1 SECURITIES AND EXCHANGE COMMISSION WASHINGTON D.C 20549 FORM 10-Q [X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 FOR THE QUARTERLY PERIOD ENDED JULY 30, 2000 OR [ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 Commission file number 0-21296 PACIFIC SUNWEAR OF CALIFORNIA, INC. CALIFORNIA 95-3759463 (State of Incorporation) (I.R.S Employer Identification No.) 5200 EAST LA PALMA AVENUE ANAHEIM, CALIFORNIA 92807 (Address of principal executive offices) (Zip code) (714) 693-8066 (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 --- --- The number of shares outstanding of the registrant's Common Stock, par value $.01 per share, at August 21, 2000 was 31,819,292. 2 PACIFIC SUNWEAR OF CALIFORNIA, INC. FORM 10-Q FOR THE QUARTER ENDED JULY 30, 2000 INDEX PAGE ---- PART I. FINANCIAL INFORMATION Item 1. Consolidated Financial Statements: Consolidated Balance Sheets as of July 30, 2000 (unaudited) and January 30, 2000........................................... 3 Consolidated Statements of Income and Comprehensive Income (unaudited) for the second quarter and first half ended July 30, 2000 and August 1, 1999............................... 4 Consolidated Statements of Cash Flows (unaudited) for the first half ended July 30, 2000 and August 1, 1999.............. 5 Notes to Consolidated Financial Statements....................... 6-7 Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations........................................8-13 Item 3. Quantitative and Qualitative Disclosures About Market Risk......... 13 PART II. OTHER INFORMATION Item 1. Legal Proceedings.................................................. 14 Item 2. Changes in Securities and Use of Proceeds.......................... 14 Item 3. Defaults Upon Senior Securities.................................... 14 Item 4. Submission of Matters to a Vote of Security Holders................ 14 Item 5. Other Information.................................................. 14 Item 6. Exhibits and Reports on Form 8-K................................... 14 SIGNATURE PAGE..................................................... 15 2 3 PACIFIC SUNWEAR OF CALIFORNIA, INC. CONSOLIDATED BALANCE SHEETS ASSETS JULY 30, JANUARY 30, 2000 2000 ------------- ------------- (Unaudited) CURRENT ASSETS: Cash and cash equivalents (Note 2) $ 13,203,699 $ 32,416,794 Accounts receivable 5,868,223 2,178,105 Merchandise inventories 96,204,472 60,002,230 Prepaid expenses, includes $5,688,579 and $4,874,867 of prepaid rent, respectively 7,722,980 7,043,428 Deferred taxes 2,541,765 2,541,765 ------------- ------------- Total current assets 125,541,139 104,182,322 PROPERTY AND EQUIPMENT: Leasehold improvements 76,097,905 66,998,372 Furniture, fixtures and equipment 77,668,574 63,992,331 ------------- ------------- 153,766,479 130,990,703 Less accumulated depreciation and amortization (43,631,807) (37,777,329) ------------- ------------- Net property and equipment 110,134,672 93,213,374 OTHER ASSETS: Goodwill, net of accumulated amortization of $1,140,643 and $984,960, respectively 6,959,122 7,114,805 Deferred compensation and other assets (Note 6) 6,737,473 4,831,038 ------------- ------------- Total other assets 13,696,595 11,945,843 ------------- ------------- Total assets $ 249,372,406 $ 209,341,539 ============= ============= LIABILITIES AND SHAREHOLDERS' EQUITY CURRENT LIABILITIES: Accounts payable $ 42,107,832 $ 20,113,199 Accrued liabilities (Note 5) 13,693,238 13,874,533 Income taxes payable 561,945 2,844,051 ------------- ------------- Total current liabilities 56,363,015 36,831,783 DEFERRED COMPENSATION 6,225,712 4,436,776 OTHER LONG-TERM LIABILITIES 28,316 28,316 DEFERRED RENT 6,493,012 5,831,988 DEFERRED TAXES 387,012 387,012 SHAREHOLDERS' EQUITY: Preferred stock, par value $.01; authorized, 5,000,000; none issued and outstanding Common stock, par value $.01; authorized, 75,937,500 shares; issued and outstanding, 31,817,059 and 31,462,751 shares, respectively 318,171 314,628 Additional paid-in capital 74,489,742 69,619,372 Retained earnings 105,067,426 91,891,664 ------------- ------------- Total shareholders' equity 179,875,339 161,825,664 ------------- ------------- Total liabilities and shareholders' equity $ 249,372,406 $ 209,341,539 ============= ============= See accompanying notes 3 4 PACIFIC SUNWEAR OF CALIFORNIA, INC. CONSOLIDATED STATEMENTS OF INCOME AND COMPREHENSIVE INCOME (Unaudited) FOR THE SECOND QUARTER ENDED FOR THE FIRST HALF ENDED -------------------------------- ------------------------------- JULY 30, 2000 AUGUST 1, 1999 JULY 30, 2000 AUGUST 1, 1999 ------------- -------------- ------------- -------------- Net sales $131,969,736 $100,454,111 $244,531,175 $181,897,021 Cost of goods sold, including buying, distribution and occupancy costs 88,185,078 65,655,399 162,852,073 120,953,186 ------------ ------------ ------------ ------------ Gross margin 43,784,658 34,798,712 81,679,102 60,943,835 Selling, general and administrative expenses 31,901,745 23,050,993 60,647,843 42,732,285 ------------ ------------ ------------ ------------ Operating income 11,882,913 11,747,719 21,031,259 18,211,550 Interest income 168,817 126,185 506,503 238,423 ------------ ------------ ------------ ------------ Income before income tax expense 12,051,730 11,873,904 21,537,762 18,449,973 Income tax expense (Note 4) 4,681,000 4,574,000 8,362,000 7,107,000 ------------ ------------ ------------ ------------ Net income $ 7,370,730 $ 7,299,904 $ 13,175,762 $ 11,342,973 ============ ============ ============ ============ Comprehensive income (Note 1) $ 7,370,730 $ 7,299,904 $ 13,175,762 $ 11,342,973 ============ ============ ============ ============ Net income per share, basic (Note 3) $ 0.23 $ 0.24 $ 0.42 $ 0.37 ------------ ------------ ------------ ------------ Net income per share, diluted (Note 3) $ 0.23 $ 0.23 $ 0.41 $ 0.36 ------------ ------------ ------------ ------------ Weighted average shares outstanding, basic (Note 3) 31,760,227 30,926,234 31,651,616 30,829,159 ============ ============ ============ ============ Weighted average shares outstanding, diluted (Note 3) 32,316,649 32,048,185 32,451,217 31,954,600 ============ ============ ============ ============ See accompanying notes 4 5 PACIFIC SUNWEAR OF CALIFORNIA, INC. CONSOLIDATED STATEMENTS OF CASH FLOWS (Unaudited) FOR THE FIRST HALF ENDED ---------------------------------- JULY 30, 2000 AUGUST 1, 1999 ------------- -------------- CASH FLOWS FROM OPERATING ACTIVITIES: Net income $ 13,175,762 $ 11,342,973 Adjustments to reconcile net income to net cash provided by operating activities: Depreciation and amortization 8,904,154 6,486,908 Change in: (3,690,118) (3,004,392) Accounts receivable Merchandise inventories (36,202,242) (22,425,483) Prepaid expenses (679,552) (1,299,166) Deferred compensation and other assets 147,653 (884,696) Accounts payable 21,994,633 16,331,060 Accrued liabilities (181,295) 1,627,170 Income taxes and deferred income taxes 443,600 3,872,858 Deferred rent 661,024 475,686 ------------ ------------ Net cash provided by operating activities 4,573,619 12,522,918 CASH FLOWS FROM INVESTING ACTIVITIES: Investment in property and equipment (25,644,766) (21,243,173) ------------ ------------ Net cash used in investing activities (25,644,766) (21,243,173) CASH FLOWS FROM FINANCING ACTIVITIES: Cash paid in lieu of fractional shares due to 3-for-2 stock split -- (10,598) Proceeds from exercise of stock options 1,858,052 1,841,188 ------------ ------------ Net cash provided by financing activities 1,858,052 1,830,590 ------------ ------------ NET DECREASE IN CASH AND CASH EQUIVALENTS: CASH AND CASH EQUIVALENTS, beginning of period (19,213,095) (6,889,665) CASH AND CASH EQUIVALENTS, end of period 32,416,794 19,031,738 ------------ ------------ $ 13,203,699 $ 12,142,073 ============ ============ SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION: Cash paid during the period for: Interest $ 1,008 $ -- Income taxes $ 7,918,400 $ 3,234,142 - -------------------------------------------------------------------------------- Supplemental disclosures of non-cash transactions: During the first half ended July 30, 2000 and August 1, 1999, the Company recorded an increase to additional paid-in capital of $2,725,706 and $2,449,424, respectively, related to tax benefits associated with the exercise of non-qualified stock options. In addition, during the first half ended July 30, 2000 and August 1, 1999, the Company recorded an increase to additional paid-in capital of $290,155 and $290,354, respectively, related to the issuance of restricted stock to satisfy certain deferred compensation liabilities. See accompanying notes 5 6 PACIFIC SUNWEAR OF CALIFORNIA, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS NOTE 1 - BASIS OF PRESENTATION The accompanying consolidated financial statements are unaudited except for the January 30, 2000 balance sheet. These statements have been prepared in accordance with generally accepted accounting principles for interim financial information and with the instructions to Form 10-Q and Rule 10-01 of Regulation S-X. Accordingly, they do not include all of the information and footnotes required by generally accepted accounting principles for complete financial statements. The consolidated financial statements include the accounts of Pacific Sunwear of California, Inc. and its wholly-owned subsidiaries (the "Company"). All significant intercompany transactions have been eliminated in consolidation. The Company's fiscal year is the 52- or 53-week period which ends on the Sunday closest to the end of January. "Fiscal 2000" is a 53-week period which ends February 4, 2001. In the opinion of management, all adjustments consisting only of normal recurring entries necessary for a fair presentation have been included. The preparation of the consolidated financial statements in conformity with generally accepted accounting principles necessarily requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the consolidated financial statements and reported expenses during the reported period. Actual results could differ from these estimates. The results of operations for the second quarter and first half ended July 30, 2000 are not necessarily indicative of the results that may be expected for the fiscal year ending February 4, 2001. For further information, refer to the financial statements and notes thereto as of and for the years ended January 30, 2000, January 31, 1999 and February 1, 1998. NOTE 2 - CASH AND CASH EQUIVALENTS Cash and cash equivalents include cash on hand and marketable securities with original maturities of three months or less. NOTE 3 - NET INCOME PER SHARE, BASIC AND DILUTED The following table summarizes the computation of EPS: SECOND QUARTER ENDED: JULY 30, 2000 AUGUST 1, 1999 -------------------------------------- -------------------------------------- PER SHARE NET PER SHARE NET INCOME SHARES AMOUNT INCOME SHARES AMOUNT ---------- ---------- --------- ---------- ---------- --------- BASIC EPS: $7,370,730 31,760,227 $0.23 $7,299,904 30,926,234 $0.24 DILUTED EPS: Effect of dilutive stock options 556,422 1,121,951 ---------- ---------- ----- ---------- ---------- ----- $7,370,730 32,316,649 $0.23 $7,299,904 32,048,185 $0.23 ========== ========== ===== ========== ========== ===== 6 7 FIRST HALF ENDED: JULY 30, 2000 AUGUST 1, 1999 -------------------------------------- -------------------------------------- PER SHARE NET PER SHARE NET INCOME SHARES AMOUNT INCOME SHARES AMOUNT ---------- ---------- ----- ---------- ---------- ----- BASIC EPS: $13,175,762 31,651,616 $0.42 $11,342,973 30,829,159 $0.37 DILUTED EPS: Effect of dilutive stock options 799,601 1,125,441 ---------- ---------- ----- ---------- ---------- ----- $13,175,762 32,451,217 $0.41 $11,342,973 31,954,600 $0.36 ========== ========== ===== ========== ========== ===== Options to purchase 1,041,988 and 72,696 shares of common stock in the second quarter of fiscal 2000 and the second quarter of fiscal 1999, respectively, and 244,159 and 71,271 in the first half of fiscal 2000 and the first half of fiscal 1999, respectively, were not included in the computation of diluted earnings per common share because the option exercise price was greater than the average market price of the common stock. NOTE 4 - FEDERAL AND STATE INCOME TAX EXPENSE The combined federal and state income tax expense was calculated using estimated effective annual tax rates. NOTE 5 - ACCRUED LIABILITIES Accrued liabilities consist of the following: JULY 30, JANUARY 30, 2000 2000 ----------- ----------- Compensation and benefits $ 5,846,756 $ 7,368,490 Sales tax payable 2,530,962 1,106,142 Gift certificates and store merchandise credits 1,122,809 1,882,692 Reserve for store expansion/relocation and closing costs 1,038,892 1,045,797 Other accrued liabilities 3,153,819 2,471,412 ----------- ----------- $13,693,238 $13,874,533 =========== =========== NOTE 6 - DEFERRED COMPENSATION AND OTHER ASSETS Deferred compensation and other assets consist of the following: JULY 30, JANUARY 30, 2000 2000 ---------- ---------- Deferred compensation $6,405,806 $4,505,058 Other assets 331,667 325,980 ---------- ---------- $6,737,473 $4,831,038 ========== ========== 7 8 MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF CONSOLIDATED OPERATIONS RESULTS OF OPERATIONS The thirteen weeks ended July 30, 2000 (second quarter) as compared to the thirteen weeks ended August 1, 1999 (second quarter) Net Sales Net sales increased to $132.0 million for the second quarter of fiscal 2000 from $100.5 million for the second quarter of fiscal 1999, an increase of $31.5 million, or 31.3%. Of this $31.5 million increase, $16.9 million was attributable to net sales generated by 96 new stores opened in fiscal 2000 not yet included in the comparable store base, $13.7 million was attributable to net sales generated by 54 new stores opened in fiscal 1999 not yet included in the comparable store base and $2.5 million was attributable to other non-comparable store sales. Offsetting these increases was a $1.3 million decrease in net sales attributable to a 1.4% decrease in comparable store net sales in the second quarter of fiscal 2000 and a $.3 million decrease in net sales attributable to the closing of three stores during fiscal 1999 and two stores closed in fiscal 2000. The decrease in comparable store net sales was primarily attributable to a weakness in sales of summer seasonal merchandise such as shorts, board shorts, sandals and hawaiian shirts. Other non-comparable store sales consist of sales from stores that have been expanded or relocated and not yet included in the comparable store base as well as merchandise sold over the internet. Stores are deemed comparable stores on the first day of the first month following the one year anniversary of their opening or expansion/relocation. Average retail prices of merchandise sold decreased approximately 6% in the second quarter of fiscal 2000 compared to the second quarter of fiscal 1999 primarily related to a higher markdown rate as a result of the sales weakness in summer seasonal merchandise. Gross Margin Gross margin, after buying, distribution and occupancy costs, increased to $43.8 million for the second quarter of fiscal 2000 from $34.8 million for the second quarter of fiscal 1999, an increase of $9.0 million, or 25.9%. As a percentage of net sales, gross margin was 33.2% for the second quarter of fiscal 2000 compared to 34.6% for the second quarter of fiscal 1999. Of this 1.4% decrease, occupancy costs for the second quarter of fiscal 2000 increased 1.3% as a percentage of net sales compared to the second quarter of fiscal 1999, which was primarily related to opening 96 new stores in the first half of fiscal 2000 compared to opening 63 new stores in the first half of fiscal 1999 and to a lesser extent negative occupancy leverage for stores open more than one year due to the 1.4% same store sales decrease in the second quarter of fiscal 2000. Occupancy costs as a percentage of net sales for new stores are generally higher than for mature stores. Net merchandise margins decreased .1% as a percentage of net sales for the second quarter of fiscal 2000 compared to the second quarter of fiscal 1999 due to a higher markdown rate offset by a higher initial markup rate. Selling, General and Administrative Expenses Selling, general and administrative expenses increased to $31.9 million for the second quarter of fiscal 2000 from $23.1 million for the second quarter of fiscal 1999, an increase of $8.8 million, or 38.1%. As a percentage of net sales, these expenses increased to 24.2% from 23.0%. Of this 1.2% increase, store selling expenses increased 1.1% as a percentage of net sales, primarily due to opening 96 new stores in the first half of fiscal 2000 compared to opening 63 new stores in the first half of fiscal 1999 and to a lesser extent negative payroll leverage for stores open more than one year due to the 1.4% same store sales decrease in the second quarter of fiscal 2000. Store payroll and selling expenses as a percentage of net sales for new stores are generally higher than for mature stores. Advertising as a percentage of net sales increased by .7% which was related to the Company's increased marketing efforts including its first ever national television advertising campaign which commenced in February 2000. Offsetting the increase in store selling expenses was a decrease of .6% in general and administrative expenses as a percentage of net sales as a result of leveraging these expenses over higher total net sales. Income Tax Expense Income tax expense was $4.7 million for the second quarter of fiscal 2000 compared to $4.6 million for the second quarter of fiscal 1999. The effective income tax rate was 38.8% for the second quarter of fiscal 2000 as compared to 38.5% for the second quarter of fiscal 1999. 8 9 The twenty-six weeks ended July 30, 2000 (first half) as compared to the twenty-six weeks ended August 1, 1999 (first half) Net Sales Net sales increased to $244.5 million for the first half of fiscal 2000 from $181.9 million for the first half of fiscal 1999, an increase of $62.6 million, or 34.4%. Of this $62.6 million increase, $33.2 million was attributable to net sales generated by new stores opened in fiscal 1999 not yet included in the comparable store base, $21.6 million was attributable to net sales generated by 96 new stores opened in fiscal 2000 not yet included in the comparable store base, $4.5 million was attributable to other non-comparable store sales and $4.0 million was attributable to a 2.4% increase in comparable store net sales in the first half of fiscal 2000. Offsetting these increases was a $.7 million decrease in net sales attributable to the closing of three stores during fiscal 1999 and two stores during fiscal 2000. Other non-comparable store sales consist of sales from stores that have been expanded or relocated and not yet included in the comparable store base as well as merchandise sold over the internet. Stores are deemed comparable stores on the first day of the first month following the one year anniversary of their opening or expansion/relocation. Average retail prices of merchandise sold decreased approximately 5% in the first half of fiscal 2000 compared to the first half of fiscal 1999 primarily related to a higher markdown rate as a result of the sales weakness in summer seasonal merchandise in the second quarter of fiscal 2000. Gross Margin Gross margin, after buying, distribution and occupancy costs, increased to $81.7 million for the first half of fiscal 2000 from $60.9 million for the first half of fiscal 1999, an increase of $20.8 million, or 34.2%. As a percentage of net sales, gross margin was 33.4% for the first half of fiscal 2000 compared to 33.5% for the first half of fiscal 1999. Of this .1% decrease, occupancy costs for the first half of fiscal 2000 increased .7% as a percentage of net sales compared to the first half of fiscal 1999, which was related to opening 96 new stores in the first half of fiscal 2000 compared to opening 63 new stores in the first half of fiscal 1999. Occupancy costs as a percentage of net sales for new stores are generally higher than for mature stores. Offsetting this decrease was an increase of .6% in net merchandise margins in the first half of fiscal 2000 compared to the first half of fiscal 1999 due to a higher initial markup rate offset by a higher markdown rate. Selling, General and Administrative Expenses Selling, general and administrative expenses increased to $60.6 million for the first half of fiscal 2000 from $42.7 million for the first half of fiscal 1999, an increase of $17.9 million, or 41.9%. As a percentage of net sales, these expenses increased to 24.8% from 23.5%. Of this 1.3% net increase, 1.0% was due to an increase in advertising as a percentage of net sales which was related to the Company's increased marketing efforts including its first ever national television advertising campaign which commenced in February 2000. In addition, store selling expenses increased .8% as a percentage of net sales, primarily related to opening 96 new stores in the first half of fiscal 2000 compared to opening 63 new stores in the first half of fiscal 1999. Store payroll and selling expenses as a percentage of net sales for new stores are generally higher than for mature stores. Offsetting these increases was a decrease of .5% in general and administrative expenses as a percentage of net sales as a result of leveraging these expenses over higher total net sales. Income Tax Expense Income tax expense was $8.4 million for the first half of fiscal 2000 compared to $7.1 million for the first half of fiscal 1999. The effective income tax rate was 38.8% for the first half of fiscal 2000 as compared to 38.5% for the first half of fiscal 1999. 9 10 LIQUIDITY AND CAPITAL RESOURCES The Company has financed its operations from internally generated cash flow, short-term borrowings and equity financing. The Company's primary capital requirements have been for the construction of new stores, remodeling, expansion, or relocation of selected stores and financing of inventories. Net cash provided by operating activities for the first half of fiscal 2000 was $4.6 million compared to $12.5 million for the first half of fiscal 1999. This $7.9 million decrease was attributable to an increase in inventories net of accounts payable of $8.1 million, a decrease in accrued income taxes and deferred income taxes of $3.4 million and an increase in accounts receivable of $.7 million. These were offset by an increase in depreciation and amortization of $2.4 million, an increase in net income of $1.8 million and other items netting to an increase of $.1 million. Working capital at July 30, 2000 was $69.2 million compared to $67.4 million at January 30, 2000, an increase of $1.8 million. Inventories at July 30, 2000 were $96.2 million compared to $60.0 million at January 30, 2000, an increase of $36.2 million. This increase was primarily related to opening 96 new stores and expanding/relocating 21 stores with in excess of 50% larger average square footage than their previous locations. The Company's average store inventories vary throughout the year and increase in advance of the peak selling periods of spring break, back-to-school and Christmas. Net cash used in investing activities was $25.6 million for property and equipment for the first half of fiscal 2000 compared to $21.2 million for property and equipment for the first half of fiscal 1999. The increase in property and equipment was primarily due to opening 96 new stores in the first half of fiscal 2000 compared to opening 63 new stores in the first half of fiscal 1999. Net cash provided by financing activities, primarily proceeds received from the exercise of stock options, for the first half of fiscal 2000 was $1.9 million compared to $1.8 million for the first half of fiscal 1999. The Company has a credit facility with a bank, which expires in August 2001. The credit facility provides for a $35.0 million line of credit, which can be used for cash advances, commercial letters of credit and shipside bonds. Interest on cash advances under the line of credit facility is payable monthly at the bank's prime rate (9.5% at July 30, 2000). At July 30, 2000, the Company had $11.5 million in letters of credit outstanding. The loan agreement subjects the Company to various restrictive covenants, including maintenance of certain financial ratios and prohibits payment of cash dividends on common stock. At July 30, 2000, the Company was in compliance with all of its covenants. The Company plans to open approximately 44 new stores, of which 16 will be PacSun stores, 7 will be PacSun Outlet stores and 21 will be d.e.m.o. stores during the remainder of fiscal 2000. The Company also plans to expand or relocate 15 existing smaller stores during the remainder of fiscal 2000. The Company estimates that capital expenditures during the remainder of fiscal 2000 will be approximately $23.8 million. The Company reviews the operating performance of its stores on an ongoing basis to determine which stores, if any, to close and records closing costs as stores are closed or identified to be closed. The Company closed two stores during the second quarter of fiscal 2000. The Company anticipates closing one or two additional stores in fiscal 2000. Management believes that the Company's working capital, bank line of credit and cash flows from operating activities will be sufficient to meet the Company's operating and capital expenditure requirements through the end of fiscal 2000. 10 11 INFLATION The Company does not believe that inflation has had a material effect on the results of operations during the past three years. There can be no assurance that the Company's business will not be affected by inflation in the future. NEW ACCOUNTING PRONOUNCEMENTS Accounting for Derivatives and Hedging Activities -- In June 1998, the Financial Accounting Standards Board issued SFAS No. 133, "Accounting for Derivatives and Hedging Activities." The provisions of SFAS No. 133 are effective for all fiscal quarters of all fiscal years beginning after June 15, 2000. The Company does not believe that the adoption of SFAS. No. 133 will have a significant impact on the Company's consolidated financial statements. Revenue Recognition in Financial Statements -- In December 1999, the Securities and Exchange Commission released Staff Accounting Bulletin No. 101, "Revenue Recognition in Financial Statements" "SAB No.101." Management of the Company has determined that the application of SAB101 will not have any material impact on the Company's consolidated financial statements. SEASONALITY AND QUARTERLY RESULTS The Company's business is seasonal by nature, with the Christmas and back-to-school periods historically accounting for the largest percentage of annual net sales. The Company's first quarter historically accounts for the smallest percentage of annual net sales. In fiscal 1999 and fiscal 1998, excluding sales generated by new and relocated/expanded stores, the Christmas and back-to-school periods together accounted for approximately 33% and 34%, respectively, of the Company's annual net sales and a higher percentage of the Company's operating income. In fiscal 1999, excluding net sales generated by new and relocated/expanded stores, approximately 45% of the Company's annual net sales occurred in the first half of the fiscal year and 55% in the second half. The Company's quarterly results of operations may also fluctuate significantly as a result of a variety of factors, including the timing of store openings; the amount of revenue contributed by new stores; the timing and level of markdowns; the timing of store closings, expansions and relocations; competitive factors; and general economic conditions. CAUTIONARY NOTE REGARDING FORWARD-LOOKING STATEMENTS AND RISK FACTORS This report on Form 10-Q contains "forward-looking statements" within the meaning of Sections 27A of the Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934, and the Company intends that such forward-looking statements be subject to the safe harbors created thereby. The Company is hereby providing cautionary statements identifying important factors that could affect the Company's business and results of operations and/or cause the Company's actual results to differ materially from those projected in forward-looking statements of the Company herein. Any statements that express, or involve discussions as to expectations, beliefs, plans, objectives, assumptions, future events or performance (often, but not always through the use of words or phrases such as "will result," "expects to," "will continue," "anticipates," "plans," "intends," "estimated," "projects" and "outlook") are not historical facts and may be forward-looking and, accordingly, such statements involve estimates, assumptions and uncertainties which could cause actual results to differ materially from those expressed in the forward-looking statements. Such uncertainties include, among others, the following factors: FLUCTUATIONS IN COMPARABLE STORE NET SALES RESULTS. The Company's comparable store net sales results have fluctuated significantly in the past, on a monthly, quarterly and annual basis, and are expected to continue to fluctuate in the future. A variety of factors affect the Company's comparable store net sales results, including changes in fashion trends, changes in the Company's merchandise mix, calendar shifts of holiday periods, actions by competitors, weather conditions and general economic conditions. The Company's comparable store net sales results for any particular fiscal month, fiscal quarter or fiscal year in the future may decrease. As a result of these or other factors the Company's future comparable store net sales results are likely to have a significant effect on the market price of the Company's common stock. MERCHANDISING/FASHION SENSITIVITY. The Company's success is largely dependent upon its ability to gauge the fashion tastes of its customers and to provide merchandise that satisfies customer demand in a timely manner. The Company's failure to anticipate, identify or react appropriately in a timely manner to changes in fashion trends could have a material adverse effect on the Company's business, financial condition and results of operations. 11 12 Misjudgements or unanticipated fashion misjudgements could have a material adverse effect on the Company's image with its customers. PRIVATE LABEL MERCHANDISE. Sales from private label merchandise accounted for approximately 36% of net sales in fiscal 1999 and fiscal 1998. The Company may increase the percentage of net sales in private label merchandise in the future, although there can be no assurance that the Company will be able to achieve increases in private label merchandise sales as a percentage of net sales. Because the Company's private label merchandise generally carries higher merchandise margins than its other merchandise, the Company's failure to anticipate, identify and react in a timely manner to fashion trends with its private label merchandise, particularly if the percentage of net sales derived from private label merchandise increases, may have a material adverse affect on the Company's business, financial condition and results of operations. RISKS OF NEW SPECIALTY STORE CONCEPT NAMED "D.E.M.O.". The Company opened the first d.e.m.o. store in April of fiscal 1998, and as of the end of July 30, 2000 operated 59 d.e.m.o. stores. The operation of its d.e.m.o. stores is subject to numerous risks, including unanticipated operating problems, lack of experience, lack of customer acceptance, new vendor relationships and competition from existing and new retailers. There can be no assurance that the Company's d.e.m.o. stores will achieve sales and profitability levels that justify the Company's investment in this new retail format. Expansion of the d.e.m.o. format also involves other risks that could have a material adverse effect on the Company, including (i) the diversion of management's attention from the Company's core business, (ii) difficulties with the hiring, retention and training of key personnel for the d.e.m.o. stores, (iii) risks associated with new vendors and (iv) difficulties with locating and obtaining favorable store sites and negotiating acceptable lease terms. INTERNET SALES. The Company began selling merchandise over the internet in June 1999. The internet operations involve, among other things, internet web site design activities, investment in new systems, distribution center enhancements, training of personnel and hiring of additional personnel to handle new functions. The Company's internet operations are subject to numerous risks, including unanticipated operating problems, reliance on third party computer hardware and software providers, system failures and the need to invest in additional computer systems, lack of experience in managing the new internet business, lack of customer acceptance and lack of experience in the fulfillment and shipping of individual orders to customers. There can be no assurance that the internet operations will achieve sales and profitability levels that justify the Company's investment therein. The internet operations also involve other risks that could have a material adverse effect on the Company, including (i) the diversion of management's attention from the Company's core business, (ii) the failure to reach profitability within the foreseeable future, (iii) difficulties with hiring, retention and training of key personnel to conduct the Company's internet operations, (iv) diversion of sales from PacSun stores, (v) rapid technological change, (vi) liability for online content and (vii) risks related to the failure of the computer systems that operate the web site and its related support systems, including computer viruses, telecommunication failures and electronic break-ins and similar disruptions. In addition, the internet operations involve risks which are beyond the Company's control that could have a material adverse effect on the Company, including (i) price competition involving the items the Company intends to sell, (ii) the entry of the Company's vendors into the internet business, in direct competition with the Company, (iii) the level of merchandise returns experienced by the Company, (iv) governmental regulation, (v) online security breaches, (vi) credit card fraud, (vii) general economic conditions and economic conditions specific to the internet, online commerce and the apparel industry and (viii) competition from other internet web sites that may have significantly more capital resources and experience in internet sales than the Company. EXPANSION AND MANAGEMENT OF GROWTH. The Company's continued growth depends to a significant degree on its ability to open and operate stores on a profitable basis and on management's ability to manage the Company's planned expansion. During the remainder of fiscal 2000, the Company plans to open approximately 44 new stores, of which 16 will be PacSun stores, 7 will be PacSun Outlet stores and 21 will be d.e.m.o. stores. The Company also plans to expand or relocate an additional 15 existing smaller stores in the second half of fiscal 2000. The Company's planned expansion is dependant upon a number of factors, including the ability of the Company to locate and obtain favorable store sites, negotiate acceptable lease terms, obtain adequate merchandise supply and hire and train qualified management level and other employees. Factors beyond the Company's control may also affect the Company's ability to expand, including general economic and business conditions affecting consumer spending. There can be no assurance that the Company will achieve its planned expansion or that such expansion will be profitable. As the Company's operations grow, there could be increasing strain on the Company's resources and distribution facility, and the Company could experience difficulties relating to a variety of operational matters, including hiring, training and managing an increasing number of employees, having sufficient working capital, bank line of credit and cash flow from operating activities for the Company's future operating and capital requirements, obtaining sufficient quantities of merchandise from its preferred vendors, obtaining sufficient materials and contract 12 13 manufacturers to produce its private brand products and enhancing its distribution, financial and operating systems. There can be no assurance that the Company will be able to manage its growth effectively. Any failure to manage growth could have a material adverse effect on the Company's business, financial condition and results of operations. RELIANCE ON KEY PERSONNEL. The continued success of the Company is dependant to a significant degree upon the services of its key personnel, particularly its executive officers. The loss of the services of any member of senior management could have a material adverse effect on the Company's business, financial condition and results of operations. The Company's success in the future will also be dependent upon the Company's ability to attract and retain qualified personnel. The Company's inability to attract and retain qualified personnel in the future could have a material adverse effect on the Company's business, financial condition and results of operations. DEPENDENCE ON SINGLE DISTRIBUTION FACILITY. The Company's distribution functions for all of its stores are handled from a single facility in Anaheim, California. In addition, the Company processes shipments related to sales of merchandise over the internet from the same facility. Any significant interruption in the operation of the distribution facility due to natural disasters, accidents or system failures, would have a material adverse effect on the Company's business, financial condition and results of operations. VOLATILITY OF STOCK PRICE. The market price of the Company's common stock has fluctuated substantially in the past and there can be no assurance that the market price of the common stock will not continue to fluctuate significantly. Future announcements or management discussions concerning the Company or its competitors, internet sales results, d.e.m.o. sales and profitability results, quarterly variations in operating results or comparable store net sales, changes in earnings estimates by analysts or changes in accounting policies, among other factors, could cause the market price of the common stock to fluctuate substantially. For example, in May 2000 the Company's stock price decreased dramatically after it was reported that the Company's comparable store net sales for the month of April 2000 increased 1.6%. In addition, stock markets have experienced extreme price and volume volatility in recent years. This volatility has had a substantial effect on the market prices of securities of many small public companies for reason frequently unrelated to the operating performance of the specific companies. The Company cautions that the risk factors described above could affect the Company's business and results of operations and/or cause actual results or outcomes to differ materially from those expressed in any forward- looking statements of the Company made by or on behalf of the Company. Further, management cannot assess the impact of each such factor on the Company's business or the extent to which any factor, or combination of factors, may cause actual results to differ materially from those contained in any forward-looking statements. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK The Company is exposed to market risk related to changes in interest rates. A discussion of the Company's accounting policies for financial instruments and further disclosures relating to financial instruments is included in the Summary of Significant Accounting Policies and Nature of Business in the Notes to Consolidated Financial Statements in the Company's Form 10-K for the year ended January 30, 2000. The Company monitors the risks associated with interest rates and financial instrument positions. 13 14 PART II-OTHER INFORMATION Item 1 - Legal Proceedings - Not Applicable Item 2 - Changes in Securities and Use of Proceeds - Not Applicable Item 3 - Defaults Upon Senior Securities - Not Applicable Item 4 - Submission of Matters to a Vote of Security Holders (a) The 2000 Annual Meeting of the Shareholders of the Company was held on May 24, 2000. (b) At the 2000 Annual Meeting, Greg H. Weaver, Julius Jensen III, Pearson C. Cummin III, Peter L. Harris and Sally Frame Kasaks were elected as Directors of the Company for a one year term ending in 2001. Voting at the 2000 Annual Meeting for the election of directors was as set forth below. Each of the nominees identified below was elected a director. VOTES CAST VOTES NAME FOR WITHHELD ---- ---------- -------- Greg H. Weaver 25,339,682 6,540 Julius Jensen III 25,335,752 9,470 Pearson C. Cummin III 25,336,978 9,244 Peter L. Harris 25,340,473 5,749 Sally Frame Kasaks 25,169,350 176,872 Item 5 - Other Information - Not Applicable Item 6 - Exhibits and Reports on Form 8-K (a) Exhibits: (27) Financial Data Schedule (b) Reports on Form 8-K: No reports were filed on form 8-K during the quarter for which this report is filed. 14 15 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. Pacific Sunwear of California, Inc. (Registrant) Date: August 28, 2000 /s/ GREG H. WEAVER ------------------------------------ Greg H. Weaver Chairman of the Board and Chief Executive Officer Date: August 28, 2000 /s/ CARL W. WOMACK ------------------------------------ Carl W. Womack Senior Vice President, Chief Financial Officer and Secretary 15 16 EXHIBIT INDEX EXHIBIT NUMBER DESCRIPTION ------- ----------- 27 Financial Data Schedule