UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, DC 20549
FORM 10-K/A
(Amendment No. 1)
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934
For the fiscal year ended August 30, 2003
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the transition period from_____to _____
Commission File No. 0-19194
RAG SHOPS, INC.
(Exact name of registrant as specified in its charter)
DELAWARE 51-0333503
(State or other jurisdiction of (I.R.S. Employer Identification
incorporation or organization) Number)
111 WAGARAW ROAD
HAWTHORNE, NEW JERSEY 07506
(Address of principal executive (Zip Code)
offices)
Registrant's telephone number, including area code (973) 423-1303
Securities registered pursuant to Section 12(b) of the Act: NONE
Securities registered pursuant to Section 12(g) of the Act:
COMMON STOCK, $.01 PAR VALUE PER SHARE
(Title of Class)
Indicate by check mark whether the registrant (1) has filed all reports
required to be files by Section 13 or 15(d) of the Securities Exchange
Act of 1934 during the preceding 12 months (or for such shorter period
that the registrant was required to file such reports), and (2) has been
subject to such filing requirements for the past 90 days.
Yes X No
------- ------
Indicate by check mark if disclosure of delinquent filers pursuant to
Item 405 of Regulation S-K is not contained herein, and will not be
contained, to the best of registrant's knowledge, in definitive proxy or
information statements incorporated by reference in Part III of this
Form 10-K/A or any amendment to this Form 10-K/A. X
----
Indicate by check mark whether the registrant is an accelerated filer
(as defined in Exchange act Rule 12b-2).
Yes No X
------- --------
As of October 27, 2003, there were outstanding 4,797,983 shares of Common Stock.
Based on the price at which stock was sold on that date, the approximate
aggregate market value of such shares held by non-affiliates was $8,785,745.
DOCUMENTS INCORPORATED BY REFERENCE
Portions of the Registrant's 2003 Definitive Proxy Statement, which statement
will be filed not later than 120 days after the end of the fiscal year covered
by this Report, are incorporated by reference in Part III hereof.
Certain exhibits are incorporated by reference to the Company's Registration
Statement on Form S-1 and Amendment No. 1 thereto, as listed in response to Item
14(a)(3).
EXPLANATORY NOTE - AMENDMENT
This Form 10-K/A is being filed to amend and restate Rag Shops, Inc.'s audited
consolidated financial statements for the fiscal year ended August 30, 2003.
In December 2003, the Company received a check from Principal Financial Group,
Inc. ("Principal") reflecting dividends payable in connection with common stock
of Principal. Receipt of the dividend check prompted a Company inquiry which
revealed that, due to its ownership of certain life insurance policies issued by
Principal Life Insurance Company, a subsidiary of Principal, and maintained by
the Company for certain key executive officers, the Company had received 9,766
shares of Principal's common stock (the "Shares") in December 2001 as
consideration in the demutualization of Principal's predecessor. The effective
date of the demutualization was in October 2001 and the Shares were issued in
December 2001 to one of the Company's subsidiaries, the owner of the life
insurance policies, in book-entry form as uncertificated shares and maintained
in an account with Mellon Investor Services established by Principal in
connection with its demutualization transaction. The Company had not previously
recognized or recorded the Shares issued pursuant to such event.
The Company has determined it will restate prior financial statements to
properly reflect the transaction in the first quarter of fiscal 2002. In its
restated financial statements, the Company has recorded the then fair market
value ($180,671) of the Shares as part of operating income as of October 2001,
in accordance with Emerging Issues Task Force Issue No. 99-4, "Accounting for
Stock Received from the Demutualization of a Mutual Insurance Company". The
Company has classified its holding in the Shares as "available-for-sale"
pursuant to Statement of Financial Accounting Standards No. 115 "Accounting for
Investments", whereby the investment will be carried at fair market value and
subsequent changes in the market value of the investment will be reflected as an
unrealized gain or loss in the stockholders' equity section of the balance
sheets, net of deferred income taxes. Other Comprehensive Income will be
presented for all periods pursuant to Statement of Financial Accounting
Standards No. 130 "Reporting Comprehensive Income" either in the Consolidated
Statements of Changes in Stockholders' Equity or Notes to Consolidated Financial
Statements. Comprehensive income consists of net income or loss for the current
period as well as income, expenses, gains or losses, net of income taxes arising
during the period that are included in separate components of equity. It
includes the unrealized gains and losses on the Company's available-for-sale
security, net of taxes.
The fair market value of the Shares as of the close of business on August 30,
2003 was $307,238. Please refer to amendments to periodic reports filed with the
Securities and Exchange Commission for periods between December 1, 2001 and
November 29, 2003 for related restatements. Refer to Note 1 - Recent
Developments in the Notes to Condensed Consolidated Financial Statements.
For purposes of this Form 10-K/A, and in accordance with Rule 12b-15 under the
Securities and Exchange Act of 1934, as amended, each item of the Form 10-K
for the fiscal year ended August 30, 2003, as originally filed on November 24,
2003, that was affected has been amended to the extent affected by the
referenced correction and restated in its entirety. All other financial
information and disclosures remain unchanged.
2
PART I
ITEM 1. BUSINESS
GENERAL
Rag Shops, Inc., a Delaware corporation formed in April 1991, is the successor
by merger to a New Jersey corporation having the same name which was
incorporated in September 1984, as a holding company for numerous subsidiaries
that have operated retail stores since 1963. As of August 30, 2003, Rag Shops,
Inc. operated 68 specialty retail stores that sell competitively priced craft
and fabric merchandise. The Company caters to value conscious consumers who
create decorative projects and accessories, and sew. The Company believes that
its wide selection of currently popular merchandise, value-oriented pricing
policy and commitments to both customer service and advertising are principal
factors contributing to its results. The Company's stores are
destination-oriented and also attract shoppers from other stores located in the
same shopping centers.
As of August 30, 2003, the Company operated 36 retail stores in New Jersey, 18
in Florida, five in New York, six in Pennsylvania and three in Connecticut. The
Company anticipates opening two new stores, relocating three stores and closing
two stores during its fiscal year ending August 28, 2004. The Company's
expansion strategy is to grow by expanding within areas from which it presently
attracts customers and into contiguous market areas, enabling the Company to
capitalize on pre-existing advertising and name recognition. The following table
sets forth information with respect to store openings and closings since fiscal
1999.
FISCAL YEARS
2003 2002 2001 2000 1999
---- ---- ---- ---- ----
Stores open at beginning of period 68 66 65 69 66
Stores opened during period 2 4 5 0 5
Stores closed during period 2 2 4 4 2
Stores open at end of period 68 68 66 65 69
Retail square footage at end of
period 789,500 764,600 707,800 663,300 695,400
PRODUCTS
The Company's stores offer a diverse and extensive assortment of value-priced
crafts, fabrics, and related items to creative craft and sewing consumers. The
following table shows net sales of the Company's merchandise categories as a
percentage of total net sales for the fiscal years ended August 30, 2003, August
31, 2002 and September 1, 2001:
FISCAL YEARS
2003 2002 2001
---- ---- ----
General crafts 50% 48% 47%
Fabrics and sewing notions 27 28 29
Frames and custom framing 12 12 11
Floral 11 12 13
---- --- ----
Total 100% 100% 100%
==== ==== ====
Each of the Company's stores offers craft, fabric and related products. Craft
items include silk flowers, wicker, picture frames, wood products, stitchery,
yarn, wearable art, scrapbooking, art, craft supplies and children's creative
related products. Fabric items available at the Company's stores include
apparel, quilting and home decorative fabrics, as well as trimmings, patterns
and sewing notions. As of August 30, 2003, 64 stores offer custom picture
framing. The Company also sells a wide variety of seasonal merchandise with
special emphasis on the Spring, Easter, Back-to-School, Halloween and Christmas
seasons.
3
Through their purchase of craft, fabric and other items, used either
individually or in combination, the Company's customers can hand-make a wide
variety of finished products for personal use, gifts, home beautification and
seasonal decoration. For example, fabrics can be made into career, leisure,
children's, bridal and special occasion fashions, draperies and upholstery for
home decoration and hand made quilts. From the Company's selection of craft
items, customers can create needlepoint and stitchery, personalized hand painted
apparel, floral arrangements, dolls and specialized scrapbooks.
MERCHANDISING AND ADVERTISING
The Company's marketing and merchandising strategy emphasizes the sale of
multiple products to be used by the customer to create a single project. To
assist customers in making their own selections and to encourage their purchase
of several products, the Company's stores display finished models that
incorporate a variety of merchandise in close proximity to where the components
are sold. The models are created by crafters, and the Company's display staff,
as well as store staff, conforming to Company guidelines.
Craft or sewing classes are offered at a select number of the Company's stores
to further promote both specific products and store business. During each class,
participants complete a project using materials purchased from the store at
which the class is offered.
Merchandise at the Company's stores is displayed on conveniently arranged
fixtures to facilitate customer access. The general layout of merchandise,
adjusted seasonally and as otherwise necessary to adapt to marketing conditions,
is planned by the Company's management to give prominence to the types of
merchandise currently in demand.
Approximately five percent of the Company's net sales are expended on a 52-week
per year advertising program. The Company primarily utilizes freestanding
newspaper inserts and, secondarily, newspaper print advertisements. These
newspaper inserts are also displayed at the front of each store and describe a
calendar of promotions emphasizing special sales items, seasonal products and
other currently popular merchandise. Approximately three million people
regularly receive the freestanding newspaper inserts.
For the Spring and Back-to-School seasons, and the holiday seasons of Easter,
Halloween and Christmas, the Company utilizes a fully developed merchandising
program including special inventory, layout, instructional ideas and promotions
with highly focused displays. During these peak seasons approximately 25% of
store selling space is devoted to seasonal merchandise.
SEASONALITY
The Company's business is seasonal, which the Company believes is typical of the
retail craft and fabric industry. The Company's highest sales and earnings
levels historically occur between September and December. Historically the
Company has operated at a loss during its fourth fiscal quarter, the June
through August summer period. The Company's results of operations depend
significantly upon the sales generated from September through December and any
material decrease in sales for such period could have a material adverse effect
upon the Company's profitability. See Item 7. "Management's Discussion and
Analysis of Financial Condition and Results of Operations-Seasonality."
STORE OPERATIONS
The Company's store operations are divided into seven districts, each managed by
a district manager. Stores typically are staffed with a manager, assistant
manager(s), and one department head each for fabrics and crafts, sales
personnel, cashiers and stock clerks.
District managers supervise store management, monitor the Company's stores to
ensure compliance with procedures, policies and budgets, determine whether
adequate levels of merchandise are available at the stores and reallocate
merchandise among stores as dictated by selling trends and stock levels at
individual stores (aided by access to the Company's databases). Store managers
are responsible for operation of individual stores, including recruiting and
hiring store personnel.
4
Store managers place orders to replenish inventory from the Company's
distribution centers in Paterson and Fairlawn, New Jersey, and may also directly
order certain core merchandise designated by management from the Company's
suppliers. Orders for merchandise are placed by the store manager on a regular
basis. Orders for merchandise are entered into a scanning gun, downloaded to a
computer in the store and polled by the Company's corporate data processing
system. Merchandise received at the Company's stores is entered into the store
computer and included in the daily polling. Deliveries from the distribution
center are made by Company-owned vehicles or by independent trucking companies.
Stores are generally open from 10:00 A.M. to 9:00 P.M. Monday through Saturday
and 11:00 A.M. to 6:00 P.M. on Sunday, with extended hours during the Christmas
season. All stores are operating with point-of-sale cash register systems.
Approximately 52% of receipts at the Company's stores are in the form of cash or
check, with the balance paid for with MasterCard, Visa, Discover or American
Express charge and debit cards.
EXPANSION STRATEGY
While management does not believe there are significant geographic constraints
on the locations of future stores, the Company's strategy is to grow by
expanding within areas from which it presently attracts customers and into
contiguous market areas, enabling the Company to capitalize on pre-existing
advertising and name recognition. When deciding whether to open a new store, the
principal factors the Company typically evaluates are the amount of consumer
traffic generated by the market area, the demographic composition of the
customer base in the market area, store position in, co-tenants at and customer
attraction to the shopping center, advertising availability and expense,
profitability and other costs associated with opening the store. Historically,
new stores tend to become profitable after six to twenty-four months.
SOURCES OF SUPPLY
The Company purchases its merchandise from more than 300 suppliers. The
Company's merchandise is primarily purchased from domestic suppliers (including
distributors that import goods from the Far East) and the balance is acquired
directly from manufacturers in the Far East, including China, Hong Kong, Korea,
the Philippines and Taiwan. The merchandise purchased directly from foreign
manufacturers, consisting primarily of silk flowers, seasonal merchandise and
staple craft products, is sold under the Company's private label. As is
customary in the industry, the Company does not have any long-term or exclusive
contracts with any suppliers. The Company believes that alternate sources of
merchandise are readily available at comparable prices.
Consistent with industry practice, merchandise from manufacturers in the Far
East is ordered four to six months in advance to assure delivery prior to the
selling season for the merchandise. Letters of credit are frequently issued to
foreign manufacturers with specific terms regarding the merchandise ordered,
inspection prior to shipment, and time and place of delivery. The Company
assumes the risk of loss on a F.O.B. basis when goods are delivered to a shipper
and is insured against casualty losses arising during shipping.
COMPETITION
The retail craft and fabric industry is highly competitive. The Company competes
with other national, regional and independent specialty craft and/or fabric
retailers and mass merchandisers, some of which have greater financial and other
resources than the Company. The Company believes it competes on the basis of
merchandise selection, customer service, price and advertising. Competitors
include A.C. Moore Arts & Crafts, Inc., Jo-Ann Stores, Inc., and Michaels
Stores, Inc.
EMPLOYEES
As of August 30, 2003, the Company had 1,381 employees, consisting of 383 full
time and 998 part time employees. Full time personnel consist of 237 salaried
and 146 hourly employees. All part time personnel are hourly employees. During
seasonal peak periods, the Company hires temporary personnel. Approximately 60
employees in the Company's distribution center and warehouse are covered by a
collective bargaining agreement with Local 161 of the Union of Needletrades,
5
Industrial and Textile Employees, AFL-CIO. This agreement expires in March 2005.
The Company considers its relationships with its employees to be good.
TRADEMARKS
The Company's trademark "THE RAG SHOP" was registered with the United States
Patent and Trademark Office on September 9, 1969 for fabrics, wearing apparel
and home furnishings; and has been renewed through September 9, 2009. Variations
of this mark have been registered by the Company to stand for its retail
services and for numerous goods sold by the Company at its retail outlets. These
marks are all renewable indefinitely so long as the marks are used by the
Company.
ITEM 2. PROPERTIES
The Company leases its executive office facilities in Hawthorne, New Jersey and
its Hawthorne, New Jersey store in the same strip shopping center and occupies
approximately 15,900 and 17,600 square feet, respectively.
The Company's 85,000 square foot distribution center is located in Paterson, New
Jersey. The Company leases approximately 68,000 square feet of additional
warehouse space in Fairlawn, New Jersey to accommodate seasonal merchandise and
expedite distribution of merchandise to stores. The Company believes that its
distribution center and additional warehouse space are adequate for its needs
through the expiration of the current term of February 2006 and July 2004,
respectively. The lease for the additional warehouse space contains an option to
extend the term through December 2005.
The Company's stores, all of which are located in leased facilities, range in
size from, approximately 7,000 square feet to 20,000 square feet. The average
size of the Company's stores is approximately 11,600 square feet with
approximately 90% of the area of each store representing selling space. The
Company seeks to open new stores in the range of approximately 15,000 to 20,000
square feet. However, the Company often maintains options to expand store size
and will exercise those options or otherwise enlarge particular stores as
circumstances warrant. The following table sets forth the number of store leases
due to expire (taking into account options to renew) during the calendar year
indicated.
LEASE EXPIRATIONS
YEAR NUMBER YEAR NUMBER
---- ------ ---- ------
2004 3 2018 5
2005 2 2019 7
2006 1 2020 4
2008 4 2021 2
2011 3 2022 2
2012 2 2023 4
2013 1 2024 2
2014 1 2026 5
2015 1 2027 4
2016 4 2028 1
2017 9 2031 1
Sixty-five of the above stores are located in strip shopping centers, and the
remaining three are free-standing buildings. The stores generally are located in
close proximity to population centers and other retail operations and are
usually on a major highway or thoroughfare, making them easily accessible by
automobile. All of the stores provide free parking.
The leases for the Company's stores are generally for a term of five years,
usually with four options to renew for five years each. The base rental rates
generally range from $37,000 to $280,000 per year. Under most leases, the
Company is required to pay, in addition to fixed minimum rental payments,
additional rent based on charges for real estate taxes, common area maintenance
fees, utility charges and insurance premiums. Certain leases provide for
contingent rentals based on a percentage of sales.
6
ITEM 3. LEGAL PROCEEDINGS
The Company is involved in various legal proceedings incidental to the conduct
of its business. The Company currently is not engaged in any legal proceeding
that is expected to have a material adverse effect on the Company's results of
operations or financial position.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
The Company did not submit any matters to vote of its stockholders, through the
solicitation of proxies or otherwise, during the fourth quarter of the fiscal
year ended August 30, 2003.
PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON STOCK AND RELATED STOCKHOLDER MATTERS
Effective September 24, 1999 the Company's Common Stock began trading on the
NASDAQ SmallCap Market ("NASDAQ") under the symbol "RAGS". The Company's Common
Stock previously traded on the NASDAQ National Market.
The following table sets forth, for the periods indicated, the high and low sale
prices of the Company's Common Stock as reported by NASDAQ. These prices reflect
interdealer prices and do not include retail mark-ups, mark-downs or
commissions, and do not necessarily represent actual transactions.
HIGH LOW
FISCAL YEAR ENDED AUGUST 30, 2003
First Quarter $ 6.250 $ 3.250
Second Quarter 3.820 2.620
Third Quarter 4.000 2.850
Fourth Quarter 4.460 2.980
FISCAL YEAR ENDED AUGUST 31, 2002
First Quarter $ 2.400 $ 2.100
Second Quarter 4.400 2.100
Third Quarter 6.050 3.000
Fourth Quarter 6.630 3.350
On October 27, 2003, the closing price of the Common Stock was $3.97.
The approximate number of stockholders of record of the Common Stock at October
27, 2003 was 298. The number of beneficial owners whose shares are held by
banks, brokers and other nominees exceeds 875.
On June 28, 1999, the Company declared a 5% stock dividend on the Company's
common stock which was paid on August 10, 1999 to stockholders of record on July
14, 1999. The Company has not paid any cash dividends. The Company presently
intends to retain all earnings for the operation and expansion of its business
and does not anticipate paying cash dividends on its Common Stock in the
foreseeable future. Any future determination as to the payment of cash dividends
on the Common Stock will depend upon future earnings, results of operations,
capital requirements, the financial condition of the Company and any other
factors the Board of Directors of the Company may consider. In addition,
pursuant to the Company's bank line of credit, the Company is prohibited from
declaring dividends in any year in excess of its earnings for such year or which
would otherwise result in a violation of the Company's covenant to maintain a
tangible net worth (as defined in the line of credit commitment letter) of
$9,000,000. The Company's tangible net worth for the period ended August 30,
2003 was $23,477,380.
7
ITEM 6. SELECTED FINANCIAL DATA
The following table presents selected financial data derived from the audited
consolidated financial statements of the Company for each of the five most
recent fiscal years. The selected financial data should be read in conjunction
with Item 7. "Management's Discussion and Analysis of Financial Condition and
Results of Operations" and the Consolidated Financial Statements and Notes
thereto contained elsewhere in this Report.
FISCAL YEAR ENDED (1)
August 30, August 30, August 31, September 1, September 2, August 28,
2003 2003 2002 2001 2000 1999
---- ---- ---- ---- ---- ----
(Restated) (Previously (Previously
Reported) Restated)
(In thousands, except common stock data and statistics)
OPERATIONS
Net sales $115,547 $115,547 $110,672 $100,888 $100,208 $ 94,781
Gross profit 38,615 38,615 37,605 34,007 34,987 32,389
Store expenses and general
and administrative expenses 39,643 39,643 37,117 33,992 33,026 31,637
Gain from demutualization 0 0 181 0 0 0
Interest income (expense), net (8) (8) 38 128 31 (83)
Income (loss) before income taxes
and cumulative effect of change in
accounting principle (1,036) (1,036) 706 143 1,991 668
Income (loss) before cumulative
effect of change in accounting
principle (705) (705) 389 46 1,198 402
Cumulative effect of change in
accounting principle, net of tax 0 0 0 0 198 0
Net income $ (705) $ (705) $ 389 $ 46 $ 1,396 $ 402
COMMON STOCK DATA (2)
Basic and diluted earnings per
share:
Income before cumulative effect of
change in accounting principle $ (.15) $ (.15) $ .08 $ .01 $ .25 $ .08
Cumulative effect of change in
accounting principle 0 0 0 0 .04 0
------- ------- ------- ------- ------- -------
Net income $ (.15) $ (.15) $ .08 $ .01 $ .29 $ .08
Book value per share $ 4.89 $ 4.86 $ 5.04 $ 4.94 $ 4.93 $ 4.59
Weighted average shares and
equivalents outstanding:
Basic 4,797,983 4,797,983 4,799,183 4,801,583 4,813,476 4,744,408
Diluted 4,797,983 4,797,983 4,826,119 4,807,010 4,813,871 4,754,996
FINANCIAL POSITION
Working capital $ 18,545 $ 18,238 $ 19,506 $ 19,049 $ 19,640 $ 17,298
Total assets 40,909 40,737 38,728 35,634 34,580 37,869
Short-term debt 0 0 0 0 0 6,570
Long-term debt 0 0 0 0 0 0
Stockholders' equity $ 23,477 $ 23,305 $ 24,169 $ 23,720 $ 23,670 $ 22,104
8
FISCAL YEAR ENDED (1)
August 30, August 30, August 31, September 1, September 2, August 28,
2003 2003 2002 2001 2000 1999
---- ---- ---- ---- ---- ----
(Restated) (Previously (Previously
Reported) Restated)
(In thousands except common stock data and statistics)
STATISTICS
Net sales increase 4.4% 4.4% 9.7% 0.7% 5.7% 4.7%
Comparable store net sales
increases (decreases) (2) (0.4%) (0.4%) 4.9% (0.7%) 4.2% 0.2%
Comparable store net sales
increases (decreases) on a
52
week aligned basis (2) (0.4%) (0.4%) 4.9% 0.8% 2.5% 0.2%
Return on net sales, after
income taxes (0.6%) (0.6%) 0.4% 0.1% 1.4% 0.4%
Return on average
stockholders' equity (3.0%) (3.0%) 1.6% 0.2% 6.1% 1.8%
Average net sales per gross
square foot (3) $ 149 $ 149 $ 153 $ 146 $ 147 $ 141
Average net sales per store
(000's) (3) $ 1,695 $ 1,695 $ 1,668 $1,534 $1,490 $ 1,399
Stores open at end of
period 68 68 68 66 65 69
(1) Fiscal 2000 was a 53-week fiscal year. All other years shown were
52-week fiscal years.
(2) Comparable store sales increases (decreases) for a fiscal year include
stores commencing with their thirteenth consecutive entire fiscal month
including stores that were expanded but excluding stores that were
relocated, if any. Comparable store net sales increases (decreases) on a
52 week aligned basis are arrived at by eliminating the unaligned 53rd
week from fiscal 2000 before comparing the result with the prior and
succeeding year.
(3) For purposes of calculating these amounts, the number of stores and the
amount of gross square footage have been adjusted to reflect the number
of months during the period that new stores were open. These amounts
have not been adjusted to reflect the seasonal nature of the Company's
net sales or the resulting impact of opening stores in different periods
during the year. See Item 7. "Management's Discussion and Analysis of
Financial condition and Results of Operations-Seasonality."
9
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
The following discussion should be read in conjunction with the Company's
consolidated financial statements and the related notes included elsewhere in
this Annual Report on Form 10-K/A.This Annual Report on Form 10-K/A contains
certain forward-looking statements within the meaning of Section 27A of the
Securities Act of 1933, as amended, and Section 21E of the Securities Exchange
Act of 1934, as amended, which are intended to be covered by safe harbors
created hereby. Such forward-looking statements include those regarding the
Company's future results in light of current management activities, and involve
known and unknown risks, including competition within the craft and fabric
retail industry, weather-related changes in the selling cycle, and other
uncertainties (including those risk factors referenced in the Company's filings
with the Securities and Exchange Commission). Our actual results could
materially differ from those discussed in these forward-looking statements.
RESULTS OF OPERATIONS
The following table sets forth as a percentage of net sales, certain items
appearing in the Company's Consolidated Income Statements for the indicated
years:
YEAR ENDED
----------
August 30, August 31, September1,
2003 2002 2001
---- ---- ----
(Previously
Restated)
Net sales 100.0% 100.0% 100.0%
Cost of merchandise sold, occupancy and
distribution costs 66.6 66.0 66.3
----- ----- -----
Gross profit 33.4 34.0 33.7
Store expenses 26.2 25.8 26.5
General and administrative expenses 8.1 7.8 7.2
Gain from demutualization - 0.2 -
----- ----- -----
Income (loss) from operations (0.9%) 0.6% 0.0%
Net income (loss) (0.6%) 0.4% 0.1%
FISCAL 2003 COMPARED TO FISCAL 2002
The Company's net sales for fiscal 2003 increased by $4,875,000 or 4.4% over
fiscal 2002. The increase in net sales resulted from an increase of $5,284,000
related to revenue from larger new store openings, net of sales reductions for
smaller stores, which were closed. The increase in net sales was partially
offset by a decrease in comparable store sales of $409,000 or 0.4%. The
Company's comparable store sales include stores commencing with their thirteenth
consecutive entire fiscal month, including stores that were expanded but
excluding stores that were relocated, if any. Comparable store sales increased
0.7% through the first three quarters of fiscal 2003 and decreased 4.3% in the
fourth quarter of the fiscal year. Management believes that the decline in the
fourth quarter resulted primarily from unsuccessful changes in the Company's
advertising program and from a shortage in seasonal merchandise due to better
than expected seasonal sales in the third quarter of fiscal 2003.
Gross profit increased by $1,010,000 or 2.7%, and, as a percentage of net sales,
decreased by 0.6% for the current fiscal year as compared to the prior
comparable fiscal year. The decrease, as a percentage of net sales, primarily
resulted from an increase in occupancy expenses because of additional square
footage and rent costs for new larger stores as compared to smaller closed
stores as well as increases in rent for existing stores, and an increase in
markdowns due to changes in the Company's promotions and related to the
Company's planned reduction in merchandise inventory levels. The decreases were
partially offset by a reduction in the provision for inventory shrinkage due to
favorable results experienced during the physical inventory conducted in the
final quarter of the current fiscal year as compared to the prior comparable
10
period and by the amortization of deferred income relating to the forgiveness of
certain obligations for merchandise inventory through modification of certain
agreements with suppliers in the final quarter of fiscal 2002. The deferred
amount is being amortized over two years based on the expressed term of one of
the agreements and the expected inventory turnover.
Store expenses increased by $1,738,000 or 6.1%, and, as a percentage of net
sales, increased by 0.4% in fiscal 2003 as compared to the prior comparable
fiscal year. The increase in fiscal 2003 was primarily due to additional payroll
and payroll related expense and advertising. Store payroll increased in support
of higher sales and increased store square footage due to new larger stores.
Advertising expense increased as a result of additional advertising and market
penetration this fiscal year compared to the last fiscal year.
General and administrative expenses increased by $788,000 or 9.2%, and, as a
percentage of net sales, increased by 0.3% as compared to fiscal 2002. The
increase was primarily due to additional payroll and payroll related expenses,
and to higher insurance costs. Administrative payroll grew through the addition
of management personnel in the first and second fiscal quarters this year to
fill both new positions and positions that were vacant in the prior comparable
period. Insurance costs rose as a result of adverse market conditions when the
Company's primary insurance policies were renewed in the third and fourth fiscal
quarters last year.
Interest expense in fiscal 2003, net of interest income was $8,300 as compared
to interest income, net of interest expense of $37,800 in the prior fiscal year.
This increase in expense was attributable to an increase in average short-term
borrowings, a decrease in average investment levels, coupled with a decline in
interest rates on short-term investments versus the comparable prior periods.
See "Liquidity and Capital Resources".
The effective tax rate for 2003 was 31.9% as compared to 44.9% in 2002. The
decrease is primarily due to a federal tax benefit from net losses offset by
minimum state and local income taxes.
Net income declined by $1,095,000 for fiscal 2003 as compared to fiscal 2002.
The decrease is due mainly to an increase in the cost of merchandise sold,
occupancy and distribution costs and increases in store, general and
administrative expenses.
FISCAL 2002 COMPARED TO FISCAL 2001
Net sales in fiscal 2002 increased by $9,784,000 or 9.7% over fiscal 2001. Sales
from comparable stores increased $4,802,000 or 4.9% and $4,982,000 related to
revenue from larger new store openings, net of sales reductions for smaller
stores, which were closed. Management believes that the increases in fiscal 2002
were due to continuing efforts to maintain better in-stock positions, add new
products and improve merchandise display that, along with positive industry
trends, resulted in increases in both average sale and customer transactions
during the fiscal year. Strong Christmas season sales also contributed.
Gross profit in fiscal 2002 improved by $3,597,000 and 10.6% as compared to the
prior fiscal year. The improvement was principally due to the additional
revenue, as gross profit remained relatively unchanged year-to-year as a percent
of net sales.
Store expenses in fiscal 2002 increased by $1,798,000 or 6.7%, and, as a
percentage of sales, decreased by 0.7% as compared to 2001. The increase in
fiscal 2002 was primarily due to an increase in payroll and payroll related
expenses and rose in support of larger stores and higher sales. The decrease in
store expenses as a percent of net sales was principally due to the ability of
the Company to leverage expenses against the increase in net sales.
General and administrative expenses in fiscal 2002 increased by $1,327,000, or
0.6% as a percentage of net sales, as compared to fiscal 2001. These increases
were primarily attributable to additional payroll and payroll related expenses
incurred in connection with filling executive and management positions that were
vacant in the prior comparable period and to increased insurance expenses.
Interest income in fiscal 2002, net of interest expense decreased from the prior
fiscal year due to the material fall in interest rates on short-term
11
investments in the first half of the year compared to relative interest rate
stability and higher interest rate availability during the prior comparable
period. There was virtually no change in average invested balances during the
two years.
The effective tax rate for 2002 was 44.9% as compared to 67.8% in 2001. The
decrease was primarily due to a lower effective state and local income tax rate.
In fiscal 2002, net income increased by $343,000 as compared to fiscal 2001 as a
result of the increase in net sales and due to the gain from demutualization
partially offset by increases in store and general and administrative expenses
and the decrease in interest income, net.
SEASONALITY
The Company's business is seasonal, which the Company believes is typical of the
retail craft and fabric industry. The Company's highest sales and earnings
levels historically occur between September and December. This period includes
the Back-to-School, Halloween and Christmas seasons. The Company has
historically operated at a loss during its fourth quarter, the June through
August summer period. See Item 1. "Business - Seasonality."
Year to year comparisons of quarterly results and comparable store sales can be
affected by a variety of factors, including (1) the timing and duration of
holiday selling seasons, (2) the timing of new store openings and promotional
markdowns and (3) every seven years, the retail calendar contains a 53rd week as
compared to a 52 week year for all other years.
LIQUIDITY AND CAPITAL RESOURCES
The Company's primary needs for liquidity are to maintain inventory for the
Company's existing stores and to fund the costs of opening new stores, including
capital improvements, initial inventory and pre-opening expenses associated with
new stores. In fiscal 2003 and fiscal 2002, the Company relied on internally
generated funds, trade credit made available by suppliers and short-term
borrowings to finance inventories and new store openings.
Working capital decreased $961,000 in fiscal 2003 as compared to fiscal 2002
primarily due to the Company's net operating loss and an increase in trade
payables and accrued expense.
The Company maintains a $10 million credit facility with a bank. The credit
facility is renewable annually on or before each December 31 and consists of a
discretionary unsecured line of credit for direct borrowings and the issuance
and refinance of letters of credit. Borrowings under the line of credit bear
interest at the bank's prime rate (4.00% at August 30, 2003). The credit
facility requires the Company to maintain a compensating balance of $400,000 in
addition to certain financial covenants which require a minimum defined working
capital and tangible net worth, a maximum ratio of debt to tangible net worth
and set limits on the payment of dividends. As of August 30, 2003, the Company
was in compliance with such covenants. Historically, the amount borrowed has
varied based on the Company's seasonal requirements, generally reaching a
maximum amount outstanding during the fourth quarter of each fiscal year. The
maximum amount borrowed under the line at a point in time was $2,690,000,
$750,000 and $545,000 during fiscal 2003, fiscal 2002 and fiscal 2001,
respectively. There were no direct borrowings outstanding under the line of
credit at August 30, 2003 or August 31, 2002. The Company intends to maintain
the availability of the line of credit for working capital requirements and in
order to be able to take advantage of future opportunities.
The Company purchases merchandise directly from manufacturers in the Far East.
These purchases are payable in United States dollars and are either by direct
payment or supported by letters of credit. The results of operations of the
Company have not been affected by foreign currency fluctuation. At August 30,
2003, the Company had outstanding letters of credit in the aggregate amount of
$148,263.
During fiscal 2003, fiscal 2002 and fiscal 2001, the Company had net cash
provided by operating activities of $1,453,000, $1,356,000 and $1,526,000,
respectively, and used $1,581,000, $1,359,000 and $1,890,000, respectively
12
for purchases of property and equipment. Cash provided by operating activities
in fiscal 2003 resulted primarily from results of operations adding back
non-cash depreciation, and increases in trade payables and other current
obligations partially offset by the amortization of deferred income. During the
fiscal year ended August 30, 2003, the Company opened two stores, expanded two
stores, closed two stores and was operating sixty-eight stores at the end of the
fiscal year. In fiscal 2004, the Company expects to open two new stores,
relocate three stores and close two existing stores. Costs associated with
opening new stores, including capital expenditures, inventory and pre-opening
expenses, approximated $725,000 per store in fiscal 2003. Such costs associated
with the contemplated store openings in fiscal 2004 will be financed primarily
from cash provided by operating activities, credit made available by suppliers
to finance inventories and, if necessary, from the Company's bank line of
credit. However, the Company will re-deploy assets of stores being closed to the
new stores as opportunities arise in order to curtail the costs of opening
stores. The Company believes that its cash at August 30, 2003, working capital
generated from operations and cash available from the bank line of credit will
be sufficient for the Company's operating needs for at least the next 12 months.
CRITICAL ACCOUNTING POLICIES
Revenue is recognized when merchandise is sold to customers.
Merchandise inventories (which are all finished goods) are stated at the lower
of cost (first-in, first-out method) or market as determined by the retail
inventory method.
RECENT ACCOUNTING STANDARDS
In April 2002, the Financial Accounting Standards Board ("FASB") adopted SFAS
No. 145, "Rescission of FASB Statements No. 4, 44, and 64, Amendment of FASB
Statement No. 13, and Technical Corrections" ("SFAS No. 145"). This Statement
rescinds SFAS No. 4, "Reporting Gains and Losses from Extinguishment of Debt,"
and amends, SFAS No. 64, "Extinguishments of Debt Made to Satisfy Sinking-Fund
Requirements." This Statement also rescinds SFAS No. 44, "Accounting for
Intangible Assets of Motor Carriers" and amends SFAS No. 13, "Accounting for
Leases," to eliminate an inconsistency between the required accounting for
sale-leaseback transactions and the required accounting for certain lease
modifications that have economic effects that are similar to sale-leaseback
transactions. This Statement also amends other existing authoritative
pronouncements to make various technical corrections, clarify meanings, or
describe their applicability under changed conditions. SFAS No. 145 is effective
for fiscal years beginning after May 15, 2002. The Company adopted the
provisions of this statement, which did not have an impact on its consolidated
financial position or results of operations.
In June 2002, the FASB issued SFAS No. 146, "Accounting for Costs Associated
with Exit or Disposal Activities" ("SFAS No. 146"). This Statement addresses
financial accounting and reporting for costs associated with exit or disposal
activities and nullifies Emerging Issues Task Force ("EITF") Issues No. 94-3,
"Liability Recognition for Certain Employee Termination Benefits and Other Costs
to Exit an Activity (including Certain Costs Incurred in a Restructuring)"
("Issue No. 94-3"). The principal difference between this Statement and Issue
No. 94-3 relates to its requirements for recognition of a liability for a cost
associated with an exit or disposal activity be recognized when the liability is
incurred. Under Issue No. 94-3, a liability for an exit cost as defined in Issue
No. 94-3 was recognized at the date of an entity's commitment to an exit plan.
The provisions of this Statement are effective for exit or disposal activities
that are initiated after December 31, 2002. The Company adopted the provisions
of this statement, which did not have an impact on its consolidated financial
position or results of operations.
In November 2002, the FASB issued FASB Interpretation No. 45, "Guarantor's
Accounting and Disclosure Requirements for Guarantees, Including Indirect
Guarantees of Indebtedness of Others" ("FIN 45"). FIN 45 requires that the
liability be recorded in the guarantor's balance sheet upon the issuance of a
guarantee. In addition, FIN 45 requires disclosure about the guarantees that an
entity has issued, including a reconciliation of changes in the entity's product
warranty liabilities. The initial recognition and initial measurement provisions
of FIN 45 are applicable on a prospective basis to guarantees issued or modified
after December 31, 2002. The disclosure requirements of FIN 45 are effective for
financial statements of interim or annual periods ending after December 15,
2002. The Company has adopted the provisions of FIN 45, which did not have an
impact on the Company's financial position.
13
In December 2002, the FASB Issued Statement No. 148, "Accounting for Stock-Based
Compensation-Transition and Disclosure-an amendment of FASB Statement No. 123",
("SFAS No. 148"). SFAS No. 148 amends FASB Statement No. 123, "Accounting for
Stock Based Compensation" ("SFAS No. 123") and provides alternative methods for
accounting for a change by registrants to the fair value method of accounting
for stock-based compensation. Additionally, SFAS No. 148 amends the disclosure
requirements of SFAS No. 123 to require disclosure in the significant accounting
policy footnote of both annual and interim financial statements of the method of
accounting for stock-based compensation and the related pro-forma disclosures
when the intrinsic value method continues to be used. The statement is effective
for fiscal years beginning after December 15, 2002, and disclosures are
effective for the first fiscal quarter beginning after December 15, 2002. The
Company has adopted the disclosure provisions of this statement.
In January 2003, the FASB issued FASB Interpretation No. 46, "Consolidation of
Variable Interest Entities" ("FIN 46"). FIN 46 clarifies the application of
Accounting Research Bulletin 51, "Consolidated Financial Statements," for
entities that do not have sufficient equity at risk for the entity to finance
its activities without additional subordinated financial support from other
parties or in which equity investors do not have the characteristics of a
controlling financial interest ("variable interest entities"). Variable interest
entities within the scope of FIN 46 will be required to be consolidated by their
primary beneficiary. The primary beneficiary of a variable interest entity is
determined to be the party that absorbs a majority of the entity's expected
losses, receives a majority of its expected returns, or both. FIN 46 applies
immediately to variable interest entities created after January 31, 2003, and to
variable interest entities in which an enterprise obtains an interest after that
date. It applies in the first fiscal year or interim period beginning after
December 15, 2003, to variable interest entities in which an enterprise holds a
variable interest that it acquired before February 1, 2003. The original
effective date was for periods beginning after June 15, 2003. We are in the
process of determining what impact, if any, the adoption of the provisions of
FIN 46 will have upon our financial condition or results of operations.
In November 2002, the EITF reached a consensus on Issue No. 00-21, "Revenue
Arrangements with Multiple Deliverables," ("Issue No. 00-21") which requires the
revenue from sales with multiple deliverables be accounted for based on a
determination of whether the multiple deliverables qualify to be accounted for
as separate units of accounting. The consensus is effective prospectively for
arrangements entered into in fiscal periods beginning after June 15, 2003. The
Company does not expect a material impact on its results of operations or
financial condition as a result of the adoption of Issue No. 00-21.
In April 2003, FASB issued SFAS No. 149, "Amendment of Statement 133 on
Derivative Instruments and Hedging Activities, " ("SFAS No. 149"), which
clarifies financial accounting and reporting for derivative instruments,
including certain derivative instruments embedded in other contracts
(collectively referred to as derivatives) and for hedging activities under SFAS
No. 133, "Accounting for Derivative Instruments and Hedging Activities" ("SFAS
No. 133"). SFAS No. 149 is effective prospectively for contracts entered into or
modified after June 30, 2003, and for hedging relationships designated after
June 30, 2003. The exception to these requirements are the provisions of SFAS
No. 149 related to SFAS No. 133 implementation issues that have been effective
for fiscal quarters that began prior to June 15, 2003, and should continue to be
applied in accordance with their respective effective dates. In addition,
paragraphs 7(a) and 23 (a), which relate to forward purchases or sales of
when-issued securities or other securities that do not yet exist, should be
applied to both existing contracts and new contracts entered into after June 30,
2003. Adoption of SFAS No. 149 had no impact on the Company's financial
condition or results of operations.
In May 2003, the FASB issued SFAS No. 150, "Accounting for Certain Instruments
with Characteristics of Both Liabilities and Equity" ("SFAS No. 150"), which
establishes standards for how an issuer classifies and measures certain
financial instruments with characteristics of both liabilities and equity. SFAS
No. 150 requires that an issuer classify a financial instrument that is within
its scope, which may have previously been reported as equity, as a liability or
an asset in some circumstances. SFAS No. 150 is effective for financial
instruments entered into or modified after May 31, 2003, and otherwise is
effective at the beginning of the first interim period beginning after June 15,
2003. The Company does not expect a material impact on its results of operations
or financial condition as a result of the adoption of SFAS No. 150.
14
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Market risk is the potential change in a financial instrument's value caused by
fluctuations in interest or currency exchange rates, or in equity and commodity
prices. The Company's activities expose it to certain risks that management
evaluates carefully to minimize earnings volatility. At August 30, 2003, and
during each of the three years in the period then ended, the Company was not a
party to any derivative arrangement and the Company does not engage in trading,
market-making or other speculative activities in the derivatives markets. The
Company does not have any foreign currency exposure. As discussed in Note 3 of
the Notes to Consolidated Financial Statements, loans outstanding under the
Company's unsecured line of credit bear interest at the bank's prime rate (4.00%
at August 30, 2003). There were no loans outstanding under any such line of
credit at August 30, 2003 or August 31, 2002.
The following table details future projected payments for the Company's
significant contractual obligations as of August 30, 2003:
Computer and
Other Technology
Fiscal Year Ended Operating Leases Related Commitments Total
2004 $ 9,761,239 $ 445,888 $ 10,207,127
2005 9,205,138 98,761 9,303,899
2006 7,818,207 55,061 7,873,268
2007 6,409,210 1,519 6,410,729
2008 5,116,264 0 5,116,264
Thereafter 10,024,058 0 10,024,058
---------- --------- ----------------
$ 48,334,116 $ 601,229 $ 48,935,345
=========== ========== ================
PART III
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
See Item 15(a) in Part IV.
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS AND FINANCIAL
DISCLOSURES
None
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
The information required for this item is incorporated by reference herein from
the Company's 2003 Definitive Proxy Statement which the Company will file with
the Securities and Exchange Commission no later than 120 days subsequent to
August 30, 2003.
ITEM 11. EXECUTIVE COMPENSATION
The information required for this item is incorporated by reference herein from
the Company's 2003 Definitive Proxy Statement which the Company will file with
the Securities and Exchange Commission no later than 120 days subsequent to
August 30, 2003.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
The information required for this item is incorporated by reference herein from
the Company's 2003 Definitive Proxy Statement which the Company will file with
the Securities and Exchange Commission no later than 120 days subsequent to
August 30, 2003.
15
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
The information required for this item is incorporated by reference herein from
the Company's 2003 Definitive Proxy Statement which the Company will file with
the Securities and Exchange Commission no later than 120 days subsequent to
August 30, 2003.
ITEM 14. CONTROLS AND PROCEDURES
The Company maintains disclosure controls and procedures (as defined in Rules
13a-14 and 15d-14 promulgated by the Securities and Exchange Commission under
the Securities Exchange Act of 1934) designed to ensure that information
required to be disclosed in the reports that the Company files or submits under
the Securities Exchange Act of 1934 is recorded, processed, summarized and
reported within the time periods specified in the rules and forms of the
Securities and Exchange Commission. Based upon their evaluation of those
controls and procedures performed within 90 days of the filing date of this
report, the Chief Executive and Acting Chief Financial Officers of the Company
concluded that the Company's disclosure controls and procedures were adequate.
We note that the design of any system of controls and procedures is based in
part upon certain assumptions about its likelihood of future events and there
can be no assurance that any such design will succeed in achieving its stated
goals under all potential conditions.
The Company made no significant changes in its internal controls or in other
factors that could significantly affect these controls subsequent to the date of
the evaluation of those controls by the Chief Executive and Acting Chief
Financial Officers.
16
PART IV
ITEM 15. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K.
The following documents are filed as part of this Report:
(a) Consolidated Financial Statements:
See Index to Consolidated Financial Statements and Supplementary
Data on page F-1.
(b) Reports on Form 8-K:
The Company did not file a Current Report on Form 8-K during the
last quarter of the period covered by this Report.
(c) Exhibits:
The exhibits listed below and on the accompanying Index to Exhibits
immediately following the consolidated financial statements are
incorporated herein or by reference to this Report
Exhibit
Number Description of Exhibit
3.1 * Certificate of Incorporation of the Company
3.2 * By-Laws of the Company
10.1 * Promissory Note (Revolving) with Valley National
Bank
10.2 * 1991 Stock Option Plan
10.3 ** 1999 Incentive Stock Award Plan
10.4 ** Change in Registrants Certifying Accountant
10.5 *** 2002 Stock Option Plan
21.1 List of subsidiaries of the Company
23.1 Consent of Grant Thornton LLP
24.1 Power of Attorney to sign Form 10-K/A (set forth on
page 18)
99.1 Certification
99.2 Certification
(d) No schedules are required.
* Incorporated by reference to the Company's Registration Statement on
Form S-1 and Amendment No. 1 thereto.
** Incorporated by reference to the Company's Registration Statement on
Form S-8 filed on September 3, 1999.
*** Incorporated by reference to the Company's Proxy Statement on Form DEF
14-A filed on December 30, 2002.
17
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange
Act of 1934, the Registrant has duly caused this report to be signed on its
behalf by the undersigned thereunto, duly authorized, in the City of Hawthorne,
New Jersey, on January 27, 2004.
RAG SHOPS, INC.
By: /S/ STANLEY BERENZWEIG
--------------------------
STANLEY BERENZWEIG, Chairman
POWER OF ATTORNEY
Each of the undersigned hereby appoints Stanley Berenzweig and Steven Barnett as
his or her attorneys-in-fact to sign his or her name, in any and all capacities,
to any amendments to this Form 10-K/A and any other documents filed in
connection therewith to be filed with the Securities and Exchange Commission.
Each of such attorneys has the power to act with or without the others.
Pursuant to the requirements of the Securities Exchange Act of 1934, this report
has been signed below by the following person on behalf of the Registrant and in
the capacities and on the dates indicated.
SIGNATURE TITLE(S) DATE
/S/ STEVEN B. BARNETT Executive Vice President and January 27, 2004
---------------------- Director
Steven B. Barnett
/S/ STANLEY BERENZWEIG Principal Executive January 27, 2004
---------------------- Officer and Director
Stanley Berenzweig
/S/ MARIO CIAMPI Director January 27, 2004
----------------
Mario Ciampi
/S/ FRED J. DAMIANO Director January 27, 2004
--------------------
Fred J. Damiano
/S/ JEFFREY C. GERSTEL President and January 27, 2004
---------------------- Director
Jeffrey C. Gerstel
/S/ JUDITH LOMBARDO Senior Vice President and January 27, 2004
-------------------- Director
Judith Lombardo
/S/ ALAN C. MINTZ Director January 27, 2004
------------------
Alan C. Mintz
18
CERTIFICATIONS
I, Stanley Berenzweig, certify that:
1. I have reviewed this annual report on Form 10-K/A of Rag Shops, Inc.;
2. Based on my knowledge, this annual report does not contain any untrue
statement of a material fact or omit to state a material fact necessary to make
the statements made, in light of the circumstances under which such statements
were made, not misleading with respect to the period covered by this annual
report;
3. Based on my knowledge, the financial statements, and other financial
information included in this annual report, fairly present in all material
respects the financial condition, results of operations and cash flows of the
registrant as of, and for, the periods presented in this annual report;
4. The registrant's other certifying officers and I are responsible for
establishing and maintaining disclosure controls and procedures (as defined in
Exchange Act Rules 13a-14 and 15d-14) for the registrant and have: a) designed
such disclosure controls and procedures to ensure that material information
relating to the registrant, including its consolidated subsidiaries, is made
known to us by others within those entities, particularly during the period in
which this annual report is being prepared; b) evaluated the effectiveness of
the registrant's disclosure controls and procedures as of a date within 90 days
prior to the filing date of this annual report on January 27, 2004; and c)
presented in this annual report our conclusions about the effectiveness of the
disclosure controls and procedures based on our evaluation as of the Evaluation
Date;
5. The registrant's other certifying officers and I have disclosed, based on our
most recent evaluation, to the registrant's auditors and the audit committee of
registrant's board of directors: a) all significant deficiencies in the design
or operation of internal controls which could adversely affect the registrant's
ability to record, process, summarize and report financial data and have
identified for the registrant's auditors any material weaknesses in internal
controls; and b) any fraud, whether or not material, that involves management or
other employees who have a significant role in the registrant's internal
controls; and
6. The registrant's other certifying officers and I have indicated in this
annual report whether there were significant changes in internal controls or in
other factors that could significantly affect internal controls subsequent to
the date of our most recent evaluation, including any corrective actions with
regard to significant deficiencies and material weaknesses.
SIGNATURE TITLE(S) DATE
/S/ STANLEY BERENZWEIG Principal Executive January 27, 2004
- ---------------------- and Director
Stanley Berenzweig
19
CERTIFICATIONS
I, Steven B. Barnett, certify that:
1. I have reviewed this annual report on Form 10-K/A of Rag Shops, Inc.;
2. Based on my knowledge, this annual report does not contain any untrue
statement of a material fact or omit to state a material fact necessary to make
the statements made, in light of the circumstances under which such statements
were made, not misleading with respect to the period covered by this annual
report;
3. Based on my knowledge, the financial statements, and other financial
information included in this annual report, fairly present in all material
respects the financial condition, results of operations and cash flows of the
registrant as of, and for, the periods presented in this annual report;
4. The registrant's other certifying officers and I are responsible for
establishing and maintaining disclosure controls and procedures (as defined in
Exchange Act Rules 13a-14 and 15d-14) for the registrant and have: a) designed
such disclosure controls and procedures to ensure that material information
relating to the registrant, including its consolidated subsidiaries, is made
known to us by others within those entities, particularly during the period in
which this annual report is being prepared; b) evaluated the effectiveness of
the registrant's disclosure controls and procedures as of a date within 90 days
prior to the filing date of this annual report on January 27, 2004; and c)
presented in this annual report our conclusions about the effectiveness of the
disclosure controls and procedures based on our evaluation as of the Evaluation
Date;
5. The registrant's other certifying officers and I have disclosed, based on our
most recent evaluation, to the registrant's auditors and the audit committee of
registrant's board of directors: a) all significant deficiencies in the design
or operation of internal controls which could adversely affect the registrant's
ability to record, process, summarize and report financial data and have
identified for the registrant's auditors any material weaknesses in internal
controls; and b) any fraud, whether or not material, that involves management or
other employees who have a significant role in the registrant's internal
controls; and
6. The registrant's other certifying officers and I have indicated in this
annual report whether there were significant changes in internal controls or in
other factors that could significantly affect internal controls subsequent to
the date of our most recent evaluation, including any corrective actions with
regard to significant deficiencies and material weaknesses.
SIGNATURE TITLE(S) DATE
/S/ STEVEN B. BARNETT Executive Vice President and January 27, 2004
- --------------------- Acting Chief Financial
Steven B. Barnett Officer
20
RAG SHOPS, INC.
INDEX TO CONSOLIDATED FINANCIAL STATEMENTS AND SUPPLMENTARY DATA
The following consolidated financial statements of Rag Shops, Inc. are
included in response to Item 8:
PAGE
Report of Independent Certified Public Accountants F-2
Consolidated Balance Sheets as of August 30, 2003 (restated)
and August 31, 2002 (previously restated) F-3
Consolidated Statements of Operations for the fiscal years
ended August 30, 2003, August 31, 2002 (previously restated)
and September 1, 2001 F-4
Consolidated Statements of Changes in Stockholders' Equity for
the fiscal years ended August 30, 2003 (previously reported),
August 31, 2002 (previously reported) and September 1, 2001 F-5
Consolidated Statements of Changes in Stockholders' Equity for
the fiscal years ended August 30, 2003 (restated), August 31,
2002 (previously restated) and September 1, 2001 F-6- F-7
Consolidated Statements of Cash Flows for
the fiscal years ended August 30, 2003, August 31, 2002
(previously restated) and September 1, 2001 F-8
Notes to Consolidated Financial Statements F-9 - F-22
F-1
REPORT OF INDEPENDENT CERTIFIED PUBLIC ACCOUNTANTS
To the Board of Directors of
Rag Shops, Inc.
We have audited the accompanying consolidated balance sheets of Rag Shops, Inc.
and Subsidiaries as of August 30, 2003 and August 31, 2002, and the related
consolidated statements of operations, changes in stockholders' equity and cash
flows for the three years in the period ended August 30, 2003. These financial
statements are the responsibility of the Company's management. Our
responsibility is to express an opinion on these financial statements based on
our audits.
We conducted our audits in accordance with auditing standards generally accepted
in the United States of America. Those standards require that we plan and
perform the audit to obtain reasonable assurance about whether the financial
statements are free of material misstatement. An audit includes examining, on a
test basis, evidence supporting the amounts and disclosures in the financial
statements. An audit also includes assessing the accounting principles used and
significant estimates made by management, as well as evaluating the overall
financial statement presentation. We believe that our audits provide a
reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly, in
all material respects, the consolidated financial position of Rag Shops, Inc.
and Subsidiaries as of August 30, 2003 and August 31, 2002, and the consolidated
results of their operations and their consolidated cash flows for each of the
three years in the period ended August 30, 2003, in conformity with accounting
principles generally accepted in the United States of America.
As discussed in Note 1 Recent Developments, the accompanying financial
statements as of and for the years ended August 31, 2003 and August 31, 2002
have been restated.
GRANT THORNTON LLP
Edison, New Jersey
November 13, 2003, except for the item titled "Recent Developments" in Note 1,
as to which the date is January 23, 2004
F-2
RAG SHOPS, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
August 30, August 30, August 31,
2003 2003 2002
---- ---- ----
(Restated) (Previously (Previously
(See Note 1) Reported) Restated)
ASSETS
CURRENT ASSETS
Cash $ 834,530 $ 834,530 $ 958,852
Investment in common stock 307,238 - 286,437
Merchandise inventories 31,995,448 31,995,448 30,327,095
Prepaid expenses 1,490,216 1,490,216 1,248,932
Other current assets 430,912 430,912 453,858
Deferred income taxes 918,146 918,146 789,846
----------- ----------- -----------
Total current assets 35,976,490 35,669,252 34,065,020
PROPERTY AND EQUIPMENT, NET 4,579,554 4,579,554 4,250,885
DEFERRED INCOME TAXES 323,757 459,002 368,492
OTHER ASSETS 29,196 29,196 43,194
----------- ----------- -----------
TOTAL ASSETS $ 40,908,997 $ 40,737,004 $ 38,727,591
=========== =========== ===========
LIABILITIES AND STOCKHOLDERS' EQUITY
CURRENT LIABILITIES:
Accounts payable - trade $ 11,431,943 $ 11,431,943 $ 10,307,909
Accrued expenses and other current
liabilities 4,314,928 4,314,928 2,953,216
Accrued salaries and wages 1,102,973 1,102,973 1,297,857
Deferred income 581,773 581,773 -
----------- ----------- -----------
Total current liabilities 17,431,617 17,431,617 14,558,982
COMMITMENTS AND CONTINGENCIES
STOCKHOLDERS' EQUITY:
Preferred stock, $.01 par value
2,000,000 shares authorized;
No shares issued or outstanding - - -
Common stock, $.01 par value,
13,000,000 shares authorized;
4,824,863 (4,797,983) shares
issued (outstanding) at August 30, 2003
and August 31, 2002 48,249 48,249 48,249
Additional paid-in capital 6,235,352 6,235,352 6,235,352
Retained earnings 17,185,410 17,085,860 17,890,805
Unrealized gain on investment in common stock, net of taxes 72,443 - 58,277
Treasury stock, at cost, 26,880 shares (64,074) (64,074) (64,074)
----------- ----------- -----------
Total stockholders' equity 23,477,380 23,305,387 24,168,609
----------- ----------- -----------
TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY $ 40,908,997 $ 40,737,004 $ 38,727,591
=========== =========== ===========
The accompanying notes are an integral part of these consolidated financial
statements.
F-3
RAG SHOPS, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
Fiscal Year Ended
-----------------
August 30, August 31, September 1,
2003 2002 2001
---- ---- ----
(Previously
Restated)
NET SALES $115,547,398 $110,672,263 $100,887,768
COST OF MERCHANDISE SOLD, OCCUPANCY
AND DISTRIBUTION COSTS 76,932,395 73,067,462 66,880,557
---------- ---------- ----------
Gross profit 38,615,003 37,604,801 34,007,211
---------- ---------- ----------
OPERATING EXPENSES:
Store expenses 30,276,591 28,538,810 26,740,769
General and administrative
expenses 9,366,450 8,578,252 7,251,006
---------- ---------- ----------
Total operating expenses 39,643,041 37,117,062 33,991,775
----------- ---------- ----------
(1,028,038) 487,739 15,436
Gain from demutualization 0 180,671 0
------------ ------------ ------------
INCOME (LOSS) FROM OPERATIONS (1,028,038) 668,410 15,436
INTEREST INCOME (EXPENSE), Net (8,257) 37,783 127,885
----------- ---------- ----------
INCOME (LOSS) BEFORE INCOME
TAX PROVISION (BENEFIT) (1,036,295) 706,193 143,321
PROVISION (BENEFIT) FOR INCOME TAXES (330,900) 317,021 97,200
----------- ---------- ----------
NET INCOME (LOSS) $ (705,395) $ 389,172 $ 46,121
=========== =========== ===========
BASIC AND DILUTED EARNINGS (LOSS) PER
COMMON SHARE: $ (.15) $ .08 $ .01
========== =========== ===========
WEIGHTED AVERAGE SHARES OUTSTANDING
Basic 4,797,983 4,799,183 4,801,583
Diluted 4,797,983 4,826,119 4,807,010
The accompanying notes are an integral part of these consolidated financial
statements.
F-4
RAG SHOPS, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS' EQUITY
(Previously reported)
Unamortized
Additional estricted
Common Stock Paid-In Stock Retained Treasury
Shares Dollars Capital Awards Earnings Stock Total
BALANCE,
SEPTEMBER 2, 2000 4,828,463 $48,285 $6,242,293 $(12,100) $17,455,512 $ (64,074) $23,669,916
Amortization of
restricted stock
awards 0 0 0 4,384 0 0 4,384
Forfeiture of
restricted stock
awards (2,400) (24) (4,627) 4,651 0 0 0
Net income 0 0 0 0 46,121 0 46,121
-------- ------- --------- --------- --------- ------ --------
BALANCE,
SEPTEMBER 1, 2001 4,826,063 48,261 6,237,666 (3,065) 17,501,633 (64,074) 23,720,421
Amortization of
restricted stock
awards 0 0 0 739 0 0 739
Forfeiture of
restricted stock
awards (1,200) (12) (2,314) 2,326 0 0 0
Net income 0 0 0 0 289,622 0 289,622
-------- ------- --------- --------- --------- ------ --------
BALANCE, AUGUST
31, 2002 4,824,863 48,249 6,235,352 0 17,791,255 (64,074) 24,010,782
Net loss 0 0 0 0 (705,395) 0 (705,395)
-------- ------- --------- --------- ---------- ------ ---------
BALANCE, AUGUST
30, 2003 4,824,863 $48,249 $6,235,352 $ 0 $17,085,860 $ (64,074) $23,305,387
========= ====== ========= ========= ========== ========= ==========
The accompanying notes are an integral part of these consolidated financial
statements.
F-5
RAG SHOPS, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS' EQUITY
(Previously restated and restated)
Unrealized
Gain on
Investment
Unamortized in
Additional Restricted Common
Common Stock Paid-In Stock Retained Stock, net Treasury
Shares Dollars Capital Awards Earnings of taxes Stock Total
(See Note 1)
BALANCE,
SEPTEMBER 2, 2000 4,828,463 $48,285 $6,242,293 $(12,100) $17,455,512 $ 0 $ (64,074) $23,669,916
Amortization of
restricted stock
awards 0 0 0 4,384 0 0 0 4,384
Forfeiture of
restricted stock
awards (2,400) (24) (4,627) 4,651 0 0 0 0
Net income 0 0 0 0 46,121 0 0 46,121
-------- ------- --------- --------- --------- ------- ------- --------
BALANCE,
SEPTEMBER 1, 2001 4,826,063 48,261 6,237,666 (3,065) 17,501,633 0 (64,074) 23,720,421
Amortization of
restricted stock
awards 0 0 0 739 0 0 0 739
Forfeiture of
restricted stock
awards (1,200) (12) (2,314) 2,326 0 0 0 0
Unrealized gain on
investment in
common stock, net
of taxes 0 0 0 0 0 58,277 0 58,277
Net income 0 0 0 0 389,172 0 0 389,172
---------
Total comprehensive
income 447,449
-------- -------- ---------- ---------- ----------- --------- -------- ---------
BALANCE, AUGUST
31, 2002
(Previously 4,824,863 48,249 6,235,352 0 17,890,805 58,277 (64,074) 24,168,609
Restated)
F-6
Unrealized
Gain on
Investment
Unamortized in
Additional Restricted Common
Common Stock Paid-In Stock Retained Stock, net Treasury
Shares Dollars Capital Awards Earnings of taxes Stock Total
(See Note 1)
Unrealized gain on
investment in
common stock, net
of taxes 0 0 0 0 0 14,166 0 14,166
Net loss 0 0 0 0 (705,395) 0 0 (705,395)
-----------
Total comprehensive
income (loss) (691,229)
-------- -------- ---------- ---------- ----------- --------- -------- -----------
BALANCE, AUGUST
30, 2003
(Restated)
(See Note 1) 4,824,863 $48,249 $6,235,352 $ 0 $17,185,410 $ 72,443 $ (64,074) $ 23,477,380
========= ====== ========= ========= =========== ======= ========= ===========
The accompanying notes are an integral part of these consolidated financial
statements.
F-7
RAG SHOPS, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
Fiscal Year Ended
-----------------
August 30, August 31, September 1,
2003 2002 2001
---- ---- ----
(Previously
Restated)
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income (loss) $ (705,395) $ 389,172 $ 46,121
Adjustments to reconcile net income to net cash
Provided by operating activities:
Depreciation and amortization 1,216,644 1,224,726 1,276,297
Gain from demutualization - (180,671) -
Deferred income taxes (90,200) 85,521 (89,500)
Loss on disposition of property and equipment 31,723 60,705 34,136
Amortization of deferred income (814,478) - -
Amortization of restricted stock awards - 739 4,384
Changes in assets and liabilities:
(Increase) decrease in:
Merchandise inventories (272,100) (2,520,517) (1,260)
Prepaid expenses (241,284) (54,655) (710,963)
Other current assets 22,946 (300,293) (54,627)
Other assets 13,998 6,291 17,222
Increase (decrease) in:
Accounts payable - trade 1,124,034 1,959,357 585,832
Accrued expenses 1,361,712 107,652 591,379
Accrued salaries and wages (194,884) 577,905 (173,171)
---------- ---------- ----------
Net cash provided by operating activities 1,452,716 1,355,932 1,525,850
---------- ---------- ----------
CASH FLOWS FROM INVESTING ACTIVITIES:
Proceeds from sale of property and equipment 3,700 9,040 6,300
Payments for purchases of property and equipment (1,580,738) (1,359,344) (1,889,530)
---------- ---------- ----------
Net cash used in investing activities (1,577,038) (1,350,304) (1,883,230)
---------- ---------- ----------
CASH FLOWS FROM FINANCING ACTIVITIES:
Proceeds from issuance of note payable - bank 11,455,000 4,075,000 1,090,000
Repayments of note payable - bank (11,455,000) (4,075,000) (1,090,000)
---------- ---------- ----------
Net cash from financing activities - - -
---------- ---------- ----------
NET (DECREASE) INCREASE IN CASH (124,322) 5,628 (357,380)
CASH, BEGINNING OF YEAR 958,852 953,224 1,310,604
---------- ---------- ----------
CASH, END OF YEAR $ 834,530 $ 958,852 $ 953,224
========= ========= =========
SUPPLEMENTAL DISCLOSURES OF CASH FLOW
INFORMATION
Cash paid (received) during the year for:
Interest $ 8,257 $ (37,783) $ (127,885)
========= ========== ===========
Income taxes $ 70,664 $ 98,042 $ 843,731
========= ========= ==========
Note - Non-cash transaction for acquisition of $1,396,253 of inventory and
related recognition of deferred income in fiscal year ended August 30, 2003 -
See Note 1. "Cost of Merchandise Sold, Occupancy and Distribution Costs"
The accompanying notes are an integral part of these consolidated financial
statements.
F-8
RAG SHOPS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
YEARS ENDED AUGUST 30, 2003, AUGUST 31, 2002 AND SEPTEMBER 1, 2001
NOTE 1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES AND RECENT DEVELOPMENTS
ORGANIZATION AND NATURE OF BUSINESS
Rag Shops, Inc. (the "Company"), a Delaware corporation formed in April 1991, is
the successor by merger to a New Jersey Corporation having the same name which
was incorporated in 1984. The Company operates a chain of retail craft and
fabric stores through its subsidiaries which are located in New Jersey, New
York, Pennsylvania, Florida and Connecticut.
PRINCIPLES OF CONSOLIDATION
The consolidated financial statements include the accounts of the Company and
its subsidiaries, all of which are wholly owned. All significant intercompany
transactions and balances have been eliminated.
USE OF ESTIMATES
The preparation of financial statements in accordance with generally accepted
accounting principles requires management to make estimates and assumptions that
affect the amounts reported in the Company's financial statements and
accompanying notes to financial statements. Actual results could differ from
those estimates.
FISCAL YEAR
We report on the basis of a 52 or 53 week fiscal year which ends on the Saturday
closest to August 31. Fiscal years ended August 30, 2003 ("2003"), August 31,
2002 ("2002") and September 1, 2001 ("2001") were each comprised of 52 weeks.
RECLASSIFICATIONS
Certain prior year amounts have been reclassified to conform to the current year
presentations.
COST OF MERCHANDISE SOLD, OCCUPANCY AND DISTRIBUTION COSTS
Cost of merchandise sold, occupancy and distribution costs include merchandise
purchases, inbound freight costs, distribution costs, shrinkage provision,
cooperative advertising allowances, vendor allowances, vendor rebates, store
rent and other store-related occupancy costs.
In November 2002, the Emerging Issues Task Force (the "EITF") reached consensus
on Issue No. 02-16, "Accounting by a Customer (including a Reseller) for Cash
Consideration Received from a Vendor" ("EITF Issue No. 02-16"). EITF Issue No.
02-16 addresses the classification of cash consideration received by a customer
from a vendor (e.g., cooperative advertising payments) and rebates or refunds
from a vendor that is payable only if the customer completes a specified
cumulative level of purchases or remains a customer for a specified time period.
The classification provisions of EITF Issue No. 02-16 became effective for
arrangements entered into after December 31, 2002. The Company has adopted the
provisions of EITF Issue No. 02-16 as of the beginning of the quarter ended
March 1, 2003. Cooperative advertising payments received by vendors have been
recorded as a reduction of cost of merchandise sold for fiscal 2003. These
payments were previously offset against advertising expenses. All comparative
periods have been reclassified. The amounts included in cost of merchandise sold
relating to cooperative advertising payments received was $1,199,360, $1,289,702
and $1,168,396 for fiscal 2003, fiscal 2002 and fiscal 2001, respectively. The
adoption of this pronouncement did not change net income or earnings per share
in any period reported herein.
F-9
STORE EXPENSES
Store expenses include payroll and other payroll-related costs, advertising,
depreciation and other store-related costs.
GENERAL AND ADMINISTRATIVE EXPENSES
General and administrative expenses include non-store payroll and other
payroll-related costs, insurance costs, depreciation, professional services and
other general and administrative expenses.
ADVERTISING COSTS
Advertising costs are expensed as incurred and are included in store expenses.
Advertising expense was $6,103,005, $5,485,787 and $5,330,324 for fiscal 2003,
fiscal 2002 and fiscal 2001, respectively.
MERCHANDISE INVENTORIES
Merchandise inventories (which are all finished goods) are stated at the lower
of cost (first-in, first-out method) or market as determined by the retail
inventory method. The Company utilizes a method that weights the cost-to-retail
ratio using multiple inventory categories.
Physical inventories are conducted in the fourth quarter of the fiscal year and
reconciled to the Company's financial records to determine shrinkage for the
current fiscal year. The Company's estimated shrinkage accrual, based on
previous results, is adjusted to current results in the fourth quarter of the
fiscal year.
PROPERTY AND EQUIPMENT
Property and equipment are stated at cost. Depreciation is computed over the
estimated useful lives of the assets using straight-line and accelerated
methods. Leasehold improvements are amortized by the straight-line method over
an estimated useful life or the term of the related lease, whichever is shorter.
For tax purposes, depreciation is computed using accelerated methods.
The Company follows Statement of Financial Accounting Standards No. 144,
"Accounting for the Impairment or Disposal of Long-Lived Assets" ("SFAS No.
144"). This Statement established accounting standards for the impairment of
long-lived assets, certain identifiable intangibles and goodwill related to
those assets to be held and used, and for long-lived assets and certain
identifiable intangibles to be held and used by an entity to be reviewed for
impairment whenever events or changes in circumstances indicate that the
carrying amount of an asset may not be recoverable.
The Company continually reviews long-lived assets and certain identifiable
intangibles held and used for possible impairment whenever events or changes in
circumstances indicate that the carrying amount of an asset may not be
recoverable. In evaluating the fair value and future benefits of such assets,
the Company performs an analysis of the anticipated undiscounted future net cash
flows of the individual assets over the remaining amortization period and
recognizes an impairment loss if the carrying value exceeds the expected future
cash flows. The impairment loss is measured based upon the difference between
the fair value of the asset and its recorded carrying value.
DEFERRED INCOME
Deferred income relates to the forgiveness of certain obligations through
modifications of certain agreements with suppliers, which changed the ownership
of inventory to the Company from the suppliers. Deferred income is being
amortized over the term of a vendor agreement and the approximate departmental
inventory turn. Deferred income in the original amount of $1,396,000, which was
recorded in the second quarter of fiscal 2003, is being amortized over two years
- - See Note 10.
REVENUE RECOGNITION
Revenue is recognized when merchandise is sold to customers.
F-10
FAIR VALUE OF FINANCIAL INSTRUMENTS
In management's opinion, the fair value of amounts outstanding under its line of
credit approximate fair value due to their variable interest rate.
PRE-OPENING AND CLOSING STORE EXPENSES
All pre-opening costs incurred in connection with the opening of new retail
stores are charged to expense when incurred. Costs associated with closing
stores, which consists primarily of write-downs of leasehold improvements, were
charged to expense at the time the decision to close a store is determined prior
to fiscal 2003. The Company adopted SFAS No. 144 in fiscal 2003 whereby costs
associated with leasehold improvements for stores which have been determined to
be closed are amortized over the remaining estimated term until the store is
exited.
STOCK BASED COMPENSATION
The Company applies APB Opinion 25, "Accounting for Stock Issued to Employees",
and related interpretations in accounting for its plans and complies with the
disclosure provisions of FASB Statement No. 123, "Accounting for Stock Based
Compensation" ("SFAS No. 123"). Under APB Opinion 25, compensation expense is
measured as the excess, if any, of the fair value of the Company's common stock
at the date of the grant over the amount a grantee must pay to acquire the
stock. There has been no compensation expense recognized during 2003, 2002 and
2001 as all options have been issued with exercise prices equal to the
underlying stock's market price.
Pro forma information regarding net income (loss) and income (loss) per share is
required by SFAS No. 123 and has been determined as if the Company had accounted
for its employee stock options under the fair value method of SFAS No. 123. The
fair value for these options was estimated at the date of grant using the
Black-Scholes option pricing model with the following weighted-average
assumptions for 2003, 2002 and 2001, respectively: no dividend yield; expected
volatility of 30%, 30% and 49%; risk-free interest rate of 5.0%, 5.0% and 5.7%;
and expected life of 10 years.
The Black-Scholes option valuation model was developed for use in estimating the
fair value of the traded options, which have no vesting restrictions and are
fully transferable. In addition, option valuation models require the input of
highly subjective assumptions including the expected stock price volatility.
Because the Company's employee stock options have characteristics significantly
different from those of traded options, and because changes in the subjective
input assumptions can materially affect the fair value estimate, in management's
opinion, the existing models do not necessarily provide a reliable single
measure of the fair value of its employee stock options.
For the purposes of pro forma disclosures, the estimated fair value of the
options is amortized to expense over the options vesting period. Adjustments are
made for options forfeited prior to vesting. The effect on compensation expense,
net income (loss), and net income (loss) per share had compensations costs for
the Company's stock option plans been determined based on a fair value at the
date of grant consistent with the provisions of SFAS No. 123 is as follows:
Fiscal Year Ended
August 30, 2003 August 31, 2002 September 1, 2001
--------------- --------------- -----------------
(Previously
Restated)
Net income (loss), as reported $ (705,395) $ 389,172 $ 46,121
Deduct: Total stock based employee
compensation determined under fair
value based method for awards granted,
modified, or settled, net of related tax
effects 3,649 974 11,666
--------- ---------- -----------
Pro forma net income (loss) $ (709,044) $ 388,198 $ 34,455
========= ========== ===========
F-11
Fiscal Year Ended
August 30, 2003 August 31, 2002 September 1, 2001
--------------- --------------- -----------------
(Previously
Restated)
Basic earnings (loss) per share:
As reported $ (.15) $ .08 $ .01
========= ========== ===========
Pro forma $ (.15) $ .08 $ .01
========= ========== ===========
Diluted earnings (loss) per share:
As reported $ (.15) $ .08 $ .01
========= ========== ===========
Pro forma $ (.15) $ .08 $ .01
========= ========== ===========
INCOME TAXES
The Company utilizes SFAS No. 109, "Accounting for Income Taxes," which requires
the recognition of deferred tax assets and liabilities for the expected future
tax consequences of events that have been included in the financial statements
or tax returns. Under this method, deferred income taxes are recognized for the
tax consequences in future years of differences between the tax bases of assets
and liabilities and their financial reporting amounts at each period end based
on enacted tax laws and statutory tax rates applicable to the periods in which
the differences are expected to affect taxable income. Valuation allowances are
established, when necessary, to reduce deferred tax assets to the amount
expected to be realized. The provision for income taxes represents the tax
payable for the period and the change during the period in deferred tax assets
and liabilities.
RECENT DEVELOPMENTS
In December 2003, the Company received a check from Principal Financial Group,
Inc. ("Principal") reflecting dividends payable in connection with common stock
of Principal. Receipt of the dividend check prompted a Company inquiry which
revealed that, due to its ownership of certain life insurance policies issued by
Principal Life Insurance Company, a subsidiary of Principal, and maintained by
the Company for certain key executive officers, the Company had received 9,766
shares of Principal's common stock (the "Shares") in December 2001 as
consideration in the demutualization of Principal's predecessor. The effective
date of the demutualization was in October 2001 and the Shares were issued in
December 2001 to one of the Company's subsidiaries, the owner of the life
insurance policies, in book-entry form as uncertificated shares and maintained
in an account with Mellon Investor Services established by Principal in
connection with its demutualization transaction. The Company had not previously
recognized or recorded the Shares issued pursuant to such event.
The Company has determined it will restate prior financial statements to
properly reflect the transaction in the first quarter of fiscal 2002. In its
restated financial statements, the Company has recorded the then fair market
value ($180,671) of the Shares as part of operating income as of October 2001,
in accordance with Emerging Issues Task Force Issue No. 99-4, "Accounting for
Stock Received from the Demutualization of a Mutual Insurance Company". The
Company has classified its holding in the Shares as "available-for-sale"
pursuant to Statement of Financial Accounting Standards No. 115 "Accounting for
Investments", whereby the investment will be carried at fair market value and
subsequent changes in the market value of the investment will be reflected as an
unrealized gain or loss in the stockholders' equity section of the balance
sheets, net of deferred income taxes. Other Comprehensive Income will be
presented for all periods pursuant to Statement of Financial Accounting
Standards No. 130 "Reporting Comprehensive Income" either in the Consolidated
Statements of Changes in Stockholders' Equity or Notes to Consolidated Financial
Statements. Comprehensive income consists of net income or loss for the current
period as well as income, expenses, gains or losses, net of income taxes arising
during the period that are included in separate components of equity. It
includes the unrealized gains and losses on the Company's available-for-sale
security, net of taxes.
The fair market value of the Shares as of the close of business on August 30,
2003 was $307,238. Please refer to amendments to periodic reports filed with the
Securities and Exchange Commission for periods between December 1, 2001 and
November 29, 2003 for related restatements.
F-12
The following tables show the impact of the restatement from the previously
filed financial statements, as of August 30, 2003 and for the fiscal year then
ended:
Previously
Reported Adjustments Restated
-------- ----------- --------
(Amounts in thousands)
Current assets - Investment in common stock $ - $ 307 $ 307
Deferred income taxes - long term 459 (135) 324
Stockholders' equity - Unrealized gain on
investment in common stock, net of taxes - 72 72
Stockholders' equity - Retained earnings 17,086 100 17,186
Other comprehensive income - 14 14
Total comprehensive income (705) 14 (691)
The following tables show the impact of the restatement from the previously
filed financial statements, as of August 31, 2002 and for the fiscal year then
ended:
Previously
Reported Adjustments Restated
-------- ----------- --------
(Amounts in thousands except earnings per share)
Current assets - Investment in common stock $ - $ 286 $ 286
Deferred income taxes - long term 497 (129) 368
Stockholders' equity - Unrealized gain on
investment in common stock, net of taxes - 58 58
Stockholders' equity - Retained earnings 17,791 100 17,891
Gain from demutualization - 181 181
Provision for income taxes 236 81 317
Net income 289 100 389
Other comprehensive income - 58 58
Total comprehensive income 289 158 447
Earnings per share - Basic $ 0.06 $ 0.02 $ 0.08
Earnings per share - Diluted $ 0.06 $ 0.02 $ 0.08
The Company did not previously file a Schedule of Comprehensive Income as there
were no differences between net income and total comprehensive income. The
Schedule of Comprehensive Income is as follows:
Fiscal Year Ended
-----------------
August 30, August 31,
2003 2002
---- ----
(Amounts in thousands)
Net income (loss) $ (705) $ 389
Other comprehensive income, net of taxes:
Unrealized gain on investment in common
stock 14 58
------------ ------------
Total comprehensive income (loss) $ (691) $ 447
============= ============
RECENT ACCOUNTING PRONOUNCEMENTS
In April 2002, the Financial Accounting Standards Board ("FASB") adopted SFAS
No. 145, "Rescission of FASB Statements No. 4, 44, and 64, Amendment of FASB
Statement No. 13, and Technical Corrections" ("SFAS No. 145"). This Statement
F-13
rescinds SFAS No. 4, "Reporting Gains and Losses from Extinguishment of Debt,"
and amends, SFAS No. 64, "Extinguishments of Debt Made to Satisfy Sinking-Fund
Requirements." This Statement also rescinds SFAS No. 44, "Accounting for
Intangible Assets of Motor Carriers" and amends SFAS No. 13, "Accounting for
Leases," to eliminate an inconsistency between the required accounting for
sale-leaseback transactions and the required accounting for certain lease
modifications that have economic effects that are similar to sale-leaseback
transactions. This Statement also amends other existing authoritative
pronouncements to make various technical corrections, clarify meanings, or
describe their applicability under changed conditions. SFAS No. 145 is effective
for fiscal years beginning after May 15, 2002. The Company adopted the
provisions of this statement, which did not have an impact on its consolidated
financial position or results of operations.
In June 2002, the FASB issued SFAS No. 146, "Accounting for Costs Associated
with Exit or Disposal Activities" ("SFAS No. 146"). This Statement addresses
financial accounting and reporting for costs associated with exit or disposal
activities and nullifies Emerging Issues Task Force ("EITF") Issues No. 94-3,
"Liability Recognition for Certain Employee Termination Benefits and Other Costs
to Exit an Activity (including Certain Costs Incurred in a Restructuring)"
("Issue No. 94-3"). The principal difference between this Statement and Issue
No. 94-3 relates to its requirements for recognition of a liability for a cost
associated with an exit or disposal activity be recognized when the liability is
incurred. Under Issue No. 94-3, a liability for an exit cost as defined in Issue
No. 94-3 was recognized at the date of an entity's commitment to an exit plan.
The provisions of this Statement are effective for exit or disposal activities
that are initiated after December 31, 2002. The Company adopted the provisions
of this statement, which did not have an impact on its consolidated financial
position or results of operations.
In November 2002, the FASB issued FASB Interpretation No. 45, "Guarantor's
Accounting and Disclosure Requirements for Guarantees, Including Indirect
Guarantees of Indebtedness of Others" ("FIN 45"). FIN 45 requires that the
liability be recorded in the guarantor's balance sheet upon the issuance of a
guarantee. In addition, FIN 45 requires disclosure about the guarantees that an
entity has issued, including a reconciliation of changes in the entity's product
warranty liabilities. The initial recognition and initial measurement provisions
of FIN 45 are applicable on a prospective basis to guarantees issued or modified
after December 31, 2002. The disclosure requirements of FIN 45 are effective for
financial statements of interim or annual periods ending after December 15,
2002. The Company has adopted the provisions of FIN 45, which did not have an
impact on the Company's financial position.
In December 2002, the FASB Issued Statement No. 148, "Accounting for Stock-Based
Compensation-Transition and Disclosure-an amendment of FASB Statement No. 123",
("SFAS No. 148"). SFAS No. 148 amends FASB Statement No. 123, "Accounting for
Stock Based Compensation" ("SFAS No. 123") and provides alternative methods for
accounting for a change by registrants to the fair value method of accounting
for stock-based compensation. Additionally, SFAS No. 148 amends the disclosure
requirements of SFAS No. 123 to require disclosure in the significant accounting
policy footnote of both annual and interim financial statements of the method of
accounting for stock-based compensation and the related pro-forma disclosures
when the intrinsic value method continues to be used. The statement is effective
for fiscal years beginning after December 15, 2002, and disclosures are
effective for the first fiscal quarter beginning after December 15, 2002. The
Company has adopted the disclosure provisions of this statement.
In January 2003, the FASB issued FASB Interpretation No. 46, "Consolidation of
Variable Interest Entities" ("FIN 46"). FIN 46 clarifies the application of
Accounting Research Bulletin 51, "Consolidated Financial Statements," for
entities that do not have sufficient equity at risk for the entity to finance
its activities without additional subordinated financial support from other
parties or in which equity investors do not have the characteristics of a
controlling financial interest ("variable interest entities"). Variable interest
entities within the scope of FIN 46 will be required to be consolidated by their
primary beneficiary. The primary beneficiary of a variable interest entity is
determined to be the party that absorbs a majority of the entity's expected
losses, receives a majority of its expected returns, or both. FIN 46 applies
immediately to variable interest entities created after January 31, 2003, and to
variable interest entities in which an enterprise obtains an interest after that
date. It applies in the first fiscal year or interim period beginning after
December 15, 2003, to variable interest entities in which an enterprise holds a
variable interest that it acquired before February 1, 2003. The original
effective date was for periods beginning after June 15, 2003. We are in the
process of determining what impact, if any, the adoption of the provisions of
FIN 46 will have upon our financial condition or results of operations.
F-14
In November 2002, the EITF reached a consensus on Issue No. 00-21, "Revenue
Arrangements with Multiple Deliverables," ("Issue No. 00-21") which requires the
revenue from sales with multiple deliverables be accounted for based on a
determination of whether the multiple deliverables qualify to be accounted for
as separate units of accounting. The consensus is effective prospectively for
arrangements entered into in fiscal periods beginning after June 15, 2003. The
Company does not expect a material impact on its results of operations or
financial condition as a result of the adoption of Issue No. 00-21.
In April 2003, FASB issued SFAS No. 149, "Amendment of Statement 133 on
Derivative Instruments and Hedging Activities, " ("SFAS No. 149"), which
clarifies financial accounting and reporting for derivative instruments,
including certain derivative instruments embedded in other contracts
(collectively referred to as derivatives) and for hedging activities under SFAS
No. 133, "Accounting for Derivative Instruments and Hedging Activities" ("SFAS
No. 133"). SFAS No. 149 is effective prospectively for contracts entered into or
modified after June 30, 2003, and for hedging relationships designated after
June 30, 2003. The exception to these requirements are the provisions of SFAS
No. 149 related to SFAS No. 133 implementation issues that have been effective
for fiscal quarters that began prior to June 15, 2003, and should continue to be
applied in accordance with their respective effective dates. In addition,
paragraphs 7(a) and 23 (a), which relate to forward purchases or sales of
when-issued securities or other securities that do not yet exist, should be
applied to both existing contracts and new contracts entered into after June 30,
2003. Adoption of SFAS No. 149 had no impact on the Company's financial
condition or results of operations.
In May 2003, the FASB issued SFAS No. 150, "Accounting for Certain Instruments
with Characteristics of Both Liabilities and Equity" ("SFAS No. 150"), which
establishes standards for how an issuer classifies and measures certain
financial instruments with characteristics of both liabilities and equity. SFAS
No. 150 requires that an issuer classify a financial instrument that is within
its scope, which may have previously been reported as equity, as a liability or
an asset in some circumstances. SFAS No. 150 is effective for financial
instruments entered into or modified after May 31, 2003, and otherwise is
effective at the beginning of the first interim period beginning after June 15,
2003. The Company does not expect a material impact on its results of operations
or financial condition as a result of the adoption of SFAS No. 150.
NOTE 2. PROPERTY AND EQUIPMENT
Property and equipment consists of the following:
Useful August 30, August 31,
Lives 2003 2002
----- ---- ----
Furniture and fixtures 5-10 years $ 10,475,244 $ 9,697,500
Leasehold improvements 10 years 4,191,770 3,889,181
Transportation equipment 3-7 years 585,406 573,132
Data processing equipment 5 years 4,589,443 4,371,559
----------- -----------
19,841,863 18,531,372
Less accumulated depreciation and
amortization 15,262,309 14,280,487
----------- -----------
$ 4,579,554 $ 4,250,885
============ ============
NOTE 3. NOTE PAYABLE - BANK
The Company maintains a $10 million credit facility with a bank. The credit
facility is renewable annually on or before each December 31 and currently
consists of a discretionary unsecured line of credit for direct borrowings and
the issuance and refinance of letters of credit. There were no direct borrowings
outstanding under the line of credit at both August 30, 2003 and August 31, 2002
and the unused line of credit for direct borrowings and the issuance of letters
of credit at August 30, 2003 was $9,851,737. The facility requires the Company
to maintain a compensating balance of $400,000 in addition to certain financial
covenants which require a minimum defined working capital and tangible net
worth, a maximum ratio of debt to tangible net worth and set limits on the
payment of dividends. As of August 31, 2003, the Company was in compliance with
such covenants. Borrowings under the line of credit bear interest payable
quarterly at the bank's prime rate (4.00% and 4.75% at August 30, 2003 and
August 31, 2002, respectively).
F-15
NOTE 4. COMMITMENTS AND CONTINGENCIES
Leases
The Company leases its facilities in accordance with operating leases, having
initial terms of more than one year, which expire in various years through 2013.
Substantially all of the leases contain renewal options. In addition, certain
leases require that the Company pay its pro rata share of utilities, taxes,
insurance and maintenance. Rent expense for 2003, 2002 and 2001 amounted to
$9,816,614, $8,789,191and $8,175,209, respectively, and includes contingent
rentals (computed on a percentage of sales, as defined in the leases) of
$36,521, $40,211 and $28,050, respectively.
Expenses relating to leases with step rent provisions and other lease
concessions are accounted for on a straight-line basis over the minimum lease
term. Capital improvement funding received from landlords is accounted for as a
reduction of capital expenditures in the year such funding is received.
Future minimum annual rental commitments under non-cancelable operating leases
are as follows:
Fiscal Year Ended
2004 $ 9,761,239
2005 9,205,138
2006 7,818,207
2007 6,409,210
2008 5,116,264
Thereafter 10,024,058
----------
$ 48,334,116
===========
Letters of Credit
In addition, at August 30, 2003 the Company has outstanding letters of credit
for the purchase of merchandise inventories of approximately $148,263.
Legal Matters
The Company is involved in various legal proceedings incidental to the conduct
of its business. The Company currently is not engaged in any legal proceeding
that is expected to have a material adverse effect on the Company's results of
operations or financial position.
F-16
NOTE 5. EARNINGS PER SHARE
Basic and diluted earnings per share are calculated in accordance with Statement
of Financial Accounting Standards No. 128, "Earnings per Share" ("SFAS No.
128"). In accordance with SFAS No. 128, basic net income per share has been
computed based on the weighted average of common shares outstanding. Diluted net
income per share gives the effect of outstanding stock options. All of the net
income reported in the financial statements is available to common stockholders.
Fiscal Year Ended
August 30, August 31, September 1,
2003 2002 2001
---- ---- ----
(Previously
Restated)
Numerator for basic and diluted earnings per share:
Net income (loss) $ (705,395) $ 389,172 $ 46,121
========== ========= =========
Denominator:
Denominator for basic earnings per
share-weighted average shares outstanding 4,797,983 4,799,183 4,801,583
Effect of dilutive securities:
Employee stock options - 26,936 5,427
--------- --------- ---------
Denominator for diluted earnings
per share-adjusted weighted
average shares and assumed
conversions 4,797,983 4,826,119 4,807,010
========= ========= =========
Earnings (loss) per share:
Basic $ (.15) $ .08 $ .01
======== ======== ========
Diluted $ (.15) $ .08 $ .01
======== ======== ========
Stock options excluded from the above calculation, as the effect of such options
would be anti-dilutive, aggregated 168,700 in 2003, 2,250 in 2002 and 17,750 in
2001.
NOTE 6. STOCKHOLDERS' EQUITY
Each share of common stock is entitled to one vote.
On January 23, 2003, the stockholders of the Company approved the Company's 2002
Stock Option Plan (the "2002 Plan"). A copy of the 2002 Plan is set forth in the
Proxy Statement filed by the Company with the Securities and Exchange Commission
on December 30, 2002. The Company's prior stock option plan expired by its
terms. A total of 750,000 shares of Common Stock have been reserved for issuance
under the 2002 Plan. Such options may be incentive stock options ("ISO") or
nonqualified options. The purpose of the 2002 Plan is to promote the long-term
interests of the Company and its stockholders by providing the Company with a
means to attract, employ, motivate and retain experienced employees, officers,
directors and consultants. The term of an option will not exceed ten years and
options are exercisable as determined by the Option Committee of the Board of
Directors. The exercise price of the shares covered by an ISO may not be less
than the fair market value of the shares at the time of grant. The exercise
price of the shares covered by a nonqualified option is determined by the Option
Committee. 109,700 options have been granted pursuant to the 2002 Plan as of the
period ending August 30, 2003.
F-17
In April 1991, the Company adopted the 1991 Stock Option Plan (the "1991 Plan")
covering employees and non-employee directors. The 1991 Plan permitted options
to purchase a total of 450,000 shares of common stock, of which 435,600 shares
were reserved by the Company as of April 18, 2001. Such options may be incentive
stock options ("ISO") or nonqualified options. The term of an option will not
exceed ten years and an option is exercisable as determined by the Option
Committee of the Board of Directors. The exercise price of the shares covered by
an ISO may not be less than the fair market value of the shares at the time of
grant. The exercise price of the shares covered by a nonqualified option is
determined by the Option Committee. The options granted are generally
exercisable 40% after two years and 20% per year thereafter. The Plan expired on
April 18, 2001.
The Company applies APB Opinion No. 25, "Accounting for Stock Issued to
Employees", and related interpretations in accounting for its plans and complies
with the disclosure provisions of FASB Statement No. 123, "Accounting for Stock
Based Compensation" ("SFAS No. 123"). Under APB Opinion No. 25, compensation
expense is measured as the excess, if any, of the fair value of the Company's
common stock at the date of the grant over the amount a grantee must pay to
acquire the stock. There has been no compensation expense recognized during
2003, 2002 and 2001 as all options have been issued with exercise prices equal
to the underlying stock's market price.
A summary of activity in the 2002 and 1991 Stock Option Plans for fiscal 2003,
fiscal 2002 and fiscal 2001 is as follows:
Number of Exercise Price Weighted-Average
Shares Per Share Exercise Price
------ --------- --------------
Outstanding, September 2, 2000 332,300 $1.860-$12.375 $3.51
Granted 0
Forfeited or Expired (250,550) $2.340-$6.250 $3.88
--------
Outstanding, September 1, 2001 81,750 $1.860-$12.375 $2.77
Granted 0
Forfeited or Expired (3,500) $2.340-$12.375 $6.64
--------
Outstanding, August 31, 2002 78,250 $1.860-$12.375 $3.49
Granted 109,700 $3.006-$3.650 $3.07
Forfeited or Expired (19,250) $2.340-$12.375 $6.56
---------
Outstanding, August 30, 2003 168,700 $1.860-$3.650 $2.86
========
Exercisable, September 1, 2001 63,250 $2.02-$12.375 $2.94
Exercisable, August 31, 2002 73,950 $2.02-$12.375 $2.64
Exercisable, August 30, 2003 56,400 $1.86-$3.375 $2.51
Information with respect to stock options under the 2002 and 1991 Stock Option
Plans are as follows:
At August 30, 2003 At August 30, 2003
Stock Options Outstanding Stock Options Exercisable
------------------------- -------------------------
Weighted Weighted Weighted
Average Average Number Average
Range of Number Remaining Exercise of Exercise
Exercise Price Of Shares Life (Yrs.) Price Shares Price
$1.86-$2.375 45,000 3.13 $2.26 42,400 $2.29
$3.00-$3.65 123,700 8.72 $3.08 14,000 $3.03
------- ---- ----- ------ -----
168,700 7.35 $2.86 56,400 $2.51
The weighted-average remaining contractual life of stock options outstanding at
August 30, 2003 is 7.4 years and at August 31, 2002 is 4.4 years. The majority
of options as of August 30, 2003 have an exercise price from $1.86 to $3.65.
F-18
During fiscal 2002 the Company recorded the final amortization of restricted
stock awards.
On May 21, 1999 the Company's Board of Directors approved a discretionary
program whereby the Company is authorized to purchase up to 200,000 shares of
its outstanding common stock. No treasury shares were purchased by the Company
for the fiscal 2001 through 2003 periods and as of August 30, 2003, August 31,
2002 and September 1, 2001, 26,880 shares are held in treasury.
NOTE 7. INCOME TAXES
The components of income tax expense relating to income consists of the
following:
Fiscal Year Ended
August 30, 2003 August 31, 2002 September 1, 2001
--------------- --------------- -----------------
(Previously Restated)
Federal:
Current $ (343,700) $ 157,800 $ 121,300
Deferred (90,200) 85,521 (89,500)
State:
Current 103,000 73,700 65,400
---------- ---------- ----------
$ (330,900) $ 317,021 $ 97,200
=========== ========== ==========
The deferred income tax (expense) benefit arises from the following temporary
differences.
Fiscal Year Ended
August 30, 2003 August 31, 2002 September 1, 2001
--------------- --------------- -----------------
(Previously Restated)
Uniform inventory capitalization $ 128,300 $ 2,200 $ 1,600
Depreciation (101,400) 12,200 48,200
Straight-line of leases 63,300 48,900 38,000
Amortization of incentive stock
awards - (67,700) 1,700
Gain from demutualization - (81,121) -
--------- ---------- ---------
$ 90,200 $ (85,521) $ 89,500
========== =========== ==========
The effective tax rate differs from the Federal statutory rate as follows:
Fiscal Year Ended
August 30, 2003 August 31, 2002 September 1, 2001
--------------- --------------- -----------------
(Previously Restated)
Statutory tax rate 34.0% 34.0% 34.0%
State and local income taxes,
net of federal income tax benefit (6.6) 9.3 30.1
Effect of permanent differences and
other 4.5 1.6 3.7
----- ----- -----
Effective tax rate 31.9% 44.9% 67.8%
===== ===== =====
Deferred income taxes reflect the net tax effects of temporary differences
between the carrying amounts of assets and liabilities for financial reporting
purposes and the amounts used for income tax purposes. The Company's state
deferred tax asset has been reduced by a valuation allowance based on current
evidence indicating that it is not more likely than not that the future benefits
of these temporary differences will be realized. The Company has approximately
$12,471,600 of aggregate net operating losses in multiple entities and multiple
states which expire on various dates from 2004 to 2018. Certain states in which
the Company has state net operating losses have temporarily suspended the use of
net operating losses going forward, or the ability to carry back losses.
F-19
The tax effect of significant items comprising the Company's deferred income tax
assets are as follows:
Fiscal Year Ended
August 30, 2003 August 30, 2003 August 31, 2002
--------------- --------------- ---------------
(Restated (Previously (Previously
(See Note 1) Reported) Restated)
(See Note 1)
Current deferred income tax assets:
Uniform inventory capitalization $ 918,146 $ 918,146 $ 789,846
---------- ---------- ----------
Non-current deferred income tax assets:
Gain from demutualization (135,245) 0 (128,610)
Straight-line of leases 312,873 312,873 249,573
Difference between book and tax depreciation methods 146,129 146,129 247,529
Net operating losses for State purposes 913,847 913,847 721,597
Valuation allowance (913,847) (913,847) (721,597)
---------- ---------- ---------
323,757 459,002 368,492
--------- --------- ---------
Total deferred income tax asset $ 1,241,903 $ 1,377,148 $ 1,158,338
========== ========== =========
The Internal Revenue Service is currently examining the Company's fiscal year
ended September 1, 2001 consolidated tax return and has thus far not advised the
Company of its findings.
NOTE 8. EMPLOYEE BENEFIT PLAN
The Company has a voluntary 401(k) savings plan. All non-union employees of the
Company are eligible to participate on or after reaching age 21 and completing
one year of eligible service. The Company did not make any contributions to the
401(k) plan for 2003, 2002 and 2001.
NOTE 9. ACCRUED EXPENSES AND OTHER CURRENT LIABILITIES
The following table sets forth selected accrued expenses and other current
liabilities consisting of the following:
Fiscal Year Ended
-----------------
August 30, 2003 August 31, 2002
--------------- ---------------
Straight line rent $ 882,471 $ 696,404
Other accrued expenses and current
liabilities 3,432,457 2,256,812
---------- ----------
$ 4,314,928 $ 2,953,216
========== ==========
NOTE 10. QUARTERLY RESULTS (UNAUDITED)
The following is a summary of selected quarterly financial data (in thousands of
dollars, except per share amounts):
Fiscal Quarter Ended
--------------------
November 30, March 1, May 31, August 30,
2003 2002 2003 2003 2003(a)
- ---- ---- ---- ---- ----
(Reclassified) (Restated)
Net sales $ 33,357 $ 30,672 $ 27,920 $ 23,598
Gross profit 11,611 10,057 9,187 7,760
Net income (loss) 511 91 (251) (1,056)
Earnings (loss) per common share:
Basic .11 .02 (.05) (.22)
Diluted .11 .02 (.05) (.22)
F-20
Fiscal Quarter Ended
--------------------
December 1, March 2, June 1, August 31,
2002 2001(a) 2002 2002 2002(b)
- ---- ---- ---- ---- ----
(Reclassified (Reclassified) (Reclassified) (Reclassified)
and Previously
Restated)
Net sales $ 32,552 $ 28,931 $ 25,523 $ 23,667
Gross profit 11,913 9,255 8,936 7,501
Net income (loss) 1,490 129 90 (1,320)
Earnings (loss) per common share:
Basic .31 .03 .02 (.27)
Diluted .31 .03 .02 (.27)
The sum of the four quarters may not equal the full year computation due to
rounding. Reclassified - See Note 1. " Cost of Merchandise Sold, Occupancy and
Distribution Costs".
(a) The following table shows the impact of the restatement related to the
dumutualization of the life insurance policies (see Note 1 "Recent
Developments") from the previously filed financial statements as of December
1, 2001 and for the three months then ended (unaudited):
Previously
Reported Adjustments Restated
-------- ----------- --------
(Amounts in thousands except earnings per share)
Current assets - Investment in common stock $ - $ 224 $ 224
Deferred income taxes - long term 436 (100) 336
Stockholders' equity - Unrealized gain on
investment in common stock, net of taxes - 24 24
Stockholders' equity - Retained earnings 18,892 100 18,992
Gain from demutualization - 181 181
Provision for income taxes 888 81 969
Net income 1,390 100 1,490
Other comprehensive income 0 24 24
Total comprehensive income 1,390 124 1,514
Earnings per share - Basic and diluted $ 0.29 $ 0.02 $ 0.31
The Company did not previously file a Schedule of Comprehensive Income as there
were no differences between net income and total comprehensive income. The
Schedule of Comprehensive Income is as follows:
Three Months Ended
------------------
December 1, December 2,
2001 2000
---- ----
(Amounts in thousands)
Net income $ 1,490 $ 1,282
Other comprehensive income, net of taxes:
Unrealized gain on investment in common stock 24 -
------------ ------------
Total comprehensive income $ 1,514 $ 1,282
============ ============
(b) Included in gross profit for the fourth fiscal quarter ended August 30, 2003
and August 31, 2002 is a credit of approximately $898,000 and a charge of
approximately $412,000, respectively, based on the Company's actual
shrinkage results - See Note 1. "Merchandise Inventories".
F-21
During the year, the Company restated the March 1, 2003 quarterly financial
statements to correct the Company's understatement of its merchandise inventory
as a result of the modification of agreements between the Company and certain
suppliers (See Note 1). The following table reflects the effects of this
restatement.
Three Months Ended Six Months Ended
------------------ ----------------
March 1, 2003 March 1, 2003 March 1, 2003 March 1, 2003
------------- ------------- ------------- -------------
(Previously (Previously
(Restated) Reported) (Restated) Reported)
Inventory $ 28,525 $ 27,455
Deferred income 931 -
Income taxes payable 196 133
Retained earnings 18,393 18,317
Cost of merchandise sold, occupancy
and distribution costs $ 19,782 $ 19,921 40,692 40,831
Gross profit 10,890 10,751 23,337 23,198
Income from operations 160 21 1,094 955
Provision for income taxes 75 12 493 430
Net income 91 15 602 526
Earnings per common share:
Basic .02 - .13 .11
Diluted .02 - .13 .11
F-22
RAG SHOPS, INC.
INDEX TO EXHIBITS
Exhibit Sequentially
NUMBER DESCRIPTION OF EXHIBIT NUMBERED PAGES
3.1 Certificate of Incorporation of the Company *
3.2 By-Laws of the Company *
10.1 Promissory Note (Revolving) with Commercial Lending *
Institution
10.2 1991 Stock Option Plan *
10.3 1999 Incentive Stock Award Plan **
10.4 Change in Registrants Certifying Accountant **
10.5 2002 Stock Option Plan ***
21.1 List of subsidiaries of the Company E-2
23.1 Consent of Grant Thornton LLP E-4
24.1 Power of Attorney to sign Form 10-K/A ****
99.1 Certification E-5
99.2 Certification E-6
- --------------------------------
* Incorporated by reference to the Company's Registration Statement on Form
S-1 and Amendment No. 1 thereto.
** Incorporated by reference to the Company's Registration Statement on Form
S-8 filed on September 3, 1999.
*** Incorporated by reference to the Company's Proxy Statement on Form DEF
14-A filed on December 30, 2002.
**** Set forth on page 18.
E-1
EXHIBIT 21.1
RAG SHOPS, INC.
LIST OF SUBSIDIARY COMPANIES
Name State Incorporated
RSL, Inc. Delaware
Mobile Fabrics, Inc. New Jersey
The Rag Shop/Glen Burnie, Inc. Maryland
The Rag Shop, Inc. New York
Rag Shop/Wayne, Inc. New Jersey
Rag Shop/Parsippany, Inc. New Jersey
Rag Shop/Edison, Inc. New Jersey
The Rag Shop/West Orange, Inc. New Jersey
The Rag Shop/Middletown, Inc. New Jersey
The Rag Shop/Toms River, Inc. New Jersey
The Rag Shop/Hamilton Square, Inc. New Jersey
The Rag Shop/Hazlet, Inc. New Jersey
The Rag Shop/Howell, Inc. New Jersey
The Rag Shop/Ocean, Inc. New Jersey
The Rag Shop/Sayreville, Inc. New Jersey
The Rag Shop/Bricktown, Inc. New Jersey
The Rag Shop/Totowa, Inc. New Jersey
The Rag Shop/North Lauderdale, Inc. Florida
The Rag Shop/West Palm Beach, Inc. Florida
The Rag Shop/Palm Beach Gardens, Inc. Florida
The Rag Shop/Lancaster, Inc. Pennsylvania
The Rag Shop/Sunrise, Inc. Florida
The Rag Shop/Lantana, Inc. Florida
The Rag Shop/York, Inc. Pennsylvania
The Rag Shop/Selinsgrove, Inc. Pennsylvania
The Rag Shop/Pembroke Pines, Inc. Florida
The Rag Shop/Jacksonville, Inc. Florida
The Rag Shop/Olean, Inc. New York
The Rag Shop/Boca Raton, Inc. Florida
The Rag Shop/Port Richey, Inc. Florida
The Rag Shop/Deptford, Inc. New Jersey
The Rag Shop/Deerfield, Inc. Florida
The Rag Shop/Jacksonville-San Jose, Inc. Florida
The Rag Shop/Rostraver, Inc. Pennsylvania
The Rag Shop/Evesham, Inc. New Jersey
The Rag Shop/Allentown, Inc. Pennsylvania
The Rag Shop/Jensen Beach, Inc. Florida
The Rag Shop/Jacksonville-Orange Park, Inc. Florida
The Rag Shop/Jacksonville-Regional, Inc. Florida
The Rag Shop/Boro Park, Inc. New York
The Rag Shop/Secaucus, Inc. New Jersey
The Rag Shop/North Bergen, Inc. New Jersey
The Rag Shop/Coral Springs, Inc. Florida
The Rag Shop/Turnersville, Inc. New Jersey
The Rag Shop/Hialeah, Inc. Florida
E-2
RAG SHOPS, INC.
LIST OF SUBSIDIARY COMPANIES
Name State Incorporated
The Rag Shop/Hollywood, Inc. Florida
The Rag Shop/Binghamton, Inc. New York
The Rag Shop/Lacey, Inc. New Jersey
The Rag Shop/West Boca Raton, Inc. Florida
The Rag Shop/Ocala, Inc. Florida
The Rag Shop/Fishkill, Inc. New York
The Rag Shop/Hampden, Inc. Pennsylvania
The Rag Shop/East Norriton, Inc. Pennsylvania
The Rag Shop/Wall Township, Inc. New Jersey
The Rag Shop/Northern Lights, Inc. New York
The Rag Shop/Linden, Inc. New Jersey
The Rag Shop/Burlington, Inc. New Jersey
The Rag Shop/Kingstown, Inc. Rhode Island
The Rag Shop/Norwalk, Inc. Connecticut
The Rag Shop/East Hollywood, Inc. Florida
The Rag Shop/Edgewater, Inc. New Jersey
The Rag Shop/Danbury, Inc. Connecticut
The Rag Shop/Voorhees, Inc. New Jersey
The Rag Shop/College Point, Inc. New York
The Rag Shop/Franklin, Inc. New Jersey
The Rag Shop/Kinnelon, Inc. New Jersey
The Rag Shop/Waterbury, Inc. Connecticut
Each of the above does business under the name "The Rag Shop."
E-3
EXHIBIT 23.1
RAG SHOPS, INC.
CONSENT OF INDEPENDENT CERTIFIED PUBLIC ACCOUNTANTS
We have reissued our report dated November 13, 2003, except for the item titled
"Recent Developments" in Note 1, as to which the date is January 23, 2004,
accompanying the consolidated financial statements of Rag Shops, Inc. and
Subsidiaries included in the Form 10-K/A for the year ended August 30, 2003. We
hereby consent to the incorporation by reference of said report in the
Registration Statement of Rag Shops, Inc. and Subsidiaries on Form S-8 (File No.
333-86489, effective September 2, 1999).
GRANT THORNTON LLP
Edison, New Jersey
January 23, 2004
E-4
EXHIBIT 99.1
RAG SHOPS, INC.
CERTIFICATION OF CHIEF EXECUTIVE OFFICER
PURSUANT TO
SECTION 906 OF THE SARBANES-OXLEY ACT OF 2002 (18 U.S.C.ss.1350)
The undersigned, Stanley Berenzweig, the Chief Executive Officer of Rag
Shops, Inc. (the "Company"), has executed this Certification in connection with
the filing with the Securities and Exchange Commission of the Company's Annual
Report on Form 10-K/A for the fiscal year ended August 30, 2003 (the "Report").
The undersigned hereby certifies that:
- the Report fully complies with the requirements of Section 13(a) of
the Securities Exchange Act of 1934; and
- the information contained in the Report fairly presents, in all
material respects, the financial condition and results of operations
of the Company.
IN WITNESS WHEREOF, the undersigned has executed this Certification as
of the 27th day of January, 2004.
/s/ Stanley Berenzweig
----------------------
Chief Executive Officer
E-5
EXHIBIT 99.2
RAG SHOPS, INC.
CERTIFICATION OF CHIEF FINANCIAL OFFICER PURSUANT TO
SECTION 906 OF THE SARBANES-OXLEY ACT OF 2002 (18 U.S.C. ss.1350)
The undersigned, Steven B. Barnett, the Acting Chief Financial Officer
of Rag Shops, Inc. (the "Company"), has executed this Certification in
connection with the filing with the Securities and Exchange Commission of the
Company's Annual Report on Form 10-K/A for the fiscal year ended August 30, 2003
(the "Report").
The undersigned hereby certifies that:
- the Report fully complies with the requirements of Section 13(a) of
the Securities Exchange Act of 1934; and
- the information contained in the Report fairly presents, in all
material respects, the financial condition and results of operations
of the Company.
IN WITNESS WHEREOF, the undersigned has executed this Certification as
of the 27th day of January, 2004.
/s/ Steven B. Barnett
---------------------
Acting Chief Financial Officer
E-6