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UNITED STATES
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 Quarterly Period Ended October 30, 2004 Commission File No. 1-6695   JO-ANN STORES, INC.  Ohio
    
    34-0720629(State or other jurisdiction of
    
    (I.R.S. Employer Identification No.)incorporation or organization)5555 Darrow Road, Hudson, Ohio
    
    44236(Address of principal executive offices)
    
    (Zip Code)
 Registrants telephone number, including area code: (330) 656-2600 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 o Indicate by check mark whether the registrant is an accelerated filer
(as defined in Rule 12b-2 of the Exchange Act). Yes x No o Indicate the number of shares outstanding of each of the issuers
classes of common stock, as of the latest practicable date: Common Shares,
without par value, as of December 3, 2004: 22,762,840.




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Jo-Ann Stores, Inc.Form 10-Q IndexFor the Quarter Ended October 30, 2004 Page NumbersPart I.
    
    Financial
InformationItem 1. Financial StatementsConsolidated Balance Sheets  October 30, 2004 (Unaudited),
January 31, 2004 and November 1, 2003 (Unaudited)
    
    
    1Unaudited Consolidated Statements of Operations for the Thirteen and
Thirty-Nine Weeks Ended October 30, 2004 and November 1, 2003
    
    
    2Unaudited Consolidated Statements of Cash Flows for the
Thirty-Nine Weeks Ended October 30, 2004 and November 1, 2003
    
    
    3Notes to Unaudited Consolidated Financial Statements
    
    
    4Item 2. Managements Discussion and Analysis of Financial Condition
and Results of Operations
    
    
    13Item 3. Quantitative and Qualitative Disclosures about Market Risk
    
    
    20Item 4. Controls and Procedures
    
    
    21Part II.
    
    Other
InformationItem 1. Legal Proceedings
    
    
    22Item 2. Unregistered Sales of Equity Securities and Use of Proceeds
    
    
    22Item 3. Defaults Upon Senior Securities
    
    
    22Item 4. Submission of Matters to a Vote of Security Holders
    
    
    22Item 5. Other Information
    
    
    22Item 6. Exhibits
    
    
    22Signatures
    
    
    23EX-31.1 Section 302 Certification by Chief Executive OfficerEX-31.2 Section 302 Certification by Chief Financial OfficerEX-32.1 Section 906 Certification of Principal Executive Officers




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PART I. FINANCIAL INFORMATION 
 Item 1. Financial
Statements
 Jo-Ann Stores, Inc. 
 Consolidated Balance Sheets
 (Unaudited)
    
    
    
    
    
    (Unaudited)October 30,
    
    January 31,
    
    November 1,2004
    
    2004
    
    2003(Dollars in millions, except share and per share data)AssetsCurrent assets:Cash and cash equivalents
    
    $
    33.7
    
    
    $
    17.4
    
    
    $
    21.2Inventories
    
    
    530.2
    
    
    
    404.6
    
    
    
    520.3Deferred income taxes
    
    
    21.6
    
    
    
    25.0
    
    
    
    28.9Prepaid expenses and other current assets
    
    
    19.1
    
    
    
    23.5
    
    
    
    23.0Total current assets
    
    
    604.6
    
    
    
    470.5
    
    
    
    593.4Property, equipment and leasehold improvements, net
    
    
    213.9
    
    
    
    203.2
    
    
    
    193.3Goodwill, net
    
    
    26.5
    
    
    
    26.5
    
    
    
    26.5Other assets
    
    
    9.7
    
    
    
    7.5
    
    
    
    9.5Total assets
    
    $
    854.7
    
    
    $
    707.7
    
    
    $
    822.7Liabilities and Shareholders EquityCurrent liabilities:Accounts payable
    
    $
    167.0
    
    
    $
    122.0
    
    
    $
    155.9Accrued expenses
    
    
    59.7
    
    
    
    76.1
    
    
    
    65.5Total current liabilities
    
    
    226.7
    
    
    
    198.1
    
    
    
    221.4Long-term debt
    
    
    200.0
    
    
    
    113.7
    
    
    
    237.4Deferred income taxes
    
    
    35.5
    
    
    
    39.4
    
    
    
    37.5Other long-term liabilities
    
    
    12.4
    
    
    
    10.3
    
    
    
    9.9Shareholders equity:Preferred stock, no par value, 5,000,000 shares authorized, none issued
    
    
    
    
    
    
    
    
    
    
    Common stock, stated value $0.05 per share; 150,000,000 authorized,
issued 26,284,562; 25,603,035 and 25,552,227 shares, respectively
    
    
    1.3
    
    
    
    1.3
    
    
    
    1.3Additional paid-in capital
    
    
    149.5
    
    
    
    129.0
    
    
    
    126.6Retained earnings
    
    
    273.3
    
    
    
    258.8
    
    
    
    231.7Accumulated other comprehensive loss
    
    
    (0.5
    )
    
    
    (1.6
    )
    
    
    (1.8
    )423.6
    
    
    
    387.5
    
    
    
    357.8Treasury stock, at cost, 3,735,102; 3,774,800 and 3,777,496
shares, respectively
    
    
    (43.5
    )
    
    
    (41.3
    )
    
    
    (41.3
    )Total shareholders equity
    
    
    380.1
    
    
    
    346.2
    
    
    
    316.5Total liabilities and shareholders equity
    
    $
    854.7
    
    
    $
    707.7
    
    
    $
    822.7
 See notes to unaudited consolidated financial statements 1




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Jo-Ann Stores, Inc. 
 Consolidated Statements of Operations
(Unaudited)
 Thirteen Weeks Ended
    
    Thirty-Nine Weeks EndedOctober 30,
    
    November 1,
    
    October 30,
    
    November 1,2004
    
    2003
    
    2004
    
    2003(Dollars in millions, except share and per share data)Net sales
    
    $
    448.3
    
    
    $
    447.5
    
    
    $
    1,224.2
    
    
    $
    1,181.5Cost of sales
    
    
    234.1
    
    
    
    232.4
    
    
    
    629.1
    
    
    
    613.3Gross margin
    
    
    214.2
    
    
    
    215.1
    
    
    
    595.1
    
    
    
    568.2Selling, general and administrative expenses
    
    
    180.7
    
    
    
    177.0
    
    
    
    506.7
    
    
    
    488.2Store pre-opening and closing costs
    
    
    5.5
    
    
    
    2.4
    
    
    
    13.0
    
    
    
    7.1Depreciation and amortization
    
    
    10.2
    
    
    
    9.4
    
    
    
    29.8
    
    
    
    27.3Stock-based compensation expense
    
    
    1.9
    
    
    
    1.7
    
    
    
    5.9
    
    
    
    4.6Debt repurchase and share reclassification expenses
    
    
    
    
    
    
    0.5
    
    
    
    4.2
    
    
    
    4.6Operating profit
    
    
    15.9
    
    
    
    24.1
    
    
    
    35.5
    
    
    
    36.4Interest expense, net
    
    
    4.2
    
    
    
    4.7
    
    
    
    12.1
    
    
    
    13.9Income before income taxes
    
    
    11.7
    
    
    
    19.4
    
    
    
    23.4
    
    
    
    22.5Income tax provision
    
    
    4.4
    
    
    
    7.4
    
    
    
    8.9
    
    
    
    8.6Net income
    
    $
    7.3
    
    
    $
    12.0
    
    
    $
    14.5
    
    
    $
    13.9Net income per common share  basic
    
    $
    0.33
    
    
    $
    0.55
    
    
    $
    0.66
    
    
    $
    0.65Net income per common share  diluted
    
    $
    0.32
    
    
    $
    0.54
    
    
    $
    0.64
    
    
    $
    0.63Weighted average shares outstanding (in thousands):Basic
    
    
    22,289
    
    
    
    21,697
    
    
    
    22,077
    
    
    
    21,500Diluted
    
    
    22,952
    
    
    
    22,449
    
    
    
    22,828
    
    
    
    22,054
 See notes to unaudited consolidated financial statements 2




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Jo-Ann Stores, Inc. 
 Consolidated Statements of Cash Flows
(Unaudited)
 Thirty-Nine Weeks EndedOctober 30,
    
    November 1,2004
    
    2003(Dollars in millions)Net cash flows used for operating activities:Net income
    
    $
    14.5
    
    
    $
    13.9Adjustments to reconcile net income to net cash
used for operating activities:Depreciation and amortization
    
    
    29.8
    
    
    
    27.3Stock-based compensation expense
    
    
    5.9
    
    
    
    4.6Tax benefit on stock benefit plan awards
    
    
    4.9
    
    
    
    2.1Amortization of deferred financing costs
    
    
    1.3
    
    
    
    1.2Loss on disposal of fixed assets
    
    
    2.3
    
    
    
    0.4Loss associated with purchase of senior subordinated notes
    
    
    4.2
    
    
    
    3.4Changes in operating assets and liabilities:Increase in inventories
    
    
    (125.6
    )
    
    
    (157.2
    )Increase in accounts payable
    
    
    45.0
    
    
    
    26.0Decrease in accrued expenses
    
    
    (16.4
    )
    
    
    (10.4
    )Other, net
    
    
    5.9
    
    
    
    0.2Net cash used for operating activities
    
    
    (28.2
    )
    
    
    (88.5
    )Net cash flows used for investing activities:Capital expenditures
    
    
    (42.7
    )
    
    
    (31.1
    )Net cash used for investing activities
    
    
    (42.7
    )
    
    
    (31.1
    )Net cash flows provided by financing activities:Proceeds from issuance of 7.5% senior subordinated notes, net
    
    
    97.4
    
    
    
    Purchase of 10 3/8% senior subordinated notes
    
    
    (66.6
    )
    
    
    (48.4
    )Net change in revolving credit facility
    
    
    50.7
    
    
    
    120.4Proceeds from stock benefit plans
    
    
    9.7
    
    
    
    6.3Other, net
    
    
    (4.0
    )
    
    
    (0.7
    )Net cash provided by financing activities
    
    
    87.2
    
    
    
    77.6Net increase (decrease) in cash and cash equivalents
    
    
    16.3
    
    
    
    (42.0
    )Cash and cash equivalents at beginning of period
    
    
    17.4
    
    
    
    63.2Cash and cash equivalents at end of period
    
    $
    33.7
    
    
    $
    21.2Supplemental disclosures of cash flow information:Cash paid during the period for:Interest
    
    $
    9.9
    
    
    $
    15.5Income taxes, net of refunds
    
    
    22.6
    
    
    
    4.4
 See notes to unaudited consolidated financial statements 3




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Notes to Consolidated Financial Statements (Unaudited)
Jo-Ann Stores, Inc. Note 1  -  Basis of Presentation Jo-Ann Stores, Inc. (the Company), an Ohio corporation, is a fabric and
craft retailer operating 858 retail stores in 47 states at October 30, 2004.
The 744 traditional stores and 114 superstores feature a variety of
competitively priced merchandise used in sewing, crafting and home decorating
projects, including fabrics, notions, crafts, frames, scrapbooking material,
artificial and dried flowers, home accents, finished seasonal and home décor
merchandise. The Companys fiscal year ends on the Saturday closest to January 31.
Fiscal years consist of 52 weeks, unless noted otherwise. The fiscal year
refers to the year in which the period ends (e.g., fiscal 2005 refers to the
year ended January 29, 2005). The consolidated interim financial statements include the accounts of the
Company and its subsidiaries and have been prepared without audit, pursuant to
the rules of the Securities and Exchange Commission. Certain information and
footnote disclosures normally included in financial statements prepared in
accordance with accounting principles generally accepted in the United States
have been condensed or omitted pursuant to those rules and regulations,
although the Company believes that the disclosures herein are adequate to make
the information not misleading. Certain amounts in the fiscal 2004 year-end
and interim financial statements have been reclassified in order to conform to
the current year presentation. The financial statements should be read in
conjunction with the consolidated financial statements and notes thereto
included in the Companys Annual Report on Form 10-K for the fiscal year ended
January 31, 2004. Typical of most retail companies, the Companys business is highly
seasonal with the majority of revenues and operating profits generated in the
second half of the fiscal year. Accordingly, earnings or losses for a
particular interim period are not indicative of full year results. Due to the
seasonal nature of the Companys business, a comparable balance sheet as of
November 1, 2003 has been provided. In the opinion of management, the
consolidated financial statements contain all adjustments (consisting only of
normal recurring accruals) necessary for a fair presentation of the financial
position and results of operations for the interim periods presented. Note 2  - Debt Refinancing On February 26, 2004, the Company completed the placement of $100 million
of 7.5% senior subordinated notes due 2012. The 7.5% senior subordinated
notes are fully and unconditionally guaranteed by each of the Companys
wholly-owned subsidiaries. Net proceeds from the offering of $97.4 million
were used to repurchase $39.2 million of 10 3/8% senior subordinated notes due
2007 that were tendered as part of the refinancing, as well as the remaining
$25.2 million in 10 3/8% senior subordinated notes that remained outstanding
on May 1, 2004, the date when their call premium was reduced, and for general
corporate purposes. As a result of the repurchase, the Company incurred a
$4.2 million charge primarily for the premium paid to repurchase the 10 3/8%
senior subordinated notes and to write-off the remaining deferred debt costs. On April 16, 2004, the Company amended and extended the expiration date of
its senior credit facility originally entered into in April 2001 and led by
Fleet Retail Group, Inc. The senior credit facility, as amended, is a $350.0
million revolver that expires April 30, 2009. The prior credit facility
provided for a $325.0 million revolver and a $40.0 million term loan, and would
have expired on April 30, 2005. The amended credit facility is secured by a
first priority perfected security interest in inventory, accounts 4




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receivable, property and other assets and is fully and unconditionally
guaranteed by each of the Companys wholly-owned subsidiaries. Interest on
borrowings under the amended credit facility is calculated at the banks base
rate or London Interbank Offered Rate (LIBOR) plus 1.25% to 2.00%, depending
on the level of excess availability (as defined in the amended credit facility)
that is maintained. At October 30, 2004, interest on borrowings under the
amended credit facility was calculated at LIBOR plus 1.25%. The credit
facility, as amended, contains a sub-limit for letters of credit of $200.0
million. Note 3  -  Earnings Per Share Basic earnings per common share are computed by dividing net income by
the weighted average number of shares outstanding during the period. Diluted
earnings per share include the effect of the assumed exercise of dilutive
stock awards under the treasury stock method. The following table presents information necessary to calculate basic and
diluted earnings per common share for the periods presented (shares in
thousands). Thirteen Weeks Ended
    
    Thirty-Nine Weeks EndedOctober 30,
    
    November 1,
    
    October 30,
    
    November 1,2004
    
    2003
    
    2004
    
    2003Weighted average shares outstanding:Basic common shares
    
    
    22,289
    
    
    
    21,697
    
    
    
    22,077
    
    
    
    21,500Incremental shares from assumed
exercise of stock options
    
    
    553
    
    
    
    752
    
    
    
    649
    
    
    
    554Incremental restricted shares
    
    
    110
    
    
    
    
    
    
    
    102
    
    
    
    Diluted common shares
    
    
    22,952
    
    
    
    22,449
    
    
    
    22,828
    
    
    
    22,054
 Not included in the computation of diluted earnings per share were
certain stock options that would have been anti-dilutive to the earnings per
share calculation. For the third quarter of fiscal 2005 and fiscal 2004,
100,733 and 62,450 stock awards, respectively, were excluded. For the fiscal
2005 and 2004 year-to-date periods, 52,755 and 208,356 stock awards,
respectively, were excluded. Note 4 - Store Closing Charges The Company is pursuing a growth strategy that is driven by the
replacement of its traditional stores with superstores. In addition, the
Company continually reviews the productivity of its store base, actively
manages its real estate to preserve maximum flexibility in lease terms, and
closes locations that do not meet certain financial performance thresholds.
Through the first three quarters of the fiscal year, the Company opened 29 new
superstores and two traditional stores, and it closed 65 traditional stores. The charges to the statement of operations for the year-to-date period
ending October 30, 2004 related to store closings and a roll-forward of the
store closing reserve balances from January 31, 2004 is summarized in the
following table. Non-cancelable lease
    
    Asset
    
    OtherDollars in millions
    
    obligations
    
    Impairments
    
    Costs
    
    TotalBalance at January 31, 2004
    
    $
    1.8
    
    
    $
    
    
    
    $
    1.0
    
    
    $
    2.8Amounts charged to income
    
    
    1.0
    
    
    
    2.3
    
    
    
    3.7
    
    
    
    7.0Utilization:Cash
    
    
    (1.8
    )
    
    
    
    
    
    
    (4.3
    )
    
    
    (6.1
    )Non-Cash
    
    
    
    
    
    
    (2.3
    )
    
    
    
    
    
    
    (2.3
    )Balance at October 30, 2004
    
    $
    1.0
    
    
    $
    
    
    
    $
    0.4
    
    
    $
    1.4
 5




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Store closing costs, as well as the pre-opening costs of new store
activity, are reported in the statement of operations in the line item
Store pre-opening and closing costs. Note 5 - Fair Value of Derivative Financial Instruments The Company is subject to risk resulting from interest rate fluctuations,
as interest on the Companys credit facility is based on variable rates. The
Companys objective in managing its interest rate exposure is to limit the
impact of interest rate changes on earnings and cash flows. Interest rate
swaps are primarily utilized to achieve this objective, effectively converting
a portion of its variable-rate exposures to fixed interest rates. The Company
does not enter into financial instruments for trading purposes. At October 30, 2004, the Company had a $40.0 million interest rate swap
with a fixed LIBOR rate of 6.72% that expires on April 30, 2005. The interest
rate swap agreement requires the Company to pay a fixed interest rate while
receiving a floating interest rate based on LIBOR. In accordance with
Statement of Financial Accounting Standard (SFAS) No. 133, Accounting for
Derivative Instruments and Hedging Activities, as amended, the Company has
reviewed and designated its interest rate swap agreement as a cash flow hedge
and recognizes the fair value of its interest rate swap agreement on the
balance sheet. Changes in the fair value of this agreement are recorded in
other comprehensive income and reclassified into earnings as the underlying
hedged item affects earnings. Other comprehensive income includes the effects of derivative
transactions accounted for under SFAS No. 133, net of related tax.
Comprehensive income consists of the following: Thirteen Weeks Ended
    
    Thirty-Nine Weeks EndedOctober 30,
    
    November 1,
    
    October 30,
    
    November 1,Dollars in millions
    
    2004
    
    2003
    
    2004
    
    2003Net income
    
    $
    7.3
    
    
    $
    12.0
    
    
    $
    14.5
    
    
    $
    13.9Other comprehensive
income, net of tax
    
    
    0.3
    
    
    
    0.3
    
    
    
    1.1
    
    
    
    0.8Comprehensive income
    
    $
    7.6
    
    
    $
    12.3
    
    
    $
    15.6
    
    
    $
    14.7
 Note 6  - Shareholders Equity The Company has various stock-based compensation plans that it utilizes
as long-term compensation for its Board of Directors, executive officers,
senior management and other key employees. The Company issues stock under
these various stock-award compensation plans and uses treasury shares to fund
the Companys match under the 401(k) savings plan. In fiscal 2005, the Company implemented changes in its long-term
compensation for employees, which it believes will help the Company continue to
attract and retain the best employees, and better align employee interests with
those of its shareholders. Annual grants to employees are now being made in
restricted stock awards instead of stock options. The award of restricted
stock offers employees the opportunity to earn shares of the Companys stock
over time, rather than options that provide employees the right to purchase
stock at a set price. Stock options continue to be awarded to new employees
and employees who are promoted into certain management positions. Early this year, the Compensation Committee of the Board of Directors
approved an annual base award of restricted stock to certain of the Companys
employees that serves as both a retention vehicle and is coupled with
performance awards. The base and performance awards vest 50% at the end of
three years, with the remaining 50% vesting at the end of the fourth year. The
base award consisted of approximately 6




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187,000 restricted shares. The performance-based award provides the
potential to receive up to three-times that amount in additional shares. The
number of performance award shares ultimately received, if any, will depend on
achieving certain net income performance criteria that are measured at the end
of the third year. The expense recognition for the value of restricted shares
is based on the vesting period and an estimate regarding certain performance levels
over the three-year measurement period. During the first three quarters of fiscal 2005, shares outstanding
increased by 721,000 as follows: CommonNet
    
    
    
    
    
    
    Stock
    
    AdditionalCommon
    
    Treasury
    
    
    Stated
    
    Paid-In
    
    TreasuryShares
    
    Shares
    
    
    Value
    
    Capital
    
    Stock(Shares in thousands)
    
    
    (Dollars in millions)Balance, January 31, 2004
    
    
    21,828
    
    
    
    3,775
    
    
    
    $
    1.3
    
    
    $
    129.0
    
    
    $
    (41.3
    )Exercise of stock options
    
    
    728
    
    
    
    (119
    )
    
    
    
    
    
    
    
    6.7
    
    
    
    0.6Purchase of common stock
    
    
    (108
    )
    
    
    108
    
    
    
    
    
    
    
    
    
    
    
    
    (3.0
    )Issuance of treasury shares
    
    
    29
    
    
    
    (29
    )
    
    
    
    
    
    
    
    0.6
    
    
    
    0.2Associate stock ownership plan
    
    
    106
    
    
    
    
    
    
    
    
    
    
    
    
    2.4
    
    
    
    Tax benefit on equity compensation
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    4.9
    
    
    
    Stock-based compensation
    
    
    (34
    )
    
    
    
    
    
    
    
    
    
    
    
    5.9
    
    
    
    Year-to-date activity
    
    
    721
    
    
    
    (40
    )
    
    
    
    
    
    
    
    20.5
    
    
    
    (2.2
    )Balance, October 30, 2004
    
    
    22,549
    
    
    
    3,735
    
    
    
    $
    1.3
    
    
    $
    149.5
    
    
    $
    (43.5
    )
 As of October 30, 2004, the Company had 2,294,367 stock options outstanding
and 358,800 restricted stock awards issued and not yet vested, none of which
are included in shares outstanding. Note 7  -  Recent Accounting Pronouncements FASB Interpretation No. 46, Consolidation of Variable Interest Entities In January 2003, the Financial Accounting Standards Board (FASB) issued
FASB Interpretation No. 46 (FIN 46), Consolidation of Variable Interest
Entities. FIN 46 clarifies the application of Accounting Research Bulletin
No. 51, Consolidated Financial Statements, for certain entities which do not
have sufficient equity at risk for the entity to finance its activities
without additional subordinated financial support from other parties or in
which equity investors do not have the characteristics of a controlling
financial interest (variable interest entities). Variable interest entities
will be required to be consolidated by their primary beneficiary. The primary
beneficiary of a variable interest entity is determined to be the party that
absorbs a majority of the entitys expected losses, receives a majority of its
expected returns, or both, as a result of holding variable interests, which
are ownership, contractual, or other pecuniary interests in an entity. The
Company adopted FIN 46 during its fiscal 2005 first quarter. The adoption of
FIN 46 had no impact on the Companys consolidated financial statements. 7




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Note 8  - Consolidating Financial Statements (Unaudited) The Companys 7.5% senior subordinated notes and credit facility are
fully and unconditionally guaranteed, on a joint and several basis, by the
wholly-owned subsidiaries of the Company. The senior subordinated notes are
subordinated to the Companys credit facility. Summarized consolidating
financial information of the Company (excluding its subsidiaries) and the
guarantor subsidiaries as of October 30, 2004 and January 31, 2004 and for the
thirteen and thirty-nine weeks ended October 30, 2004 and November 1, 2003 are
as follows: Consolidating Balance Sheets
October 30, 2004 GuarantorParent
    
    Subsidiaries
    
    Eliminations
    
    Consolidated(Dollars in millions)AssetsCurrent assets:Cash and cash equivalents
    
    $
    30.5
    
    
    $
    3.2
    
    
    $
    
    
    
    $
    33.7Inventories
    
    
    196.2
    
    
    
    334.0
    
    
    
    
    
    
    
    530.2Deferred income taxes
    
    
    17.2
    
    
    
    4.4
    
    
    
    
    
    
    
    21.6Prepaid expenses and other current assets
    
    
    12.3
    
    
    
    6.8
    
    
    
    
    
    
    
    19.1Total current assets
    
    
    256.2
    
    
    
    348.4
    
    
    
    
    
    
    
    604.6Property, equipment and leasehold improvements, net
    
    
    91.2
    
    
    
    122.7
    
    
    
    
    
    
    
    213.9Goodwill, net
    
    
    
    
    
    
    26.5
    
    
    
    
    
    
    
    26.5Other assets
    
    
    8.2
    
    
    
    1.5
    
    
    
    
    
    
    
    9.7Investment in subsidiaries
    
    
    81.2
    
    
    
    
    
    
    
    (81.2
    )
    
    
    Intercompany receivable
    
    
    384.9
    
    
    
    
    
    
    
    (384.9
    )
    
    
    Total assets
    
    $
    821.7
    
    
    $
    499.1
    
    
    $
    (466.1
    )
    
    $
    854.7Liabilities and Shareholders EquityCurrent liabilities:Accounts payable
    
    $
    153.9
    
    
    $
    13.1
    
    
    $
    
    
    
    $
    167.0Accrued expenses
    
    
    62.3
    
    
    
    (2.6
    )
    
    
    
    
    
    
    59.7Total current liabilities
    
    
    216.2
    
    
    
    10.5
    
    
    
    
    
    
    
    226.7Long-term debt
    
    
    200.0
    
    
    
    
    
    
    
    
    
    
    
    200.0Deferred income taxes
    
    
    17.5
    
    
    
    18.0
    
    
    
    
    
    
    
    35.5Other long-term liabilities
    
    
    7.9
    
    
    
    4.5
    
    
    
    
    
    
    
    12.4Intercompany payable
    
    
    
    
    
    
    384.9
    
    
    
    (384.9
    )
    
    
    Shareholders equity:Preferred stock
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    Common stock
    
    
    1.3
    
    
    
    
    
    
    
    
    
    
    
    1.3Additional paid-in capital
    
    
    149.5
    
    
    
    
    
    
    
    
    
    
    
    149.5Retained earnings
    
    
    273.3
    
    
    
    81.2
    
    
    
    (81.2
    )
    
    
    273.3Accumulated other comprehensive loss
    
    
    (0.5
    )
    
    
    
    
    
    
    
    
    
    
    (0.5
    )423.6
    
    
    
    81.2
    
    
    
    (81.2
    )
    
    
    423.6Treasury stock, at cost
    
    
    (43.5
    )
    
    
    
    
    
    
    
    
    
    
    (43.5
    )Total shareholders equity
    
    
    380.1
    
    
    
    81.2
    
    
    
    (81.2
    )
    
    
    380.1Total liabilities and shareholders equity
    
    $
    821.7
    
    
    $
    499.1
    
    
    $
    (466.1
    )
    
    $
    854.7
 8




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##### Table of Contents



Note 8  - Consolidating Financial Statements (Unaudited)  CONTINUED Consolidating Balance Sheets
January 31, 2004 GuarantorConsolidating Balance Sheets
    
    Parent
    
    Subsidiaries
    
    Eliminations
    
    Consolidated(Dollars in millions)AssetsCurrent assets:Cash and cash equivalents
    
    $
    14.3
    
    
    $
    3.1
    
    
    $
    
    
    
    $
    17.4Inventories
    
    
    154.0
    
    
    
    250.6
    
    
    
    
    
    
    
    404.6Deferred income taxes
    
    
    19.4
    
    
    
    5.6
    
    
    
    
    
    
    
    25.0Prepaid expenses and other current assets
    
    
    15.1
    
    
    
    8.4
    
    
    
    
    
    
    
    23.5Total current assets
    
    
    202.8
    
    
    
    267.7
    
    
    
    
    
    
    
    470.5Property, equipment and leasehold improvements, net
    
    
    80.1
    
    
    
    123.1
    
    
    
    
    
    
    
    203.2Goodwill, net
    
    
    
    
    
    
    26.5
    
    
    
    
    
    
    
    26.5Other assets
    
    
    6.1
    
    
    
    1.4
    
    
    
    
    
    
    
    7.5Investment in subsidiaries
    
    
    55.5
    
    
    
    
    
    
    
    (55.5
    )
    
    
    Intercompany receivable
    
    
    331.7
    
    
    
    
    
    
    
    (331.7
    )
    
    
    Total assets
    
    $
    676.2
    
    
    $
    418.7
    
    
    $
    (387.2
    )
    
    $
    707.7Liabilities and Shareholders EquityCurrent liabilities:Accounts payable
    
    $
    112.0
    
    
    $
    10.0
    
    
    $
    
    
    
    $
    122.0Accrued expenses
    
    
    78.9
    
    
    
    (2.8
    )
    
    
    
    
    
    
    76.1Total current liabilities
    
    
    190.9
    
    
    
    7.2
    
    
    
    
    
    
    
    198.1Long-term debt
    
    
    113.7
    
    
    
    
    
    
    
    
    
    
    
    113.7Deferred income taxes
    
    
    18.8
    
    
    
    20.6
    
    
    
    
    
    
    
    39.4Other long-term liabilities
    
    
    6.6
    
    
    
    3.7
    
    
    
    
    
    
    
    10.3Intercompany payable
    
    
    
    
    
    
    331.7
    
    
    
    (331.7
    )
    
    
    Shareholders equity:Preferred stock
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    Common stock
    
    
    1.3
    
    
    
    
    
    
    
    
    
    
    
    1.3Additional paid-in capital
    
    
    129.0
    
    
    
    
    
    
    
    
    
    
    
    129.0Retained earnings
    
    
    258.8
    
    
    
    55.5
    
    
    
    (55.5
    )
    
    
    258.8Accumulated other comprehensive loss
    
    
    (1.6
    )
    
    
    
    
    
    
    
    
    
    
    (1.6
    )387.5
    
    
    
    55.5
    
    
    
    (55.5
    )
    
    
    387.5Treasury stock, at cost
    
    
    (41.3
    )
    
    
    
    
    
    
    
    
    
    
    (41.3
    )Total shareholders equity
    
    
    346.2
    
    
    
    55.5
    
    
    
    (55.5
    )
    
    
    346.2Total liabilities and shareholders equity
    
    $
    676.2
    
    
    $
    418.7
    
    
    $
    (387.2
    )
    
    $
    707.7
 9




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##### Table of Contents



Note 8  - Consolidating Financial Statements (Unaudited)  CONTINUED Consolidating Statements of OperationsThirteen Weeks Ended October 30, 2004 and November 1, 2003 October 30, 2004GuarantorParent
    
    Subsidiaries
    
    Eliminations
    
    Consolidated(Dollars in millions)Net sales
    
    $
    244.4
    
    
    $
    328.0
    
    
    $
    (124.1
    )
    
    $
    448.3Cost of sales
    
    
    149.6
    
    
    
    208.6
    
    
    
    (124.1
    )
    
    
    234.1Gross margin
    
    
    94.8
    
    
    
    119.4
    
    
    
    
    
    
    
    214.2Selling, general and administrative expenses
    
    
    88.6
    
    
    
    92.1
    
    
    
    
    
    
    
    180.7Store pre-opening and closing costs
    
    
    3.3
    
    
    
    2.2
    
    
    
    
    
    
    
    5.5Depreciation and amortization
    
    
    4.3
    
    
    
    5.9
    
    
    
    
    
    
    
    10.2Stock-based compensation expense
    
    
    1.9
    
    
    
    
    
    
    
    
    
    
    
    1.9Debt repurchase and share reclassification expenses
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    Operating profit (loss)
    
    
    (3.3
    )
    
    
    19.2
    
    
    
    
    
    
    
    15.9Interest expense, net
    
    
    1.8
    
    
    
    2.4
    
    
    
    
    
    
    
    4.2Income (loss) before income taxes
    
    
    (5.1
    )
    
    
    16.8
    
    
    
    
    
    
    
    11.7Income tax provision (benefit)
    
    
    (1.9
    )
    
    
    6.3
    
    
    
    
    
    
    
    4.4Income (loss) before equity income
    
    
    (3.2
    )
    
    
    10.5
    
    
    
    
    
    
    
    7.3Equity income from subsidiaries
    
    
    10.5
    
    
    
    
    
    
    
    (10.5
    )
    
    
    Net income
    
    $
    7.3
    
    
    $
    10.5
    
    
    $
    (10.5
    )
    
    $
    7.3
 November 1, 2003GuarantorParent
    
    Subsidiaries
    
    Eliminations
    
    Consolidated(Dollars in millions)Net sales
    
    $
    244.5
    
    
    $
    365.2
    
    
    $
    (162.2
    )
    
    $
    447.5Cost of sales
    
    
    148.1
    
    
    
    246.5
    
    
    
    (162.2
    )
    
    
    232.4Gross margin
    
    
    96.4
    
    
    
    118.7
    
    
    
    
    
    
    
    215.1Selling, general and administrative expenses
    
    
    86.5
    
    
    
    90.5
    
    
    
    
    
    
    
    177.0Store pre-opening and closing costs
    
    
    1.1
    
    
    
    1.3
    
    
    
    
    
    
    
    2.4Depreciation and amortization
    
    
    3.7
    
    
    
    5.7
    
    
    
    
    
    
    
    9.4Stock-based compensation expense
    
    
    1.7
    
    
    
    
    
    
    
    
    
    
    
    1.7Debt repurchase and share reclassification expenses
    
    
    0.5
    
    
    
    
    
    
    
    
    
    
    
    0.5Operating profit
    
    
    2.9
    
    
    
    21.2
    
    
    
    
    
    
    
    24.1Interest expense, net
    
    
    1.9
    
    
    
    2.8
    
    
    
    
    
    
    
    4.7Income before income taxes
    
    
    1.0
    
    
    
    18.4
    
    
    
    
    
    
    
    19.4Income tax benefit
    
    
    7.4
    
    
    
    
    
    
    
    
    
    
    
    7.4Income (loss) before equity income
    
    
    (6.4
    )
    
    
    18.4
    
    
    
    
    
    
    
    12.0Equity income from subsidiaries
    
    
    18.4
    
    
    
    
    
    
    
    (18.4
    )
    
    
    Net income
    
    $
    12.0
    
    
    $
    18.4

    
    
    $
    (18.4
    )
    
    $
    12.0
 10




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##### Table of Contents



Note 8  - Consolidating Financial Statements (Unaudited)  CONTINUED Consolidating Statements of Operations
Thirty-Nine Weeks Ended October 30, 2004 and November 1, 2003 October 30, 2004GuarantorParent
    
    Subsidiaries
    
    Eliminations
    
    Consolidated(Dollars in millions)Net sales
    
    $
    662.7
    
    
    $
    937.0
    
    
    $
    (375.5
    )
    
    $
    1,224.2Cost of sales
    
    
    395.5
    
    
    
    609.1
    
    
    
    (375.5
    )
    
    
    629.1Gross margin
    
    
    267.2
    
    
    
    327.9
    
    
    
    
    
    
    
    595.1Selling, general and administrative expenses
    
    
    251.1
    
    
    
    255.6
    
    
    
    
    
    
    
    506.7Store pre-opening and closing costs
    
    
    6.4
    
    
    
    6.6
    
    
    
    
    
    
    
    13.0Depreciation and amortization
    
    
    12.3
    
    
    
    17.5
    
    
    
    
    
    
    
    29.8Stock-based compensation expense
    
    
    5.9
    
    
    
    
    
    
    
    
    
    
    
    5.9Debt repurchase and share reclassification expenses
    
    
    4.2
    
    
    
    
    
    
    
    
    
    
    
    4.2Operating profit (loss)
    
    
    (12.7
    )
    
    
    48.2
    
    
    
    
    
    
    
    35.5Interest expense, net
    
    
    5.4
    
    
    
    6.7
    
    
    
    
    
    
    
    12.1Income (loss) before income taxes
    
    
    (18.1
    )
    
    
    41.5
    
    
    
    
    
    
    
    23.4Income tax provision (benefit)
    
    
    (6.9
    )
    
    
    15.8
    
    
    
    
    
    
    
    8.9Income (loss) before equity income
    
    
    (11.2
    )
    
    
    25.7
    
    
    
    
    
    
    
    14.5Equity income from subsidiaries
    
    
    25.7
    
    
    
    
    
    
    
    (25.7
    )
    
    
    Net income
    
    $
    14.5
    
    
    $
    25.7
    
    
    $
    (25.7
    )
    
    $
    14.5
 November 1, 2003GuarantorParent
    
    Subsidiaries
    
    Eliminations
    
    Consolidated(Dollars in millions)Net sales
    
    $
    645.4
    
    
    $
    946.7
    
    
    $
    (410.6
    )
    
    $
    1,181.5Cost of sales
    
    
    391.7
    
    
    
    632.2
    
    
    
    (410.6
    )
    
    
    613.3Gross margin
    
    
    253.7
    
    
    
    314.5
    
    
    
    
    
    
    
    568.2Selling, general and administrative expenses
    
    
    244.2
    
    
    
    244.0
    
    
    
    
    
    
    
    488.2Store pre-opening and closing costs
    
    
    3.5
    
    
    
    3.6
    
    
    
    
    
    
    
    7.1Depreciation and amortization
    
    
    10.2
    
    
    
    17.1
    
    
    
    
    
    
    
    27.3Stock-based compensation expense
    
    
    4.6
    
    
    
    
    
    
    
    
    
    
    
    4.6Debt repurchase and share reclassification expenses
    
    
    4.6
    
    
    
    
    
    
    
    
    
    
    
    4.6Operating profit (loss)
    
    
    (13.4
    )
    
    
    49.8
    
    
    
    
    
    
    
    36.4Interest expense, net
    
    
    5.8
    
    
    
    8.1
    
    
    
    
    
    
    
    13.9Income (loss) before income taxes
    
    
    (19.2
    )
    
    
    41.7
    
    
    
    
    
    
    
    22.5Income tax provision (benefit)
    
    
    8.8
    
    
    
    (0.2
    )
    
    
    
    
    
    
    8.6Income (loss) before equity income
    
    
    (28.0
    )
    
    
    41.9
    
    
    
    
    
    
    
    13.9Equity income from subsidiaries
    
    
    41.9
    
    
    
    
    
    
    
    (41.9
    )
    
    
    Net income
    
    $
    13.9
    
    
    $
    41.9
    
    
    $
    (41.9
    )
    
    $
    13.9
 11




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##### Table of Contents



Note 8  - Consolidating Financial Statements (Unaudited)  CONTINUED Consolidating Statements of Cash Flows
Thirty-Nine Weeks Ended October 30, 2004 and November 1, 2003 October 30, 2004GuarantorParent
    
    Subsidiaries
    
    Eliminations
    
    Consolidated(Dollars in millions)Net cash (used for) provided by operating activities
    
    $
    (46.6
    )
    
    $
    18.4
    
    
    $
    
    
    
    $
    (28.2
    )Net cash flows used for investing activities:Capital expenditures
    
    
    (24.4
    )
    
    
    (18.3
    )
    
    
    
    
    
    
    (42.7
    )Net cash used for investing activities
    
    
    (24.4
    )
    
    
    (18.3
    )
    
    
    
    
    
    
    (42.7
    )Net cash flows provided by financing activities:Proceeds from issuance of 7.5% senior subordinated notes, net
    
    
    97.4
    
    
    
    
    
    
    
    
    
    
    
    97.4Purchase of 10 3/8% senior subordinated notes
    
    
    (66.6
    )
    
    
    
    
    
    
    
    
    
    
    (66.6
    )Net change in revolving credit facility
    
    
    50.7
    
    
    
    
    
    
    
    
    
    
    
    50.7Proceeds from stock benefit plans
    
    
    9.7
    
    
    
    
    
    
    
    
    
    
    
    9.7Other, net
    
    
    (4.0
    )
    
    
    
    
    
    
    
    
    
    
    (4.0
    )Net cash provided by financing activities
    
    
    87.2
    
    
    
    
    
    
    
    
    
    
    
    87.2Net increase in cash and cash equivalents
    
    
    16.2
    
    
    
    0.1
    
    
    
    
    
    
    
    16.3Cash and cash equivalents at beginning of period
    
    
    14.3
    
    
    
    3.1
    
    
    
    
    
    
    
    17.4Cash and cash equivalents at end of period
    
    $
    30.5
    
    
    $
    3.2
    
    
    $
    
    
    
    $
    33.7
 November 1, 2003GuarantorParent
    
    Subsidiaries
    
    Eliminations
    
    Consolidated(Dollars in millions)Net cash (used for) provided by operating activities
    
    $
    (103.9
    )
    
    $
    15.4
    
    
    $
    
    
    
    $
    (88.5
    )Net cash flows used for investing activities:Capital expenditures
    
    
    (16.1
    )
    
    
    (15.0
    )
    
    
    
    
    
    
    (31.1
    )Net cash used for investing activities
    
    
    (16.1
    )
    
    
    (15.0
    )
    
    
    
    
    
    
    (31.1
    )Net cash flows provided by financing activities:Purchase of 10 3/8% senior subordinated notes
    
    
    (48.4
    )
    
    
    
    
    
    
    
    
    
    
    (48.4
    )Net change in revolving credit facility
    
    
    120.4
    
    
    
    
    
    
    
    
    
    
    
    120.4Proceeds from stock benefit plans
    
    
    6.3
    
    
    
    
    
    
    
    
    
    
    
    6.3Other, net
    
    
    (0.7
    )
    
    
    
    
    
    
    
    
    
    
    (0.7
    )Net cash provided by financing activities
    
    
    77.6
    
    
    
    
    
    
    
    
    
    
    
    77.6Net increase (decrease) in cash and cash equivalents
    
    
    (42.4
    )
    
    
    0.4
    
    
    
    
    
    
    
    (42.0
    )Cash and cash equivalents at beginning of period
    
    
    60.2
    
    
    
    3.0
    
    
    
    
    
    
    
    63.2Cash and cash equivalents at end of period
    
    $
    17.8
    
    
    $
    3.4
    
    
    $
    
    
    
    $
    21.2
 12




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##### Table of Contents



Item 2. Managements Discussion and Analysis of Financial Condition and Results of Operations General Overview Managements Discussion and Analysis of Financial Condition and Results of
Operations (MD&A) should be read in conjunction with the accompanying
unaudited consolidated financial statements and notes thereto and the Companys
Form 10-K Annual Report to Shareholders for the fiscal year ended January 31,
2004. The financial information presented for the third quarter and
year-to-date of fiscal 2004 has been reclassified for certain amounts to
conform to the fiscal 2005 presentation. We are the nations largest specialty retailer of fabrics and one of the
largest specialty retailers of crafts, serving customers in their pursuit of
apparel and craft sewing, crafting, home decorating and other creative
endeavors. Our retail stores (operating as Jo-Ann Fabrics and Crafts
traditional stores and Jo-Annsuperstores) feature a variety of competitively
priced merchandise used in sewing, crafting and home decorating projects,
including fabrics, notions, crafts, frames, scrapbooking material, artificial
and dried flowers, home accents, finished seasonal and home décor merchandise. Our strategy is to grow by replacing many of our existing traditional
stores with superstores over time. We believe that our prototype 35,000 square
foot superstore gives us a competitive advantage in the industry. Our
superstores provide a unique shopping experience by offering a full creative
selectionsewing, crafting, framing, seasonal, floral and home décor
accessoriesall under one roof. On average we close approximately 1.2 nearby
traditional stores for every superstore that we open. In markets where we have
opened multiple superstores, we have been able to grow our revenues
significantly and, we believe, expand the market size and our share of the
market. As of October 30, 2004, we operated 858 stores in 47 states (744
traditional stores and 114 superstores). Our traditional stores offer a
complete selection of fabric and a convenience assortment of crafts, floral,
finished seasonal and home décor merchandise. Our traditional stores average
approximately 14,500 square feet and generated net sales per store of
approximately $1.5 million in fiscal 2004. Our superstores offer an expanded
and more comprehensive product assortment than our traditional stores. Our
superstores also offer custom framing and educational programs that our
traditional stores do not. Our superstores opened prior to fiscal 2003 average
approximately 45,000 square feet and generated net sales per store of
approximately $6.0 million in fiscal 2004. Our current superstore prototype
averages approximately 35,000 square feet. We opened 29 of these new prototype
superstores in the first three quarters of fiscal 2005 and at the end of the
third quarter, we had 43 prototype superstores in operation. Executive Overview The third quarter was a challenging quarter compared with the prior year,
although through the first three quarters of fiscal 2005, we are slightly ahead
of our fiscal 2004 earnings performance. We continue to execute well on our
strategic initiatives, opening 18 of our new 35,000 square foot prototype
superstores during the third quarter, and improving the profitability of our
store base, particularly our superstores. All of our fiscal 2005 planned
openings were completed prior to the end of the third quarter. Our financial performance for the prior year (fiscal 2004) third quarter
benefited from a 60th anniversary promotion in August of 2003 that was not
repeated this year, resulting in a difficult sales comparison in fiscal 2005.
Our third-quarter financial performance was further impacted by soft sales
trends in September and October. We believe the sales trends for the quarter,
driven by a reduction in customer traffic, were primarily the result of a
reduction in advertising spending during the quarter. Our advertising spending
during the third quarter decreased approximately 11% year over year.
Highlights of the third quarter are as follows: 13




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##### Table of Contents




    
    Net sales increased 0.2% to $448.3 million. Same-store sales
decreased 0.9% versus a 4.2% same-store sales increase for the third
quarter last year.
    
    Our gross margin rate declined by 30 basis points, to 47.8% of net
sales this quarter versus 48.1% for the third quarter last year. Our
gross margin rate was negatively impacted by a pre-tax charge of $1.7
million, or 40 basis points, that we recorded in connection with an
audit we are currently conducting with the U.S. Customs Service. This
charge resulted from a determination that we were deficient in
assessing anti-dumping duty on certain candles we imported from China
during a five year period from fiscal 2000 to fiscal 2004, due to items
being inaccurately classified at the time of import. Excluding this
item, our gross margin rate improved 10 basis points for the quarter.
Year-to-date, our gross margin rate improved 50 basis points.
    
    Our selling, general and administrative expenses (SG&A),
excluding those expenses separately identified in the statement of
operations, increased 70 basis points from 39.6% of sales in the third
quarter last year to 40.3% this year. While costs were relatively
well-controlled, the lack of sales growth in the quarter did not allow
us to leverage expenses effectively. On a dollar basis, SG&A expenses
increased approximately 2.0% in the third quarter, with decreases in
advertising expense offset by increased freight handling and storage
costs in our distribution center network.
    
    Store pre-opening and closing costs increased $3.1 million for the
third quarter to $5.5 million, reflecting the increased level of real
estate activity year over year. As a percentage of sales, store
pre-opening and closing costs increased to 1.2% of sales from 0.5% in
the prior year third quarter.
    
    Third quarter net income was $0.32 per diluted share, versus $0.54
per diluted share last year. Results of Operations The following table sets forth our results of operations through
operating profit, expressed as a percentage of net sales. The following
discussion should be read in conjunction with our consolidated financial
statements and related notes thereto. Thirteen
    
    Thirty-Nine WeeksWeeks Ended
    
    EndedOct 30,
    
    Nov 1,
    
    Oct 30,
    
    Nov 1,2004
    
    2003
    
    2004
    
    2003Net sales
    
    
    100.0
    %
    
    
    100.0
    %
    
    
    100.0
    %
    
    
    100.0
    %Gross margin
    
    
    47.8
    %
    
    
    48.1
    %
    
    
    48.6
    %
    
    
    48.1
    %Selling, general and administrative expenses
    
    
    40.3
    %
    
    
    39.6
    %
    
    
    41.4
    %
    
    
    41.3
    %Store pre-opening and closing costs
    
    
    1.2
    %
    
    
    0.5
    %
    
    
    1.1
    %
    
    
    0.6
    %Depreciation and amortization
    
    
    2.3
    %
    
    
    2.1
    %
    
    
    2.4
    %
    
    
    2.3
    %Stock-based compensation expense
    
    
    0.4
    %
    
    
    0.4
    %
    
    
    0.5
    %
    
    
    0.4
    %Debt repurchase and share reclassification
expenses
    
    
    
    
    
    
    0.1
    %
    
    
    0.3
    %
    
    
    0.4
    %Operating profit
    
    
    3.5
    %
    
    
    5.4
    %
    
    
    2.9
    %
    
    
    3.1
    %
 14




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##### Table of Contents



Comparison of the Thirteen Weeks Ended October 30, 2004 to November 1,
2003 Net sales for the third quarter of fiscal 2005 increased 0.2% to $448.3
million from $447.5 million in the prior year. Net sales from stores open one
year or more (same-store sales) decreased 0.9% during the quarter versus a
same-store sales increase of 4.2% in the third quarter last year. Average
ticket in same-stores during the third quarter increased approximately 4%, but
was offset by a 5% decrease in traffic. We believe a reduced advertising
spend in the third quarter, partially attributable to a 60th Anniversary
promotion in August of last year that was not repeated in fiscal 2005,
contributed significantly to the negative trend in traffic. The Companys
total store count at the end of the quarter was down 44 units, or 4.9% from
last years third quarter; however, the number of superstores in operation
increased to 114 from 87 in last years third quarter. Total store square
footage increased approximately 1% from last years third quarter. The 114
superstores in operation accounted for 35% of total net sales for the third
quarter compared to 87 superstores, which accounted for 29% of total net
sales, for the prior year third quarter. By store format, our same-store sales performance for traditional stores
decreased 1% versus a same-store sales increase of 4.1% for the prior year
third quarter. Same-store sales for superstores decreased 0.7% for the quarter
versus a same-store sales increase of 4.5% for the prior year third quarter.
In both store formats, average ticket dollars increased, with customer traffic
down 4.7% in traditional stores and 6.0% in superstores. Our strategy to be
less promotional, which has benefited our realized selling margins, has had a
larger negative impact on superstore sales than traditional store sales because
of our dual vehicle advertising strategy (direct mail and newspaper inserts) in
superstores. Our performance by category was mixed. The categories where we chose to
increase our inventory investment, such as fleece, scrapbooking and yarn,
continued to perform well. However, we experienced softness in home-related
categories. By product category, the businesses that are performing well are
the sewing and crafting categories, led by strong performances in fleece,
scrapbooking and yarn. Our toughest category of the business continues to be
finished seasonal, representing 8% of third quarter sales. Finished seasonal
sales were down approximately 5% on a same-store sales basis. As a percent of net sales, gross margin decreased to 47.8% for the third
quarter of fiscal 2005 compared with 48.1% for the same quarter a year earlier.
Selling margins improved for the quarter by approximately 40 basis points, due
to our strategy to be less promotional. This strategy has primarily
benefited the selling margins in superstores, where we run multiple advertising vehicles. In superstores, selling margins increased 160 basis points compared with last year. Offsetting this increase in selling margins was a 40 basis point reduction
in gross margin rate, due to a $1.7 million charge the Company recorded during
the quarter in connection with a voluntary prior disclosure made to U.S.
Customs. Over a five-year period encompassing fiscal years 2000 through 2004,
we had inadvertently failed to adequately assess anti-dumping duty on candles
imported from China. The failures resulted from certain product being
inaccurately classified at the time of import. The prior disclosure was made
on a voluntary basis after we became aware of the issue as we prepared for a
focused audit assessment by U.S. Customs of our import entries. We believe
that the anti-dumping duty issues we identified are isolated and confined to
prior periods, and we are not aware of any issues beyond the charge we recorded
during the third quarter. U.S. Customs is still in the process of completing
their focused audit assessment. SG&A expenses, excluding other expenses separately identified in the
statement of operations, were $180.7 million in the third quarter compared with
$177.0 million in the prior year third quarter. As a percentage of net sales,
SG&A expenses increased to 40.3% of net sales from 39.6% of net sales in the
third quarter of last year. Absolute dollar costs were relatively well
controlled, but the lack of top-line sales 15




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##### Table of Contents



growth in the quarter did not allow us to leverage expenses as
efficiently. On a dollar basis, SG&A expenses increased approximately $3.7
million or 2% year over year during the quarter, with decreases in advertising
expense offset by increased freight handling and storage costs in our
distribution center network. Store pre-opening and closing costs increased $3.1 million during the
third quarter of fiscal 2005, to $5.5 million resulting from a higher level of
real estate activity than in the prior year. Store pre-opening costs
increased $0.8 million during the quarter, to $2.8 million compared to $2.0
million in last years third quarter. Store closing costs increased $2.3
million during the quarter, to $2.7 million compared to $0.4 million in last
years third quarter. As a percentage of net sales, store pre-opening and
closing costs increased to 1.2% of net sales from 0.5% last year. As we
continue to increase the number of new store openings, we expect our store
pre-opening and closing costs to increase. On average we close approximately
1.2 nearby traditional stores for every superstore that we open. Depreciation and amortization expense increased $0.8 million to $10.2
million from $9.4 million, primarily due to the increased level of capital
expenditures year over year. Stock-based compensation expense includes the expensing of stock options
under Statement of Financial Accounting Standard (SFAS) No. 123, Accounting
for Stock-Based Compensation Expense, which we adopted in the first quarter
of fiscal 2004, and the amortization of the value of restricted stock granted
to employees. Stock-based compensation expense was $1.9 million for the third
quarter of fiscal 2005, compared with $1.7 million in the same period last
year. Debt repurchase and share reclassification expenses were $0.5 million for
the third quarter of fiscal 2004 and relate to share reclassification expenses
associated with the reclassification of our former Class A and Class B common
shares into a single class of common stock during fiscal 2004. Interest expense in the third quarter of fiscal 2005 decreased $0.5
million to $4.2 million from $4.7 million in the third quarter of fiscal 2004.
The decrease is attributable to a decrease in our average debt levels between
years and a lower all-in borrowing rate. Our average debt levels during the
third quarter of fiscal 2005 were $200 million, compared with $233 million
during the prior year third quarter. Our effective income tax rate for the third quarter of fiscal 2005 was
37.6% versus 38.0% in the third quarter of the prior year. We are now
projecting our effective tax rate for the full year at 37.8%, versus an
estimated effective tax rate of 38.5% utilized during the first two quarters
of fiscal 2005. The reduction in our effective tax rate for the year is
primarily based on an anticipated higher realization of certain jobs tax
credits than assumed earlier. The adjustment to the full year effective tax
rate of 37.8% resulted in a 37.6% effective tax rate for the third quarter. Comparison of the Thirty-Nine Weeks Ended October 30, 2004 to November
1, 2003 Net sales for the first three quarters of fiscal 2005 increased 3.6% to
$1.224 billion from $1.182 billion in the prior year. Year-to-date same-store
sales increased 2.7% compared with a same-store sales increase of 3.1% for the
prior year. We operated fewer stores in the third quarter versus a year ago.
The Companys total store count at the end of the quarter was down 44 units,
or 4.9% from last years third quarter; however, the number of superstores in
operation increased to 114 from 87 in last years third quarter. Total store
square footage increased approximately 1% from last years third quarter. The
114 superstores in operation accounted for more than 30% of total net sales
for the third quarter year-to-date compared to 87 superstores, which accounted
for approximately 27% of total net sales, for the prior year third quarter
year-to-date. 16




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##### Table of Contents



By store format, our same-store sales performance for traditional stores
increased 3.5% versus a same-store sales increase of 3.1% for the prior year
period. Same-store sales for superstores increased 0.8% versus a same-store
sales increase of 3.3% for the prior year. In both store formats, we saw an
increase in average ticket with customer traffic down 2% in traditional stores
and 4% in superstores for the first three quarters of the fiscal year. Our
strategy to be less promotional, which has benefited our realized selling
margins, has had a larger negative impact on superstore sales than traditional
store sales because of our dual vehicle advertising strategy (direct mail and
newspaper inserts) in superstores. The businesses by product category that are performing well year-to-date
are the sewing and crafting categories, led by strong performances in fleece,
scrapbooking and yarn. Our toughest segment of the business continues to be
finished seasonal, representing approximately 10% of year-to-date revenues.
Finished seasonal sales were down 6.5% on a same-store sales basis. Our overall gross margin rate has improved 50 basis points for the first
three quarters of fiscal 2005 to 48.6% from 48.1%, because of a shift in our
promotional strategy. Our strategy to be less promotional has been successful
in improving our realized selling margins by 70 basis points on a year-to-date
basis. This strategy has primarily benefited the selling margins in superstores, where we run multiple advertising vehicles. In superstores, selling margins increased 170 basis points compared with last year. During the third quarter, we recorded a $1.7 million charge in connection
with a voluntary prior disclosure made to U.S. Customs, that lowered
year-to-date gross margin by 20 basis points. Over a five-year period
encompassing fiscal years 2000 through 2004, the Company had inadvertently
failed to adequately assess anti-dumping duty on candles imported from China.
The failures resulted from certain product being inaccurately classified at the
time of import. SG&A expenses, excluding other expenses separately identified in the
statement of operations, were $506.7 million in the first three quarters of
fiscal 2005 versus $488.2 million in the prior year. As a percentage of net
sales, SG&A expenses held relatively flat at 41.4% of net sales versus 41.3%
last year. Decreases in advertising expense combined with leverage gained in
certain administrative expenses were offset by higher distribution center
freight handling and storage costs. Store pre-opening and closing costs increased $5.9 million year-to-date
to $13.0 million reflecting the increased level of real estate activity year
over year. Store pre-opening costs decreased $0.5 million year-to-date, to
$6.0 million compared to $6.5 million last year. Store closing costs
increased $6.4 million year-to-date, to $7.0 million compared to $0.6 million
last year. We opened 29 superstores and two traditional stores and closed 65
traditional stores during the first three quarters of fiscal 2005. This
compares with 12 superstore openings, three traditional store openings, and 32
closings in the same period of the prior year. As a percentage of net sales,
store pre-opening and closing costs increased to 1.1% of net sales from 0.6%
last year. As we continue to increase the number of new store openings, we
expect our store pre-opening and closing costs will increase. For the full
fiscal year, our store pre-opening and closing costs are projected at $17
million, pre-tax, versus $10.9 million last year. Depreciation and amortization expense increased $2.5 million to $29.8
million in the first three quarters of fiscal 2005 from $27.3 million last
year, primarily due to the increased level of capital expenditures
year over year. Stock-based compensation expense was $5.9 million for the first three
quarters of fiscal 2005, compared with $4.6 million in the same period last
year. Debt repurchase and share reclassification expenses were $4.2 million for
the third quarter year-to-date compared with $4.6 million in the prior year.
The fiscal 2005 charge represents the premium paid to repurchase $64.4 million
of 10 3/8% senior subordinated notes during the first quarter and write-off
the related deferred financing costs. We have de-leveraged our balance sheet
over the last three years, and as a 17




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##### Table of Contents



consequence, we have been recording charges related to the early repayment of
debt. Our capital financing initiatives were completed in the first quarter
of fiscal 2005, which is discussed further below under Liquidity and Capital
Resources. During the first three quarters of fiscal 2004, we redeemed or
repurchased in the open market, approximately $46.0 million of senior
subordinated notes at an aggregate premium of 105.4% to par value, and we
recorded a $3.4 million pre-tax charge for debt repurchase expenses including
the cash premium to par value and the write-off of deferred financing costs
and original issue discount. Share reclassification expenses associated with
the reclassification of our former Class A and Class B common shares into a
single class of common stock totaled $1.2 million in fiscal 2004. Interest expense in the first three quarters of fiscal 2005 decreased
$1.8 million to $12.1 million from $13.9 million in the same period in the
prior year. The decrease is attributable to both a decrease in our average
debt level and all-in borrowing rate. Our average debt levels year-to-date in
fiscal 2005 were $162 million compared with $180 million for the same period
in fiscal 2004. Our effective income tax rate for fiscal 2005 was 37.8% versus 38.0% in
the prior year. We are now projecting our effective tax rate for the full
year at 37.8%. Liquidity and Capital Resources We believe that our credit facility, coupled with cash on hand and
internally generated cash flows from operations, will be sufficient to cover
our working capital, capital expenditure and debt service requirement needs
for the foreseeable future. During the first quarter, we completed certain capital financing
initiatives. In February, we issued $100 million of 7.5% senior subordinated
notes, which enabled us to repurchase the remaining $64.4 million of our 10
3/8% senior subordinated notes that were outstanding at the beginning of the
year. In April, we amended our senior credit facility, extending the term
until May 2009 and reducing the commitment to $350 million (See Note 2  Debt
Refinancing). These financing initiatives are expected to save approximately
$1 million in annual interest expense for fiscal 2005, and more importantly,
position us to successfully execute our planned growth strategy over the next
three to five years. Cash and cash equivalents increased $16.3 million during fiscal 2005 to
$33.7 million as of October 30, 2004. Net cash used for operating activities was $28.2 million in fiscal 2005
compared with $88.5 million in fiscal 2004. Cash flows provided by operating
activities, before changes in operating assets and liabilities, were $62.9
million in fiscal 2005 versus $52.9 million generated in fiscal 2004. Inventories, net of payable support, increased $80.6 million, compared
with an increase of $131.2 million in fiscal 2004. Inventory typically builds
during the first three quarters of the fiscal year, as we prepare for the
fourth quarter peak selling season. Weve increased inventory levels in core
product categories such as scrapbooking, yarn and fleece fabric, which have
experienced solid sales performances, while reducing our investment in the
finished seasonal categories. In total, inventory levels overall increased
two percent year over year as of the end of the third quarter. On a
comparable store basis, inventory levels were up about one percent. Net cash used for investing activities, totaled $42.7 million in fiscal
2005 compared with $31.1 million in fiscal 2004. The increase in capital
expenditures was due primarily to new store openings. 18




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##### Table of Contents



We anticipate capital expenditures for the full fiscal year 2005 to be
approximately $65 to $70 million, versus $52.2 million in capital expenditures
for fiscal 2004. The increase in capital spending over the prior year is
attributable to increased store opening activity and the replacement of
point-of-sale systems in our superstores. During the first three quarters of
fiscal 2005, we opened 29 superstores and two traditional stores and closed 65
traditional stores. We have now completed our store openings for the current
fiscal year. After the Christmas holiday, we will close approximately six to
seven additional traditional stores prior to the end of the fiscal year. Net cash provided by financing activities was $87.2 million during fiscal
2005 compared with $77.6 million during fiscal 2004. Debt borrowings were
$200 million at the end of the third quarter, which represents an increase of
$86.3 million from the beginning of the year and a decrease of $37.4 million
from the same period in the prior year. We expect to repay a significant
portion of our debt outstanding in the fourth quarter, as we complete our peak
selling season and reduce inventory levels. As of October 30, 2004, the
Company had the ability to borrow up to an additional $185.7 million under the
Credit Facility. Our debt-to-capitalization ratio was 34.5% at October 30, 2004, 24.7% at
January 31, 2004 and 42.9% at November 1, 2003. Off-Balance Sheet Transactions Our liquidity is not currently dependent on the use of off-balance
sheet transactions other than letters of credit and operating leases,
which are typical in a retail environment. Business Outlook In a press release dated November 15, 2004, which was furnished to the
Securities and Exchange Commission on Form 8-K, we provided guidance for the
full fiscal year and fourth quarter of fiscal 2005. We are estimating fiscal
2005 earnings to be approximately $2.05 to $2.15 per diluted share. For the
fourth quarter, we are estimating earnings of $1.30 to $1.40 per diluted
share, compared with earnings of $1.22 per diluted share in the prior year. The following should be taken into consideration related to our guidance:  
    
    Same-store sales growth of 3.0% to 4.0% was assumed for the
fourth quarter.
    
    Diluted shares outstanding are estimated to be approximately
23 million by the end of the fiscal year.
    
    Store pre-opening and closing costs are projected at
approximately $17 million pre-tax.
    
    Included in our earnings guidance is approximately $7.0
million of pre-tax expense related to stock-based compensation.
    
    Not included in the guidance for the full year is a charge of
$4.2 million, pre-tax, related to debt repurchase expenses that were
recorded in the first quarter. Our actual results in the fourth quarter and full year are highly
dependent on the net sales and operating margin performance we are able to
achieve. 19




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##### Table of Contents



Seasonality and Inflation Our business exhibits seasonality, which is typical for most retail
companies. Our net sales are much stronger in the second half of the year
than the first half of the year. Net earnings are highest during the months
of September through December when sales volumes provide significant operating
leverage. Working capital requirements needed to finance our operations
fluctuate during the year and reach their highest levels during the second and
third fiscal quarters as we increase our inventory in preparation for our peak
selling season. We believe that inflation has not had a significant effect on net sales
or on net income. There can be no assurance, however, that our operating
results will not be affected by inflation in the future. Critical Accounting Policies Our condensed consolidated financial statements have been prepared in
accordance with accounting principles generally accepted in the United States
of America. Preparation of these statements requires management to make
judgments and estimates. Some accounting policies have a significant impact
on amounts reported in these financial statements. A summary of significant
accounting policies and a description of accounting policies that are
considered critical may be found in our fiscal 2004 Annual Report on Form
10-K, in the notes to the consolidated financial statements, Note 1 and the
Critical Accounting Policies section. Cautionary Statement Concerning Forward-Looking Statements Certain statements contained in this report that are not historical facts
are forward-looking statements within the meaning of the Private Securities
Litigation Reform Act of 1995. Such forward-looking statements, which reflect
the Companys current views of future events and financial performance,
involve certain risks and uncertainties. When used herein, the terms
anticipates, plans, estimates, expects, believes, and similar
expressions as they relate to us or future or conditional verbs such as
will, should, would, may, and could are intended to identify such
forward-looking statements. Our actual results, performance or achievements
may materially differ from those expressed or implied in the forward-looking
statements. Risks and uncertainties that could cause or contribute to such
material differences include, but are not limited to, general economic
conditions, changes in customer demand, changes in trends in the fabric and
craft industry, seasonality, the availability of merchandise, changes in the
competitive pricing for products, the impact of our and our competitors store
openings and closings, fuel and energy costs, changes in tariff and freight
rates, consumer debt levels, and other capital market and geo-political
conditions. We caution readers not to place undue reliance on these
forward-looking statements. We assume no obligation to update any of the
forward-looking statements. 
 Item 3. Quantitative and Qualitative Disclosures About Market Risk We use derivative financial instruments at various times to manage the
risk associated with interest rate fluctuations. The Company is subject to
risk resulting from interest rate fluctuations, as interest on the Companys
credit facility is based on variable rates. The Companys objective in
managing its interest rate exposure is to limit the impact of interest rate
changes on earnings and cash flows. Interest rate swaps are primarily
utilized to achieve this objective, effectively converting a portion of our
variable-rate exposures to fixed interest rates (See Note 5  Fair Value of
Derivative Financial Instruments). 20




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##### Table of Contents



Item 4. Controls and Procedures As of the end of the period covered by this report, the Company conducted
an evaluation, under the supervision and with the participation of the
principal executive officer and principal financial officer, of the Companys
disclosure controls and procedures (as defined in Rules 13a-15(e) and
15d-15(e) under the Securities Exchange Act of 1934 (the Exchange Act)).
Based on this evaluation, the principal executive officer and principal
financial officer concluded that the Companys disclosure controls and
procedures are effective to ensure that information required to be disclosed
by the Company in reports that it files or submits under the Exchange Act is
recorded, processed, summarized and reported within the time periods specified
in Securities and Exchange Commission rules and forms. There was no change in
the Companys internal control over financial reporting during the Companys
most recently completed fiscal quarter that has materially affected, or is
reasonably likely to materially affect, the Companys internal control over
financial reporting. 21




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##### Table of Contents



PART II OTHER INFORMATION 
 Item 1. Legal Proceedings We are involved in various litigation matters in the ordinary course of
our business. We are not currently involved in any litigation which we expect,
either individually or in the aggregate, will have a material adverse effect on
our financial condition or results of operations. 
 Item 2. Unregistered Sales of Equity Securities and Use of Proceeds Purchases of Equity Securities by Jo-Ann Stores, Inc. Total Number of
    
    Maximum Number ofShares Purchased
    
    Shares that MayTotal Number of
    
    Average
    
    as Part of Publicly
    
    Yet Be PurchasedShares
    
    Price Paid
    
    Announced Plans
    
    Under the Plans orPurchased
    
    per Share
    
    or Programs
    
    ProgramsAugust 1-28, 2004
    
    
    6,767
    
    
    $
    27.07
    
    
    
    849,080
    
    
    
    1,300,920August 29  October
2, 2004
    
    
    9,534
    
    
    $
    27.20
    
    
    
    858,614
    
    
    
    1,291,386October 3-30, 2004
    
    
    1,459
    
    
    $
    27.16
    
    
    
    860,073
    
    
    
    1,289,927Total
    
    
    17,760
    
    
    $
    27.15
    
    
    
    860,073
    
    
    
    1,289,927
 In December 1998, the Companys Board of Directors authorized a
discretionary program that allowed the Company to buy back 2,150,000 common
shares. That program does not have a stated expiration date. In the table
above, the total number of shares purchased represents shares repurchased
directly from the market, as well as shares repurchased from employees related
to the lapse of restricted shares and employee stock options used to satisfy
related tax withholding requirements. 
 Item 3. Defaults Upon Senior Securities None. 
 Item 4. Submission of Matters to a Vote of Security Holders None. 
 Item 5. Other Information None. 
 Item 6. Exhibits a) Exhibits  31.1
    
    Section 302 Certification By Chief Executive Officer31.2
    
    Section 302 Certification By Chief Financial Officer32.1
    
    Section 906 Certification of Principal Executive Officer and
Principal Financial Officer 22




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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. JO-ANN STORES, INC.DATE: December 7, 2004
    
    /s/ Alan RosskammAlan Rosskamm,President and Chief Executive Officer/s/ Brian P. CarneyBrian P. Carney,Executive Vice President and Chief Financial Officer
 23