Form 10-Q
Table of Contents

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

Form 10-Q

 

QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d)

OF THE SECURITIES EXCHANGE ACT OF 1934

 

For the second quarter ended October 30, 2004   Commission File Number 1-7923

 

Handleman Company


(Exact name of registrant as specified in its charter)

 

Michigan


  

38-1242806


(State or other jurisdiction of

incorporation or organization)

  

(I.R.S. employer

identification no.)

 

500 Kirts Boulevard, Troy, Michigan


 

48084-4142


 

Area Code 248 362-4400


(Address of principal executive offices)   (Zip code)   (Registrant’s telephone number)

 

Indicate by checkmark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15 (d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.

 

YES      X        NO              

 

Indicate by checkmark whether the Registrant is an accelerated filer (as defined in Rule 12b-2 of the Exchange Act).

 

YES      X        NO              

 

Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date.

 

CLASS


  

DATE


  

SHARES OUTSTANDING


Common Stock - $.01 Par Value

   December 3, 2004    22,199,726

 

 


Table of Contents

HANDLEMAN COMPANY

 

INDEX

 

     PAGE NUMBER(S)

PART I - FINANCIAL INFORMATION

    

Item 1. Financial Statements

    

Consolidated Statements of Income

   1

Consolidated Balance Sheets

   2

Consolidated Statement of Shareholders’ Equity

   3

Consolidated Statements of Cash Flows

   4

Notes to Consolidated Financial Statements

   5 - 13

Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations

   14 - 19

Item 4. Controls and Procedures

   20

PART II - OTHER INFORMATION

    

Item 1. Legal Proceedings

   21

Item 2. Changes in Securities and Use of Proceeds

   21

Item 4. Submission of Matters to a Vote of Security Holders

   21

Item 6. Exhibits

   21

SIGNATURES

   22


Table of Contents

PART I – FINANCIAL INFORMATION

 

Item 1. Financial Statements

 

HANDLEMAN COMPANY

CONSOLIDATED STATEMENTS OF INCOME

FOR THE THREE-MONTH AND SIX-MONTH PERIODS ENDED OCTOBER 30, 2004 AND NOVEMBER 1, 2003

(UNAUDITED)

(in thousands of dollars except per share data)

 

    

Three Months

(13 weeks) Ended


   

Six Months

(26 weeks) Ended


 
     October 30,
2004


    November 1,
2003
(Restated)


    October 30,
2004


   

November 1,

2003
(Restated)


 

Revenues

   $ 295,340     $ 269,900     $ 527,399     $ 475,193  

Costs and expenses:

                                

Direct product costs

     235,768       214,548       424,637       375,633  

Selling, general and administrative expenses

     47,648       43,504       90,449       86,346  
    


 


 


 


Operating income

     11,924       11,848       12,313       13,214  

Investment income (expense), net

     1,251       (219 )     2,047       7  
    


 


 


 


Income from continuing operations before income taxes

     13,175       11,629       14,360       13,221  

Income tax expense

     (4,539 )     (3,390 )     (4,799 )     (4,591 )
    


 


 


 


Income from continuing operations

     8,636       8,239       9,561       8,630  
    


 


 


 


Discontinued operations (Note 3):

                                

Income (loss) from operations of discontinued subsidiary companies (including loss on disposal of $758 and $665 for the three and six-month periods ended October 30, 2004 and November 1, 2003, respectively)

     (758 )     3,779       (758 )     5,341  

Income tax benefit (expense)

     275       (2,128 )     275       (2,743 )
    


 


 


 


Income (loss) from discontinued operations

     (483 )     1,651       (483 )     2,598  
    


 


 


 


Net income

   $ 8,153     $ 9,890     $ 9,078     $ 11,228  
    


 


 


 


Income per share:

                                

Continuing operations - basic

   $ 0.38     $ 0.33     $ 0.41     $ 0.35  
    


 


 


 


Continuing operations - diluted

   $ 0.38     $ 0.33     $ 0.41     $ 0.35  
    


 


 


 


Discontinued operations - basic

   $ (0.02 )   $ 0.07     $ (0.02 )   $ 0.10  
    


 


 


 


Discontinued operations - diluted

   $ (0.02 )   $ 0.07     $ (0.02 )   $ 0.10  
    


 


 


 


Net income - basic

   $ 0.36     $ 0.40     $ 0.39     $ 0.45  
    


 


 


 


Net income - diluted

   $ 0.36     $ 0.40     $ 0.39     $ 0.45  
    


 


 


 


Weighted average number of shares outstanding during the period:

                                

Basic

     22,681       24,742       23,032       25,034  
    


 


 


 


Diluted

     22,704       24,831       23,071       25,108  
    


 


 


 


 

The accompanying notes are an integral part of the consolidated financial statements.

 

1


Table of Contents

HANDLEMAN COMPANY

CONSOLIDATED BALANCE SHEETS

AS OF OCTOBER 30, 2004 AND MAY 1, 2004

(in thousands of dollars except share data)

 

     October 30,
2004
(Unaudited)


    May 1,
2004


 

ASSETS

                

Current assets:

                

Cash and cash equivalents

   $ 34,744     $ 73,713  

Accounts receivable, less allowances of $12,364 at October 30, 2004 and $10,606 at May 1, 2004

     236,875       216,388  

Merchandise inventories

     200,645       105,472  

Other current assets

     12,314       13,581  
    


 


Total current assets

     484,578       409,154  
    


 


Property and equipment:

                

Land, buildings and improvements

     13,830       13,792  

Display fixtures

     32,904       33,154  

Computer hardware and software

     56,192       49,289  

Equipment, furniture and other

     34,644       35,329  
    


 


       137,570       131,564  

Less accumulated depreciation

     73,937       69,440  
    


 


       63,633       62,124  
    


 


Goodwill, net

     3,406       3,406  

Other assets, net

     22,312       19,908  
    


 


Total assets

   $ 573,929     $ 494,592  
    


 


LIABILITIES

                

Current liabilities:

                

Accounts payable

   $ 212,743     $ 129,776  

Debt, current

     25,000       —    

Accrued and other liabilities

     31,949       46,501  
    


 


Total current liabilities

     269,692       176,277  

Other liabilities

     10,828       9,449  
    


 


Total liabilities

     280,520       185,726  
    


 


SHAREHOLDERS’ EQUITY

                

Preferred stock, $1.00 par value; 1,000,000 shares authorized; none issued

     —         —    

Common stock, $.01 par value; 60,000,000 shares authorized; 22,212,000 and 23,455,000 shares issued at October 30, 2004 and May 1, 2004, respectively

     222       235  

Accumulated other comprehensive income

     7,884       1,646  

Unearned compensation

     (11,115 )     (7,305 )

Retained earnings

     296,418       314,290  
    


 


Total shareholders’ equity

     293,409       308,866  
    


 


Total liabilities and shareholders’ equity

   $ 573,929     $ 494,592  
    


 


 

The accompanying notes are an integral part of the consolidated financial statements.

 

2


Table of Contents

HANDLEMAN COMPANY

CONSOLIDATED STATEMENT OF SHAREHOLDERS’ EQUITY

FOR THE SIX-MONTH PERIOD ENDED OCTOBER 30, 2004

(UNAUDITED)

(in thousands of dollars)

 

     Six Months (26 weeks)

 
     Common Stock

    Other Comprehensive
Income (Loss)


                   
     Shares
Issued


    Amount

    Foreign
Currency
Translation
Adjustment


   Minimum
Pension
Liability


    Unearned
Compensation


    Retained
Earnings


    Total
Shareholders’
Equity


 

May 1, 2004

   23,455     $ 235     $ 7,173    $ (5,527 )   $ (7,305 )   $ 314,290     $ 308,866  

Net income

                                          9,078       9,078  

Adjustment for foreign currency translation

                   6,238                              6,238  
                                                 


Comprehensive income, net of tax

                                                  15,316  
                                                 


Stock-based compensation:

                                                     

Performance shares

   150       1                      (2,200 )     4,251       2,052  

Stock options

   23                              (1,434 )     2,005       571  

Restricted stock and other

                                  (176 )     506       330  

Common stock repurchased

   (1,416 )     (14 )                            (30,467 )     (30,481 )

Cash dividends, $.14 per share

                                          (3,245 )     (3,245 )
    

 


 

  


 


 


 


October 30, 2004

   22,212     $ 222     $ 13,411    $ (5,527 )   $ (11,115 )   $ 296,418     $ 293,409  
    

 


 

  


 


 


 


 

The accompanying notes are an integral part of the consolidated financial statements.

 

3


Table of Contents

HANDLEMAN COMPANY

CONSOLIDATED STATEMENTS OF CASH FLOWS

FOR THE SIX-MONTH PERIODS ENDED OCTOBER 30, 2004 AND NOVEMBER 1, 2003

(in thousands of dollars)

 

    

Six Months

(26 weeks) Ended


 
     October 30,
2004


   

November 1,

2003
(Restated)


 

Cash flows from operating activities:

                

Net income

   $ 9,078     $ 11,228  
    


 


Adjustments to reconcile net income to net cash (used by) provided from operating activities:

                

Depreciation

     8,468       7,060  

Unrealized investment income

     (566 )     —    

Recoupment/amortization of acquired rights

     —         9,417  

Loss on disposal of property and equipment

     842       584  

Impairment of subsidiary assets

     —         665  

Stock-based compensation

     2,424       3,298  

Changes in operating assets and liabilities:

                

Increase in accounts receivable

     (17,421 )     (30,598 )

Increase in merchandise inventories

     (93,130 )     (65,166 )

(Increase) decrease in other operating assets

     (87 )     2,433  

Increase in accounts payable

     80,417       72,571  

Decrease in other operating liabilities

     (13,173 )     (4,724 )
    


 


Total adjustments

     (32,226 )     (4,460 )
    


 


Net cash (used by) provided from operating activities

     (23,148 )     6,768  
    


 


Cash flows from investing activities:

                

Additions to property and equipment

     (10,733 )     (6,716 )

Proceeds from disposition of properties and equipment

     342       240  

License advances and acquired rights

     —         (6,522 )
    


 


Net cash used by investing activities

     (10,391 )     (12,998 )
    


 


Cash flows from financing activities:

                

Cash dividends

     (3,245 )     (1,735 )

Issuances of debt

     44,415       12,075  

Repayments of debt

     (19,415 )     (19,218 )

Repurchases of common stock

     (30,481 )     (22,545 )

Cash proceeds from stock-based compensation plans

     529       1,967  
    


 


Net cash used by financing activities

     (8,197 )     (29,456 )
    


 


Effect of exchange rate changes on cash

     2,767       165  

Net decrease in cash and cash equivalents

     (38,969 )     (35,521 )

Cash and cash equivalents at beginning of period

     73,713       62,698  
    


 


Cash and cash equivalents at end of period

   $ 34,744     $ 27,177  
    


 


 

The accompanying notes are an integral part of the consolidated financial statements.

 

4


Table of Contents

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

 


 

1. Accounting Policies

 

In the opinion of management, the accompanying Consolidated Balance Sheets and Consolidated Statements of Income, Shareholders’ Equity and Cash Flows contain all adjustments, including normal recurring adjustments necessary to present fairly the financial position of the Company as of October 30, 2004, and the results of operations and changes in cash flows for the six months then ended. Because of the seasonal nature of the Company’s business, revenues and earnings results for the six months ended October 30, 2004 are not necessarily indicative of what the results will be for the full year. The Consolidated Balance Sheet as of May 1, 2004 included in this Form 10-Q was derived from the audited consolidated financial statements of the Company included in the Company’s fiscal year 2004 Annual Report on Form 10-K filed with the Securities and Exchange Commission. Reference should be made to the Company’s Form 10-K for the year ended May 1, 2004, including the discussion of the Company’s critical accounting policies.

 

2. Restatement of Previously Issued Financial Statements

 

The accompanying consolidated financial statements for the three and six months ended November 1, 2003 have been restated to reflect certain stock option awards as variable due to their settlement arrangements, pursuant to Financial Accounting Standards Board Interpretation (“FIN”) No. 44, “Accounting for Certain Transactions Involving Stock Compensation (an Interpretation of APB Opinion No. 25).” Under variable accounting, the excess of market value over the option price of outstanding stock options is determined at each reporting period and aggregate compensation expense is adjusted and recognized over the vesting period. Compensation expense associated with vested options continues to be adjusted to the market value of the options until the options are either exercised or terminated. Previously, the Company had measured compensation expense associated with these awards at the date of grant and had not adjusted that measurement for subsequent changes in their market value (fixed accounting). As a result, the Company has restated its selling, general and administrative expenses from continuing operations, related income tax expense and unearned compensation for the three and six months ended November 1, 2003. The effect of this restatement is as follows (amounts in thousands):

 

     Three Months Ended
November 1, 2003


   Six Months Ended
November 1, 2003


Consolidated Statements of Income


   Previously
Reported


   Restated

   Previously
Reported


   Restated

Selling, general and administrative expenses

   $ 43,050    $ 43,504    $ 85,315    $ 86,346

Income from continuing operations before income taxes and minority interest

     12,083      11,629      14,252      13,221

Income tax expense from continuing operations

     3,552      3,390      4,958      4,591

Income from continuing operations

     8,531      8,239      9,294      8,630

Net income

     10,182      9,890      11,892      11,228

Income per share:

                           

Continuing operations        - basic

   $ 0.34    $ 0.33    $ 0.37    $ 0.35

Continuing operations        - diluted

   $ 0.34    $ 0.33    $ 0.37    $ 0.35

Net income                        - basic

   $ 0.41    $ 0.40    $ 0.48    $ 0.45

Net income                        - basic

   $ 0.41    $ 0.40    $ 0.47    $ 0.45

 

5


Table of Contents

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

 


 

     As of November 1, 2003

 

Consolidated Balance Sheets


   Previously
Reported


    Restated

 

Other assets, net (a)

   $ 22,647     $ 23,789  

Total assets

     586,383       587,525  

Unearned compensation

     (7,554 )     (9,671 )

Retained earnings

     313,071       316,330  

Total shareholders’ equity

     305,241       306,383  

Total liabilities and shareholders’ equity

     586,383       587,525  

(a) Change relates to deferred taxes.

 

3. Discontinued Operations

 

During the second quarter of fiscal 2004, which ended November 1, 2003, the Company committed to a plan, and reached an agreement, to sell certain of its subsidiary companies (generally known as Anchor Bay Entertainment) within its North Coast Entertainment (“NCE”) business segment. The sale of Anchor Bay Entertainment allows the Company to focus on its core category management and distribution competencies. In accordance with Statement of Financial Accounting Standards (“SFAS”) No. 144, “Accounting for the Impairment or Disposal of Long-Lived Assets,” the financial results of these subsidiary companies are reported separately as discontinued operations in the Company’s Consolidated Statements of Income for all periods presented, since the ongoing operations and cash flows of these companies are eliminated from the ongoing operations of the Company upon completion of the sale. The Company does not have any continuing involvement in the operations of these companies after the disposal transaction. The purchaser has requested certain adjustments which remain unresolved. The Company does not believe that there is a reasonable basis for these adjustments and therefore the potential exposure is in the range of zero to $7,000,000. However, since no assurance can be given to the resolution of these unresolved requested adjustments, as they are neither probable nor estimatable, no accrual has been recorded for these items.

 

Additionally, in the fourth quarter of fiscal 2004, a licensor of Anchor Bay Entertainment exercised its right to audit its royalty statements. As a result of this audit, the licensor has asserted a claim against Anchor Bay Entertainment for royalties it believes are due them, in the amount of $5,600,000 including interest. Pursuant to the Anchor Bay Entertainment sale agreement, the Company is potentially liable for certain royalty audit claims. During the second quarter of fiscal 2005, the Company recorded a pre-tax charge of $758,000 ($483,000 after tax or $0.02 per diluted share), representing its best estimate of the amounts it expects to pay to settle this matter. This charge was included in discontinued operations in the Company’s Consolidated Statements of Income. The Company’s maximum exposure to settle this matter is $5,600,000.

 

6


Table of Contents

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

 


 

The table below summarizes the major categories of assets and liabilities sold (in thousands of dollars):

 

Assets

        

Accounts receivable

   $ 21,545  

Merchandise inventories

     10,560  

Acquired rights

     39,717  

Property and equipment, net

     210  

All other operating assets

     999  
    


Total assets

   $ 73,031  
    


Liabilities

        

Accounts payable

   $ (6,839 )

All other operating liabilities

     (6,302 )
    


Total liabilities

   $ (13,141 )
    


Adjustment to sale proceeds

   $ (1,164 )
    


Total sale proceeds

   $ 58,726  
    


 

The following table summarizes the revenues and pre-tax profit included in discontinued operations (in thousands of dollars):

 

     Three Months Ended

   Six Months Ended

     Oct. 30,
2004


   Nov. 1,
2003
(Restated)


   Oct. 30,
2004


   Nov. 1,
2003
(Restated)


Revenues

   $ —      $ 24,394    $ —      $ 43,420

Pre-tax profit (excluding loss on disposal)

     —        4,444      —        6,006

 

7


Table of Contents

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

 


 

4. Stock Plans

 

The Company has stock-based compensation plans in the form of stock options, performance shares and restricted stock. Prior to fiscal 2004, and after the restatement discussed in Note 2 of Notes to Consolidated Financial Statements, the Company accounted for these plans under the recognition and measurement provisions of Accounting Principles Board (“APB”) Opinion No. 25, “Accounting for Stock Issued to Employees” and FIN No. 44, “Accounting for Certain Transactions Involving Stock Compensation (an Interpretation of APB Opinion No. 25).” As more fully described in Note 2 of Notes to Consolidated Financial Statements, during the fourth quarter of fiscal year 2004, the Company began to account for all stock options granted prior to fiscal 2004 under the variable accounting method. Under variable accounting, the excess of market value over the option price of outstanding stock options is determined at each reporting period and aggregate compensation expense is adjusted and recognized over the vesting period. Compensation expense associated with vested options continues to be adjusted to the market value of the options until the options are either exercised or terminated.

 

Effective May 4, 2003, the Company adopted the fair value recognition provisions of SFAS No. 123, “Accounting for Stock-Based Compensation.” The Company selected the prospective transition method, as defined in SFAS No. 148, “Accounting for Stock-Based Compensation – Transition and Disclosure,” an amendment to SFAS No. 123. Under the prospective method, all stock-based awards issued after May 3, 2003 are accounted for utilizing the fair value provisions of SFAS No. 123 and are expensed over the vesting period.

 

The pre-tax costs related to stock-based compensation included in the determination of net income for the three and six months ended October 30, 2004 was $1,252,000 and $2,424,000, respectively, and $2,040,000 and $3,298,000, respectively, for the three and six months ended November 1, 2003. The following table illustrates the effect on net income and earnings per share if the fair value recognition provisions of SFAS No. 123 had been applied to all stock-based awards for each period presented (in thousands of dollars except per share data):

 

     Three Months Ended

    Six Months Ended

 
     Oct. 30,
2004


    Nov. 1,
2003
(Restated)


    Oct. 30,
2004


    Nov. 1,
2003
(Restated)


 

Net income

   $ 8,153     $ 9,890     $ 9,078     $ 11,228  

Add: Stock-based employee compensation expense included in reported net income, net of related tax effects

     823       1,310       1,738       1,843  

Deduct: Total stock-based employee compensation expense determined under fair value based method for all awards, net of related tax effects

     (995 )     (902 )     (2,284 )     (1,624 )
    


 


 


 


Proforma net income

   $ 7,981     $ 10,298     $ 8,532     $ 11,447  
    


 


 


 


Net income per share:

                                

Reported         - basic

   $ 0.36     $ 0.40     $ 0.39     $ 0.45  

                        - diluted

     0.36       0.40       0.39       0.45  

Proforma         - basic

     0.35       0.42       0.37       0.46  

                        - diluted

     0.35       0.41       0.37       0.46  

 

8


Table of Contents

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

 


 

5. Accounts Receivable

 

The table below summarizes the components of accounts receivable balances included in the Company’s Consolidated Balance Sheets (in thousands of dollars):

 

     October 30, 2004

    May 1, 2004

 

Trade accounts receivable

   $ 249,239     $ 226,994  

Less allowances for:

                

Gross profit impact of estimated future returns

     (10,343 )     (8,508 )

Doubtful accounts

     (2,021 )     (2,098 )
    


 


Accounts receivable, net

   $ 236,875     $ 216,388  
    


 


 

6. Pension Plan

 

The Company has two defined benefit pension plans (“Pension Benefits”) that cover substantially all full-time U.S. and Canadian employees. In addition, the Company has one nonqualified post retirement plan, Supplemental Executive Retirement Plan (“SERP”), which covers select employees. The information below, for all periods presented, combines U.S. and Canadian pension plans, and discloses SERP information separately.

 

Components of net periodic benefit cost are as follows (in thousands of dollars):

 

     Pension Benefits

    SERP

     Three Months Ended

    Three Months Ended

     Oct. 30, 2004

    Nov. 1, 2003

    Oct. 30, 2004

   Nov. 1, 2003

Service cost

   $ 453,411     $ 411,091     $ 142,833    $ 108,074

Interest cost

     764,073       681,565       145,115      130,806

Expected return on plan assets

     (758,547 )     (615,096 )     —        —  

Amortization of unrecognized transition asset, prior service cost and actuarial gain

     412,397       426,402       127,542      128,381
    


 


 

  

Net periodic benefit cost

   $ 871,334     $ 903,962     $ 415,490    $ 367,261
    


 


 

  

     Pension Benefits

    SERP

     Six Months Ended

    Six Months Ended

     Oct. 30, 2004

    Nov. 1, 2003

    Oct. 30, 2004

   Nov. 1, 2003

Service cost

   $ 903,734     $ 821,629     $ 285,666    $ 216,148

Interest cost

     1,525,561       1,362,716       290,230      261,612

Expected return on plan assets

     (1,514,847 )     (1,229,867 )     —        —  

Amortization of unrecognized transition asset, prior service cost and actuarial gain

     824,357       852,731       255,084      256,762
    


 


 

  

Net periodic benefit cost

   $ 1,738,805     $ 1,807,209     $ 830,980    $ 734,522
    


 


 

  

 

9


Table of Contents

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

 


 

As of October 30, 2004, fiscal 2005 contributions to the Company’s defined benefit pension plans and SERP were $4,861,000 and $1,500,000, respectively. The Company presently anticipates contributing an additional $171,000 to the defined benefit pension plans in fiscal 2005 for a total of $5,032,000, and no additional contributions to SERP.

 

7. New Accounting Pronouncements

 

In November 2004, SFAS No. 151, “Inventory Costs, an amendment of ARB No. 43, Chapter 4” was issued by the Financial Accounting Standards Board. SFAS No. 151 requires that items such as idle facility expense, excessive spoilage, double freight and re-handling costs be recognized as charges in the current period. This Statement also requires that allocation of fixed production overheads to the costs of conversion be based on the normal capacity of the production facilities. The Company has evaluated the impact of SFAS No. 151 and does not expect that this Statement will have an impact on its operating results.

 

8. Segment Information

 

As described in Note 3 of Notes to Consolidated Financial Statements, the Company sold certain subsidiary companies in the second quarter of fiscal 2004, all of which had previously been reported in the NCE business segment. As a result of the sale of these subsidiary companies, beginning in fiscal 2005, the Company’s operations are comprised of only one business segment, Handleman Entertainment Resources (“H.E.R.”). H.E.R. is responsible for music category management and distribution operations.

 

The accounting policies of this segment are the same as those described in Note 1, “Accounting Policies,” contained in the Company’s Form 10-K for the year ended May 1, 2004. Segment data includes a charge allocating corporate costs to the operating segment. The Company evaluates performance of its segments and allocates resources to them based on income before interest, income taxes and minority interest (“segment income”).

 

Fiscal 2004 amounts below represent all H.E.R. operations, as well as activity from remaining NCE operations other than from those companies which were sold (as those amounts are classified as discontinued operations).

 

The tables below present information about reported segments for the three months ended October 30, 2004 and November 1, 2003 (in thousands of dollars):

 

Three Months Ended October 30, 2004:

 

   H.E.R.

     NCE

   Total

Revenues, external customers

   $ 295,340        —      $ 295,340

Segment income

     11,633        —        11,633

Capital expenditures

     6,072        —        6,072

Three Months Ended November 1, 2003, Restated:

 

   H.E.R.

     NCE

   Total

Revenues, external customers

   $ 269,696      $ 55    $ 269,751

Segment income

     11,353        74      11,427

Capital expenditures

     4,919        —        4,919

 

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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

 


 

A reconciliation of total segment revenues to consolidated revenues from continuing operations, total segment income to consolidated income from continuing operations before income taxes, and total segment assets to consolidated assets as of and for the three months ended October 30, 2004 and November 1, 2003 is as follows (in thousands of dollars):

 

     October 30, 2004

   

November 1, 2003

(Restated)


 

Revenues

                

Total segment revenues

   $ 295,340     $ 269,751  

Corporate income

     —         149  
    


 


Consolidated revenues from continuing operations

   $ 295,340     $ 269,900  
    


 


Income From Continuing Operations Before Income Taxes

                

Total segment income for reportable segments

   $ 11,633     $ 11,427  

Investment income

     1,335       329  

Investment expense

     (84 )     (548 )

Unallocated corporate income

     291       421  
    


 


Consolidated income from continuing operations before income taxes

   $ 13,175     $ 11,629  
    


 


 

The tables below present information about reported segments for the six months ended October 30, 2004 and November 1, 2003 (in thousands of dollars):

 

Six Months Ended October 30, 2004:

 

   H.E.R.

   NCE

   Total

Revenues, external customers

   $ 527,399      —      $ 527,399

Segment income

     11,768      —        11,768

Total assets

     581,568      —        581,568

Capital expenditures

     10,733      —        10,733

Six Months Ended November 1, 2003, Restated:

 

   H.E.R.

   NCE

   Total

Revenues, external customers

   $ 474,765    $ 129    $ 474,894

Segment income

     12,297      67      12,364

Total assets, excluding assets held for sale

     532,181      7,441      539,622

Capital expenditures

     6,684      —        6,684

 

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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

 


 

A reconciliation of total segment revenues to consolidated revenues from continuing operations, total segment income to consolidated income from continuing operations before income taxes, and total segment assets to consolidated assets as of and for the six months ended October 30, 2004 and November 1, 2003 is as follows (in thousands of dollars):

 

     October 30, 2004

   

November 1, 2003

(Restated)


 

Revenues

                

Total segment revenues

   $ 527,399     $ 474,894  

Corporate income

     —         299  
    


 


Consolidated revenues from continuing operations

   $ 527,399     $ 475,193  
    


 


Income From Continuing Operations Before Income Taxes

                

Total segment income for reportable segments

   $ 11,768     $ 12,364  

Investment income

     2,190       693  

Investment expense

     (143 )     (686 )

Unallocated corporate income

     545       850  
    


 


Consolidated income from continuing operations before income taxes

   $ 14,360     $ 13,221  
    


 


Assets

                

Total segment assets

   $ 581,568     $ 539,622  

Assets held for sale

     —         73,031  

Elimination of intercompany receivables and payables

     (7,639 )     (25,128 )
    


 


Consolidated assets

   $ 573,929     $ 587,525  
    


 


 

9. Comprehensive Income

 

Comprehensive income is summarized as follows (in thousands of dollars):

 

     Three Months Ended

   Six Months Ended

     Oct. 30,
2004


   Nov. 1,
2003
(Restated)


   Oct. 30,
2004


   Nov. 1,
2003
(Restated)


Net income

   $ 8,153    $ 9,890    $ 9,078    $ 11,228

Change in foreign currency translation adjustments

     3,405      3,863      6,238      4,195
    

  

  

  

Total comprehensive income

   $ 11,558    $ 13,753    $ 15,316    $ 15,423
    

  

  

  

 

The table below summarizes the components of accumulated other comprehensive income included in the Company’s Consolidated Balance Sheets (in thousands of dollars):

 

     October 30,
2004


    May 1,
2004


 

Foreign currency translation adjustments

   $ 13,411     $ 7,173  

Minimum pension liability, net of tax

     (5,527 )     (5,527 )
    


 


Total accumulated other comprehensive income

   $ 7,884     $ 1,646  
    


 


 

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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)

 


 

10. Common Stock – Basic and Diluted Shares

 

A reconciliation of the weighted average shares used in the calculation of basic and diluted shares is as follows (in thousands):

 

     Three Months Ended

   Six Months Ended

     Oct. 30
2004


   Nov. 1
2003
(Restated)


   Oct. 30,
2004


   Nov. 1,
2003
(Restated)


Weighted average shares during the period – basic

   22,681    24,742    23,032    25,034

Additional shares from assumed exercise of stock options

   23    89    39    74
    
  
  
  

Weighted average shares adjusted for assumed exercise of stock options – diluted

   22,704    24,831    23,071    25,108
    
  
  
  

 

11. Contingencies

 

In January 2002, Kmart Corporation filed for Chapter 11 bankruptcy protection and requested that the Bankruptcy Court designate Handleman Company and several other companies “critical trade vendors.” The Bankruptcy Court granted Kmart’s request and as a result of being named a critical trade vendor, Handleman received $49.0 million in payment of Kmart’s obligations. In April 2003, the United States District Court ruled that the Bankruptcy Court’s designation regarding critical trade vendors was not appropriate under the Bankruptcy Code. In May 2003, Kmart emerged from bankruptcy. In February 2004, the Court of Appeals affirmed the April 2003 District Court ruling. Also in June 2003, during the pendency of its appeal to the Court of Appeals, Kmart filed a complaint before the Bankruptcy Court requesting that the Bankruptcy Court require the Company to repay the $49.0 million critical trade vendor payment, although the April 2003 District Court’s order did not require repayment of the amounts received by the critical trade vendors. In November 2004, the United States Supreme Court denied the Company’s request to grant a writ of certiorari to review of this matter. The Company’s position is that, as a result of being named a critical trade vendor, it granted economic concessions to Kmart and gave up certain rights with an aggregate economic value substantially equivalent to the $49.0 million payment received. In addition, see Note 3 of Notes to Consolidated Financial Statements for a discussion of contingencies related to discontinued operations. There are no additional pending legal proceedings to which the Registrant or any of its subsidiaries is a party, other than routine legal matters which are incidental to the business and the ultimate outcome of which is not expected to be material to future results of consolidated operations, financial position and cash flows. The Company has provided for all claims and legal proceedings based on its best estimate of the amounts it expects to pay.

 

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Item 2.

 

Handleman Company

Management’s Discussion and Analysis of

Financial Condition and Results of Operations

 

The Company had previously operated in two business segments: Handleman Entertainment Resources (“H.E.R.”) and North Coast Entertainment (“NCE”). H.E.R. consists of music category management and distribution operations principally in North America and the United Kingdom (“UK”). NCE encompassed the Company’s proprietary operations, which included music and video product. As a result of the sale of certain subsidiary companies, as discussed below, beginning in fiscal 2005, the Company’s operations are comprised only of one business segment, H.E.R. Reference should be made to Note 8 of Notes to Consolidated Financial Statements for additional information regarding segments.

 

During the second quarter of fiscal 2004, which ended November 1, 2003, the Company committed to a plan, and reached an agreement, to sell certain of its subsidiary companies (generally known as Anchor Bay Entertainment) within its NCE business segment. In accordance with accounting standards, the financial results of these subsidiary companies are reported separately as discontinued operations in the Company’s Consolidated Statements of Income for all periods presented, since the ongoing operations and cash flows of these companies are eliminated from the ongoing operations of the Company upon completion of the sale. As a result, income from continuing operations for the second quarter and six-month periods, for both fiscal years presented, substantially included only H.E.R. operations.

 

The Company’s Consolidated Financial Statements for the three and six months ended November 1, 2003 have been restated to reflect certain stock option awards as variable due to their settlement arrangements and pursuant to Financial Accounting Standards Board Interpretation No. 44, “Accounting for Certain Transactions Involving Stock Compensation (an Interpretation of APB Opinion No. 25).” Under variable accounting, the excess of market value over the option price of outstanding stock options is determined at each reporting period and aggregate compensation expense is adjusted and recognized over the vesting period. Compensation expense associated with vested options continues to be adjusted to the market value of the options until the options are either exercised or terminated. Previously, the Company had measured compensation expense associated with these awards at the date of grant and had not adjusted that measurement for subsequent changes in their market value (fixed accounting). This change increased selling, general and administrative expenses in the Company’s Consolidated Statements of Income and had no effect on cash. Reference should be made to Note 2 of Notes to Consolidated Financial Statements for additional information and a summary of the results of the restated financial statements for the period ended November 1, 2003.

 

Overview

 

Net income for the second quarter of fiscal 2005 was $8.2 million or $.36 per diluted share, compared to $9.9 million or $.40 per diluted share for the second quarter of fiscal 2004. Net income for the second quarter of this fiscal year included income from continuing operations of $8.6 million or $.38 per diluted share and a loss from discontinued operations of $0.5 million or $.02 per diluted share, compared to income from continuing operations of $8.2 million or $.33 per diluted share and income from discontinued operations of $1.7 million or $.07 per diluted share for the same period last year.

 

Net income for the first six months of fiscal 2005 was $9.1 million or $.39 per diluted share, compared to $11.2 million or $.45 per diluted share for the first six months of fiscal 2004. Net income for the first six months of fiscal 2005 included income from continuing operations of $9.6 million or $.41 per diluted share and a loss from discontinued operations of $0.5 million or $.02 per diluted share, compared to income from continuing operations of $8.6 million $.35 per diluted share and income from discontinued operations of $2.6 million or $.10 per diluted share for the first six months of fiscal 2004.

 

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Table of Contents

Results of Operations

 

Unless otherwise noted, the following discussion relates only to results from continuing operations.

 

Revenues for the second quarter of fiscal 2005 increased 9% to $295.3 million from $269.9 million for the second quarter of fiscal 2004. The improvement in year-over-year revenues was mainly due to higher revenues of $24.2 million and $6.0 million in the United States (“U.S.”) and Canadian operations, respectively, over the second quarter of last fiscal year, resulting from higher consumer purchases of music in mass merchant retail stores. These increases were offset, in part, by a $3.8 million decline in revenues within the Mexico operation, which was attributable to the cessation of operations in that country during the first quarter of fiscal 2005.

 

Revenues for the first six months of fiscal 2005 were $527.4 million, an 11% increase over revenues of $475.2 million for the first six months of fiscal 2004. The improvement in year-over-year revenues was mainly due to increased revenues in the United Kingdom (“UK”) and U.S. of $25.5 million and $22.8 million, respectively, over the comparable prior year period. The increase in UK revenues was equally attributable to growth in the DVD and music markets. The increase in U.S. revenues was primarily the result of higher consumer purchases in the second quarter of this fiscal year, as discussed previously. Canadian revenues also increased $11.4 million during the first six months of fiscal 2005 over 2004, primarily due to improving conditions in the Canadian music industry. These increases were partially offset by a decline in revenues of $6.6 million in the Mexico operation due to the cessation of operations within that country in the first quarter of this fiscal year, as previously mentioned.

 

Consolidated direct product costs as a percentage of revenues was 79.8% for the second quarter ended October 30, 2004, compared to 79.5% for the second quarter ended November 1, 2003. Direct product costs for the second quarters ended October 30, 2004 and November 1, 2003 included costs associated with acquiring and preparing inventory for distribution of $4.0 million and $2.5 million, respectively. Consolidated direct product costs as a percentage of revenues was 80.5% for the first six months of fiscal 2005, compared to 79.0% for the first six months of fiscal 2004. The increase in direct product costs for the second quarter and six months ended October 30, 2004 was due to a higher proportion of revenues from promotional products, which carry a higher direct product cost as a percentage of revenues than the Company’s overall direct product cost percentage. Direct product costs for the first six months of fiscal 2005 and 2004 included costs associated with acquiring and preparing inventory for distribution of $6.6 million and $4.9 million, respectively.

 

Consolidated selling, general and administrative (“SG&A”) expenses were $47.6 million or 16.1% of revenues for the second quarter of fiscal 2005, compared to $43.5 million or 16.1% of revenues for the second quarter of fiscal 2004. Consolidated SG&A expenses for the first six months of this year were $90.4 million or 17.2% of revenues, compared to $86.3 million or 18.2% of revenues for the first six months of last year. The reduction in SG&A expense as a percentage of revenues for the first six months of this fiscal year compared to the first six months of last year was primarily due to higher revenues this fiscal year and the Company’s continued focus on improving productivity and expense control.

 

Income before interest and income taxes (“operating income”) for the second quarter of fiscal 2005 was $11.9 million, compared to operating income of $11.8 million for the second quarter of fiscal 2004. Operating income for the first six months of this fiscal year was $12.3 million, compared to $13.2 million for the first six months of last fiscal year. The lower operating income for the first six-month period of this fiscal year was mainly due to a reduction in operating income in the U.S. of $6.5 million, which was the result of higher direct product costs as a percentage of revenues, as previously discussed. This decrease in operating income was partially offset by increases in operating income in the UK and Canada of $2.9 million and $2.5 million, respectively, predominately due to the higher fiscal year-to-date revenues in those markets.

 

Investment income, net for the second quarter of fiscal 2005 was $1.3 million, compared to investment expense, net of $0.2 million for the second quarter of fiscal 2004. During the second quarter of fiscal 2005, the Company recorded investment income of $0.6 million related to investment gains on assets held

 

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for the Company’s Supplemental Executive Retirement Plan. In addition, investment income was greater in the second quarter of this fiscal year compared to last year’s second quarter due to the higher cash balances this year on which interest income was earned. During the second quarter of last year, the Company prepaid its outstanding debt under a senior note agreement with a group of insurance companies, in the amount of $7.1 million ($3.5 million was scheduled to mature in February 2004, with the remaining $3.6 million scheduled to mature in February 2005). As a result of the early payment, the Company incurred a pre-payment cost of $0.5 million, which is included in investment expense, net for fiscal 2004. The Company would have incurred interest expense of $0.6 million had it held the senior note to maturity. Investment income, net for the first six months of fiscal 2005 was $2.0 million, compared to approximately break-even for the first six months of fiscal 2004.

 

The effective income tax rates for the second quarters of fiscal 2005 and 2004 were 34.5% and 29.2%, respectively. The lower tax rate last year was primarily due to benefits recognized from certain operating losses the Company incurred during the first quarter of fiscal 2004, which were recognized in the second quarter. The effective income tax rate for the first six months of fiscal 2005 was 33.4%, compared to 34.7% for the same period last year.

 

Other

 

Accounts receivable at October 30, 2004 was $236.9 million, compared to $216.4 million at May 1, 2004. The increase in accounts receivable was attributable to certain changes in customer payment terms during the second quarter of fiscal 2005.

 

Merchandise inventories at October 30, 2004 was $200.6 million, compared to $105.5 million at May 1, 2004. The increase in merchandise inventories was primarily due to increased inventory purchases to support the higher sales level anticipated in the third quarter of fiscal 2005 due to the upcoming holiday season.

 

Accounts payable was $212.7 million at October 30, 2004, compared to $129.8 million at May 1, 2004. The increase in accounts payable was mainly a result of the higher inventory purchases, as previously discussed.

 

Debt, current was $25.0 million at October 30, 2004, compared to a zero liability balance at May 1, 2004. This increase was due to borrowings against the Company’s line of credit in order to cover working capital requirements.

 

Accrued and other liabilities decreased to $31.9 million at October 30, 2004, from $46.5 million at May 1, 2004. The decrease was predominately related to a decrease in accrued compensation related items.

 

During the second quarter of fiscal 2005, the Company repurchased 1,085,000 shares of its common stock at an average price of $21.07 per share. As of October 30, 2004, the Company has repurchased 4.3 million shares, or 84% of the shares under the current 20% share repurchase program authorized by its Board of Directors.

 

On September 8, 2004, the Company’s Board of Directors approved an amendment to the Company’s 1998 Stock Option and Incentive Plan and 2001 Stock Option and Incentive Plan. As a result of that amendment, a copy of which is attached to this Quarterly Report on Form 10-Q as Exhibit 10.3, if the termination of a participant’s employment (or an outside director’s service as a director) is due to the participant’s retirement, at a retirement age permitted under the Company’s retirement plan, stock options will continue to vest following the termination of employment or service as a director in accordance with the vesting schedule established at the time the option was granted.

 

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In January 2002, Kmart Corporation filed for Chapter 11 bankruptcy protection and requested that the Bankruptcy Court designate Handleman Company and several other companies “critical trade vendors.” The Bankruptcy Court granted Kmart’s request and as a result of being named a critical trade vendor Handleman received $49.0 million in payment of Kmart’s obligations. In April 2003, the United States District Court ruled that the Bankruptcy Court’s designation regarding critical trade vendors was not appropriate under the Bankruptcy Code. In May 2003, Kmart emerged from bankruptcy. In February 2004, the Court of Appeals affirmed the April 2003 District Court ruling. Also in June 2003, during the pendency of its appeal to the Court of Appeals, Kmart filed a complaint before the Bankruptcy Court requesting that the Bankruptcy Court require the Company to repay the $49.0 million critical trade vendor payment, although the April 2003 District Court’s order did not require repayment of the amounts received by the critical trade vendors. In November 2004, the United States Supreme Court denied the Company’s request to grant a writ of certiorari to review of this matter. The Company’s position is that, as a result of being named a critical trade vendor, it granted economic concessions to Kmart, and gave up certain rights, with an aggregate economic value substantially equivalent to the $49.0 million payment received. There are no additional pending legal proceedings to which the Registrant or any of its subsidiaries is a party, other than routine legal matters which are incidental to the business and the ultimate outcome of which is not expected to be material to future results of consolidated operations, financial position and cash flows. The Company has provided for all claims and legal proceedings based on its best estimate of the amounts it expects to pay.

 

Liquidity and Capital Resources

 

The Company has an unsecured line of credit arranged with a consortium of banks. During the second quarter of fiscal 2005, the credit agreement was amended whereby the expiration date was extended one year to August 2007 and the line of credit was reduced from $170.0 million to $150.0 million. A copy of the Third Amendment to Credit Agreement is attached to this Quarterly Report on Form 10-Q as Exhibit 10.1. Management believes that the revolving credit agreement, as amended, along with cash provided from operations, will provide sufficient liquidity to fund the Company’s day-to-day operations, including seasonal increases in working capital, as well as repurchases of common stock under the Company’s stock repurchase program. As previously discussed, the Company had borrowings of $25.0 million against its line of credit at October 30, 2004, and no borrowings as of May 1, 2004.

 

On September 8, 2004, the Company announced a quarterly cash dividend of $0.07 per share. As a result, $1.6 million was paid on October 8, 2004 to shareholders of record at the close of business on September 23, 2004. For the six months ended October 30, 2004, dividends totaling $3.2 million have been paid to shareholders, compared to $1.7 million paid in the comparable six-month period last year (the Company initiated the payment of cash dividends beginning in the second quarter of last fiscal year).

 

Net cash used by operating activities for the six months ended October 30, 2004 was $23.1 million, compared to net cash provided from operating activities of $6.8 million for the same six-month period of last year. The decease in cash flows from operating activities was primarily related to unfavorable year-over-year changes in inventory and other operating asset and liability balances of $28.0 million and $11.0 million, respectively, and a decrease of $9.9 million in non-cash charges compared to the same period of last year (principally recoupment/amortization of acquired rights). The above items were partially offset by favorable year-over-year changes in accounts receivable and accounts payable balances of $13.2 million and $7.8 million, respectively.

 

Net cash used by investing activities decreased to $10.4 million for the six months ended October 30, 2004 from net cash used by investing activities of $13.0 million for the six months ended November 1, 2003. This change was primarily a result of the absence, this year, of additions to acquired rights as a result of the sale of the Anchor Bay Entertainment business unit in the second quarter of last year; the Company incurred $6.5 million in additions to acquired rights in the first six months of last year. This decrease was partially offset by a $4.0 million increase in additions to property and equipment in the first six months of this fiscal year over the comparable period last year, mainly due to the Company’s investment in its field sales technology.

 

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Net cash used by financing activities decreased to $8.2 million for the six months ended October 30, 2004 from $29.5 million for the comparable six-month period of last year. This change in cash flows from financing activities was mainly due to increased borrowing levels in the first six months of this year versus the comparable period last year, partially offset by increased repurchases of the Company’s common stock and higher dividend payments this year over the same six-month period of last year.

 

The following table summarizes the Company’s cash obligations and commitments as of October 30, 2004, along with their expected effect on liquidity and cash flows in future periods (in thousands of dollars):

 

     Total

    Less than
1 Year


    1–3
Years


    4–5
Years


   After 5
Years


Debt obligations

   $ 25,000     $ 25,000     $ —       $ —      $ —  

Operating leases and other commitments

     25,358       4,348       13,204       2,865      4,941

Less: operating sub-leases

     (379 )     (211 )     (168 )     —        —  

Other long-term obligations

     2,161       1,487       674       —        —  

Purchase obligations

     104,640       8,125       34,069       22,020      40,426

Outstanding letters of credit

     3,361       3,361       —         —        —  
    


 


 


 

  

Total contractual cash obligations and commitments

   $ 160,141     $ 42,110     $ 47,779     $ 24,885    $ 45,367
    


 


 


 

  

 

Purchase obligations in the above table includes commitments for information technology related services.

 

Outlook

 

The mass merchant retailer segment of the music industry, in which the Company’s current customer base primarily resides, continues to post increases in sales of music product and gain market share within the industry. Specifically, in the U.S. market, during the 10 calendar months ended October 2004, mass merchant music sales increased nearly 10% over the comparable prior year period, while overall music industry sales increased only 4% during the same period. As a result, mass merchant retailers now account for 36% of all music sold in the U.S., a 2% increase from its 34% market share for the prior year. These improvements were achieved despite the fact that the rate of overall sales growth this calendar year within the music industry has recently moderated. Due to this recent slowing in the growth rate of music sales, the Company remains cautiously optimistic about revenues during the final two quarters of its fiscal year. The Company does not expect to achieve the 11% growth rate achieved during the first six months this year, and therefore, expects revenues from continuing operations for fiscal 2005 to improve in the mid to high single digits, in percentage terms, over revenues from continuing operations in fiscal 2004. This estimate is based on (i) revenues generated by the Company’s current customer base, and (ii) numerous other factors, including the ongoing improvement in music industry sales, anticipated post-holiday returns from customers, and the competitive nature of retail pricing. Direct product costs, as a percentage of revenues, for fiscal 2005 is expected to continue to be higher than prior year levels, for the reasons previously described. The Company also expects to continue to gain operating efficiencies through fiscal 2005, and thus expects SG&A expenses, as a percentage of revenues, to be stable or decline from previous year levels. The Company anticipates an effective income tax rate in the range of 35-36% for fiscal 2005. Finally, the Company expects to continue to repurchase shares through its existing share repurchase program. As a result, the Company expects fully diluted earnings per share from continuing operations for fiscal 2005 to be in the range of $1.52-$1.58, compared to earnings of $1.38 per diluted share from continuing operations for fiscal 2004.

 

* * * * * * * * * * *

 

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This document contains forward-looking statements, which are not historical facts and involve risk and uncertainties. Actual results, events and performance could differ materially from those contemplated by these forward-looking statements, including without limitation, conditions in the music industry, securing funding or generating sufficient cash required to build and grow new businesses, customer requirements, continuation of satisfactory relationships with existing customers and suppliers, establishing satisfactory relationships with new customers and suppliers, effects of electronic commerce, dependency on technology, relationships with the Company’s lenders, pricing and competitive pressures, the occurrence of catastrophic events or acts of terrorism, certain global and regional economic conditions, and other factors detailed from time to time in the Company’s filings with the Securities and Exchange Commission. The Company undertakes no obligation to update any forward-looking statement to reflect events or circumstances after the date of this document. Additional information that could cause actual results to differ materially from any forward-looking statements may be contained in the Company’s Annual Report on Form 10-K.

 

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Item 4.   Controls And Procedures    

 

An evaluation of the Company’s disclosure controls and procedures (as defined in Rule 13a-15(e)) of the Securities Exchange Act of 1934 (the “Act”) as of October 30, 2004 was carried out under the supervision and with the participation of the Company’s Chief Executive Officer, Chief Financial Officer and several other members of the Company’s senior management. The Company’s Chief Executive Officer and Chief Financial Officer concluded that the Company’s disclosure controls and procedures, as currently in effect, are effective in ensuring that the information required to be disclosed by the Company in the reports it files or submits under the Act is (i) accumulated and communicated to the Company’s management (including the Chief Executive Officer and Chief Financial Officer) in a timely manner, and (ii) recorded, processed, summarized and reported within the time periods specified in the SEC’s rules and forms. There have been no changes in internal control over financial reporting (as defined in Rule 13a-15(f) of the Act) during the second fiscal quarter ended October 30, 2004 that have materially affected, or is reasonably likely to materially affect, the Company’s internal control over financial reporting.

 

The Company intends to continually review and evaluate the design and effectiveness of its disclosure controls and procedures and to improve its controls and procedures over time and to correct any deficiencies that it may discover in the future. The goal is to ensure that senior management has timely access to all material financial and non-financial information concerning the Company’s business. While the Company believes the present design of its disclosure controls and procedures is effective to achieve its goal, future events affecting its business may cause the Company to modify its disclosure controls and procedures.

 

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PART II – OTHER INFORMATION

 

Item 1. Legal Proceedings

 

Reference should be made to Note 11 of Notes to Consolidated Financial Statements in this Form 10-Q for information on the Company’s legal proceedings.

 

Item 2. Changes in Securities and Use of Proceeds

 

ISSUER PURCHASES OF EQUITY SECURITIES

 

On February 26, 2003, the Company’s Board of Directors authorized a share repurchase program. Under this authorization, which has no expiration date, the Company can repurchase up to 20% of its then outstanding balance of 25,692,244 shares. The Company has had no other share repurchase plans expire or terminate during the second quarter ended October 30, 2004.The table below sets forth information with respect to shares repurchased in the second quarter ended October 30, 2004. The total number of shares repurchased excludes 762 shares delivered back to the Company to satisfy the exercise price and tax withholding obligation of certain stock option exercises.

 

Period


   (a) Total
Number of
Shares
Purchased


   (b)
Average
Price Paid
per Share


   (c) Total Number of
Shares Purchased
as Part of Publicly
Announced Plans or
Programs


  

(d) Maximum Number of
Shares that May Yet be
Purchased Under the Plans

or Programs


August 1, 2004 through September 4, 2004

   235,000    $ 20.680    235,000    1,681,649

September 5, 2004 through October 2, 2004

   365,000    $ 21.258    365,000    1,316,649

October 3, 2004 through October 30, 2004

   485,000    $ 21.116    485,000    831,649
    
  

  
  

Total

   1,085,000    $ 21.070    1,085,000    831,649
    
  

  
  

 

Item 4. Submission of Matters to a Vote of Security Holders

 

An Annual Meeting of Shareholders of Handleman Company was held on September 8, 2004. Two matters were voted on at the Annual Meeting. The first matter was the election of directors. The following individuals were elected as directors of the Company: Elizabeth A. Chappell, 19,912,340 votes for, 1,308,782 votes withheld and Ralph J. Szygenda, 18,701,309 votes for, 2,519,813 votes withheld.

 

The second matter voted on was the approval of the 2004 Stock Plan which authorizes the granting of stock options, stock appreciation rights, restricted stock, and performance share and performance unit awards to key employees and non-employee directors of the Company. The 2004 Stock Plan was approved, with 16,838,729 shares voted for approval, while 2,473,256 voted against, 130,648 shares abstained and broker non-votes of 1,778,489.

 

Item 6. Exhibits

 

Exhibit 10.1 – Third Amendment to Credit Agreement

 

Exhibit 10.3 – Amendment to Handleman Company 1998 and 2001 Stock Option and Incentive Plans

 

Exhibit 31.1 – Certification of Chief Executive Officer Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002

 

Exhibit 31.2 – Certification of Chief Financial Officer Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002

 

Exhibit 32 – Certifications Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 Furnished to the Securities and Exchange Commission

 

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Table of Contents

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.

 

   

HANDLEMAN COMPANY

Date:    December 9, 2004

 

By:

 

/s/ Stephen Strome        


        Stephen Strome
        Chairman of the Board and
        Chief Executive Officer
        (Principal Executive Officer)

Date:    December 9, 2004

 

By:

 

/s/ Thomas C. Braum, Jr.        


        Thomas C. Braum, Jr.
        Senior Vice President and
        Chief Financial Officer
        (Principal Financial Officer)

 

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