of our common stock in the public market after this offering, or the perception that these sales could occur, could adversely affect the price of our common stock and could impair our ability to raise capital through the sale of additional shares. Upon completion of this offering, we will have 24,241,462 shares of common stock outstanding.

 

All of the 7,780,252 shares of common stock sold in our initial public offering are, and the 5,053,877 shares of common stock (or 5,811,958 shares if the underwriters exercise their option to purchase additional shares in full) sold in this offering will be, freely tradable without restrictions or further registration under the Securities Act, except for any shares of our common stock that may be held or acquired by our directors, executive officers and other affiliates, as that term is defined in the Securities Act, which will be restricted securities under the Securities Act. Restricted securities may not be sold in the public market unless the sale is registered under the Securities Act or an exemption from registration is available.

 

We, each of our officers, directors and the selling stockholders have agreed, subject to certain exceptions, with the underwriters not to dispose of or hedge any of the shares of common stock or securities convertible into or exchangeable for shares of common stock during the period from the date of this prospectus continuing through the date 90 days after the date of this prospectus, except, in our case, for the issuance of common stock upon exercise of options under existing option plans. Merrill Lynch, Pierce, Fenner & Smith Incorporated and Goldman, Sachs & Co. may, in their sole discretion, release any of these shares from these restrictions at any time without notice. See “Underwriting.”

 

Certain shares will not be subject to the new 90-day restricted period but remain subject to the 180-day restricted period in connection with our initial public offering, ending May 11, 2010 and, in some cases, subject to extension. After the expiration of the lock-up period, these shares may be sold in the public market, subject to prior registration or qualification for an exemption from registration, including, in the case of shares held by affiliates, compliance with the volume restrictions and other securities laws. See “Shares Eligible for Future Sale” for a more detailed description of the restrictions on selling shares of our common stock after this offering. To the extent that any of these stockholders sell, or indicate an intent to sell, substantial amounts of our common stock in the public market after the contractual lock-ups and other legal restrictions on resale discussed in this prospectus lapse, the trading price of our common stock could decline significantly.

 

Merrill Lynch, Pierce, Fenner & Smith Incorporated and Goldman, Sachs & Co. have agreed to release certain of the selling stockholders from their initial public offering lock-up agreements, prior to the expiration of the initial public offering lock-up period in connection with the filing of the registration statement and the sale of their shares in this offering. Merrill Lynch, Pierce, Fenner & Smith Incorporated and Goldman, Sachs & Co. may, in their sole discretion, release all or some portion of the shares subject to the 90-day lock-up agreements prior to expiration of such period.

 

On January 19, 2010, we filed a registration statement on Form S-8 under Securities Act to register 4,754,880 shares for issuance under our equity incentive plans. These shares can be freely sold in the public market upon issuance and once vested, subject to lock-up restrictions in connection with this offering and/or our initial public offering and other restrictions provided under the applicable plan and/or the option agreements entered into with option holders. If these additional shares are sold, or if it is perceived that they will be sold, in the public market, the price of our common stock could decline substantially.

In the future, we may also issue our securities in connection with investments or acquisitions. The amount of shares of our common stock issued in connection with an investment or acquisition could constitute a material portion of our then-outstanding shares of our common stock.

 

Anti-takeover provisions in our charter documents and Delaware law might discourage or delay acquisition attempts for us that you might consider favorable.

 

Our amended and restated certificate of incorporation and amended and restated bylaws contain provisions that may make the acquisition of our company more difficult without the approval of our board of directors. These provisions:

 

 

These anti-takeover provisions and other provisions under Delaware law could discourage, delay or prevent a transaction involving a change in control of our company, even if doing so would benefit our stockholders. These provisions could also discourage proxy contests and make it more difficult for you and other stockholders to elect directors of your choosing and to cause us to take other corporate actions you desire.

 

If securities or industry analysts do not publish research or publish inaccurate or unfavorable research about our business, our stock price and trading volume could decline.

 

The trading market for our common stock depends in part on the research and reports that securities or industry analysts publish about us or our business. If no securities or industry analysts cover our company, the trading price for our common stock would be negatively impacted. If one or more of the analysts who covers us downgrades our common stock or publishes inaccurate or unfavorable research about our business, our stock price would likely decline. If one or more of these analysts ceases coverage of us or fails to publish reports on us regularly, demand for our common stock could decrease, which could cause our stock price and trading volume to decline.

 

We do not expect to pay any cash dividends for the foreseeable future.

 

The continued operation and expansion of our business will require substantial funding. Accordingly, we do not anticipate that we will pay any cash dividends on shares of our common stock for the foreseeable future. Any determination to pay dividends in the future will be at the discretion of our board of directors and will depend upon results of operations, financial condition, contractual restrictions, including our senior secured credit facility and other indebtedness we may incur, restrictions imposed by applicable law and other factors our board of directors deems relevant. Accordingly, if you purchase shares in this offering, realization of a gain on your investment will depend on the appreciation of the price of our common stock, which may never occur. Investors seeking cash dividends in the foreseeable future should not purchase our common stock.

Our actual operating results may differ significantly from our guidance.

 

From time to time, we release guidance regarding our future performance that represents our management’s estimates as of the date of release. This guidance, which consists of forward-looking statements, is prepared by our management and is qualified by, and subject to, the assumptions and the other information contained or referred to in the release. Our guidance is not prepared with a view toward compliance with published guidelines of the American Institute of Certified Public Accountants, and neither our independent registered public accounting firm nor any other independent expert or outside party compiles or examines the guidance and, accordingly, no such person expresses any opinion or any other form of assurance with respect thereto.

 

Guidance is based upon a number of assumptions and estimates that, while presented with numerical specificity, is inherently subject to significant business, economic and competitive uncertainties and contingencies, many of which are beyond our control and are based upon specific assumptions with respect to future business decisions, some of which will change. We generally state possible outcomes as high and low ranges which are intended to provide a sensitivity analysis as variables are changed but are not intended to represent that actual results could not fall outside of the suggested ranges. The principal reason that we release this data is to provide a basis for our management to discuss our business outlook with analysts and investors. We do not accept any responsibility for any projections or reports published by any such persons.

 

Guidance is necessarily speculative in nature, and it can be expected that some or all of the assumptions of the guidance furnished by us will not materialize or will vary significantly from actual results. Accordingly, our guidance is only an estimate of what management believes is realizable as of the date of release. Actual results will vary from the guidance and the variations may be material. Investors should also recognize that the reliability of any forecasted financial data diminishes the farther in the future that the data is forecast. In light of the foregoing, investors are urged to put the guidance in context and not to place undue reliance on it.

 

Any failure to successfully implement our operating strategy or the occurrence of any of the events or circumstances set forth in this prospectus could result in the actual operating results being different than the guidance, and such differences may be adverse and material.

 

This prospectus contains forward-looking statements that are subject to risks and uncertainties. All statements other than statements of historical fact included in this prospectus are forward-looking statements. Forward-looking statements give our current expectations and projections relating to our financial condition, results of operations, plans, objectives, future performance and business. You can identify forward-looking statements by the fact that they do not relate strictly to historical or current facts. These statements may include words such as “anticipate,” “estimate,” “expect,” “project,” “plan,” “intend,” “believe,” “may,” “will,” “should,” “can have,” “likely” and other words and terms of similar meaning in connection with any discussion of the timing or nature of future operating or financial performance or other events. For example, all statements we make relating to our estimated and projected earnings, revenues, costs, expenditures, cash flows, growth rates and financial results, our plans and objectives for future operations, growth or initiatives, strategies, or the expected outcome or impact of pending or threatened litigation are forward-looking statements. All forward-looking statements are subject to risks and uncertainties that may cause actual results to differ materially from those that we expected, including:

 

 

We derive many of our forward-looking statements from our operating budgets and forecasts, which are based upon many detailed assumptions. While we believe that our assumptions are reasonable, we caution that it is very difficult to predict the impact of known factors, and, it is impossible for us to anticipate all factors that could affect our actual results. Important factors that could cause actual results to differ materially from

our expectations, or cautionary statements, are disclosed under “Risk Factors” and “Management’s Discussion and Analysis of Financial Condition and Results of Operations” in this prospectus. All written and oral forward-looking statements attributable to us, or persons acting on our behalf, are expressly qualified in their entirety by the cautionary statements as well as other cautionary statements that are made from time to time in our other SEC filings and public communications. You should evaluate all forward-looking statements made in this prospectus in the context of these risks and uncertainties.

 

We caution you that the important factors referenced above may not contain all of the factors that are important to you. In addition, we cannot assure you that we will realize the results or developments we expect or anticipate or, even if substantially realized, that they will result in the consequences we anticipate or affect us or our operations in the way we expect. The forward-looking statements included in this prospectus are made only as of the date hereof. We undertake no obligation to publicly update or revise any forward-looking statement as a result of new information, future events or otherwise, except as otherwise required by law.

 

The selling stockholders will receive all of the proceeds from this offering. We will not receive any proceeds from the sale of shares of our common stock in this offering. We will pay the expenses, other than underwriting discounts and commissions, associated with the sale of shares by the selling stockholders. However, the underwriters have agreed to reimburse us for certain of our expenses in connection with this offering. The selling stockholders include members of our management. Funds advised by Apax Partners are our principal stockholders and are a selling stockholder in this offering. See “Principal and Selling Stockholders.”

 

Our common stock has been listed on The NASDAQ Global Select Market under the symbol “rue” since our initial public offering on November 13, 2009. Before then, there was no public market for our common stock. The following table sets forth the high and low sales prices of our common stock per share, as reported by The NASDAQ Global Select Market.

 

 

On February 19, 2010, the closing price as reported on The NASDAQ Global Select Market of our common stock was $27.44. As of January 30, 2010, we estimate that we had approximately 250 holders of record of our common stock.

 

We have never declared or paid cash dividends on our common stock. We do not expect to pay dividends on our common stock for the foreseeable future. Instead, we anticipate that all of our earnings in the foreseeable future will be used in the operation and growth of our business. Any future determination to pay dividends will be at the discretion of our board of directors, subject to compliance with certain contractual restrictions, including under our senior secured credit facility and agreements for other indebtedness we may incur, which restricts or limits our ability to pay dividends, and will depend upon, among other factors, our results of operations, financial condition, capital requirements, restrictions contained in current and future financing instruments and other factors that our board of directors deems relevant. See “Description of Certain Indebtedness.”

 

The following table sets forth our cash and cash equivalents and our capitalization as of October 31, 2009 on:

 

 

 

You should read the following table in conjunction with the sections titled “Selected Consolidated Financial Data,” “Management’s Discussion and Analysis of Financial Condition and Results of Operations” and our financial statements and related notes included elsewhere in this prospectus.

 

 

The outstanding share information set forth above is as of October 31, 2009, and excludes:

 

 

 

The following tables set forth selected consolidated financial and other data for the periods and at the dates indicated. The selected income statement data for the fiscal years ended January 29, 2005, January 28, 2006, February 3, 2007, February 2, 2008 and January 31, 2009 and selected consolidated balance sheet data as of January 29, 2005, January 28, 2006, February 3, 2007, February 2, 2008 and January 31, 2009 are derived from our audited consolidated financial statements. Our audited statements of income for the fiscal years ended February 3, 2007, February 2, 2008 and January 31, 2009 and our audited consolidated balance sheets as of February 2, 2008 and January 31, 2009 are included elsewhere in this prospectus. Our audited consolidated statements of income for the fiscal years ended January 29, 2005 and January 28, 2006 and our audited consolidated balance sheets as of January 29, 2005, January 28, 2006 and February 3, 2007 have not been included in this prospectus. The selected income statement data for the thirty-nine weeks ended November 1, 2008 and the thirty-nine weeks ended October 31, 2009 and the selected balance sheet data as of November 1, 2008 and October 31, 2009 are derived from our unaudited condensed consolidated financial statements included elsewhere in this prospectus. The historical results presented below are not necessarily indicative of the results to be expected for any future period. You should read this selected consolidated financial data in conjunction with the consolidated financial statements and related notes and the information under “Management’s Discussion and Analysis of Financial Condition and Results of Operations” appearing elsewhere in this prospectus.

 

 

 

 

 

 

You should read the following discussion together with “Selected Consolidated Financial Data,” and the historical financial statements and related notes included elsewhere in this prospectus. The statements in this discussion regarding industry outlook, our expectations regarding our future performance, liquidity and capital resources and other non-historical statements in this discussion are forward-looking statements. These forward-looking statements are subject to numerous risks and uncertainties, including, but not limited to, the risks and uncertainties described in “Risk Factors” and “Forward-Looking Statements.” Our actual results may differ materially from those contained in or implied by any forward-looking statements.

 

We operate on a fiscal calendar widely used by the retail industry that results in a given fiscal year consisting of a 52- or 53-week period ending on the Saturday closest to January 31 of the following year. For example, references to “fiscal year 2008” refer to the fiscal year ended January 31, 2009. Our fiscal year 2006 consisted of a 53-week period and ended on February 3, 2007.

 

Overview

 

rue21 is a fast growing specialty apparel retailer offering the newest fashion trends for girls and guys at value prices. We were originally founded in 1976 as a value-focused specialty apparel retailer. In 1998, we were acquired by certain funds now advised by Apax Partners, through SKM Equity Fund II, L.P. and SKM Investment Fund II. In 2001, our current President and Chief Executive Officer, Bob Fisch, joined us. Upon his hiring, Bob Fisch began repositioning our company by aligning our stores under one brand name, strengthening our management team, honing our fashion value merchandise approach and refocusing our store growth strategy. As part of our turnaround, we sought bankruptcy protection in February 2002 and emerged within fifteen months as a stronger company with a rationalized store base of 168 stores. We have been growing consistently since that time. In late 2006, we introduced our larger rue21 etc! store layout, which averages approximately 4,700 square feet and features a separate store-in-store for our rue21 etc! girls jewelry and accessories category. As of January 30, 2010, we operated 535 stores in 43 states, 314 of which featured the larger rue21 etc! store layout.

 

Our strong growth and operating results reflect the initiatives taken by our management team, as well as the increasing acceptance of our brand and merchandise. Our net sales increased from $146.9 million in fiscal year 2004 to $391.4 million in fiscal year 2008, a compound annual growth rate of 27.8%. Over the same period, we grew income from operations from $5.8 million to $22.1 million, a compound annual growth rate of 39.9%. Since the beginning of fiscal year 2004, we have increased our store base from 175 stores to 535 stores as of January 30, 2010. Our total square footage growth has outpaced our total store growth over this same period, reflecting the increasing size of our average store.

 

We expect to continue our strong growth in the future. We believe there is a significant opportunity to grow our store base to more than 1,000 stores within five years. We opened 88 stores in fiscal year 2009 and plan to open 100 stores in fiscal year 2010. We also plan to continue to convert our existing stores into the larger rue21 etc! layout, which allows us to offer an increased proportion of higher margin categories, such as accessories, intimate apparel, footwear and fragrances. We converted 26 stores to the rue21 etc! layout in fiscal year 2009 and plan to convert 30 stores in fiscal year 2010. We expect to continue to drive our comparable store sales by increasing the penetration of our newer product categories, increasing our brand awareness, continuing to provide our distinctive in-store experience and converting stores to the rue21 etc! layout.

 

Our growth in total square footage is supported by our store economics, which we believe to be very attractive. As a result of our low store build-out costs, favorable lease terms and low-cost operating model, our stores generate strong returns on investment. We focus our real estate strategy on strip centers, regional malls and outlet centers, primarily in small- and middle-market communities, which we believe are underserved by traditional junior and young men’s specialty apparel retailers. Our typical new store investment is approximately $160,000, which includes build-out costs, net of landlord tenant allowances and initial inventory, net of payables. New stores generate on average between $900,000 and $1.1 million in net sales per store in the first

twelve months and pay back our investment in less than one year. However, new stores opened in the future may not generate similar net sales in the first twelve months or pay back our investment in a similar time period.

 

We have recently invested significant capital to build the infrastructure necessary to support our future growth. This investment includes an upgrade of our distribution facility and related systems, which we completed in fiscal year 2009. The distribution facility can support approximately 1,300 stores. Additionally, we continue to invest in our systems infrastructure, including implementation of the latest store merchandising, distribution, financial and real estate applications. Furthermore, in fiscal year 2008, we invested in an expansion of our corporate headquarters, which increased the square footage by 50%.

 

We believe our business strategy will continue to offer significant opportunity, but it also presents risks and challenges. These risks and challenges include that we may not be able to effectively identify and respond to changing fashion trends and customer preferences, that we may not be able to find desirable locations in strip centers and regional malls or that we may not be able to effectively manage our operations which have grown rapidly, or our future growth. We seek to ensure that addressing these risks does not divert our management’s attention from continuing to build on the strengths that we believe have driven the growth of our business. We believe our focus on maintaining the desirability of our products to our customers, maintaining and scaling our supply chain resources and improving our in-store shopping experience and our customer service will contribute to our ongoing success.

 

How We Assess the Performance of Our Business

 

In assessing the performance of our business, we consider a variety of performance and financial measures. The key measures for determining how our business is performing are net sales, comparable store and non-comparable store sales, gross profit margin and selling, general and administrative expense.

 

Net Sales

 

Net sales constitute gross sales net of any returns and merchandise discounts. Net sales consist of sales from comparable stores and non-comparable stores.

 

Comparable Store Sales

 

A store is included in comparable store sales on the first day of the sixteenth month as new stores generally open with above run-rate sales volumes, which usually extend for a period of at least three months, and comparability is achieved twelve months after the initial three-month period after store opening. Comparable store sales include existing stores that have been converted to our rue21 etc! layout. When a store that is included in comparable store sales is in process of being converted to our rue21 etc! layout, net sales from that store remain in comparable store sales. There may be variations in the way in which some of our competitors and other apparel retailers calculate comparable or “same store” sales. As a result, data in this prospectus regarding our comparable store sales may not be comparable to similar data made available by other retailers. Non-comparable store sales include sales not included in comparable store sales and sales from closed stores.

 

Measuring the change in year-over-year comparable store sales allows us to evaluate how our store base is performing. Various factors affect comparable store sales, including:

 

 

 

As we continue to pursue our store growth strategy, we expect that a significant percentage of our net sales increase will continue to come from non-comparable store sales. Opening new stores is an important part of our growth strategy. Accordingly, comparable store sales is only one element we use to assess the success of our growth strategy.

 

The retail apparel industry is cyclical, and consequently our net sales are affected by general economic conditions. Purchases of apparel and accessories are sensitive to a number of factors that influence the levels of consumer spending, including economic conditions and the level of disposable consumer income, consumer debt, interest rates and consumer confidence.

 

Our business is seasonal and as a result, our net sales fluctuate from quarter to quarter. Net sales are usually higher in the second and fourth fiscal quarters, and particularly in the months of August and December, as customers make back-to-school and holiday purchases.

 

Gross Profit

 

Gross profit is equal to our net sales minus our cost of goods sold. Gross margin measures gross profit as a percentage of our net sales. Cost of goods sold includes the direct cost of purchased merchandise, distribution center costs, all freight costs incurred to get merchandise to our stores, store occupancy costs and buying costs. The components of our cost of goods sold may not be comparable to those of other retailers.

 

Our cost of goods sold is substantially higher in higher volume quarters because cost of goods sold generally increases as net sales increase. Changes in the mix of our products, such as changes in the proportion of accessories, may also impact our overall cost of goods sold. We review our inventory levels on an ongoing basis in order to identify slow-moving merchandise, and generally use markdowns to clear that merchandise. The timing and level of markdowns are not seasonal in nature but are driven by customer acceptance of our merchandise. If we misjudge the market for our products, we may be faced with significant excess inventories for some products and be required to mark down those products in order to sell them. Significant markdowns have reduced our gross profit in some prior periods and may have a material adverse impact on our earnings for future periods depending on the amount of the markdowns and the amount of merchandise affected.

 

Selling, General and Administrative Expense

 

Selling, general and administrative expense includes administration, share-based compensation and store expenses but excludes store occupancy costs and freight to stores. These expenses do not generally vary proportionally with net sales. As a result, selling, general and administrative expense as a percentage of net sales is usually higher in lower volume quarters and lower in higher volume quarters. The components of our selling, general and administrative expense may not be comparable to those of other retailers. We expect that our selling, general and administrative expense will increase in future periods due to our continuing store growth and in part to additional legal, accounting, insurance and other expenses we expect to incur as a result of being a public company. Among other things, we expect that compliance with the Sarbanes-Oxley Act and related rules and regulations will result in significant legal and accounting costs.

 

Share-based compensation expense related to stock options was $34,000, $34,000 and $0 for fiscal years 2006, 2007 and 2008, respectively. We granted options to purchase an aggregate of 397,000 shares and 126,500 shares of common stock in fiscal years 2007 and 2008, respectively. These and any future stock option grants will increase our share-based compensation expense in fiscal year 2009 and in future fiscal years compared to fiscal year 2008. See “—Critical Accounting Policies.”

Results of Operations

 

The following tables summarize key components of our results of operations for the periods indicated, both in dollars and as a percentage of net sales:

 

 

 

 

 

 

 

The approximate percentage of our net sales derived from our product categories, based on our internal merchandising system, is as follows:

 

 

The increase in girls accessories net sales as a percentage of total net sales is due to management efforts to expand the number of items in the girls accessories category.

 

The following table summarizes the number of stores open at the beginning of the period and at the end of the period.

 

 

Thirty-Nine Weeks Ended October 31, 2009 Compared to Thirty-Nine Weeks Ended November 1, 2008

 

Net Sales

 

Net sales increased 36.0%, or $97.9 million, to $370.2 million for the thirty-nine weeks ended October 31, 2009 from $272.3 million for the thirty-nine weeks ended November 1, 2008. The increase in net sales was due to an increase of approximately 37% in the number of transactions, primarily driven by new store openings, partially offset by a decrease of approximately 1% in the average dollar value of transactions per store.

 

Comparable store sales increased 7.4% for the thirty-nine weeks ended October 31, 2009 compared to an increase of 0.8% for the thirty-nine weeks ended November 1, 2008. Comparable store sales increased by $67.6 million and non-comparable store sales increased by $30.3 million. There were 386 comparable and 148 non-comparable stores open at October 31, 2009 compared to 304 and 129, respectively, at November 1, 2008.

 

The decrease in the girls apparel category as a percentage of net sales and the corresponding increase in the girls accessories category as a percentage of net sales and the guys apparel and accessories as a percentage of net sales was reflective of varying category sales growth rates. The girls apparel category grew by approximately 32% while the girls accessories category grew by approximately 43% and the guys apparel and accessories category grew by approximately 41%. The increase in girls accessories as a percentage of net sales was due to management efforts to expand the number of items in the girls accessories category. The increase in the guys apparel and accessories category was the result of an increase in the average unit retail price of items sold in the current period.

 

Gross Profit

 

Gross profit increased 39.3%, or $37.4 million, in the thirty-nine weeks ended October 31, 2009 to $132.5 million from $95.1 million in the thirty-nine weeks ended November 1, 2008. Gross margin increased

90 basis points to 35.8% for the thirty-nine weeks ended October 31, 2009 from 34.9% for the thirty-nine weeks ended November 1, 2008. This increase was primarily attributable to a 10 basis point increase in merchandise margin, due primarily to lower merchandise costs. The remainder of the gross margin increase was due to an 80 basis point decrease in store occupancy, distribution and buying costs as these costs increased at a lower rate than net sales.

 

Selling, General and Administrative Expense

 

Selling, general and administrative expense increased 33.0%, or $23.9 million, to $96.2 million in the thirty-nine weeks ended October 31, 2009 from $72.4 million for the thirty-nine weeks ended November 1, 2008. As a percentage of net sales, selling, general and administrative expense decreased to 26.0% in the thirty-nine weeks ended October 31, 2009 from 26.6% in the thirty-nine weeks ended November 1, 2008. Store operating expenses increased by $18.5 million primarily resulting from the operation of 534 stores as of October 31, 2009 compared to the operation of 433 stores as of November 1, 2008. As a percentage of net sales, store operating expenses decreased slightly to 19.1% for the thirty-nine weeks ended October 31, 2009 from 19.2% for the thirty-nine weeks ended November 1, 2008 as a result of payroll costs declining as a percentage of net sales. Due in part to insurance settlement proceeds of $223,000 received during the second quarter of 2009, administrative and general expenses decreased as a percentage of net sales to 6.9% for the thirty-nine weeks ended October 31, 2009 from 7.4% for the thirty-nine weeks ended November 1, 2008.

 

Depreciation and Amortization Expense

 

Depreciation and amortization expense increased as a percentage of net sales to 3.3% for the thirty-nine weeks ended October 31, 2009 from 3.0% for the thirty-nine weeks ended November 1, 2008, or $4.0 million. The increase was due to growth in capital expenditures to $26.5 million for the thirty-nine weeks ended October 31, 2009 from $16.4 million for the thirty-nine weeks ended November 1, 2008. This increase follows annual increases in capital expenditures of $3.7 million in fiscal year 2007 and $6.2 million in fiscal year 2008.

 

Interest Expense, Net

 

Interest expense, net decreased by $0.8 million to $0.4 million for the thirty-nine weeks ended October 31, 2009, due primarily to a decrease in average borrowings under our senior secured credit facility.

 

Provision for Income Taxes

 

The increase in provision for income taxes of $4.2 million in the thirty-nine weeks ended October 31, 2009 from the thirty-nine weeks ended November 1, 2008 was due primarily to the $10.4 million increase in pre-tax income. The effective tax rates were 39.5% and 39.2% for the thirty-nine weeks ended October 31, 2009 and the thirty-nine weeks ended November 1, 2008, respectively.

 

Net Income

 

Net income increased 77.8%, or $6.3 million, to $14.3 million for the thirty-nine weeks ended October 31, 2009 from $8.0 million for the thirty-nine weeks ended November 1, 2008. This increase was due to the factors discussed above.

 

Fiscal Year 2008 Compared to Fiscal Year 2007

 

Net Sales

 

Net sales increased 31.8%, or $94.5 million, to $391.4 million in fiscal year 2008 from $296.9 million in fiscal year 2007. The increase in net sales was due to an increase of approximately 23% in the number of transactions, driven by new store openings and an increase of approximately 2% in the average dollar value of transactions per store.

 

Comparable store sales increased 3.7% for fiscal year 2008 compared to an increase of 7.8% for fiscal year 2007. Comparable store sales increased by $66.7 million and non-comparable store sales increased by

$27.8 million. There were 330 comparable stores and 119 non-comparable stores open at January 31, 2009 compared to 260 and 92, respectively, at February 2, 2008.

 

The increase in the girls accessories and guys apparel and accessories categories as a percentage of net sales and the approximate corresponding decrease in the girls apparel category as a percentage of net sales was reflective of varying category sales growth rates. The girls accessories and guys apparel and accessories categories grew by approximately 42% and 45%, respectively. Girls apparel category growth was approximately 25%. The increase in girls accessories as a percentage of net sales was due to management efforts to expand the number of items in the girls accessories category.

 

Gross Profit

 

Gross profit increased 31.1%, or $31.7 million, in fiscal year 2008 to $133.6 million from $101.9 million in fiscal year 2007. Gross margin decreased 20 basis points to 34.1% for fiscal year 2008 from 34.3% for fiscal year 2007. This decrease was primarily attributable to a 30 basis point decrease in merchandise margin, due primarily to increased markdowns. Gross margin was positively impacted by a 10 basis point increase in store occupancy, distribution and buying costs, as these costs increased at a rate lower than net sales.

 

Selling, General and Administrative Expense

 

Selling, general and administrative expense increased 31.4%, or $23.8 million to $99.9 million in fiscal year 2008 from $76.0 million in fiscal year 2007. As a percentage of net sales, selling, general and administrative expense remained constant at 25.5% and 25.6% in fiscal year 2008 and fiscal year 2007, respectively.

 

Store operating expenses increased by $18.6 million primarily resulting from the operation of 449 stores as of January 31, 2009 compared to the operation of 352 stores as of February 2, 2008. As a percentage of net sales, store operating expenses increased to 18.6% in fiscal year 2008 from 18.3% in fiscal year 2007, due primarily to increased store salaries as a percentage of net sales.

 

Administrative and general expenses decreased as a percentage of net sales to 6.9% in fiscal year 2008 from 7.4% in fiscal year 2007 as these costs increased at a lower rate than net sales. Offsetting the decrease in administrative expense margin was a $434,000 asset write-off related to store conversions.

 

Depreciation and Amortization Expense

 

Depreciation and amortization expense increased as a percentage of net sales to 2.9% in fiscal year 2008 from 2.8% in fiscal year 2007, or $3.3 million. The increase was due to growth in capital expenditures of $6.2 million and $3.7 in fiscal year 2008 and fiscal year 2007, respectively.

 

Interest Expense, Net

 

Interest expense, net decreased by $1.0 million to $1.5 million in fiscal year 2008 due to both reduced weighted average borrowings and a reduced average interest rate under our senior secured credit facility.

 

Provision for Income Taxes

 

The increase in provision for income taxes of $2.1 million in fiscal year 2008 from fiscal year 2007 was due primarily to a $5.6 million increase in pre-tax income. The effective tax rate declined to 38.8% in fiscal year 2008 from 39.3% in fiscal year 2007.

 

Net Income

 

Net income increased 38.4%, or $3.5 million, to $12.6 million in fiscal year 2008 from $9.1 million in fiscal year 2007. This increase was due primarily to a $31.7 million increase in gross profit and lower interest expense, partially offset by increases in selling, general and administrative expense of $23.8 million, higher depreciation and amortization expense of $3.3 million and a higher provision for income taxes of $2.1 million.

Fiscal Year 2007 Compared to Fiscal Year 2006

 

Net Sales

 

Net sales increased 31.6%, or $71.3 million, to $296.9 million in fiscal year 2007 from $225.6 million in fiscal year 2006. The increase in net sales was due primarily to the increase of approximately 19% in the number of transactions coupled with an increase of approximately 6% in the average dollar value of transactions per store.

 

Comparable store sales increased 7.8% for fiscal year 2007 compared to a decrease of 4.7% for fiscal year 2006. Comparable store sales increased by $46.4 million and non-comparable stores increased by $24.9 million. There were 260 comparable stores and 92 non-comparable stores open at February 2, 2008 compared to 208 and 69, respectively, at February 3, 2007.

 

The increases in the girls apparel and girls accessories categories as a percentage of net sales and the approximate corresponding decrease in the guys apparel and accessories category as a percentage of net sales was reflective of varying category sales growth rates. The girls apparel and girls accessories categories grew by approximately 35% and 37%, respectively. The guys apparel and accessories category growth was approximately 25%. The increase in girls accessories as a percentage of net sales was due to management efforts to expand the number of items in the girls accessories category.

 

Gross Profit

 

Gross profit increased 35.1%, or $26.5 million, in fiscal year 2007 to $101.9 million from $75.4 million in fiscal year 2006. Gross margin increased 90 basis points to 34.3% for fiscal year 2007 from 33.4% for fiscal year 2006. This increase was primarily attributable to a 50 basis point increase in merchandise margin, due primarily to lower merchandise costs. In addition, store occupancy, distribution and buying costs decreased 40 basis points as these costs increased at a lower rate than net sales.

 

Selling, General and Administrative Expense

 

Selling, general and administrative expense increased 32.1%, or $18.5 million, to $76.0 million in fiscal year 2007 from $57.6 million in fiscal year 2006. As a percentage of net sales, selling, general and administrative expense remained constant at 25.6% and 25.5% in fiscal year 2007 and fiscal year 2006, respectively.

 

Store operating expenses increased by $11.9 million primarily resulting from the operation of 352 stores as of February 2, 2008 compared to the operation of 278 stores as of February 3, 2007. However, these costs declined from 18.8% of net sales in fiscal year 2006 to 18.3% of net sales in fiscal year 2007.

 

Administrative and general expenses increased as a percentage of net sales to 7.4% in fiscal year 2007 from 6.8% in fiscal year 2006 as these costs increased at a rate greater than net sales, due primarily to increased administrative salaries.

 

Depreciation and Amortization Expense

 

Depreciation and amortization expense increased as a percentage of net sales to 2.8% in fiscal year 2007 from 2.6% in fiscal year 2006, or $2.3 million. This increase was due to growth in capital expenditures of $3.7 million in fiscal year 2007.

 

Interest Expense, Net

 

Interest expense, net decreased by $125,000 to $2.5 million in fiscal year 2007 from $2.6 million in fiscal year 2006 due to relatively constant levels of weighted average borrowings and average interest rate under our senior secured credit facility.

 

Provision for Income Taxes

 

The increase in provision for income taxes of $4.5 million in fiscal year 2007 from fiscal year 2006 was due primarily to the increase in the effective tax rate and to a lesser extent pre-tax income being $5.8 million higher. The effective tax rates were 39.3% and 15.7% for fiscal year 2007 and fiscal year 2006, respectively.

The fiscal year 2006 effective tax rate was significantly less than the fiscal year 2007 effective tax rate as a result of the reversal of income tax reserves due to settlement of a 2004 Internal Revenue Service audit as well as the reversal of the valuation allowance as we determined as of February 3, 2007 that it was more likely than not that the deferred tax assets would be fully realized.

 

Net Income

 

Net income increased 17.1%, or $1.3 million, to $9.1 million in fiscal year 2007 from $7.8 million in fiscal year 2006. This increase was due primarily to a $26.5 million increase in gross profit, partially offset by increases in selling, general and administrative expense of $18.5 million, higher depreciation and amortization expense of $2.3 million and a higher provision for income taxes of $4.5 million.

 

Quarterly Results and Seasonality

 

The following table sets forth our historical unaudited quarterly consolidated statements of income data for each of the eleven fiscal quarters ended October 31, 2009 and expressed as a percentage of our net sales. This unaudited quarterly information has been prepared on the same basis as our annual audited financial statements appearing elsewhere in this prospectus, and includes all adjustments, consisting only of normal recurring adjustments, that we consider necessary to present fairly the financial information for the fiscal quarters presented.

 

The quarterly data should be read in conjunction with our audited and unaudited consolidated financial statements and the related notes appearing elsewhere in this prospectus.

 

Quarterly Results of Operations