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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549
 FORM 10-Q þ
    
    QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15 (d)
OF THE SECURITIES EXCHANGE ACT OF 1934
 For the Quarterly Period Ended May 1, 2004 OR o
    
    TRANSITION REPORT PURSUANT TO SECTION 13 OR 15 (d)
OF THE SECURITIES EXCHANGE ACT OF 1934
 For the transition period from ___to ___
Commission file number 001-08899
 Claires Stores, Inc.  Florida
    
    59-0940416(State or other jurisdiction of incorporation or organization)
    
    (I.R.S. Employer Identification No.)3 S.W. 129th Avenue, Pembroke Pines, Florida
    
    33027(Address of principal executive offices)
    
    (Zip Code)
 Registrants telephone number, including area code: (954) 433-3900 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 The number of shares of the registrants Common Stock and Class A Common
Stock outstanding as of May 29, 2004 was 93,719,912 and 5,197,420,
respectively.




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CLAIRES STORES, INC. AND SUBSIDIARIES
INDEX PAGE NO.PART I. FINANCIAL INFORMATIONItem 1. Financial StatementsUnaudited
Condensed Consolidated Balance Sheets at May 1, 2004 and January 31, 2004.
    
    
    3Unaudited
Condensed Consolidated Statements of Operations and Comprehensive
Income for the Three Months Ended May 1, 2004 and May 3, 2003.
    
    
    4Unaudited
Condensed Consolidated Statements of Cash Flows for the Three Months Ended May 1, 2004 and May 3, 2003.
    
    
    5Notes to Unaudited Condensed Consolidated Financial Statements
    
    
    6Item 2.
Managements Discussion and Analysis of Financial
Condition and Results of Operations
    
    
    8Item 3.
Quantitative and Qualitative Disclosures About Market Risk
    
    
    14Item 4. Controls and Procedures
    
    
    15PART II. OTHER INFORMATIONItem 1. Legal Proceedings
    
    
    15Item 6. Exhibits and Reports on Form 8-K
    
    
    16SIGNATURE PAGE
    
    
    17CERTIFICATION OF CO-CHIEF EXECUTIVE OFFICERCERTIFICATION OF CO-CHIEF EXECUTIVE OFFICERCERTIFICATION OF CHIEF FINANCIAL OFFICERCERTIFICATION OF CO-CHIEF EXECUTIVE OFFICERCERTIFICATION OF CO-CHIEF EXECUTIVE OFFICERCERTIFICATION OF CHIEF FINANCIAL OFFICER
 2




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PART I. FINANCIAL INFORMATION 
 Item 1. Financial Statements CLAIRES STORES, INC. AND SUBSIDIARIES
 
 UNAUDITED CONDENSED CONSOLIDATED BALANCE SHEETS
 May 1, 2004
    
    Jan. 31, 2004(In thousands, except share and per share amounts)ASSETSCurrent assets:Cash and cash equivalents
    
    $
    217,539
    
    
    $
    224,630Inventories
    
    
    107,918
    
    
    
    92,498Prepaid expenses and other current assets
    
    
    51,915
    
    
    
    42,895Total current assets
    
    
    377,372
    
    
    
    360,023Property and equipment:Land and building
    
    
    18,151
    
    
    
    18,151Furniture, fixtures and equipment
    
    
    228,690
    
    
    
    225,425Leasehold improvements
    
    
    190,406
    
    
    
    186,760437,247
    
    
    
    430,336Less accumulated depreciation and amortization
    
    
    (247,626
    )
    
    
    (244,484
    )189,621
    
    
    
    185,852Intangible assets, net
    
    
    43,592
    
    
    
    43,896Other assets
    
    
    15,834
    
    
    
    16,351Goodwill
    
    
    198,868
    
    
    
    199,802258,294
    
    
    
    260,049Total Assets
    
    $
    825,287
    
    
    $
    805,924LIABILITIES AND STOCKHOLDERS EQUITYCurrent liabilities:Trade accounts payable
    
    $
    58,652
    
    
    $
    45,954Income taxes payable
    
    
    24,946
    
    
    
    29,148Accrued expenses
    
    
    61,364
    
    
    
    68,224Total current liabilities
    
    
    144,962
    
    
    
    143,326Long-term liabilities:Deferred tax liability
    
    
    13,345
    
    
    
    12,148Deferred rent expense
    
    
    17,657
    
    
    
    18,00031,002
    
    
    
    30,148Commitments and contingencies
    
    
    
    
    
    
    Stockholders equity:Preferred stock par value $1.00 per share; authorized
1,000,000 shares, issued and outstanding 0 shares
    
    
    
    
    
    
    Class A common stock par value $.05 per share;
authorized 40,000,000 shares, issued and outstanding 5,198,261
shares and 5,221,660 shares, respectively
    
    
    260
    
    
    
    261Common stock par value $.05 per share; authorized
300,000,000 shares, issued and outstanding 93,719,071
shares and 93,693,448 shares, respectively
    
    
    4,687
    
    
    
    4,685Additional paid-in capital
    
    
    49,413
    
    
    
    49,392Accumulated other comprehensive income, net of tax
    
    
    15,046
    
    
    
    20,109Retained earnings
    
    
    579,917
    
    
    
    558,003649,323
    
    
    
    632,450Total Liabilities and Stockholders Equity
    
    $
    825,287
    
    
    $
    805,924
 See accompanying notes to unaudited condensed consolidated financial statements. 3




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CLAIRES STORES, INC. AND SUBSIDIARIES 
 UNAUDITED CONDENSED CONSOLIDATED STATEMENTS
OF OPERATIONS AND COMPREHENSIVE INCOME
 Three Months EndedMay 1, 2004
    
    May 3, 2003(In thousands, except per share amounts)Net sales
    
    $
    281,591
    
    
    $
    239,756Cost of sales, occupancy and buying expenses
    
    
    125,524
    
    
    
    115,140Gross profit
    
    
    156,067
    
    
    
    124,616Other expenses (income):Selling, general and administrative
    
    
    104,245
    
    
    
    90,991Depreciation and amortization
    
    
    10,659
    
    
    
    9,854Interest expense
    
    
    30
    
    
    
    772Interest and other income
    
    
    (1,210
    )
    
    
    (944
    )113,724
    
    
    
    100,673Income before income taxes
    
    
    42,343
    
    
    
    23,943Income taxes
    
    
    14,651
    
    
    
    8,378Net income
    
    
    27,692
    
    
    
    15,565Foreign currency translation adjustments
    
    
    (5,063
    )
    
    
    1,167Comprehensive income
    
    $
    22,629
    
    
    $
    16,732Net income per share:Basic
    
    $
    0.28
    
    
    $
    0.16Diluted
    
    $
    0.28
    
    
    $
    0.16Weighted average number of shares outstanding:Basic
    
    
    98,916
    
    
    
    97,696Diluted
    
    
    99,241
    
    
    
    98,084
 See accompanying notes to unaudited condensed consolidated financial statements. 4




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CLAIRES STORES, INC. AND SUBSIDIARIES 
 UNAUDITED CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
 Three Months EndedMay 1, 2004
    
    May 3, 2003(In thousands)Cash flows from operating activities:Net income
    
    $
    27,692
    
    
    $
    15,565Adjustments to reconcile net income to net cash
provided by operating activities:Depreciation and amortization
    
    
    10,659
    
    
    
    9,854Amortization of intangible assets
    
    
    287
    
    
    
    325Loss on retirement of property and equipment
    
    
    694
    
    
    
    248Gain on sale of intangible assets
    
    
    (169
    )
    
    
    (116
    )(Increase) decrease in -Inventories
    
    
    (16,144
    )
    
    
    (9,727
    )Prepaid expenses and other assets
    
    
    (10,045
    )
    
    
    (11,249
    )Increase (decrease) in -Trade accounts payable
    
    
    13,238
    
    
    
    8,762Income taxes payable
    
    
    (4,212
    )
    
    
    (3,169
    )Accrued expenses
    
    
    (6,255
    )
    
    
    1,144Deferred income taxes
    
    
    2,139
    
    
    
    292Deferred rent expense
    
    
    (207
    )
    
    
    (121
    )Net cash provided by operating activities
    
    
    17,677
    
    
    
    11,808Cash flows from investing activities:Acquisition of property and equipment
    
    
    (17,220
    )
    
    
    (9,943
    )Acquisition of intangible assets, net of cash received from sale
    
    
    (1,523
    )
    
    
    (511
    )Net cash used in investing activities
    
    
    (18,743
    )
    
    
    (10,454
    )Cash flows from financing activities:Principal payments on term loan
    
    
    
    
    
    
    (3,785
    )Principal payments on lines of credit
    
    
    
    
    
    
    (25,000
    )Proceeds from stock options exercised
    
    
    23
    
    
    
    375Dividends paid
    
    
    (5,778
    )
    
    
    (1,900
    )Net cash used in financing activities
    
    
    (5,755
    )
    
    
    (30,310
    )Effect of foreign currency exchange rate changes on cash
and cash equivalents
    
    
    (270
    )
    
    
    745Net decrease in cash and cash equivalents
    
    
    (7,091
    )
    
    
    (28,211
    )Cash and cash equivalents at beginning of period
    
    
    224,630
    
    
    
    195,482Cash and cash equivalents at end of period
    
    $
    217,539
    
    
    $
    167,271
 See accompanying notes to unaudited condensed consolidated financial statements. 5




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CLAIRES STORES, INC. AND SUBSIDIARIES 
 NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
  1.
    
    Basis of Presentation and Significant Accounting Policies  The accompanying unaudited condensed consolidated financial statements have
been prepared by the Company, in accordance with the instructions to Form
10-Q, and therefore do not include all of the information and footnotes
required by generally accepted accounting principles for complete financial
statements. In the opinion of management, all adjustments (consisting only
of normal recurring accruals) considered necessary for a fair presentation
have been included. These statements should be read in conjunction with the
consolidated financial statements and notes thereto included in the Annual
Report on Form 10-K for the year ended January 31, 2004 filed with the
Securities and Exchange Commission, including Note 1 to the consolidated
financial statements included therein which discusses principles of
consolidation and a summary of our significant accounting policies. These
statements have been prepared in accordance with accounting principles
generally accepted in the United States of America, which require management
to make certain estimates and assumptions that affect the reported amounts
of assets and liabilities and disclosure of contingent assets and
liabilities at the date of the financial statements and the reported amounts
of revenues and expenses during the reporting period. The most significant
estimates include valuation of inventories, valuation of goodwill and
intangible assets, provisions for income taxes, financing operations,
contingencies and litigation. Actual results could differ from these
estimates. Due to the seasonal nature of the Companys business, the
results of operations for the first three months of the year are not
indicative of the results of operations on an annualized basis. Certain
prior period amounts have been reclassified to conform to the current period
presentation. Additionally, all references in the Companys financial
statements to number of shares, per share amounts, stock option data and
market prices of the Companys Common stock have been restated to give
effect to the 2-for-1 stock split of the Companys Common stock and Class A
common stock in the form of a 100% stock dividend in December 2003.  2.
    
    Earnings Per Share  Basic net income per share is based on the weighted average number of shares
of Class A common stock and Common stock outstanding during the period
presented, while diluted net income per share includes the dilutive effect
of stock options. All outstanding options for the three months ended May 1,
2004 were included in the computation of diluted earnings per share. For
the same period last year, options to purchase 33,682 shares of common
stock, at prices ranging from $12.50 to $13.00 per share were outstanding,
but were not included in the computation of diluted earnings per share
because the options exercise prices were greater than the average market
price of the common shares for the period.  3.
    
    Stock-Based Compensation  Statement of Financial Accounting Standards (SFAS) 123, Accounting for
Stock Based Compensation, as amended by SFAS 148, Accounting for Stock
Based Compensation-Transition and Disclosure, allows entities to choose
between a fair value based method of accounting for employee stock options
or similar equity instruments and the intrinsic value based method of
accounting prescribed by Accounting Principles Board Opinion 25 (APB 25),
Accounting for Stock Issued to Employees. Entities electing to account
for employee stock options or similar equity instruments under APB 25 must
make pro forma disclosures of net income and earnings per share as if the
fair value method of accounting had been applied. The Company has elected
to apply the provisions of APB 25 in the preparation of its unaudited
condensed consolidated financial statements and provide pro forma disclosure
of net income and earnings per share as required under SFAS 123 (dollars in
thousands, except per share data). 6




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Three Months EndedMay 1, 2004
    
    May 3, 2003Net income  as reported
    
    $
    27,692
    
    
    $
    15,565Stock-based employee compensation
expense not included in reported
net income, net of tax
    
    
    521
    
    
    
    174Stock-based employee compensation
expense included in reported net
income, net of tax
    
    
    
    
    
    
    Net income  pro forma
    
    
    27,171
    
    
    
    15,391Basic net income per share  as reported
    
    
    0.28
    
    
    
    0.16Basic net income per share  pro forma
    
    
    0.27
    
    
    
    0.16Diluted net income per share  as reported
    
    
    0.28
    
    
    
    0.16Diluted net income per share  pro forma
    
    
    0.27
    
    
    
    0.16
  4.
    
    New Accounting Pronouncements  In December 2003, the FASB issued Interpretation No. 46 (revised December
2003), Consolidation of Variable Interest Entities (FIN 46R), which
replaced FIN 46. FIN 46R addresses how a business enterprise should
evaluate whether it has a controlling interest in an entity through means
other than voting rights. This interpretation requires a variable interest
entity to be consolidated by a company if that company is subject to a
majority of the risk of loss from the variable interest entitys activities
or is entitled to receive a majority of the entitys residual returns or
both. The interpretation also requires disclosures about variable interest
entities that the Company is not required to consolidate but in which it has
a significant variable interest. The Company has determined that its
interests in unconsolidated entities do not qualify as variable interest
entities.  5.
    
    Segment Information  The Company is primarily organized based on the geographic markets in which
it operates. Under this organizational structure, the Company currently has
two reportable segments: North America and International. Net sales for the
periods presented were as follows: Three Months EndedMay 1,
    
    May 3,2004
    
    2003North America
    
    $
    208,200
    
    
    $
    176,822International
    
    
    73,391
    
    
    
    62,934Total
    
    $
    281,591
    
    
    $
    239,756
 7




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Income before income taxes for the periods presented was as follows: Three Months EndedMay 1,
    
    May 3,2004
    
    2003North America
    
    $
    41,993
    
    
    $
    22,394International
    
    
    350
    
    
    
    1,549Total
    
    $
    42,343
    
    
    $
    23,943
  6.
    
    Statements of Cash Flows  Payments of income taxes were $16.2 million and $12.0 million for the three
months ended May 1, 2004 and May 3, 2003, respectively. Payments of
interest were $30,000 and $760,000 for the three months ended May 1, 2004
and May 3, 2003. 
 Item 2. Managements Discussion and Analysis of Financial Condition and Results of Operations. Managements Discussion and Analysis is designed to provide the reader of the
financial statements with a narrative on our results of operations, financial
position and liquidity, risk management activities, significant accounting
policies and critical estimates, and the future impact of accounting standards
that have been issued but are not yet effective. Managements Discussion and
Analysis is presented in four sections: Overview and Consolidated Operations,
Critical Accounting Policies and Estimates, Results of Operations and Analysis
of Consolidated Financial Condition. It is useful to read Managements
Discussion and Analysis in conjunction with the Unaudited Condensed
Consolidated Financial Statements and related notes thereto contained elsewhere
in this document. Annually, our fiscal years end on the Saturday closest to January 31. As a
result, both our current and prior fiscal years consist of four 13-week
quarters. We refer to the prior fiscal year ended January 31, 2004 as Fiscal
2004, and the current fiscal year ending January 29, 2005 as Fiscal 2005. All
references to earnings per share relate to diluted earnings per share from net
income. We include a store in the calculation of comparable store sales once it has
been in operation sixty weeks after its initial opening. If a store is closed
during a fiscal period, the stores sales will be included in the computation
of comparable store sales for that fiscal month, quarter and year to date
period only for the days in which it was operating as compared to those same
days in the comparable period. Relocated, remodeled and expanded square
footage stores are classified the same as the original store and are not
considered new stores upon relocation, remodeling or completion of their
expansion. Overview and Consolidated Operations We are a leading specialty retailer of value-priced fashion accessories and
jewelry for pre-teens and teenagers as well as young adults. We are primarily
organized based on our geographic markets, which include our North American
operations and our International operations. As of May 29, 2004 we operated a
total of 2,836 stores in all 50 states of the United States, Puerto Rico,
Canada, the Virgin Islands, the United Kingdom, Switzerland, Austria, Germany,
(the latter three collectively referred to as S.A.G.), France and Ireland.
The stores are operated mainly under the trade names Claires Boutiques,
Claires Accessories, Icing by Claires, Afterthoughts and The Icing.
We are in the process of transitioning our Afterthoughts stores to Icing by
Claires stores to capitalize on the Claires brand name. We also operate
through our subsidiary, Claires Nippon, 132 stores in Japan as a 50:50 joint
venture with AEON Co. Ltd. We account for the results of operations of
Claires Nippon under the equity method and include these results within
Interest and other income in our Statement of Operations
for our North
American division. 8




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We have two store concepts: Claires Accessories, which caters to
fashion-conscious girls and teens in the 7 to 17 age range and Icing by
Claires, which caters to fashion-conscious teens and young women in the 17 to
27 age range. Our merchandise typically ranges in price between $2 and $20,
with the average product priced at about $4. Our stores share a similar format
and our different store concepts and trade-names allow us to have multiple
store locations in a single mall. Although we face competition from a number
of small specialty store chains and others selling fashion accessories, we
believe that our stores comprise the largest and are among the most successful
chain of specialty retail stores in the world, devoted to the sale of
value-priced fashion accessories for pre-teen, teenage and young adult females. Fundamentally, our business model is to offer the customer a compelling
price/value relationship and a wide array of products to choose from. We seek
to deliver a high level of profitability and cash flow by:  
    
    maximizing the effectiveness of our retail product pricing through
promotional activity  
    
    minimizing our product costs through economies of scale as the
worlds leading mall-based retailer of value-priced accessories and
jewelry  
    
    reinvesting operating cash flows into opening new stores,
remodeling existing stores and infrastructure in order to create future
revenues and build brand name loyalty While our financial results have grown steadily and record sales performance
was achieved during Fiscal 2004, the retail environment remains very
competitive. Managements plan for future growth is dependent on:  
    
    our ability to successfully identify merchandise appealing to our
customers  
    
    displaying our merchandise at convenient, accessible locations
staffed with personnel that provide courteous and professional customer
service  
    
    sourcing our merchandise to achieve a positive value/price relationship  
    
    increasing sales at existing store locations  
    
    expanding our sales, especially in our International segment, through additional store locations Our ability to achieve these objectives will be dependent on various factors,
including those outlined in Cautionary Note Regarding Forward-Looking
Statements and Risk Factors. Critical Accounting Policies and Estimates 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,
filed on April 15, 2004, in the Notes to the Consolidated Financial Statements,
Note 1, and the Critical Accounting Policies and Estimates section. 9




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Results of Operations Consolidated Operations A summary of our consolidated results of operations is as follows (dollars in
thousands, except per share data): Three Months EndedMay 1, 2004
    
    May 3, 2003Net sales
    
    $
    281,591
    
    
    $
    239,756Comparable store sales
    
    
    11
    %
    
    
    8
    %Gross profit percentage
    
    
    55.4
    %
    
    
    52.0
    %Selling, general and administrative expenses as a percentage of net
sales
    
    
    37.0
    %
    
    
    38.0
    %Income from continuing operations
    
    $
    27,692
    
    
    $
    15,565Net income
    
    $
    27,692
    
    
    $
    15,565Income from continuing operations per diluted share
    
    $
    0.28
    
    
    $
    0.16Number of stores at the end of the period (excludes Claires Nippon)
    
    
    2,828
    
    
    
    2,824
 Net sales for the three months ended May 1, 2004 increased by $41.8 million, or
17.4% from the three months ended May 3, 2003. The increase in net sales was
primarily attributable to comparable store sales increases of 11%, or
approximately $27.1 million, during the three months ended May 1, 2004 and
approximately $9.1 million resulting from the weak US Dollar when translating
our foreign operations at higher exchange rates. The positive comparable sales experienced in our North American division
continued from the fourth quarter of Fiscal 2004 and were across most
merchandise categories, most notably in the jewelry related areas. We believe
we experienced this trend through successfully meeting our customers demands
for current fashion trends in jewelry and superior customer service in our
stores. The negative comparable store sales which began during the second half
of Fiscal 2004 continued through the first three months of Fiscal 2005 within
our International division. This trend has continued, however, showing some
improvement. We are actively employing strategic initiatives in an attempt to
reverse the negative comparable store sales trend in our International
division. These initiatives include sharing best practices employed in our
North American division for merchandise selection, store operations and
attentive customer service. Gross profit percentages increased by 340 basis points during the three months
ended May 1, 2004 as compared to the three months ended May 3, 2003. The
increase during the three months ended May 1, 2004 was caused primarily by
improved merchandise margins relating to the shift in business from accessories
to jewelry in North America, as jewelry carries a higher initial markup and
profit margin than that of accessories. In addition, comparable store sales
increased at a rate faster than the increase in our occupancy related costs,
creating positive leverage on those costs. In calculating gross profit and gross profit percentages, we exclude the costs
related to our distribution center. These costs are included, instead, in
selling, general and administrative expenses. Other retail companies may
include these costs in cost of sales, so our gross profit percentages may not
be comparable to those retailers. Selling, general and administrative expenses increased $13.3 million for the
three months ended May 1, 2004 as compared to the three months ended May 3,
2003. The increase was primarily attributable to increases in employee
compensation. Additional hours worked in our North American stores were
necessary to achieve the resulting positive comparable store sales experienced
during the period. In addition, during the three months ended May 1, 2004,
increased store, field and corporate bonuses were earned in North America due
to the positive comparable store sales and profit results achieved during the
period. As a percentage of net sales, selling, general and administrative
expenses improved by 100 basis points for the three months ended May 1, 2004 as
compared to the three months ended May 3, 2003. This improvement was due to
comparable store sales increases greater than the overall increases in the
underlying expenses. 10




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Our effective income tax rate during the first three months of Fiscal 2005 was
34.6%. Our tax rate in future periods will depend on several variables,
including the mix of earnings between domestic and international operations and
our overall level of earnings, and could also be affected by the resolution of
tax contingencies for amounts different from our current estimates. Income from continuing operations increased by approximately $12.1 million
during the three months ended May 1, 2004 as compared to the three months ended
May 3, 2003. These increases were made possible primarily by the increase in
comparable store sales and improved merchandise margins achieved during the
period. Segment Operations We are organized into two business segments  North America and International.
Following is a discussion of results of operations by business segment. North America Division Key statistics and results of operations for our North American division are as
follows (dollars in thousands): Three Months EndedMay 1, 2004
    
    May 3, 2003Net sales
    
    $
    208,200
    
    
    $
    176,822Comparable store sales
    
    
    18
    %
    
    
    10
    %Gross profit percentage
    
    
    58.3
    %
    
    
    53.6
    %Number of stores at the end of the period
(excludes Claires Nippon)
    
    
    2,123
    
    
    
    2,161
 It is our objective to increase sales in North America primarily through
generating comparable store sales increases and also by increasing our quantity
of profitable store locations. Net sales in North America during the three months ended May 1, 2004 increased
by $31.4 million, or 17.7%, from the three months ended May 3, 2003. The
increase in net sales was primarily attributable to comparable store sales
increases of 18% during the three months ended May 1, 2004. We acquired 768
Afterthoughts stores in December 1999. Since that time, it has been our
objective to close, or not renew, a number of under-performing or duplicative
stores, and to re-name, upon lease renewal or landlord approval, the remaining
Afterthoughts stores to Icing by Claires in order to capitalize on the
Claires brand. Since we acquired the Afterthoughts stores, 409 have been
closed or not renewed and 234 have been renamed to either Claires or Icing by
Claires. We believe that the re-naming of these stores has contributed to the
comparable store increases experienced during the first three months of Fiscal
2005, and we plan to continue to re-name the remaining stores upon lease
renewal or as landlords permit. The positive comparable sales experienced in North America were across most
merchandise categories, most notably in the jewelry related areas. We believe
we experienced this trend through successfully meeting our customers demands
for current fashion trends in jewelry and superior customer service in our
stores. In addition, best practices in merchandise buying, planning and
allocation from Claires have been shared with the Icing by Claires and
Afterthoughts stores, which we believe have contributed significantly to the
comparable store sales increases experienced during the first quarter of Fiscal
2005. 11




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The higher concentration of sales in jewelry as compared to accessories
experienced during the three months ended May 1, 2004 has had the result of
improved gross profit percentages due to the higher initial markup realized on
jewelry. The following table compares our percentage of sales of each product
category for each of the periods presented: Three Months EndedMay 1, 2004
    
    May 3, 2003Jewelry
    
    
    66.7
    %
    
    
    61.3
    %Accessories
    
    
    33.3
    %
    
    
    38.7
    %100.0
    %
    
    
    100.0
    %
 International Division Key statistics and results of operations for our International division are as
follows (dollars in thousands): Three Months EndedMay 1, 2004
    
    May 3, 2003Net sales
    
    $
    73,391
    
    
    $
    62,934Comparable store sales
    
    
    (5
    %)
    
    
    2
    %Gross profit percentage
    
    
    47.4
    %
    
    
    47.4
    %Number of stores at the end of the period
(excludes Claires Nippon)
    
    
    705
    
    
    
    663
 It is our objective to increase sales in the International division primarily
through store growth and also through comparable store sales increases. We
also continue to explore adding operations in countries in which we do not
currently operate. Net sales in our International division during the three months ended May 1,
2004 increased by $10.5 million, or 16.6%, from the three months ended May 3,
2003. The increase in net sales during the three months ended May 1, 2004 was
primarily attributable to the effects of the weak US Dollar when translating
our foreign operations at higher exchange rates of approximately $9.1 million
and the net addition of 42 stores, offset by comparable store sales decreases
of 5% or approximately $2.7 million during the period. We believe that the
deterioration of comparable store sales during the three months ended May 1,
2004 was caused both by the difficult economic environments in several European
countries for which we have store locations and also the deviation from best
practices learned and practiced in North America. We are actively employing
strategic initiatives in an attempt to reverse the negative comparable store
sales trend in our International division. These initiatives include sharing
best practices for merchandise selection, store operations and attentive
customer service. In addition, investment in operational systems
infrastructure is being made in order to facilitate the greater level of
complexity and precision now required of the business. Gross profit percentages remained static for the first quarter of Fiscal 2005
as compared to the first quarter of Fiscal 2004. This was accomplished despite
the lack of leverage on occupancy costs caused by negative comparable store
sales by achieving a lower cost of goods sold of approximately $1.7 million
during the period, due to the relative weakness of the US dollar. The lower
cost of goods sold was realized as a result of merchandise purchased in US
dollars by our International division. 12




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##### Table of Contents



Analysis of Consolidated Financial Condition A summary of cash flows from operating, investing and financing activities is
outlined in the table below (dollars in thousands): Three Months EndedMay 1, 2004
    
    May 3, 2003Operating activities
    
    $
    17,677
    
    
    $
    11,808Investing activities
    
    
    (18,743
    )
    
    
    (10,454
    )Financing activities
    
    
    (5,755
    )
    
    
    (30,310
    )
 We have consistently satisfied operating liquidity needs and planned capital
expenditure programs through our internally generated cash flows. We ended the
three months ended May 1, 2004 with approximately $217.5 million in cash and
cash equivalents, a decrease of $7.1 million from January 31, 2004. We ended
the first quarter of Fiscal 2005 with no borrowed debt outstanding. The
decrease in cash and cash equivalents was due to cash generated from
operations, offset by capital expenditures and the payment of dividends. Our major source of cash from operations is store sales, nearly all of which
are generated on a cash or credit card basis. Our primary outflow of cash from
operations is the purchase of inventory, net of customary credit arrangements
with vendors, operational costs, the payment of current taxes and capital
expenditures. Cash flows provided by operating activities in the first quarter
of Fiscal 2005 reflect higher net income as compared to the first quarter of
Fiscal 2004. Our working capital at May 1, 2004 was $232.4 million compared to $216.7
million at January 31, 2004. Accrued expenses at May 1, 2004 include the
remaining unpaid portion of the retirement compensation package, or $5.9
million, granted to our founder and former Chairman of the Board in the fourth
quarter of Fiscal 2004. Our $17.2 million of capital expenditures were made primarily to remodel
existing stores and to open new stores. We generally experience a noticeable
increase in sales in locations where a store has been recently remodeled. We
also invested approximately $1.5 million in intangible assets within our
International division representing acquired lease rights on new store
locations in certain countries. We expect to fund between $50.0 million and
$60.0 million of capital expenditures and $10.0 million to $15.0 million of
purchased lease rights in Fiscal 2005 in an effort to continue to expand and
remodel our store base. As a result of our $110.9 million in debt repayments made during Fiscal 2004,
we have no borrowed debt at May 1, 2004. This represents a milestone to us as
the debt was originally incurred in Fiscal 2000 in connection with the
acquisition of the Afterthoughts stores. We also paid dividends of $5.8
million during the three months ended May 1, 2004, an increase of approximately
$3.9 million from the three months ended May 3, 2003. Dividends were increased
again during the first quarter of Fiscal 2005. We currently expect to pay at
least $25.5 million in dividends in Fiscal 2005. Liquidity and Capital Resources We entered into a new credit facility in March 2004. This credit facility is a
revolving line of credit of up to $60.0 million, is secured by inventory in the
United States and expires on March 31, 2009. The borrowings under this
facility are limited based on certain calculations of availability, based
primarily on the amount of inventory and cash on hand in the United States. At
May 1, 2004, the entire amount of $60.0 million would have been available for
borrowing by us, subject to reduction for $2.6 million of outstanding letters
of credit. The credit facility is cancelable by us without penalty and
borrowings would bear interest at margin of 75 basis points over the London
Interbank Borrowing Rate (LIBOR) at May 1, 2004. The credit facility also
contains other restrictive covenants which limit, among other things, our
ability to make dividend distributions. Our non-US subsidiaries have credit facilities totaling approximately $772,000
with banks. The facilities are used for working capital requirements, letters
of credit and various guarantees. These credit facilities have 13




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been arranged in accordance with customary lending practices in their
respective countries of operation. At May 1, 2004, there were no borrowings
under these credit facilities. Management believes that our present ability to borrow is greater than our
established credit lines. However, if market conditions change and sales were
to dramatically decline or we could not control operating costs or other
expenses, our cash flows and liquidity could be reduced, and we could
experience an increase in borrowing costs, or even a reduction in or
elimination of our access to debt and/or equity markets. Contractual Obligations At May 1, 2004, we remain as a guarantor on 12 real estate leases for Mr. Rags
store locations with future rental payments of approximately $10.2 million. At
May 1, 2004, we also had a contingent liability as lessee under a master lease
agreement on $893,000 of gross future lease payments for operating leases of
equipment and leasehold improvements of Mr. Rags that were assigned to Mr. Rags
at the time of the sale. Based on the bankruptcy filing by Lux Corp. in
January 2003 and the related impact on Mr. Rags ability to fulfill the
commitments under these real estate and operating leases, we accrued a
liability of $6.2 million at February 1, 2003, of which $3.0 million remains
accrued at May 1, 2004. We finance certain leasehold improvements and equipment used in our stores
through transactions accounted for as non-cancelable operating leases. As a
result, the rental expense for these leasehold improvements and equipment is
recorded during the term of the lease contract in our consolidated financial
statements, generally over four to seven years. In the event that any of the
real property leases where leasehold improvements or equipment are located that
are subject to these non-cancelable operating leases are terminated by us or
our landlord prior to the scheduled expiration date of the real property lease,
we will be required to accrue all future rent payments under these operating
leases. At May 1, 2004, we had $343,000 accrued related to future payment
obligations on leasehold improvement leases for closed stores. Cautionary Note Regarding Forward-Looking Statements and Risk Factors The Private Securities Litigation Reform Act of 1995, or the Act, provides a
safe harbor for forward-looking statements made by or on our behalf. We and
our representatives may from time to time make written or verbal
forward-looking statements, including statements contained in this and other
filings with the Securities and Exchange Commission and in our press releases
and reports to shareholders. All statements which address operating
performance, events or developments that we expect or anticipate will occur in
the future, including statements relating to our future financial performance,
planned capital expenditures and new store openings for Fiscal 2005, are
forward-looking statements within the meaning of the Act and as defined in
Section 21E of the Securities Exchange Act of 1934, as amended. The
forward-looking statements are and will be based on managements then current
views and assumptions regarding future events and operating performance and we
assume no obligation to update any forward-looking statement. Forward-looking
statements involve known or unknown risks, uncertainties and other factors,
including changes in estimates and judgments discussed under Critical
Accounting Policies and Estimates which may cause our actual results,
performance or achievements, or industry results to be materially different
from any future results, performance or achievements expressed or implied by
such forward-looking statements. 
 Item 3. Quantitative and Qualitative Disclosures About Market Risk Foreign Currency We are exposed to market risk from foreign currency exchange rate fluctuations
on the US dollar value of foreign currency denominated transactions and our
investment in foreign subsidiaries. We manage this exposure to market risk
through our regular operating and financing activities, and foreign currency
options. Exposure to market risk for changes in foreign exchange rates relates
primarily to foreign operations buying, selling and financing in currencies
other than local currencies and to the carrying value of net investments in
foreign subsidiaries. We manage our exposure to foreign exchange rate risk
related to our foreign operations buying, selling and financing in currencies
other than local currencies by using foreign currency options from time to time
to hedge foreign currency transactional exposure. At May 1, 2004, we had
entered into foreign currency options with notional amounts of $25.7 million,
which are accounted for as cash-flow hedges. We do not hedge the translation
exposure related to our net investment in foreign subsidiaries, since we
generally have 14




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##### Table of Contents



no near term intent to repatriate funds from such subsidiaries. During the
three months ended May 1, 2004, included in comprehensive income and
stockholders equity is $5.1 million reflecting the unrealized loss on foreign
currency translation. Based on our average net currency positions in Fiscal
2004, the potential gain or loss due to a 10% adverse change on foreign
currency exchange rates could be significant to our operations. As of the date of this filing, there has been significant speculation that
China may elect to adjust the exchange rate of the Chinese Yuan against the US
dollar. Currently, the Chinese Yuan has a fixed exchange rate against the US
dollar. If China adjusts the exchange rate or allows the value to float, we
may experience changes in our cost of merchandise imported from China. Interest Rates Our exposure to market risk for changes in interest rates is limited to our
cash, cash equivalents and debt. Based on our average invested cash balances
during the first three months of Fiscal 2005, a 10% increase in the average
effective interest rate in the remainder of Fiscal 2005 would not have a
material impact on our annual interest income or interest expense. 
 Item 4. Controls and Procedures (a) Evaluation of Disclosure Controls and Procedures  Based on their evaluation of the end of the period covered by this report,
our co-Chief Executive Officers and our Chief Financial Officer have
concluded that our disclosure controls and procedures, as defined in Rules
13a-15(e) and 15d-15(e) of the Securities Exchange Act of 1934, are
effective to ensure that the information required to be disclosed by us in
reports that we file under the Securities Exchange Act of 1934 is recorded,
processed, summarized and reported within the time periods specified in the
SECs rules and forms and that such information is accumulated and
communicated to our management, including our co-Chief Executive Officers
and Chief Financial Officer as appropriate to allow timely decisions
regarding required disclosure. (b) Changes in Internal Controls  There were no significant changes in our internal controls or in other
factors that could significantly affect these controls subsequent to the
date of their evaluation, including any corrective actions with regard to
significant deficiencies and material weaknesses. 
 PART II. OTHER INFORMATION 
 Item 1. Legal Proceedings We are, from time to time, involved in routine litigation incidental to the
conduct of our business, including litigation instituted by persons injured
upon premises under our control, litigation regarding the merchandise that we
sell, including product and safety concerns regarding metal content in our
merchandise, litigation with respect to various employment matters, including
litigation with present and former employees, and litigation to protect our
trademark rights. Although litigation is routine and incidental to the conduct
of our business, like any business of our size and employing a significant
number of employees, such litigation can result in large monetary awards when
judges, juries or other finders of facts do not agree with managements
evaluation of possible liability or outcome of litigation. On November 7,
2003, the Official Committee of Unsecured Creditors of Lux Corporation, d/b/a
Mr. Rags, filed a complaint against us in the United States Bankruptcy Court
for the Central District of California. The complaint alleges that certain
payments made to us in connection with the sale of the stock of Lux Corporation
in May 2002 should be repaid to the bankruptcy estate because the payments are
avoidable, as such term is used under general bankruptcy laws. On December 8,
2003, we filed a Motion to Dismiss with the Bankruptcy Court, which was denied
on February 24, 2004. We filed an answer to the complaint on March 15, 2004.
We believe the claims are without merit and intend to defend the litigation
vigorously. We believe that current pending litigation will not have a
material adverse effect on our financial position, earnings or cash flows. 15




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##### Table of Contents



Item 6. Exhibits and Reports on Form 8-K (a) Exhibits 31.1
    
    
    Certification of Co-Chief Executive Officer
pursuant to Rule 13a-14(a) and 15d-14(a).31.2
    
    
    Certification of Co-Chief Executive Officer
pursuant to Rule 13a-14(a) and 15d-14(a).31.3
    
    
    Certification of Chief Financial Officer pursuant
to Rule 13a-14(a) and 15d-14(a).32.1
    
    
    Certification of Co-Chief Executive Officer
pursuant to 18 U.S.C. Section 1350, as adopted pursuant to
Section 906 of the Sarbanes-Oxley Act of 2002.32.2
    
    
    Certification of Co-Chief Executive Officer
pursuant to 18 U.S.C. Section 1350, as adopted pursuant to
Section 906 of the Sarbanes-Oxley Act of 2002.32.3
    
    
    Certification of Chief Financial Officer pursuant
to 18 U.S.C. Section 1350, as adopted pursuant to Section 906
of the Sarbanes-Oxley Act of 2002.
 (b) Reports on Form 8-K Other than Current Reports on Form 8-K under Item 12 and 7, which are not
deemed to be filed for purposes of the Securities Exchange Act of 1934, as
amended, the Company did not file any Current Reports on Form 8-K during the
quarterly period ended May 1, 2004. Items 2, 3, 4 and 5 are not applicable and have been omitted. 16




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##### Table of Contents



SIGNATURE 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. CLAIRES STORES, INC.
(Registrant)June 10, 2004
    /s/ Marla L. SchaeferMarla L. SchaeferCo-Chairman of the Board of
Directors (principal
co-executive officer and
director) June 10, 2004
    /s/ E. Bonnie SchaeferE. Bonnie SchaeferCo-Chairman of the Board of
Directors (principal
co-executive officer and
director) June 10, 2004
    /s/ Ira D. KaplanIra D. Kaplan, Senior VicePresident, Chief Financial
Officer and Director
(principal financial and
accounting officer and
director) 17




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##### Table of Contents



INDEX TO EXHIBITS EXHIBIT NO.
    
    DESCRIPTION31.1
    
    Certification of Co-Chief Executive Officer pursuant to Rule
13a-14(a) and 15d-14(a).31.2
    
    Certification of Co-Chief Executive Officer pursuant to Rule
13a-14(a) and 15d-14(a).31.3
    
    Certification of Chief Financial Officer pursuant to Rule
13a-14(a) and 15d-14(a).32.1
    
    Certification of Co-Chief Executive Officer pursuant to 18
U.S.C. Section 1350, as adopted pursuant to Section 906 of the
Sarbanes-Oxley Act of 2002.32.2
    
    Certification of Co-Chief Executive Officer pursuant to 18
U.S.C. Section 1350, as adopted pursuant to Section 906 of the
Sarbanes-Oxley Act of 2002.32.3
    
    Certification of Chief Financial Officer pursuant to 18
U.S.C. Section 1350, as adopted pursuant to Section 906 of the
Sarbanes-Oxley Act of 2002.
 18