##### 



UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549

FORM 10-Q

x
    
    QUARTERLY REPORT PURSUANT TO
SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934For the quarterly period ended July 31, 2004ORo
    
    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 1-31340

THE CATO CORPORATION

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Delaware
    
    56-0484485(State or other jurisdiction
of incorporation)
    
    (I.R.S. Employer
Identification No.)


8100 Denmark Road, Charlotte, North Carolina 28273-5975

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(704) 554-8510

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Not Applicable

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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 Act).

Yes
x     No
o

As of August 17, 2004, there were 20,242,167 shares of Class A common stock and
460,350
shares of Class B common stock outstanding.





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##### 



THE CATO CORPORATION

FORM 10-Q

July 31, 2004

Table of Contents

PageNo.PART I  FINANCIAL INFORMATION (UNAUDITED)Item 1. Financial Statements:Condensed Consolidated Statements of Income
    
    
    2For the Three Months and Six Months Ended
July 31, 2004 and August 2, 2003Condensed Consolidated Balance Sheets
    
    
    3At July 31, 2004, August 2, 2003 and January 31, 2004Condensed Consolidated Statements of Cash Flows
    
    
    4For the Six Months Ended July 31, 2004 and August 2, 2003Notes to Condensed Consolidated Financial Statements
    
    
    58For the Three Months and Six Months Ended
July 31, 2004 and August 2, 2003Item 2. Managements Discussion and Analysis of
Financial Condition and Results of Operations
    
    
    917Item 3. Quantitative and Qualitative Disclosures About Market Risk
    
    
    17Item 4. Controls and Procedures
    
    
    17PART II  OTHER INFORMATIONItem 1. Legal Proceedings
    
    
    18Item 2. Unregistered Sales of Equity Securities and Use of Proceeds
    
    
    18Item 3. Defaults upon Senior Securities
    
    
    18Item 4. Submission of Matters to a Vote of Security Holders
    
    
    18-19Item 5. Other Information
    
    
    19Item 6. Exhibits
    
    
    19Signatures
    
    
    20






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##### 



Page 2

PART I FINANCIAL INFORMATION

THE CATO CORPORATION
CONDENSED CONSOLIDATED STATEMENTS OF INCOME

Three Months Ended
    
    Six Months EndedJuly 31,
    
    August 2,
    
    July 31,
    
    August 2,2004
    
    2003
    
    2004
    
    2003(Unaudited)
    
    (Unaudited)
    
    (Unaudited)
    
    (Unaudited)(Dollars in thousands, except per share data)REVENUESRetail sales
    
    $
    197,068
    
    
    $
    188,218
    
    
    $
    402,261
    
    
    $
    385,522Other income (principally finance, late, and layaway charges)
    
    
    3,816
    
    
    
    3,775
    
    
    
    7,824
    
    
    
    7,681Total revenues
    
    
    200,884
    
    
    
    191,993
    
    
    
    410,085
    
    
    
    393,203COSTS AND EXPENSESCost of goods sold
    
    
    136,051
    
    
    
    132,616
    
    
    
    268,395
    
    
    
    259,614Selling, general and administrative
    
    
    47,387
    
    
    
    44,565
    
    
    
    93,210
    
    
    
    88,010Depreciation
    
    
    5,091
    
    
    
    4,562
    
    
    
    10,070
    
    
    
    9,013Interest expense
    
    
    167
    
    
    
    1
    
    
    
    329
    
    
    
    4Interest and other income
    
    
    (656
    )
    
    
    (1,888
    )
    
    
    (1,162
    )
    
    
    (3,018
    )Costs and expenses
    
    
    188,040
    
    
    
    179,856
    
    
    
    370,842
    
    
    
    353,623INCOME BEFORE INCOME TAXES
    
    
    12,844
    
    
    
    12,137
    
    
    
    39,243
    
    
    
    39,580Income tax expense
    
    
    4,662
    
    
    
    4,406
    
    
    
    14,245
    
    
    
    14,368NET INCOME
    
    $
    8,182
    
    
    $
    7,731
    
    
    $
    24,998
    
    
    $
    25,212BASIC EARNINGS PER SHARE
    
    $
    .40
    
    
    $
    .30
    
    
    $
    1.22
    
    
    $
    .99DILUTED EARNINGS PER SHARE
    
    $
    .39
    
    
    $
    .30
    
    
    $
    1.20
    
    
    $
    .98DIVIDENDS PER SHARE
    
    $
    .175
    
    
    $
    .16
    
    
    $
    .335
    
    
    $
    .31


See accompanying notes to condensed consolidated financial statements.





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##### 



Page 3

THE CATO CORPORATION
CONDENSED CONSOLIDATED BALANCE SHEETS

July 31,
    
    August 2,
    
    January 31,2004
    
    2003
    
    2004(Unaudited)
    
    (Unaudited)(Dollars in thousands)ASSETSCurrent AssetsCash and cash equivalents
    
    $
    29,439
    
    
    $
    59,836
    
    
    $
    23,857Short-term investments
    
    
    76,494
    
    
    
    66,255
    
    
    
    47,545Accounts receivable  net
    
    
    50,260
    
    
    
    53,092
    
    
    
    52,714Merchandise inventories
    
    
    86,355
    
    
    
    79,998
    
    
    
    97,292Deferred income taxes
    
    
    243
    
    
    
    1,530
    
    
    
    284Prepaid expenses
    
    
    5,804
    
    
    
    5,651
    
    
    
    5,708Total Current Assets
    
    
    248,595
    
    
    
    266,362
    
    
    
    227,400Property and equipment  net
    
    
    114,783
    
    
    
    113,131
    
    
    
    114,367Other assets
    
    
    10,194
    
    
    
    9,617
    
    
    
    9,806Total
    
    $
    373,572
    
    
    $
    389,110
    
    
    $
    351,573LIABILITIES AND SHAREHOLDERS EQUITYCurrent LiabilitiesAccounts payable
    
    $
    68,527
    
    
    $
    52,304
    
    
    $
    76,387Accrued expenses
    
    
    33,832
    
    
    
    27,698
    
    
    
    27,815Income taxes
    
    
    10,693
    
    
    
    8,012
    
    
    
    4,290Current portion of long-term debt
    
    
    6,000
    
    
    
    
    
    
    
    6,000Total Current Liabilities
    
    
    119,052
    
    
    
    88,014
    
    
    
    114,492Deferred income taxes
    
    
    10,203
    
    
    
    6,310
    
    
    
    10,203Long-term debt
    
    
    18,500
    
    
    
    
    
    
    
    21,500Other noncurrent liabilities
    
    
    11,709
    
    
    
    8,700
    
    
    
    11,267Commitments and contingenciesTotal Liabilities
    
    
    159,464
    
    
    
    103,024
    
    
    
    157,462Shareholders Equity:Preferred stock, $100 par value per share, 100,000
shares authorized, none issued
    
    
    
    
    
    
    
    
    
    
    Class A common stock, $.033 par value per share,
50,000,000 shares authorized; issued 26,147,346
shares, 25,612,313 shares and 26,015,868 shares at
July 31, 2004, August 2, 2003 and
January 31, 2004, respectively
    
    
    872
    
    
    
    854
    
    
    
    867Convertible Class B common stock, $.033 par value per
share, 15,000,000 shares authorized; issued
5,597,834 shares, 5,796,078 shares and 5,607,834
shares at July 31, 2004, August 2, 2003 and
January 31, 2004, respectively
    
    
    186
    
    
    
    193
    
    
    
    187Additional paid-in capital
    
    
    101,134
    
    
    
    96,087
    
    
    
    99,676Retained earnings
    
    
    270,949
    
    
    
    253,226
    
    
    
    252,828Accumulated other comprehensive gains
    
    
    131
    
    
    
    10
    
    
    
    58Unearned
compensation  restricted stock awards
    
    
    (1,252
    )
    
    
    (1,935
    )
    
    
    (1,593
    )372,020
    
    
    
    348,435
    
    
    
    352,023Less Class A and Class B common stock in treasury, at cost
(5,906,179 Class A and 5,137,484 Class B shares at
July 31, 2004 and January 31, 2004, 5,906,179 Class A
and
-0- Class B shares at August 2, 2003)
    
    
    (157,912
    )
    
    
    (62,349
    )
    
    
    (157,912
    )Total Shareholders Equity
    
    
    214,108
    
    
    
    286,086
    
    
    
    194,111Total
    
    $
    373,572
    
    
    $
    389,110
    
    
    $
    351,573


See accompanying notes to condensed consolidated financial statements.





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##### 



Page 4

THE CATO CORPORATION
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS

Six Months EndedJuly 31,
    
    August 2,2004
    
    2003(Unaudited)
    
    (Unaudited)(Dollars in thousands)OPERATING ACTIVITIESNet income
    
    $
    24,998
    
    
    $
    25,212Adjustments to reconcile net income to net cash
provided by operating activities:Depreciation
    
    
    10,070
    
    
    
    9,013Amortization of investment premiums
    
    
    
    
    
    
    4Compensation expense related to restricted stock
awards
    
    
    341
    
    
    
    440Loss on disposal of property and equipment
    
    
    1,363
    
    
    
    243Changes in operating assets and liabilities which
provided (used) cash:Accounts receivable
    
    
    2,454
    
    
    
    1,024Merchandise inventories
    
    
    10,937
    
    
    
    13,459Other assets
    
    
    (484
    )
    
    
    (1,066
    )Accounts payable and other liabilities
    
    
    (1,444
    )
    
    
    (15,485
    )Accrued income taxes
    
    
    6,403
    
    
    
    5,126Net cash provided by operating activities
    
    
    54,638
    
    
    
    37,970INVESTING ACTIVITIESExpenditures for property and equipment
    
    
    (11,765
    )
    
    
    (9,080
    )Purchases of short-term investments
    
    
    (42,651
    )
    
    
    (7,686
    )Sales of short-term investments
    
    
    13,775
    
    
    
    16,055Net cash (used) in investing activities
    
    
    (40,641
    )
    
    
    (711
    )FINANCING ACTIVITIESDividends paid
    
    
    (6,877
    )
    
    
    (7,874
    )Purchases of treasury stock
    
    
    
    
    
    
    (2,741
    )Payments to settle long-term debt
    
    
    (3,000
    )
    
    
    Proceeds from employee stock purchase plan
    
    
    226
    
    
    
    245Proceeds from stock options exercised
    
    
    1,236
    
    
    
    882Net cash (used) in financing activities
    
    
    (8,415
    )
    
    
    (9,488
    )Net increase in cash and cash equivalents
    
    
    5,582
    
    
    
    27,771Cash and cash equivalents at beginning of period
    
    
    23,857
    
    
    
    32,065Cash and cash equivalents at end of period
    
    $
    29,439
    
    
    $
    59,836


See accompanying notes to condensed consolidated financial statements.





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Page 5

THE CATO CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
FOR THE THREE MONTHS AND SIX MONTHS ENDED JULY 31, 2004
AND AUGUST 2, 2003 (UNAUDITED)



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NOTE 1  GENERAL:

The condensed consolidated financial statements have been prepared from the
accounting records of The Cato Corporation and its wholly-owned subsidiaries
(the Company), and all amounts shown as of and for the periods ended July 31,
2004 and August 2, 2003 are unaudited. In the opinion of management, all
adjustments considered necessary for a fair presentation have been included.
The results of the interim period may not be indicative of the entire year.

The interim 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.

Cash equivalents consist of highly liquid investments with original maturities
of three months or less. Investments with original maturities beyond three
months are classified as short-term investments. The fair values of short-term
investments are based on quoted market prices.

The Companys short-term investments are classified as available-for-sale. As
they are available for current operations, they are classified in the Condensed
Consolidated Balance Sheets as current assets. Available-for-sale securities
are carried at fair value, with unrealized gains and temporary losses, net of
income taxes, reported as a component of accumulated other comprehensive
income. Other than temporary declines in fair value of investments are
recorded as a reduction in the cost of the investments in the accompanying
Condensed Consolidated Balance Sheets and a reduction of interest and other
income in the accompanying Condensed Consolidated Statements of Income. The
cost of debt securities is adjusted for amortization of premiums and accretion
of discounts to maturity. The amortization of premiums, accretion of discounts
and realized gains and losses are included in interest and other income.

Total comprehensive income for the second quarter and six months ended July 31,
2004 was $8,070,000 and $25,071,000, respectively. Total comprehensive income
for the second quarter and six months ended August 2, 2003 was $7,374,000 and
$24,969,000, respectively. Total comprehensive income is composed of net
income and net unrealized gains and losses on available-for-sale securities.

Merchandise inventories are stated at the lower of cost (first-in, first-out
method) or market as determined by the retail inventory method.

In May 2004, the Board of Directors increased the quarterly dividend by 9% from
$.16 per share to $.175 per share.





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Page 6

THE CATO CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
FOR THE THREE MONTHS AND SIX MONTHS ENDED JULY 31, 2004
AND AUGUST 2, 2003 (UNAUDITED)



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NOTE 1  GENERAL (CONTINUED):

The provisions for income taxes are based on the Companys estimated annual
effective tax rate.

Certain reclassifications have been made to the condensed consolidated
financial statements for prior periods to conform to the current period
presentation.

NOTE 2  EARNINGS PER SHARE:

FASB No. 128 requires dual presentation of basic EPS and diluted EPS on the
face of all income statements for all entities with complex capital structures.
Basic EPS is computed as net income divided by the weighted average number of
common shares outstanding for the period. Diluted EPS reflects the potential
dilution that could occur from common shares issuable through stock options and
other convertible securities. Unvested restricted stock is included in the
computation of diluted EPS using the treasury stock method. There was an
insignificant number of shares withheld from the computation of diluted EPS due
to potential anti-dilutive effects for the six months ended July 31, 2004 and
August 2, 2003.

Three Months Ended
    
    Six Months EndedJuly 31,
    
    August 2,
    
    July 31,
    
    August 2,2004
    
    2003
    
    2004
    
    2003Weighted-average shares outstanding
    
    
    20,515,017
    
    
    
    25,478,008
    
    
    
    20,527,831
    
    
    
    25,458,696Dilutive effect of stock options
    
    
    365,014
    
    
    
    410,325
    
    
    
    363,001
    
    
    
    391,925Weighted-average shares and
common stock equivalents
(stock options) outstanding
    
    
    20,880,031
    
    
    
    25,888,333
    
    
    
    20,890,832
    
    
    
    25,850,621


NOTE 3  SUPPLEMENTAL CASH FLOW INFORMATION:

Income tax payments, net of refunds received, for the six months ended July 31,
2004 and August 2, 2003 were $7,866,100 and $9,277,450, respectively.





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Page 7

THE CATO CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
FOR THE THREE MONTHS AND SIX MONTHS ENDED JULY 31, 2004
AND AUGUST 2, 2003 (UNAUDITED)



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NOTE 4  FINANCING ARRANGEMENTS:

At July 31, 2004, the Company had an unsecured revolving credit agreement which
provided for borrowings of up to $35 million. This revolving credit agreement
was entered into on August 22, 2003 and is committed until August 2006. The credit agreement contains various
financial covenants and limitations, including the maintenance of specific financial
ratios. There were no borrowings outstanding during the six months ended July
31, 2004 or the fiscal year ended January 31, 2004. Interest is based on
LIBOR, which was 1.50% on July 31, 2004.

On August 22, 2003, the Company entered into a new unsecured $30 million
five-year term loan facility, the proceeds of which were used to purchase Class
B Common Stock from the Companys founders. The amounts outstanding under the
loan totaled $24.5 million as of July 31, 2004. Payments are due in monthly
installments of $500,000 plus accrued interest. Interest is based on LIBOR,
which was 1.50% on July 31, 2004.

The Company had approximately $4,707,000 and $6,742,000 at July 31, 2004 and
August 2, 2003, respectively, of outstanding irrevocable letters of credit
relating to purchase commitments.

NOTE 5  REPORTABLE SEGMENT INFORMATION:

The Company has two reportable segments: retail and credit. The Company
operated its womens fashion specialty retail stores in 28 states at July 31,
2004, principally in the southeastern United States. The Company offers its own
credit card to its customers and all credit authorizations, payment processing,
and collection efforts are performed by a separate subsidiary of the Company.

The following schedule summarizes certain segment information (in thousands):

Three Months Ended
    
    
    
    
    
    
    
    
    
    
    
    
    
    Six Months EndedJuly 31, 2004
    
    Retail
    
    Credit
    
    Total
    
    July 31, 2004
    
    Retail
    
    Credit
    
    TotalRevenues
    
    $
    197,359
    
    
    $
    3,525
    
    
    $
    200,884
    
    
    Revenues
    
    $
    403,050
    
    
    $
    7,035
    
    
    $
    410,085Depreciation
    
    
    5,072
    
    
    
    19
    
    
    
    5,091
    
    
    Depreciation
    
    
    10,031
    
    
    
    39
    
    
    
    10,070Interest and other income
    
    
    (656
    )
    
    
    
    
    
    
    (656
    )
    
    Interest and other income
    
    
    (1,162
    )
    
    
    
    
    
    
    (1,162
    )Income before taxes
    
    
    11,533
    
    
    
    1,311
    
    
    
    12,844
    
    
    Income before taxes
    
    
    36,823
    
    
    
    2,420
    
    
    
    39,243Total assets
    
    
    310,985
    
    
    
    62,587
    
    
    
    373,572
    
    
    Total assets
    
    
    310,985
    
    
    
    62,587
    
    
    
    373,572Capital expenditures
    
    
    4,699
    
    
    
    83
    
    
    
    4,782
    
    
    Capital expenditures
    
    
    11,680
    
    
    
    85
    
    
    
    11,765Three Months Ended
    
    
    
    
    
    
    
    
    
    
    
    
    
    Six Months EndedAugust 2, 2003
    
    Retail
    
    Credit
    
    Total
    
    August 2, 2003
    
    Retail
    
    Credit
    
    TotalRevenues
    
    $
    188,415
    
    
    $
    3,578
    
    
    $
    191,993
    
    
    Revenues
    
    $
    386,013
    
    
    $
    7,190
    
    
    $
    393,203Depreciation
    
    
    4,543
    
    
    
    19
    
    
    
    4,562
    
    
    Depreciation
    
    
    8,974
    
    
    
    39
    
    
    
    9,013Interest and other income
    
    
    (1,888
    )
    
    
    
    
    
    
    (1,888
    )
    
    Interest and other income
    
    
    (3,018
    )
    
    
    
    
    
    
    (3,018
    )Income before taxes
    
    
    11,065
    
    
    
    1,071
    
    
    
    12,136
    
    
    Income before taxes
    
    
    37,541
    
    
    
    2,039
    
    
    
    39,580Total assets
    
    
    312,928
    
    
    
    76,182
    
    
    
    389,110
    
    
    Total assets
    
    
    312,928
    
    
    
    76,182
    
    
    
    389,110Capital expenditures
    
    
    4,678
    
    
    
    
    
    
    
    4,678
    
    
    Capital expenditures
    
    
    9,080
    
    
    
    
    
    
    
    9,080






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Page 8

THE CATO CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
FOR THE THREE MONTHS AND SIX MONTHS ENDED JULY 31, 2004
AND AUGUST 2, 2003 (UNAUDITED)



---

NOTE 5  REPORTABLE SEGMENT INFORMATION (CONTINUED):

The Company evaluates performance based on profit or loss from operations
before income taxes. The Company does not allocate certain corporate expenses
or income taxes to the segments.

The following schedule summarizes the direct expenses of the credit segment
which are reflected in selling, general and administrative expenses (in
thousands):

Three Months Ended
    
    Six Months EndedJuly 31,
    
    August 2,
    
    July 31,
    
    August 2,2004
    
    2003
    
    2004
    
    2003Bad debt expense
    
    $
    1,247
    
    
    $
    1,545
    
    
    $
    2,669
    
    
    $
    3,172Payroll
    
    
    294
    
    
    
    277
    
    
    
    572
    
    
    
    548Postage
    
    
    260
    
    
    
    275
    
    
    
    576
    
    
    
    608Other expenses
    
    
    394
    
    
    
    391
    
    
    
    759
    
    
    
    784Total expenses
    
    $
    2,195
    
    
    $
    2,488
    
    
    $
    4,576
    
    
    $
    5,112






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Page 9

THE CATO CORPORATION
MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS



---

RESULTS OF OPERATIONS:

The following table sets forth, for the periods indicated, certain items in the
Companys unaudited Condensed Consolidated Statements of Income as a percentage
of total retail sales:

Three Months Ended
    
    Six Months EndedJuly 31,
    
    August 2,
    
    July 31,
    
    August 2,2004
    
    2003
    
    2004
    
    2003Total retail sales
    
    
    100.0
    %
    
    
    100.0
    %
    
    
    100.0
    %
    
    
    100.0
    %Total revenues
    
    
    101.9
    
    
    
    102.0
    
    
    
    101.9
    
    
    
    101.9Cost of goods sold
    
    
    69.0
    
    
    
    70.5
    
    
    
    66.7
    
    
    
    67.4Selling, general and
administrative
    
    
    24.0
    
    
    
    23.7
    
    
    
    23.2
    
    
    
    22.8Depreciation
    
    
    2.6
    
    
    
    2.4
    
    
    
    2.5
    
    
    
    2.3Interest expense
    
    
    0.1
    
    
    
    0.0
    
    
    
    0.1
    
    
    
    0.0Interest and other income
    
    
    (0.3
    )
    
    
    (1.0
    )
    
    
    (0.3
    )
    
    
    (0.8
    )Income before income taxes
    
    
    6.5
    
    
    
    6.4
    
    
    
    9.7
    
    
    
    10.2Net income
    
    
    4.1
    
    
    
    4.1
    
    
    
    6.2
    
    
    
    6.5


Comparison of Second Quarter and First Six Months of 2004 with 2003.

Total retail sales for the second quarter were $197.1 million compared to last
years second quarter sales of $188.2 million, a 5% increase. Same-store sales
decreased 1% in the second quarter of fiscal 2004. For the six months ended
July 31, 2004, total retail sales were $402.3 million compared to last years
first six months sales of $385.5 million, a 4% increase, and same-store sales
decreased 2% for the comparable six month period. Total revenue, comprised of
retail sales and other income (principally, finance charges and late fees on
customer accounts receivable and layaway fees), were $200.9 million and $410.1
million for the second quarter and six months ended July 31, 2004,
respectively, compared to $192.0 million and $393.2 million for the second
quarter and six months ended August 2, 2003, respectively. The Company
operated 1,132 stores at July 31, 2004 compared to 1,051 stores at the end of
last years second quarter. For the first six months of 2004 the Company
opened 30 stores and relocated 17 stores.

Credit revenue of $3.5 million, represented 1.8% of total revenues in the
second quarter of 2004. This is comparable to 2003 credit revenue of $3.6
million or 1.9% of total revenues. Credit revenue is comprised of interest
earned on the Companys private label credit card portfolio and related fee
income. Related expenses include principally bad debt expense, payroll,
postage and other administrative expenses and totaled $2.2 million in the
second quarter of 2004 compared to last years second quarter expenses of $2.5
million. The decrease in costs was principally due to lower bad debt expense.
Total credit income for the second quarter before taxes increased $0.2 million
from $1.1 million in 2003 to $1.3 million in 2004 due to reduced operating
costs.





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##### 



Page 10

THE CATO CORPORATION
MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS



---

RESULTS OF OPERATIONS  (CONTINUED):

Other income in total, as included in total revenues in the second quarter of
2004, remained flat at $3.8 million compared to the second quarter of 2003.

Cost of goods sold was $136.1 million, or 69.0% of retail sales and $268.4
million or 66.7% of retail sales for the second quarter and first six months of
fiscal 2004, compared to $132.6 million, or 70.5% of retail sales and $259.6
million, or 67.4% of retail sales for the prior years comparable three and six
months periods, respectively. The overall dollar increase in cost of goods
sold resulted primarily from increased freight and occupancy costs. The
overall decrease in cost of goods sold as a percent of retail sales for the
second quarter and first six months of 2004 resulted primarily from lower
markdowns. Cost of goods sold includes merchandise costs, net of discounts and
allowances, buying costs, distribution costs, occupancy costs, freight and
inventory shrinkage. Net merchandise costs and in-bound freight are
capitalized as inventory costs. Buying and distribution costs include payroll,
payroll-related costs and operating expenses for the buying departments and
distribution center. Occupancy expenses include rent, real estate taxes,
insurance, common area maintenance, utilities and maintenance for stores and
distribution facilities. Total gross margin dollars (retail sales less cost of
goods sold) increased by 9.7% to $61.0 million and by 6.3% to $133.9 million
for the second quarter and first six months of fiscal 2004 compared to $55.6
million and $125.9 million for the prior years comparable three and six month
periods, respectively. Gross margin as presented may not be comparable to those
of other entities as they may include internal transfer costs in selling,
general and administrative expenses while the Company classifies them as cost
of goods sold.

Selling, general and administrative expenses (SG&A) primarily include corporate
and store payroll, related payroll taxes and benefits, insurance, supplies,
advertising, bank and credit card processing fees and bad debts. Selling,
general and administrative (SG&A) expenses were $47.4 million, or 24.0% of
retail sales and $93.2 million, or 23.2% of retail sales for the second quarter
and first six months of fiscal 2004, compared to $44.6 million, or 23.7% of
retail sales and $88.0 million, or 22.8% of retail sales for prior years
comparable three and six months periods, respectively. SG&A expenses as a
percentage of retail sales increased 30 basis points for the second quarter of
fiscal 2004 as compared to the prior year and increased 40 basis points for the
first six months of fiscal 2004, as compared to the prior year. The overall
dollar increase in SG&A expenses for the second quarter and first six months of
fiscal 2004 resulted primarily from increased selling-related expenses and
increased infrastructure expenses attributable to the Companys store growth
and from increased incentive based performance bonus programs.





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##### 



Page 11

THE CATO CORPORATION
MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS



---

RESULTS OF OPERATIONS  (CONTINUED):

Depreciation expense was $5.1 million, or 2.6% of retail sales and $10.1
million or 2.5% of retail sales, for the second quarter and first six months of
fiscal 2004, compared to $4.6 million, or 2.4% of retail sales and $9.0
million, or 2.3% of retail sales, for prior years comparable three and six
month periods, respectively. The 12% increase for the first six months of
fiscal 2004 resulted primarily from the Companys new store growth.

Interest expense was $0.2 million, or 0.1% of retail sales and $0.3 million or
0.1% of retail sales, for the second quarter and first six months of fiscal
2004, compared to $0.0 for the prior years comparable three and six month
periods, respectively. The increase in fiscal 2004 resulted from interest
payments on a new $30.0 million five-year term loan facility entered into on
August 22, 2003, the proceeds of which were used to purchase Class B Common
Stock from the Companys founders.

Interest and other income was $0.7 million, or 0.3% of retail sales and $1.2
million or 0.3% of retail sales, for the second quarter and first six months of
fiscal 2004, compared to $1.9 million, or 1.0% of retail sales and $3.0
million, or 0.8% of retail sales, for the prior years comparable three and six
month periods, respectively. The decrease in the second quarter and first six
months of fiscal 2004 resulted primarily from the Companys lower cash and
short-term investment position following the repurchase of $98.3 million of
Company stock in fiscal 2003 and a one-time gain of $0.8 million on the sale of
investments in the second quarter of fiscal 2003.

Income tax expense was $4.7 million, or 2.4% of retail sales and $14.2 million,
or 3.5% of retail sales, for the second quarter and first six months of fiscal
2004, compared to $4.4 million, or 2.3% of retail sales and $14.4 million, or
3.7% of retail sales, for the prior years comparable three and six month
periods. The second quarter increase resulted from higher pre-tax income. The
effective income tax rate for the second quarter and first six months of fiscal
2004 was 36.3%, unchanged from fiscal 2003.

CRITICAL ACCOUNTING POLICIES:

The preparation of the Companys financial statements in conformity with
generally accepted accounting principles requires management to make estimates
and assumptions about future events that affect the amounts reported in the
financial statements and accompanying notes. Future events and their effects
cannot be determined with absolute certainty. Therefore, the determination of
estimates requires the exercise of judgment. Actual results inevitably will
differ from those estimates, and such differences may be material to the
financial statements. The most significant accounting estimates inherent in the
preparation of the Companys financial statements include the allowance for
doubtful accounts receivable, reserves relating to workers compensation,
general and auto insurance liabilities, reserves for inventory markdowns,
calculation of asset impairment, shrink accrual and tax contingency reserves.

The Companys critical accounting estimates are discussed with the Audit
Committee.





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##### 



Page 12

THE CATO CORPORATION
MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS



---

CRITICAL ACCOUNTING POLICIES  (CONTINUED):

Allowance for Doubtful Accounts

The Company evaluates the collectibility of accounts receivable and records an
allowance for doubtful accounts based on estimates of actual write-offs and the
accounts receivable aging roll rates over the prior five months. The allowance
is reviewed for adequacy and adjusted, as necessary, on a monthly basis. The
Company also provides for estimated uncollectible late fees charged based on
historical write-offs. The Companys financial results can be significantly
impacted by changes in bad debt write-off experience and the aging of the
accounts receivable portfolio. Historically, actual results have not
significantly deviated from estimates.

Insurance Liabilities

The Company is primarily self-insured for health care, property loss, workers
compensation and general liability costs. These costs are significant primarily
due to the large number of the Companys retail locations and employees. The
Companys self-insurance liabilities are based on the total estimated costs of
claims filed and estimates of claims incurred but not reported, less amounts
paid against such claims, and are not discounted. Management reviews current
and historical claims data in developing its estimates. The Company also uses
information provided by outside actuaries with respect to workers compensation
and general liability claims. If the underlying facts and circumstances of the
claims change or the historical experience upon which insurance provisions are
recorded is not indicative of future trends, then the Company may be required
to adjust the provision for insurance costs, which could be material to the
Companys reported financial condition and results of operations. Historically,
actual results have not significantly deviated from estimates.

Revenue Recognition

While the Companys recognition of revenue is predominantly derived from
routine retail transactions and does not involve significant judgment, revenue
recognition represents an important accounting policy of the Company. The
Company recognizes sales at the point of purchase when the customer takes
possession of the merchandise and pays for the purchase, generally with cash or
credit. Sales from purchases made with Cato credit, gift cards and layaway
sales are also recorded when the customer takes possession of the merchandise.
Gift cards, layaway deposits and merchandise credits granted to customers are
recorded as deferred revenue until they are redeemed or forfeited. A provision
is made for estimated product returns based on sales volumes and the Companys
experience; actual returns have not varied materially from amounts provided
historically.

Credit revenue on the Companys private label credit card portfolio is
recognized as earned under the interest method. Late fees are recognized as
earned, less provisions for estimated uncollectible fees.





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##### 



Page 13

THE CATO CORPORATION
MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS



---

CRITICAL ACCOUNTING POLICIES  (CONTINUED):

Impairment of Long-Lived Assets

The Company primarily invests in property and equipment in connection with the
opening, relocating and remodeling of stores and in computer software and
hardware. Most of the Companys store leases give the Company the option to
terminate the lease if certain specified sales volumes are not achieved during
the first few years of the lease. The Company periodically reviews its store
locations and estimates the recoverability of its assets, recording an
impairment charge, if necessary, when the Company decides to close the store or
otherwise determines that future undiscounted cash flows associated with those
assets will not be sufficient to recover the carrying value. This determination
is based on a number of factors, including the stores historical operating
results and cash flows, estimated future sales growth, real estate development
in the area and perceived local market conditions that can be difficult to
predict and may be subject to change. In addition, the Company regularly
evaluates its computer-related and other long-lived assets and may accelerate
depreciation over the revised useful life if the asset is expected to be
replaced or has limited future value. When assets are retired or otherwise
disposed of, the cost and related accumulated depreciation or amortization are
removed from the accounts, and any resulting gain or loss is reflected in
income for that period.

Tax Reserves

The Company records an estimated tax liability or tax benefit for income and
other taxes based on what it determines will likely be paid in the various tax
jurisdictions in which it operates. Management uses its best judgment in the
determination of these amounts. However, the liabilities ultimately realized
and paid are dependent upon various matters, including resolution of tax
audits, and may differ from amounts recorded. An adjustment to the estimated
liability would be recorded as
a provision or benefit to income tax expense in the period in which it becomes
probable that the amount of the actual liability differs from the recorded
amount.

Merchandise Inventories

The Companys inventory is valued using the retail method of accounting and is
stated at the lower of cost (first-in, first-out method) or market. Under the
retail inventory method, the valuation of inventory at cost and resulting gross
margin are calculated by applying an average cost to retail ratio to the retail
value of inventory. The retail inventory method is an averaging method that has
been widely used in the retail industry. Inherent in the retail method are
certain significant estimates including initial merchandise markup, markdowns
and shrinkage, which significantly impact the ending inventory valuation at
cost and the resulting gross margins. Physical inventories are conducted
throughout the year to calculate actual shrinkage and inventory on hand.
Estimates based on actual





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##### 



Page 14

THE CATO CORPORATION
MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS



---

CRITICAL ACCOUNTING POLICIES  (CONTINUED):

shrinkage results are used to estimate inventory shrinkage, which is accrued
for the period between the last inventory and the financial reporting date. The
Company continuously reviews its inventory levels to identify slow moving
merchandise and uses markdowns to clear slow moving inventory. General economic
environment for retail apparel sales could result in an increase in the level
of markdowns, which would result in lower inventory values and increases to
cost of goods sold as a percentage of net sales in future periods. Management
makes estimates regarding markdowns based on inventory levels on hand and
customer demand, which may impact inventory valuations. Markdown exposure with
respect to inventories on hand is limited due to the fact that seasonal
merchandise is not carried forward. Historically, actual results have not
significantly deviated from those determined using the estimates described
above.

STOCK OPTIONS:

The Company applies APB Opinion No. 25, Accounting for Stock Issued to
Employees, and related interpretations in accounting for its stock option
plans. The exercise price for all options awarded under the Companys stock
option plans has been equal to the fair market value of the underlying common
stock on the date of grant. Accordingly, no compensation expense has been
recognized for options granted under the plans. Had compensation expense for
the stock options granted been determined consistent with SFAS No. 148,
Accounting for Stock-Based
Compensation  Transition and Disclosure, the Companys net income and basic
and diluted earnings per share amounts for the three months and six months
ended July 31, 2004 and August 2, 2003 would approximate the following proforma
amounts (dollars in thousands, except per share data):

Three Months Ended
    
    Six Months EndedJuly 31,
    
    August 2,
    
    July 31,
    
    August 2,2004
    
    2003
    
    2004
    
    2003Net Income as Reported
    
    $
    8,182
    
    
    $
    7,731
    
    
    $
    24,998
    
    
    $
    25,212Add: Stock-Based employee compensation
expense included in reported net
income, net
of related tax effects
    
    
    109
    
    
    
    124
    
    
    
    217
    
    
    
    280Deduct: Total stock-based employee
compensation expense determined under
fair value based method for all
awards, net of
related tax effects
    
    
    (118
    )
    
    
    (255
    )
    
    
    (248
    )
    
    
    (546
    )Pro forma Net Income
    
    $
    8,173
    
    
    $
    7,600
    
    
    $
    24,967
    
    
    $
    24,946Earnings per share:Basic  as reported
    
    $
    .40
    
    
    $
    .30
    
    
    $
    1.22
    
    
    $
    .99Basic  pro forma
    
    $
    .40
    
    
    $
    .30
    
    
    $
    1.22
    
    
    $
    .98Diluted  as reported
    
    $
    .39
    
    
    $
    .30
    
    
    $
    1.20
    
    
    $
    .98Diluted  pro forma
    
    $
    .39
    
    
    $
    .29
    
    
    $
    1.20
    
    
    $
    .97






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##### 



Page 15

THE CATO CORPORATION
MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS



---

LIQUIDITY, CAPITAL RESOURCES AND MARKET RISK:

The Company believes that its cash, cash equivalents and short-term
investments, together with cash flows from operations and borrowings available
under its revolving credit agreement, will be adequate to fund the Companys
proposed capital expenditures and other operating requirements for fiscal 2004
and the long term.

The Company has consistently maintained a strong liquidity position. Cash
provided by operating activities during the first six months of 2004 was $54.6
million as compared to $38.0 million in the first six months of 2003. These
amounts have enabled the Company to fund its regular operating
needs, capital expenditure program, cash dividend payments and any repurchase
of the Companys Common Stock. In addition, the Company maintains $35 million
of unsecured revolving credit facilities for short-term financing of seasonal
cash needs.

At July 31, 2004, the Company had working capital of $129.5 million compared to
$178.3 million at August 2, 2003. The decline in working capital resulted
primarily from the repurchase of Class B Common Stock from the Companys
founders for $95.6 million, partially offset by the proceeds of a new $30
million five-year term loan facility entered into in the third quarter of
fiscal 2003. The increase in net cash provided by operating activities for the
first six months of 2004 is primarily the result of an increase in depreciation
expense of $1.1 million due to store expansion; an increase in loss and
disposal of property and equipment of $1.1 million; a reduction in accounts
receivable from strong collection efforts of $1.4 million; and an increase of
accounts payable and other liabilities of $14.0 million and an increase of $1.3
million in accrued income taxes. Offsetting these increases in net cash
provided by operating activities was a decrease in net income of $0.2 million
and an increase of $2.5 million in merchandise inventories.

Additionally, the Company had $1.8 million invested in privately managed
investment funds at
July 31, 2004, which are reported under other assets of the consolidated
balance sheets.

At July 31, 2004, the Company had an unsecured revolving credit agreement,
which provided for borrowings of up to $35 million. The revolving credit
agreement is committed until August 2006. The credit agreement contains various
financial covenants and limitations, including the maintenance of specific
financial ratios. There were no borrowings outstanding under these credit
facilities during the six months ended July 31, 2004 or the fiscal year ended
January 31, 2004.

The Company had approximately $4.7 million and $6.7 million at July 31, 2004
and August 2, 2003, respectively, of outstanding irrevocable letters of credit
relating to purchase commitments.

Expenditures for property and equipment totaled $11.8 million for the six
months ended July 31, 2004, compared to $9.1 million in last years first six
months. The expenditures for the first six months of 2004 were primarily for
store development and investments in new technology. In fiscal





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##### 



Page 16

THE CATO CORPORATION
MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS



---

LIQUIDITY, CAPITAL RESOURCES AND MARKET RISK (CONTINUED):

2004, the Company is planning to invest approximately $30 million for capital
expenditures. This includes expenditures to open 80 new stores and relocate 29
stores. In addition, the Company plans to remodel 15 stores and has planned for
additional investments in technology scheduled to be implemented over the
remainder of the fiscal year.

Net cash used in investing activities totaled $40.6 million for the first six
months of 2004 compared to $.7 million for the comparable period of 2003. The
increase was due primarily to the purchase of short-term investments.

In May 2004, the Board of Directors increased the quarterly dividend by 9% from
$.16 per share to $.175 per share.

The Companys previously reported repurchase in August 2003 of 5,137,484 shares
of Class B Common Stock from entities affiliated with Wayland H. Cato, Jr., and
Edgar T. Cato, was funded by the Company through a new $30 million five-year
term loan facility and approximately $65 million of cash and liquidated
short-term investments. Payments on the new term loan are due in monthly
installments of $500,000 plus accrued interest. Interest is based on LIBOR. The
LIBOR rate at July 31, 2004 was 1.50%. As of July 31, 2004, the outstanding
balance on the loan facility was $24.5 million.

The Company does not use derivative financial instruments. At July 31, 2004,
the Companys investment portfolio was invested in governmental and other debt
securities with maturities of up to 36 months. These securities are classified
as available-for-sale and are recorded on the balance sheet at fair value with
unrealized gains and temporary losses reported net of taxes as accumulated
other comprehensive income. Other than temporary declines in fair value of
investments are recorded as a reduction in the cost of investments in the
accompanying Consolidated Balance Sheets and a reduction of interest and other
income in the accompanying Statements of Consolidated Income.





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##### 



Page 17

THE CATO CORPORATION
MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS



---

QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK:

The Company is subject to market rate risk from exposure to changes in interest
rates based on its financing, investing and cash management.

FORWARD LOOKING STATEMENTS:

Form 10-Q includes forward-looking statements within the meaning of Section
27A of the Securities Act and Section 21E of the Exchange Act. All statements
other than statements of historical facts included in this Form 10-Q including
statements regarding the Companys planned capital expenditures, intended store
openings, closures, relocations and remodelings, its planned investments in
technology and the expected adequacy of the Companys liquidity, constitute
forward-looking statements. Although the Company believes that the expectations
reflected in such forward-looking statements are reasonable, it can give no
assurance that such expectations will prove to be correct. Forward-looking
statements involve risks and uncertainties that could cause the Companys
actual results to differ materially depending on a variety of important
factors, including, but not limited to the following: general economic
conditions; competitive factors and pricing pressures; the Companys ability to
predict fashion trends; consumer buying patterns; weather conditions and
inventory risk due to shifts in market demand, and other factors discussed from
time to time in the Companys SEC reports and press releases, which may be
accessed via the Companys website, www.catofashions.com. The Company does not
undertake any obligation to update any forward-looking statements.

CONTROLS AND PROCEDURES:

As of July 31, 2004, an evaluation of the effectiveness of the Companys
disclosure controls and procedures (as defined in Rule 13a-15(e) and 15d-15(e)
promulgated under the Securities Exchange Act of 1934, as amended (the
Exchange Act)) was performed under the supervision and with the participation
of the Companys management, including the Chief Executive Officer and Chief
Financial Officer. Based on that evaluation, the Companys Chief Executive
Officer and Chief Financial Officer have concluded that, as of the end of the
period covered by this report, the Companys disclosure controls and procedures
were effective to ensure that information required to be disclosed by the
Company in its reports that it files or submits under the Exchange Act is
recorded, processed, summarized and reported within the time periods specified
in the Securities Exchange Commission rules and forms.

CHANGES IN INTERNAL CONTROL OVER FINANCIAL REPORTS:

During the Companys first six months of 2004, there has been no change in the
Companys internal control over financial reporting (as defined in Rule
13a-15(f) and 15d-15(f) promulgated under the Exchange Act) that has materially
affected, or is reasonably likely to materially affect, the Companys internal
control over financial reporting.





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##### 



Page 18

PART II OTHER INFORMATION

THE CATO CORPORATION

ITEM 1. LEGAL PROCEEDINGS

None

ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS

None

ITEM 3. DEFAULTS UPON SENIOR SECURITIES

None

ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS

Following are the results of the matters voted upon at the Companys
Annual Meeting which was held on May 27, 2004.

Election of Directors:

For
    
    Withheld
    
    Voting Power For
    
    Voting Power WithheldMr. George Currin
    
    
    11,028,381
    
    
    
    7,527,246
    
    
    
    15,248,031
    
    
    
    7,527,246Mr. A. F. (Pete) Sloan
    
    
    15,956,110
    
    
    
    2,599,517
    
    
    
    20,175,760
    
    
    
    2,599,517


Adoption of The Cato Corporation 2004 Incentive Compensation Plan:

For
    
    Withheld
    
    Voting Power For
    
    Voting Power Withheld12,589,450
    
    
    4,313,964
    
    
    
    16,809,100
    
    
    
    4,313,964


Amendment to the 1999 Incentive Compensation Plan:

For
    
    Withheld
    
    Voting Power For
    
    Voting Power Withheld16,056,439
    
    
    2,499,187
    
    
    
    20,276,089
    
    
    
    2,499,187


Amendment to the 1987 Non-Qualified Stock Option Plan:

For
    
    Withheld
    
    Voting Power For
    
    Voting Power Withheld16,058,290
    
    
    2,497,336
    
    
    
    20,277,990
    
    
    
    2,497,336






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##### 



Page 19

PART II OTHER INFORMATION

THE CATO CORPORATION

ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS (CONTINUED):

Ratification of Independent Auditor:

For
    
    Withheld
    
    Voting Power For
    
    Voting Power Withheld17,890,550
    
    
    665,077
    
    
    
    22,110,200
    
    
    
    665,077


ITEM 5. OTHER INFORMATION

None

ITEM 6. EXHIBITS

(A)

Exhibit No.
    
    ITEM31.1
    
    Rule 13a-14(a)/15d-14(a) Certification of Chief Executive Officer.31.2
    
    Rule 13a-14(a)/15d-14(a) Certification of Chief Financial Officer.32.1
    
    Section 1350 Certification of Chief Executive Officer.32.2
    
    Section 1350 Certification of Chief Financial Officer.






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##### 



Page 20

PART II OTHER INFORMATION

THE CATO CORPORATION

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.

THE CATO CORPORATIONSeptember 2, 2004
    
    /s/ John P. Derham CatoDate
    
    John P. Derham CatoChairman, President andChief Executive OfficerSeptember 2, 2004
    
    /s/ Michael O. MooreDate
    
    Michael O. MooreExecutive Vice PresidentChief Financial Officer and SecretarySeptember 2, 2004
    
    /s/ Robert M. SandlerDate
    
    Robert M. SandlerSenior Vice PresidentController