UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D. C. 20549
FORM 10-Q
(Mark One)
( X ) QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF
THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended April 30, 2002
OR
( ) TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF
SECURITIES EXCHANGE ACTION OF 1934
For the transition period from __________________ to __________________
COMMISSION FILE NUMBER 000-24381
HASTINGS ENTERTAINMENT, INC.
(Exact name of registrant as specified in its charter)
TEXAS 75-1386375
(State or other jurisdiction of (IRS Employer
incorporation or organization) Identification No.)
3601 PLAINS BOULEVARD, AMARILLO, TEXAS 79102
(Address of principal executive offices) (Zip Code)
(806) 351-2300
(Registrant's telephone number, including area code)
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days. Yes ( X ) No ( )
Number of shares outstanding of the registrant's common stock, as of May 31,
2002:
<Table>
<Caption>
Class Shares Outstanding
- -------------------------------------- ---------------------------------
Common Stock, $.01 par value per share 11,335,327
</Table>
HASTINGS ENTERTAINMENT, INC. AND SUBSIDIARIES
FORM 10-Q FOR THE THREE MONTHS ENDED APRIL 30, 2002
INDEX
<Table>
<Caption>
PAGE
----
PART I - FINANCIAL INFORMATION
Item 1. Financial Statements
Consolidated Balance Sheets as of April 30, 2002 (Unaudited),
April 30, 2001 (Unaudited) and January 31, 2002 3
Unaudited Consolidated Statements of Operations for the Three Months
Ended April 30, 2002 and 2001 4
Unaudited Consolidated Statements of Cash Flows for the Three Months
Ended April 30, 2002 and 2001 5
Notes to Unaudited Consolidated Financial Statements 6
Item 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations 10
Item 3. Quantitative and Qualitative Disclosures about Market Risk 15
PART II - OTHER INFORMATION
Item 1. Legal Proceedings 16
Item 6. Exhibits and Reports on Form 8-K 16
SIGNATURE PAGE 17
INDEX TO EXHIBITS 18
</Table>
2
PART 1
ITEM 1 - FINANCIAL STATEMENTS
HASTINGS ENTERTAINMENT, INC. AND SUBSIDIARIES
Consolidated Balance Sheets
April 30, 2002 and 2001, and January 31, 2002
(Dollars in thousands, except par value)
<Table>
<Caption>
APRIL 30, APRIL 30, JANUARY 31,
2002 2001 2002
--------- --------- -----------
ASSETS (UNAUDITED) (UNAUDITED)
Current assets:
Cash $ 6,330 $ 6,955 $ 4,319
Merchandise inventories, net 146,000 127,331 148,265
Income taxes receivable 5,377 7,479 5,377
Other current assets 5,258 5,056 5,331
--------- --------- ---------
Total current assets 162,965 146,821 163,292
Property and equipment, net of accumulated depreciation
of $126,463, $115,554 and $124,644, respectively 66,463 61,641 64,811
Deferred income taxes 1,091 -- 1,091
Intangible assets, net 631 -- 646
Other assets 12 12 11
--------- --------- ---------
$ 231,162 $ 208,474 $ 229,851
========= ========= =========
LIABILITIES AND SHAREHOLDERS' EQUITY
Current liabilities:
Current maturities on capital lease obligations $ 169 $ 154 $ 169
Trade accounts payable 72,392 64,119 86,704
Accrued expenses and other current liabilities 27,319 27,488 26,507
--------- --------- ---------
Total current liabilities 99,880 91,761 113,380
Long term debt, excluding current maturities on capital lease obligations 47,909 35,155 33,263
Other liabilities 5,448 6,448 5,864
Commitments and contingencies -- -- --
Shareholders' equity:
Preferred stock, $.01 par value; 5,000,000 shares authorized; none issued -- -- --
Common stock, $.01 par value; 75,000,000 shares authorized;
11,944,544 shares issued and 11,330,327 shares outstanding at April 30,
2002 11,813,433 shares issued and outstanding at April 30, 2001;
11,918,035 shares issued and 11,304,022 shares outstanding at January 31,
2002; 119 118 119
Additional paid-in capital 36,884 36,409 36,850
Retained earnings 43,937 38,583 43,368
Treasury stock, at cost
614,217 shares, zero shares and 614,013 shares at April 30, 2002, and 2001
and January 31, 2002, respectively (3,015) -- (2,993)
--------- --------- ---------
77,925 75,110 77,344
--------- --------- ---------
$ 231,162 $ 208,474 $ 229,851
========= ========= =========
</Table>
See accompanying notes to unaudited consolidated financial statements.
3
HASTINGS ENTERTAINMENT, INC. AND SUBSIDIARIES
Unaudited Consolidated Statements of Operations
For the Three Months Ended April 30, 2002 and 2001
(Dollars in thousands, except per share amounts)
<Table>
<Caption>
THREE MONTHS ENDED APRIL 30,
2002 2001
--------- ---------
Merchandise revenue $ 89,982 $ 86,614
Rental video revenue 22,863 22,497
--------- ---------
Total revenues 112,845 109,111
Merchandise cost of revenue 66,188 65,171
Rental video cost of revenue 9,049 10,842
--------- ---------
Total cost of revenues 75,237 76,013
--------- ---------
Gross profit 37,608 33,098
Selling, general and administrative expenses 36,583 33,264
Pre-opening expenses 18 --
--------- ---------
Operating income (loss) 1,007 (166)
Other income (expense):
Interest expense (500) (627)
Other, net 62 26
--------- ---------
Income (Loss) before income taxes 569 (767)
Income tax expense (benefit) -- --
--------- ---------
Net income (loss) $ 569 $ (767)
========= =========
Basic income (loss) per share $ 0.05 $ (0.07)
========= =========
Diluted income (loss) per share $ 0.05 $ (0.07)
========= =========
Weighted-average common shares outstanding:
Basic 11,311 11,754
Dilutive effect of stock options 538 --
--------- ---------
Diluted 11,849 11,754
========= =========
</Table>
See accompanying notes to unaudited consolidated financial statements.
4
HASTINGS ENTERTAINMENT, INC. AND SUBSIDIARIES
Unaudited Consolidated Statements of Cash Flows
For the Three Months Ended April 30, 2002 and 2001
(Dollars in thousands)
<Table>
<Caption>
THREE MONTHS ENDED APRIL 30,
2002 2001
--------- ---------
Cash flows from operating activities:
Net income (loss) $ 569 $ (767)
Adjustments to reconcile net income (loss) to net cash provided
by operating activities:
Depreciation and amortization expense 9,286 8,891
Loss on rental videos lost, stolen and defective 1,425 1,304
Gain on disposal of non-rental video assets (36) 208
Non-cash compensation 75 88
Changes in operating assets and liabilities:
Merchandise inventory 3,295 4,289
Other current assets 73 404
Trade accounts payable and accrued expenses (13,500) (9,825)
Income taxes receivable -- 280
Other assets and liabilities, net (418) (203)
--------- ---------
Net cash provided by operating activities 769 4,669
--------- ---------
Cash flows from investing activities:
Purchases of rental video assets (7,724) (5,203)
Purchases of property and equipment (5,620) (2,467)
--------- ---------
Net cash used in investing activities (13,344) (7,670)
--------- ---------
Cash flows from financing activities:
Borrowings under revolving credit facility 130,174 117,876
Repayments under revolving credit facility (115,486) (112,141)
Payments under capital lease obligations (40) (36)
Purchase of treasury stock (168) --
Proceeds from exercise of stock options 105 --
--------- ---------
Net cash provided by financing activities 14,585 5,699
--------- ---------
Net increase in cash 2,010 2,698
Cash at beginning of period 4,320 4,257
--------- ---------
Cash at end of period $ 6,330 $ 6,955
========= =========
</Table>
See accompanying notes to unaudited consolidated financial statements.
5
Hastings Entertainment, Inc. and Subsidiaries
Notes to Unaudited Consolidated Financial Statements
April 30, 2002 and 2001
(Tabular amounts in thousands, except per share data or unless otherwise noted)
1. BASIS OF PRESENTATION
The accompanying unaudited consolidated financial statements of Hastings
Entertainment, Inc. and its subsidiaries (the "Company", "We", "Our", "Us") have
been prepared in accordance with generally accepted accounting principles for
interim financial information and with instructions in Form 10-Q and Article 10
of Regulation S-X. Certain information and footnote disclosures normally
included in annual financial statements prepared in accordance with generally
accepted accounting principles have been condensed or omitted pursuant to such
principles and regulations of the Securities and Exchange Commission. All
adjustments, consisting only of normal recurring adjustments, have been made
which, in the opinion of management, are necessary for a fair presentation of
the results of the interim periods. The results of operations for such interim
periods are not necessarily indicative of the results which may be expected for
a full year because of, among other things, seasonality factors in the retail
business. The unaudited consolidated financial statements contained herein
should be read in conjunction with the audited consolidated financial statements
and notes thereto included in the Company's annual report on Form 10-K for the
fiscal year 2001.
Certain prior year amounts have been reclassified to conform with fiscal 2002
presentation.
Our fiscal year ends on January 31 and is identified as the fiscal year for the
immediately preceding calendar year. For example, the fiscal year that will end
on January 31, 2003 is referred to as fiscal 2002.
2. CONSOLIDATION POLICY
The unaudited consolidated financial statements present the results of Hastings
Entertainment, Inc. and its subsidiaries. All significant intercompany
transactions and balances have been eliminated in consolidation.
3. STORE CLOSING RESERVE
From time to time and in the normal course of business, we evaluate our store
base to determine if a need to close a store(s) is present. Such evaluations
include, among other factors, current and future profitability, market trends,
age of store and lease status.
Included in accrued expenses and other liabilities at April 30, 2002 and January
31, 2002 are accruals of $5.5 million and $5.9 million, respectively, for the
net present value of future minimum lease payments and other costs attributable
to closed or relocated stores, net of estimated sublease income.
The following tables provide a rollforward of reserves that were established for
these charges for the three months ended April 30, 2002 and 2001.
<Table>
<Caption>
Future Lease
Payments Other Costs Total
-------- ----------- -----
Balance at January 31, 2001 $ 6,350 $ 255 6,605
Changes in estimates 263 -- 263
Additions to provision 369 -- 369
Cash outlay (764) (123) (887)
------- ------- -------
Balance at April 30, 2001 $ 6,218 $ 132 $ 6,350
======= ======= =======
</Table>
6
Hastings Entertainment, Inc. and Subsidiaries
Notes to Unaudited Consolidated Financial Statements
April 30, 2002 and 2001
(Tabular amounts in thousands, except per share data or unless otherwise noted)
3. STORE CLOSING RESERVE (CONT'D)
<Table>
<Caption>
Future Lease
Payments Other Costs Total
-------- ----------- -----
Balance at January 31, 2002 $ 5,919 $ 13 5,932
Changes in estimates 43 -- (43)
Additions to provision -- -- --
Cash outlay (418) (13) (431)
------- ------- -------
Balance at April 30, 2002 $ 5,544 $ -- $ 5,544
======= ======= =======
</Table>
Payments during the next five years that are to be charged against the reserve
are expected to be approximately $1.2 million per year.
4. INCOME (LOSS) PER SHARE
The computations for basic and diluted income (loss) per share are as follows:
<Table>
<Caption>
Three Months Ended April 30,
2002 2001
-------- --------
Net income (loss) $ 569 $ (767)
======== ========
Average shares outstanding:
Basic 11,311 11,754
Effect of stock options 538 --
-------- --------
Diluted 11,849 11,754
======== ========
Income (Loss) per share:
Basic $ 0.05 $ (0.07)
======== ========
Diluted $ 0.05 $ (0.07)
======== ========
</Table>
Options to purchase 532,620 shares of common stock at exercise prices ranging
from $6.92 per share to $14.03 per share outstanding at April 30, 2002 were not
included in the computation of diluted income per share because their inclusion
would have been antidilutive.
5. LITIGATION AND CONTINGENCIES
In 2000, the Company restated its consolidated financial statements for the
first three quarters of fiscal 1999 and the prior four fiscal years. Following
the Company's initial announcement in March 2000 of the requirement for such
restatements, six purported class action lawsuits were filed in the United
States District Court for the Northern District of Texas against the Company and
certain of the current and former directors and officers of the Company
asserting various claims under Sections 10(b) and 20(a) of the Securities
Exchange Act of 1934. Although four of the lawsuits were originally filed in the
Dallas Division of the Northern District of Texas, all of the five pending
actions have been transferred to the Amarillo Division of the Northern District
and have been consolidated. One of the Section 10(b) and 20(a) lawsuits filed in
the Dallas Division was voluntarily dismissed. On May 15, 2000, a lawsuit was
filed in the United States District Court for the Northern District of Texas
against the Company, its current and former directors and officers at the time
of the Company's June 1998 initial public offering and three underwriters,
7
Hastings Entertainment, Inc. and Subsidiaries
Notes to Unaudited Consolidated Financial Statements
April 30, 2002 and 2001
(Tabular amounts in thousands, except per share data or unless otherwise noted)
5. LITIGATION AND CONTINGENCIES (CONT'D)
Salomon Smith Barney, A.G. Edwards & Sons, Inc. and Furman Selz, LLC asserting
various claims under Sections 11, 12(2) and 15 of the Securities Act of 1933.
Motions to dismiss these actions were filed by the Company and, on September 25,
2001, were denied by the Court. Discovery and class certification proceedings
are going forward in both actions.
None of the pending complaints specify the amount of damages sought. Although it
is not feasible to predict or determine the final outcome of the proceedings or
to estimate the potential range of loss with respect to these matters, an
adverse outcome with respect to such proceedings could have a material adverse
impact on the Company's financial position, results of operations and cash
flows.
The Company is also involved in various other claims and legal actions arising
in the ordinary course of business. In the opinion of management, the ultimate
disposition of these matters will not have a material adverse effect on the
Company's financial position, results of operations and cash flows.
6. SEGMENT DISCLOSURES
The Company has two operating segments, retail stores and Internet operations.
Our chief operating decision maker, as that term is defined in the relevant
accounting standard, regularly reviews financial information about each of the
above operating segments for assessing performance and allocating resources.
Revenue for retail stores is derived from the sale of merchandise and rental of
videocassettes, video games and DVDs. Revenue for Internet operations is derived
solely from the sale of merchandise. Segment information regarding our retail
stores and Internet operations for the three months ended April 30, 2002 and
2001 is presented below.
<Table>
<Caption>
For the three months ended April 30, 2002: Retail Internet
Stores Operations Total
------ ---------- -----
Total revenue $112,798 $ 47 $112,845
Depreciation and amortization 9,217 69 9,286
Operating income (loss) 1,267 (260) 1,007
Total assets 230,817 345 231,162
Capital expenditures $ 13,342 $ 2 $ 13,344
</Table>
<Table>
<Caption>
For the three months ended April 30, 2001: Retail Internet
Stores Operations Total
------ ---------- -----
Total revenue $ 109,092 $ 19 $ 109,111
Depreciation and amortization 8,821 70 8,891
Operating income (loss) 62 (228) (166)
Total assets 207,813 657 208,474
Capital expenditures $ 7,670 $ -- $ 7,670
</Table>
8
Hastings Entertainment, Inc. and Subsidiaries
Notes to Unaudited Consolidated Financial Statements
April 30, 2002 and 2001
(Tabular amounts in thousands, except per share data or unless otherwise noted)
7. RECENT ACCOUNTING PRONOUNCEMENTS
In June 2001, the Financial Accounting Standards Board ("FASB") issued
Statements of Financial Accounting Standards ("SFAS") No. 141, Business
Combinations, and No. 142, Goodwill and Other Intangible Assets (the
"Statements"), effective for fiscal years beginning after December 15, 2001.
Under the new rules, goodwill will no longer be amortized but will be subject to
annual impairment tests in accordance with the Statements. Other intangible
assets will continue to be amortized over their useful lives. The Company
applied the new rules on accounting for goodwill and other intangible assets
beginning with this quarter ending April 30, 2002 and adoption has not had a
material impact on its consolidated financial position or results of operations.
In August 2001, the FASB issued SFAS No. 144, Accounting for the Impairment or
Disposal of Long-Lived Assets, which addresses financial accounting and
reporting for the impairment or disposal of long-lived assets and supersedes
SFAS No. 121, Accounting for the Impairment of Long-Lived Assets and for
Long-Lived Assets to be Disposed Of, and the accounting and reporting provisions
of APB Opinion No. 30, Reporting the Results of Operations for a disposal of a
segment of a business. SFAS 144 is effective for fiscal years beginning after
December 15, 2001. The Company adopted SFAS 144 as of February 1, 2002 and such
adoption did not have a significant impact on the Company's financial position
and results of operations.
9
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATONS
Forward-looking Statements
Certain written and oral statements set forth below or made by Hastings or with
the approval of an authorized executive officer of the company constitute
"forward-looking statements" within the meaning of the Private Securities
Litigation Reform Act of 1995. The words "believe," "expect," "intend,"
"anticipate," "project," "will" and similar expressions identify forward-looking
statements, which generally are not historical in nature. All statements which
address operating performance, events or developments that we expect or
anticipate will occur in the future including statements relating to the effects
of the adoption of Statement of Financial Accounting Standards Nos. 142 and 144,
the impact on our financial statements of any adjustment to fair value of
interest rate swaps, the outcome of securities litigation, inflation, effect of
critical accounting policies including lower of cost or market for inventory
adjustments, the returns process, rental video amortization and our store
closing reserve and statements expressing general optimism about future
operating results are forward-looking statements. Such statements are based upon
company management's current estimates, assumptions and expectations, which are
based on information available at the time of the disclosure, and are subject to
a number of factors and uncertainties, including, but not limited to, whether
our assumptions turn out to be correct, our inability to attain such estimates
and expectations, a downturn in market conditions in any industry relating to
the products we inventory, sell or rent, the effects of or changes in economic
conditions in the U.S. and or the markets in which we operate our superstores,
our success in forecasting customer demand for products, and legal proceedings
(see discussion of Legal Proceedings in Part II, Item 1 of this Form 10-Q for
the three months ended April 30, 2002 and subsequent SEC filings) any of which
could cause actual results to differ materially from those described herein. We
undertake no obligation to affirm, publicly update or revise any forward-looking
statements, whether as a result of new information, future events or otherwise.
The following discussion should be read in conjunction with the unaudited
consolidated financial statements of the Company and the related notes thereto
appearing elsewhere in the report.
General
Hastings Entertainment is a leading multimedia entertainment retailer that
combines the sale of books, music, software, periodicals, videocassettes, video
games and DVDs with the rental of videocassettes, video games and DVDs in a
superstore and Internet Web site format. As of April 30, 2002, we operated 141
superstores averaging approximately 20,000 square feet in small to medium-sized
markets located in 21 states, primarily in the Western and Midwestern United
States. Each of our superstores is company-operated under the name of Hastings.
Our operating strategy is to enhance our position as a multimedia entertainment
retailer by expanding existing superstores, opening new superstores in selected
markets, and expanding our offering of products through our Internet Web site.
References herein to fiscal years are to the twelve-month periods that end in
January of the following calendar year. For example, the twelve-month period
ending January 31, 2003 is referred to as fiscal 2002.
Critical Accounting Policies
Our financial statements are prepared in accordance with accounting principles
generally accepted in the United States, which require management to make
estimates and assumptions that affect the reported amounts of assets,
liabilities at the date of the financial statements, the disclosure of
contingent assets and liabilities, and the reported amounts of revenues and
expenses during the reporting period. Actual results could differ from those
estimates. We believe the following critical accounting policies affect our more
significant estimates and assumptions used in the preparation of our financial
statements. Our significant estimates and assumptions are reviewed and any
required adjustments are recorded on a monthly basis.
10
Lower of Cost or Market for Merchandise Inventory. Our merchandise inventories
are recorded at the lower of standard cost or market. As with any retailer,
economic conditions, cyclical customer demand and changes in purchasing or
distribution can affect the carrying value of inventory. As circumstances
warrant, we record lower of cost or market ("LCM") inventory adjustments. In
some instances, these adjustments can have a material effect on the financial
results of an annual or interim period. In order to determine such adjustments,
we evaluate the age, inventory turns and estimated fair value of merchandise
inventory by product category and record any adjustment if estimated fair value
is below cost. Through merchandising and an automated-progressive markdown
program, we quickly take the steps necessary to increase the sell-off of slower
moving merchandise to eliminate or lessen the effect of any LCM adjustment.
Returns Process. In general, merchandise inventory owned by us is returnable
based upon return agreements with our merchandise vendors. We continually return
merchandise to vendors based on, among other factors, current and projected
sales trends, overstock situations, authorized return timelines or change in
product offerings. At the end of any reporting period, there is inventory that
has been returned to vendors or in the process of being returned to vendors for
which accruals are required. These costs can include freight, valuation and
quantity differences, and other fees charged by a vendor. In order to
appropriately match the costs associated with the return of merchandise with the
process of returning the product, we utilize an allowance for cost of inventory
returns (the "Allowance"). To accrue for such costs and estimate the Allowance,
we utilize historical experience adjusted for significant estimated or
contractual modifications. Certain adjustments to the Allowance can have a
material effect on the financial results of an annual or interim period. In
addition, we recognize that some portion of our inventory in superstores will
eventually be returned to a vendor based on the factors mentioned above. We
accrue return costs for these future returns on the same basis as product being
returned or in the process of being returned to a vendor. We continually
evaluate the returns process and initiate improvements as needed.
Rental Video Cost Amortization. In late fiscal 1998, we completed a series of
direct revenue-sharing agreements with major studios, the majority of which were
amended in fiscal years 2001 and 2000. We anticipate that our involvement in
revenue-sharing agreements will be similar to that of fiscal year 2001 in future
periods. Revenue sharing allows us to acquire rental video assets at a lower
up-front capital cost than traditional buying arrangements. We then share with
studios a percentage of the actual net rental revenues generated over a
contractually determined period of time. The increased access to additional
copies of new releases under revenue-sharing agreements will allow customer
demand for new releases to be satisfied over a shorter period of time at a time
when the new releases are most popular. We expense revenue-sharing payments as
revenues are recognized under the terms of the specific contracts with supplying
studios. The capitalized cost of all rental video assets acquired for a fixed
price is being amortized on an accelerated basis over six months to a salvage
value of $4 per unit, except for rental video assets purchased for the initial
stock of a new superstore, which are being amortized on a straight line basis
over 36 months to a salvage value of $4.
Certain events, including a downturn in the rental video industry, as a whole or
the markets within which we operate our superstores, further consolidation of
rental video retailers, substantial change in customer demand and change in the
mix of rental video revenues, could effect the salvage value we have assigned to
our rental video assets. Such effect could result in a material reduction of the
carrying value of our rental video assets and have a material impact on the
financial results of an annual or interim period. In particular, the growth of
the DVD market and the shift of consumer purchases from VHS (videocassettes) to
DVD could result in a decrease in the salvage value of rental videos. At some
point during the rental cycle, a VHS item, as with DVD and games, is available
for purchase by a customer as a previously viewed tape ("PVT"). Our current
experience is that the amount received for the PVT is significantly higher than
our salvage value of that item in our rental inventory. Based in part on this
factor and sales of PVTs, we believe our estimate of salvage value is
appropriate.
Store Closing Reserve. As with any retailer, from time to time, and in the
normal course of business, we evaluate our store base to determine if a need to
close or relocate a store(s) is present. Management will evaluate, among other
factors, current and future profitability, market trends, age of store and lease
status. Upon the appropriate executive approval to close a location, we record
charges related to the costs of store closings or relocations. The primary
expense items associated with these charges relate to the net present value of
minimum lease payments (the present value of remaining lease payments under an
active lease) and the write-off of leasehold improvements and other assets not
remaining in our possession at the time the location is closed or relocated. The
amount recorded can
11
fluctuate based on the age of the closing location, term and remaining years of
the lease and the number of stores being closed or relocated. These charges can
have a material effect on the financial results of an annual or interim period.
Although we actively pursue sublease tenants on all closed or relocated
locations, we do not record any estimated sublease income as an offset to any of
charge until a sublease agreement is executed. We evaluate all of our stores on
a quarterly basis to ascertain any need for impairment of assets or to commence
closing proceedings.
Results of Operations
The following tables present our statement of operations data, expressed as a
percentage of revenue, and the number of superstores open at the end of the
periods presented herein.
<Table>
<Caption>
Three Months Ended April 30,
2002 2001
----- -----
Merchandise revenue 79.7% 79.4%
Rental video revenue 20.3 20.6
----- -----
Total revenues 100.0
100.0
Merchandise cost of revenue 73.6 75.2
Rental video cost of revenue 39.6 48.2
----- -----
Total cost of revenues 66.7 69.7
----- -----
Gross profit 33.3 30.3
Selling, general and administrative expenses 32.4 30.4
Pre-opening expenses 0.0 0.0
----- -----
32.4 30.4
----- -----
Operating income (loss) 0.9 (0.1)
Other income (expense):
Interest expense (0.4) (0.6)
Other, net 0.0 0.0
----- -----
Income (Loss) before income taxes 0.5 (0.7)
Income tax expense (benefit) -- --
----- -----
Net income (loss) 0.5% (0.7)%
===== =====
</Table>
Summary of Superstore Activity
<Table>
<Caption>
Three Months Ended Year Ended
April 30, January 31,
2002 2001 2002
---- ---- ----
Hastings Superstores:
Beginning number of stores 142 142 142
Openings -- -- 5
Closings (1) -- (5)
---- ---- ----
Ending number of stores 141 142 142
==== ==== ====
</Table>
12
Three months ended April 30, 2002 compared to three months ended April 30, 2001
Revenues. Total revenues increased $3.7 million, or 3.4%, for the first quarter
of fiscal 2002 to $112.8 million compared to $109.1 million a year ago primarily
due to an increase in total comparable store revenues ("Comps") of 5.3%.
Elements of total Comps were as follows:
<Table>
Merchandise Comps 6.8%
Rental video Comps -0.3%
Total Comps 5.3%
</Table>
Total merchandise revenue increased $3.4 million, or 3.9%, to $90.0 million
compared to $86.6 million last year as we operated one fewer store during the
first quarter of fiscal 2002 compared to the same period in the prior year.
Contributing to the increase in merchandise revenues were increases in DVD and
video games of 56% and 222%, respectively, for the three months ended April 30,
2002 over the prior year. Book Comps increased 3.0% over last year resulting
from several programs we initiated in the second half of last year. Total rental
video revenue grew $0.4 million, or 1.6%, to $22.9 million, up from $22.5
million a year earlier driven primarily by a 103% increase in DVD rentals over
the same period last year. The decrease in rental Comps was primarily due to a
weak new-release schedule and high viewer ratings of the Winter Olympics.
Gross Profit. Total gross profit of $37.6 million in the first quarter of fiscal
2002 increased $4.5 million, or 13.6%, from $33.1 million in the first quarter
of fiscal 2001. Total gross profit as a percent of total revenue increased for
the three months ended April 30, 2002 to 33.3% compared to 30.3% for the same
period last year. Merchandise margins as a percent of merchandise revenue
increased to 26.4% for the current quarter from 24.8% for the same quarter last
year due primarily to inventory markdowns during the first quarter of fiscal
2002 were $1.5 million lower than the same period last year primarily due to our
improved merchandising and automated-progressive markdown programs. Partially
offsetting the improvements detailed above, were increases of approximately $0.3
million in the cost associated with the return of product due primarily to an
increase of approximately 9% in the amount of product returned to vendors during
the first quarter of fiscal 2002 compared to the prior year and higher
merchandise shrinkage of approximately $0.3 million, primarily in our book
category.
Rental video gross profit as a percent of rental revenue increased to 60.4% for
the current quarter from 51.8% for the same quarter last year. This increase was
primarily due to non-revenue sharing titles, which generally reflect higher
margins, representing a higher percentage of total rental revenues and
accounting for a net increase in rental video gross profit of approximately $1.5
million for the first quarter of fiscal 2002 compared to the first quarter of
fiscal 2001.
Selling, General and Administrative Expenses. Selling, general and
administrative ("SG&A") expenses as a percent of total revenues increased to
32.4% for the quarter ended April 30, 2002 from 30.5% for the same period last
year. The increase was primarily the result of:
(i) an increase of approximately $1.0 million in human resource costs
at our stores for the first quarter of fiscal 2002 over the first
quarter of fiscal 2001 as a result of increased hours needed to
initiate a new inventory cycle count system and process a higher
level of inventory returns; and
(ii) an increase in net advertising costs of approximately $0.7 million
for the first quarter of fiscal 2002 as a result of a planned
increase in targeted advertising expenditures to drive customer
traffic.
Interest Expense. Interest expense was $0.5 million, or 0.4% of revenues, in the
three months ended April 30, 2002, compared to $0.6 million, or 0.6% of
revenues, in the three months ended April 30, 2001. The decrease was attributed
to lower average interest rates on our revolving credit facility.
Income Taxes. We did not record income tax expense for the three months ended
April 30, 2002 and 2001 as a result of the reversal of a portion of the
valuation allowance related to the net deferred tax asset established in the
fourth quarter of fiscal 2000.
13
Liquidity and Capital Resources
We generate cash from operations exclusively from the sale of merchandise and
the rental of video products and we have substantial operating cash flow because
most of our revenue is received in cash and cash equivalents. Other than our
principal capital requirements arising from the purchase, warehousing and
merchandising of inventory and rental videos, opening new superstores and
expanding existing superstores and updating existing and implementing new
information systems technology, we have no anticipated material capital
commitments. Our primary sources of working capital are cash flow from operating
activities, trade credit from vendors and borrowings under our revolving credit
facility (the "Facility"). We believe our cash flow from operations and
borrowings under the Facility will be sufficient to fund our ongoing operations,
new superstores and superstore expansions through fiscal 2002.
Consolidated Cash Flows
Operating Activities. Net cash flows from operating activities decreased
$3.9 million from $4.7 million for the three months ended April 30, 2001 to
$0.8 million for the three months ended April 30, 2002. The primary reason
for the decrease was a greater reduction in our trade accounts payable and
accrued expenses of approximately $3.6 million during the first quarter of
fiscal 2002 compared to the first quarter of fiscal 2001.
Investing Activities. Net cash used in investing activities increased $5.7
million, or 74.0%, to $13.4 million for the three months ended April 30,
2002 from $7.7 million for the three months ended April 30, 2001. This
increase was the result of growth in remodeling activity of certain
existing superstores compared to the prior year, planned computer hardware
and software upgrades, higher procurement of rental video assets relating
to the growth of DVD and a higher percentage of purchases of non-revenue
sharing titles, which generally cost more per unit than revenue sharing
titles.
Financing Activities. Cash provided by or used in financing activities is
primarily associated with borrowings and payments made under debt
agreements. For the three months ended April 30, 2002, net borrowings under
debt agreements increased $9.0 million compared to the three months ended
April 30, 2001. The increase for fiscal 2002 primarily resulted from items
described under Operating and Investing Activities above.
Capital Structure. On August 29, 2000, we entered into a three-year syndicated,
secured Loan and Security Agreement with Fleet Retail Finance, Inc. and The CIT
Group/Business Credit, Inc. The initial proceeds from the Facility were used to
terminate and prepay fully the total amounts outstanding under our prior
revolving credit facility with Bank of America and a consortium of banks and our
Series A Senior Notes (the "Senior Notes") with a financial institution. The
amount outstanding under the Facility is limited by a borrowing base predicated
on eligible inventory, as defined, and certain rental video assets, net of
accumulated depreciation less specifically defined reserves and is limited to a
ceiling of $70 million, which increases to $80 million between October 15 and
December 15 of each year of the Facility, less a $10 million availability
reserve. The Facility bears interest based on the prevailing prime rate or LIBOR
plus 2.00% at our option. The borrowing base under the Facility is limited to an
advance rate of 65% of eligible inventory and certain rental video assets net of
accumulated amortization less specifically defined reserves which could be
adjusted to reduce availability under the Facility. The Facility contains no
financial covenants, restricts the payment of dividends and includes certain
other debt and acquisition limitations, allows for the repurchase of up to $7.5
million of our common stock and requires a minimum availability of $10 million
at all times. The Facility is secured by substantially all of the assets of the
company and our subsidiaries and is guaranteed by each of our three consolidated
subsidiaries. The Facility expires on August 29, 2003. At April 30, 2002, we had
$7.3 million in excess availability, after the $10 million availability reserve,
under the Facility.
At April 30, 2002 and January 31, 2002, respectively, we had borrowings
outstanding of $46.9 million and $32.2 million under the Facility. The average
rate of interest being charged under the Facility was 4.1% and 6.1% at April 30,
2002 and January 31, 2002, respectively.
We entered into two interest rate swaps, one in November and one in December
2001, with a financial institution in order to obtain a fixed interest rate on a
portion of our outstanding floating rate debt thereby reducing our exposure to
interest rate volatility. The notional value of each swap is $10 million of our
revolving credit facility at fixed
14
interest rates of 2.65% and 2.47%, respectively, for one year. We have
designated the interest rate swaps as hedging instruments. At April 30, 2002,
the fair value of the interest rate swaps was not significant.
SEASONALITY AND INFLATION
As is the case with many retailers, a significant portion of the Company's
revenues, and an even greater portion of its operating profit, is generated in
the fourth fiscal quarter, which includes the Christmas selling season. As a
result, a substantial portion of the Company's annual earnings has been, and
will continue to be, dependent on the results of this quarter. The Company
experiences reduced rentals of video activity in the spring because customers
spend more time outdoors. Major world or sporting events, such as the Super
Bowl, the Olympic Games or the World Series, also have a temporary adverse
effect on revenues. Future operating results may be affected by many factors,
including variations in the number and timing of store openings, the number and
popularity of new book, music and videocassette titles, the cost of the new
release or "best renter" titles, changes in comparable-store revenues,
competition, marketing programs, increases in the minimum wage, weather, special
or unusual events, and other factors that may affect retailers in general and
the Company in particular.
The Company does not believe that inflation has materially impacted operating
results during the past three years. Substantial increases in costs and expenses
could have a significant impact on the Company's operating results to the extent
such increases are not passed along to customers.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
In the ordinary course of our business, we are exposed to certain market risks,
primarily changes in interest rates. Our exposure to interest rate risk consists
of variable rate debt based on the lenders base rate or LIBOR plus a specified
percentage at our option. The annual impact on our results of operations of a
100 basis point interest rate change on the April 30, 2002 outstanding balance
of the variable rate debt would be approximately $0.3 million, including the
effect of interest rate swaps. After an assessment of these risks to our
operations, we believe that the primary market risk exposures (within the
meaning of Regulation S-K Item 305) are not material and are not expected to
have any material adverse impact on our financial position, results of
operations or cash flows for the next fiscal year. In addition, we do not
believe changes in the fair value of the interest rate swaps entered into in
November 2001 and December 2001 with notional amounts of $10 million each will
be material.
15
PART II
ITEM 1. LEGAL PROCEEDINGS
In 2000, the Company restated its consolidated financial statements for the
first three quarters of fiscal 1999 and the prior four fiscal years. Following
the Company's initial announcement in March 2000 of the requirement for such
restatements, six purported class action lawsuits were filed in the United
States District Court for the Northern District of Texas against the Company and
certain of the current and former directors and officers of the Company
asserting various claims under Sections 10(b) and 20(a) of the Securities
Exchange Act of 1934. Although four of the lawsuits were originally filed in the
Dallas Division of the Northern District of Texas, all of the five pending
actions have been transferred to the Amarillo Division of the Northern District
and have been consolidated. One of the Section 10(b) and 20(a) lawsuits filed in
the Dallas Division was voluntarily dismissed. On May 15, 2000, a lawsuit was
filed in the United States District Court for the Northern District of Texas
against the Company, its current and former directors and officers at the time
of the Company's June 1998 initial public offering and three underwriters,
Salomon Smith Barney, A.G. Edwards & Sons, Inc. and Furman Selz, LLC asserting
various claims under Sections 11, 12(2) and 15 of the Securities Act of 1933.
Motions to dismiss these actions were filed by the Company and, on September 25,
2001, were denied by the Court. Discovery and class certification proceedings
are going forward in both actions.
None of the pending complaints specify the amount of damages sought. Although it
is not feasible to predict or determine the final outcome of the proceedings or
to estimate the potential range of loss with respect to these matters, an
adverse outcome with respect to such proceedings could have a material adverse
impact on the Company's financial position, results of operations and cash
flows.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
a. Listing of exhibits
10.6 Hastings Entertainment, Inc. Associates' Stock Ownership Plan,
as amended
b. No report on Form 8-K was filed by the registrant during the quarter
of the fiscal year for which this report on Form 10-Q is filed.
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SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized:
HASTINGS ENTERTAINMENT, INC.
DATE: June 5, 2002 By: /s/ Dan Crow
---------------
Dan Crow
Vice President and Chief Financial Officer
(Principal Financial and Accounting Officer)
17
INDEX TO EXHIBITS
<Table>
<Caption>
Exhibit
Number Description of Documents
------ ------------------------
10.6 Hastings Entertainment, Inc. Associates' Stock Ownership Plan, as amended
</Table>
18