Tableof Contents

 

 

 

**UNITEDSTATES********SECURITIESAND EXCHANGE COMMISSION**

**WASHINGTON,D.C.**

 

**FORM 10-Q**

 
| **x** | ** ** | **QUARTERLY REPORT PURSUANT TO SECTION 13 OR  15(d) OF THE SECURITIES EXCHANGE ACT OF 1934** |
|-------|------------|--------------------------------------------------------------------------------------------------------|

 

**FOR THEQUARTERLY PERIOD ENDED MAY 2, 2009**

 

**OR**

 
| **o** | ** ** | **TRANSITION REPORT PURSUANT TO SECTION 13 OR  15(d) OF THE SECURITIES EXCHANGE ACT OF 1934** |
|-------|------------|---------------------------------------------------------------------------------------------------------|

 

**Commissionfile number 000-51300**

 

**ZUMIEZINC.**

(Exact name ofregistrant as specified in its charter)

 

| **Washington**                                                  | ** ** | **91-1040022**                        |
|-----------------------------------------------------------------|------------|---------------------------------------|
| (State or other  jurisdiction of                                |       | (I.R.S. Employer  Identification No.) |
| incorporation or  organization)                                 |       |                                  |
|                                                            |       |                                  |
| **6300  Merrill Creek Parkway, Suite B, Everett, WA** |       | **98203**                             |
| (Address of  principal executive offices)                       |       | (Zip Code)                            |

 

Registrant’stelephone number, including area code:**  (425) 551-1500**

 

Indicate by check markwhether the registrant (1) has filed all reports required to be filed by Section 13or 15(d) of the Securities Exchange Act of 1934 during the preceding12 months (or for such shorter period that the registrant was required tofile such reports), and (2) has been subject to such filing requirementsfor the past 90 days.  Yes x  No o

 

Indicate by check markwhether the registrant is a large accelerated filer, an accelerated filer, anon-accelerated filer or a smaller reporting company.  See definition of “accelerated filer” and “largeaccelerated filer” in Rule 12b-2 of the Exchange Act).  (Checkone):

 

| Large accelerated filer o |   | Accelerated  filer x         |
|--------------------------------|--------|-----------------------------------|
|                           |   |                              |
| Non-accelerated  filer o  |   | Smaller  reporting company o |

 

Indicate by check markwhether the registrant is a shell company (as defined in Rule 12b-2 of theExchange Act).  o Yes  x No

 

Indicateby check mark whether the registrant has submitted electronically and posted onits corporate Web site, if any, every Interactive Data File required to besubmitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 ofthis chapter) during the preceding 12 months (or for such shorter period thatthe registrant was required to submit and post such files).  Yes o No o

 

Numberof shares of Common Stock outstanding as of May 29, 2009 was 30,145,836shares.

 

 

 

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**ZUMIEZINC.**

**FORM 10-Q**

**TABLE OF CONTENTS**

 
| Part I.      | Financial Information |                                                                                                                              |
|-------------------|-----------------------|-----------------------------------------------------------------------------------------------------------------------------------|
|              |                  |                                                                                                                              |   |
|              | Item 1.               | Condensed Consolidated Financial Statements                                                                                       |   |
|              |                  |                                                                                                                              |   |
|              |                  | Condensed Consolidated Balance Sheets at May 2,  2009 (unaudited) and January 31, 2009                                  |   |
|              |                  |                                                                                                                              |   |
|              |                  | Condensed  Consolidated Statements of Operations for the three months ended May 2,  2009 and May 3, 2008 (unaudited)    |   |
|              |                  |                                                                                                                              |   |
|              |                  | Condensed Consolidated Statement of Changes in  Shareholders’ Equity for the three months ended May 2, 2009 (unaudited) |   |
|              |                  |                                                                                                                              |   |
|              |                  | Condensed  Consolidated Statements of Cash Flows for the three months ended May 2,  2009 and May 3, 2008 (unaudited)    |   |
|              |                  |                                                                                                                              |   |
|              |                  | Notes to Condensed Consolidated Financial Statements                                                                              |   |
|              |                  |                                                                                                                              |   |
|              | Item 2.               | Management’s  Discussion and Analysis of Financial Condition and Results of Operations                                       |   |
|              |                  |                                                                                                                              |   |
|              | Item 3.               | Quantitative  and Qualitative Disclosures About Market Risk                                                                       |   |
|              |                  |                                                                                                                              |   |
|              | Item 4.               | Controls and  Procedures                                                                                                          |   |
|              |                  |                                                                                                                              |   |
| Part II.     | Other Information     |                                                                                                                              |
|              |                  |                                                                                                                              |   |
|              | Item 1.               | Legal Proceedings                                                                                                                 |   |
|              |                  |                                                                                                                              |   |
|              | Item  1A.             | Risk  Factors                                                                                                                     |   |
|              |                  |                                                                                                                              |   |
|              | Item 2.               | Changes in  Securities; Use of Proceeds and Issuer Purchases of Equity Securities                                                 |   |
|              |                  |                                                                                                                              |   |
|              | Item 3.               | Defaults  Upon Senior Securities                                                                                                  |   |
|              |                  |                                                                                                                              |   |
|              | Item 4.               | Submission  of Matters to a Vote of Security Holders                                                                              |   |
|              |                  |                                                                                                                              |   |
|              | Item 5.               | Other Information                                                                                                                 |   |
|              |                  |                                                                                                                              |   |
|              | Item  6.              | Exhibits                                                                                                                          |   |
|              |                  |                                                                                                                              |   |
| Signatures        |                  |                                                                                                                              |   |
|              |                  |                                                                                                                              |   |
| Exhibit 31.1 |                  |                                                                                                                              |   |
|              |                  |                                                                                                                              |   |
| Exhibit 31.2 |                  |                                                                                                                              |   |
|              |                  |                                                                                                                              |   |
| Exhibit 32.1 |                  |                                                                                                                              |   |

 

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**ZUMIEZ INC.****CONDENSED CONSOLIDATED BALANCE SHEETS****(in thousands, except share amounts)**

 
| ** **                                                                                                                                                                                        | ** ** | **May 2, 2009** | ** ** | **January 31, 2009** | ** ** |
|---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|------------|----------------------|------------|---------------------------|------------|
| ** **                                                                                                                                                                                        | ** ** | **(Unaudited)**      | ** ** | ** **                | ** ** |
| **Assets**                                                                                                                                                                                        | ** ** | ** **           | ** ** | ** **                | ** ** |
| **Current  assets**                                                                                                                                                                               | ** ** | ** **           | ** ** | ** **                | ** ** |
| Cash and cash  equivalents                                                                                                                                                                        |       | $                    | 20,262     |                      | $          | 33,057 |   |
| Marketable  securities                                                                                                                                                                            |       | 60,819               |       | 45,525                    |       |
| Receivables                                                                                                                                                                                       |       | 5,917                |       | 4,555                     |       |
| Income tax  receivable                                                                                                                                                                            |       | 1,879                |       | —                    |       |
| Inventory                                                                                                                                                                                         |       | 54,051               |       | 51,974                    |       |
| Prepaid expenses  and other                                                                                                                                                                       |       | 5,972                |       | 5,614                     |       |
| Deferred tax  assets                                                                                                                                                                              |       | 2,256                |       | 2,588                     |       |
| **Total  current assets**                                                                                                                                                                         |       | 151,156              |       | 143,313                   |       |
| ** **                                                                                                                                                                                        | ** ** | ** **           | ** ** | ** **                | ** ** |
| Leasehold  improvements and equipment, net                                                                                                                                                        |       | 75,702               |       | 73,932                    |       |
| Goodwill and  other intangibles                                                                                                                                                                   |       | 13,223               |       | 13,236                    |       |
| Marketable  securities - long-term                                                                                                                                                                |       | 1,664                |       | 1,767                     |       |
| Deferred tax  assets                                                                                                                                                                              |       | 1,680                |       | 1,101                     |       |
| **Total  long-term assets**                                                                                                                                                                       |       | 92,269               |       | 90,036                    |       |
|                                                                                                                                                                                              |       |                 |       |                      |       |
| **Total  assets**                                                                                                                                                                                 |       | $                    | 243,425    |                      | $          | 233,349 |   |
|                                                                                                                                                                                              |       |                 |       |                      |       |
| **Liabilities and Shareholders’ Equity**                                                                                                                                                     | ** ** | ** **           | ** ** | ** **                | ** ** |
| **Current  liabilities**                                                                                                                                                                          |       |                 |       |                      |       |
| Trade accounts  payable                                                                                                                                                                           |       | $                    | 25,472     |                      | $          | 15,909 |   |
| Accrued payroll  and payroll taxes                                                                                                                                                                |       | 4,115                |       | 4,739                     |       |
| Income taxes  payable                                                                                                                                                                             |       | —               |       | 238                       |       |
| Current portion  of deferred rent and tenant allowances                                                                                                                                           |       | 2,968                |       | 2,735                     |       |
| Other accrued  liabilities                                                                                                                                                                        |       | 7,473                |       | 7,600                     |       |
| **Total  current liabilities**                                                                                                                                                                    |       | 40,028               |       | 31,221                    |       |
| ** **                                                                                                                                                                                        | ** ** | ** **           | ** ** | ** **                | ** ** |
| Long-term  deferred rent and tenant allowances, less current portion                                                                                                                              |       | 25,922               |       | 24,177                    |       |
| **Total  liabilities**                                                                                                                                                                            |       | 65,950               |       | 55,398                    |       |
| Commitments and  contingencies (Note 3)                                                                                                                                                           |       |                 |       |                      |       |
| ** **                                                                                                                                                                                        | ** ** | ** **           | ** ** | ** **                | ** ** |
| **Shareholders’  equity**                                                                                                                                                                    | ** ** | ** **           | ** ** | ** **                | ** ** |
| Preferred stock,  no par value, 20,000,000 shares authorized; none issued and outstanding                                                                                                         |       | —               |       | —                    |       |
| Common stock, no  par value, 50,000,000 shares authorized; 30,116,063 shares issued and  outstanding at May 2, 2009, 29,533,067 shares issued and outstanding at  January 31, 2009 |       | 77,072               |       | 75,789                    |       |
| Accumulated  other comprehensive income                                                                                                                                                           |       | 16                   |       | 117                       |       |
| Retained  earnings                                                                                                                                                                                |       | 100,387              |       | 102,045                   |       |
| **Total  shareholders’ equity**                                                                                                                                                              |       | 177,475              |       | 177,951                   |       |
| ** **                                                                                                                                                                                        | ** ** | ** **           | ** ** | ** **                | ** ** |
| **Total  liabilities and shareholders’ equity**                                                                                                                                              |       | $                    | 243,425    |                      | $          | 233,349 |   |

 

See accompanyingnotes to condensed consolidated financial statements

 

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**ZUMIEZ INC.****CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS****(in thousands, except share and per share amounts)****(Unaudited)**

 
| ** **                                                                 | ** ** | **Three Months Ended** | ** ** |
|----------------------------------------------------------------------------|------------|-----------------------------|------------|
| ** **                                                                 | ** ** | **May 2,**             | ** ** | **May 3,** | ** ** |
| ** **                                                                 | ** ** | **2009**                    | ** ** | **2008** | ** ** |
| Net sales                                                                  |       | $                           | 76,808     |   | $ | 78,702 |   |
| Cost of goods  sold                                                        |       | 54,908                      |       | 54,142 |   |
| **Gross  profit**                                                          |       | 21,900                      |       | 24,560 |   |
|                                                                       |       |                        |       |   |   |
| Selling, general  and administrative expenses                              |       | 25,338                      |       | 22,934 |   |
| **Operating  (loss) profit**                                               |       | (3,438                      | )          | 1,626 |   |
|                                                                       |       |                        |       |   |   |
| Interest income,  net                                                      |       | 357                         |       | 589 |   |
| (Loss) earnings  before income taxes                                       |       | (3,081                      | )          | 2,215 |   |
|                                                                       |       |                        |       |   |   |
| (Benefit)  provision for income taxes                                      |       | (1,423                      | )          | 853 |   |
| Net (loss)  income                                                         |       | $                           | (1,658     | ) | $ | 1,362 |   |
|                                                                       |       |                        |       |   |   |
| Basic net (loss)  income per share                                         |       | $                           | (0.06      | ) | $ | 0.05 |   |
|                                                                       |       |                        |       |   |   |
| Diluted net  (loss) income per share                                       |       | $                           | (0.06      | ) | $ | 0.05 |   |
|                                                                       |       |                        |       |   |   |
| Weighted average  shares used in computation of (loss) earnings per share: |       |                        |       |   |   |
| Basic                                                                      |       | 29,314,611                  |       | 29,012,733 |   |
|                                                                       |       |                        |       |   |   |
| Diluted                                                                    |       | 29,314,611                  |       | 29,352,350 |   |

 

See accompanyingnotes to condensed consolidated financial statements

 

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**ZUMIEZ INC.****CONDENSED CONSOLIDATED STATEMENT OF CHANGES INSHAREHOLDERS’ EQUITY****(in thousands)****(Unaudited)**

 
| ** **                                         | ** ** | **Common Stock** | ** ** | **Accumulated  Comprehensive** | ** ** | **Retained**      | ** ** | ** **   | ** ** |
|----------------------------------------------------|------------|-----------------------|------------|--------------------------------|------------|-------------------|------------|--------------|------------|
| ** **                                         | ** ** | **Shares**            | ** ** | **Amount**                     | ** ** | **Income (Loss)** | ** ** | **Earnings** | ** ** | **Total** | ** ** |
| **Balance  at January 31, 2009**              |       | 29,533                |       | $                              | 75,789     |              | $          | 117          |       | $ | 102,045 |   | $ | 177,951 |   |
| Common stock  issued including tax benefit of $339 |       | 583                   |       | 685                            |       | —            |       | —       |       | 685 |   |
| Stock-based  compensation expense                  |       | —                |       | 598                            |       |              |       |         |       | 598 |   |
| Unrealized  losses, net of tax benefit of $62      |       | —                |       | —                         |       | (101              | )          | —       |       | (101 | ) |
| Net loss                                           |       |                  |       |                           |       |              |       | (1,658       | )          | (1,658 | ) |
| **Balance  at May 2, 2009**                   |       | 30,116                |       | $                              | 77,072     |              | $          | 16           |       | $ | 100,387 |   | $ | 177,475 |   |

 

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**ZUMIEZINC.**

**CONDENSED CONSOLIDATED STATEMENTS OFCASH FLOWS**

**(inthousands)**

**(Unaudited)**

 
| ** **                                                                                | ** ** | **Three Months Ended** | ** ** |
|-------------------------------------------------------------------------------------------|------------|------------------------|------------|
| ** **                                                                                | ** ** | **May 2, 2009**   | ** ** | **May 3, 2008** | ** ** |
| **Cash  flows from operating activities:**                                                |       |                   |       |   |   |
| Net (loss)  income                                                                        |       | $                      | (1,658     | ) | $ | 1,362 |   |
| Adjustments to  reconcile net (loss) income to net cash provided by operating activities: |       |                   |       |   |   |
| Depreciation and  amortization                                                            |       | 5,315                  |       | 4,397 |   |
| Deferred tax  expense                                                                     |       | (185                   | )          | (1,951 | ) |
| Stock-based  compensation expense                                                         |       | 598                    |       | 991 |   |
| Loss on disposal  of assets                                                               |       | 1                      |       | 23 |   |
| Excess tax  benefit from stock options                                                    |       | (339                   | )          | (50 | ) |
| Changes in  operating assets and liabilities:                                             |       |                   |       |   |   |
| Receivables                                                                               |       | (1,362                 | )          | (1,540 | ) |
| Inventory                                                                                 |       | (2,077                 | )          | (9,933 | ) |
| Prepaid expenses  and other                                                               |       | (358                   | )          | (375 | ) |
| Trade accounts  payable                                                                   |       | 9,563                  |       | 14,097 |   |
| Accrued payroll  and payroll taxes                                                        |       | (624                   | )          | (1,325 | ) |
| Income taxes  payable/receivable                                                          |       | (1,778                 | )          | 1,124 |   |
| Other accrued  liabilities                                                                |       | (127                   | )          | (1,154 | ) |
| Deferred rent  and tenant allowances                                                      |       | 1,978                  |       | 2,666 |   |
| Net cash  provided by operating activities                                                |       | 8,947                  |       | 8,332 |   |
|                                                                                      |       |                   |       |   |   |
| Cash flows from  investing activities:                                                    |       |                   |       |   |   |
| Additions to  leasehold improvements and equipment                                        |       | (6,836                 | )          | (9,372 | ) |
| Purchases of  marketable securities                                                       |       | (28,091                | )          | (34,100 | ) |
| Sales and  maturities of marketable securities                                            |       | 12,500                 |       | 37,750 |   |
| Net cash used in  investing activities                                                    |       | (22,427                | )          | (5,722 | ) |
|                                                                                      |       |                   |       |   |   |
| Cash flows from  financing activities:                                                    |       |                   |       |   |   |
| Change in book  overdraft                                                                 |       | —                 |       | (7,384 | ) |
| Proceeds from  exercise of stock options                                                  |       | 346                    |       | 401 |   |
| Excess tax  benefit from stock options                                                    |       | 339                    |       | 50 |   |
| Net cash  provided by (used in) financing activities                                      |       | 685                    |       | (6,933 | ) |
|                                                                                      |       |                   |       |   |   |
| Net decrease in  cash and cash equivalents                                                |       | (12,795                | )          | (4,323 | ) |
| Cash and cash  equivalents, beginning of period                                           |       | 33,057                 |       | 11,945 |   |
| Cash and cash  equivalents, end of period                                                 |       | $                      | 20,262     |   | $ | 7,622 |   |
|                                                                                      |       |                   |       |   |   |
| Supplemental  disclosure on cash flow information:                                        |       |                   |       |   |   |
| Cash paid during  the period for interest                                                 |       | $                      | —     |   | $ | 9 |   |
| Cash paid during  the period for income taxes                                             |       | 541                    |       | 1,682 |   |

 

See accompanying notes tocondensed consolidated financial statements

 

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**ZUMIEZINC.**

**NOTES TO CONDENSED CONSOLIDATED FINANCIALSTATEMENTS**

**(Unaudited)**

 

**1. Nature of Business and Basisof Presentation**

 

**Basis of Presentation—**The accompanying unaudited condensedconsolidated financial statements have been prepared in accordance withaccounting principles generally accepted in the United States of America (“GAAP”)for interim financial information and with the instructions to Form 10-Qand Article 10 of Regulation S-X. Accordingly, they do not include all of the information and footnotesrequired by GAAP for complete financial statements.

 

In the opinion ofmanagement, the unaudited condensed consolidated financial statements containall adjustments, consisting of normal recurring adjustments, necessary for afair presentation of the condensed consolidated balance sheet as of May 2,2009, the condensed consolidated statements of operations for the three monthsended May 2, 2009 and May 3, 2008, the condensed consolidatedstatement of changes in shareholders’ equity for the three months ended May 2,2009 and the condensed consolidated statements of cash flows for the threemonths ended May 2, 2009 and May 3, 2008.

 

The financial data at January 31,2009 is derived from audited financial statements which are included in theCompany’s Annual Report on Form 10-K for the year ended January 31,2009, and should be read in conjunction with the audited financial statementsand notes thereto.  Interim results arenot necessarily indicative of results for the full year.

 

**Principles of Consolidation*****—***The unaudited condensed consolidatedfinancial statements include the accounts of Zumiez Inc. and its subsidiary,Zumiez Nevada, LLC, (collectively, “the Company”).  All significant inter-company transactionsand balances are eliminated in consolidation.

 

**Use of Estimates*****—***The preparation of financial statementsin conformity with GAAP requires management to make estimates and assumptionsthat affect the reported amounts of assets and liabilities and the disclosureof contingent assets and liabilities at the date of the financial statements aswell as the reported amounts of revenues and expenses during the reportingperiod.  These estimates can also affectsupplemental information disclosed by the Company, including information aboutcontingencies, risk, and financial condition. In preparing the financial statements, the Company makes routineestimates and judgments in determining the net realizable value of accountsreceivable, inventory, fixed assets and accrued liabilities.  Some of the more significant estimatesinclude the allowance for sales returns, the reserve for inventory valuationestimates, medical and dental insurance reserve and the expected useful livesof fixed assets.  Actual results coulddiffer from those estimates.  The resultsof operations for the three months ending May 2, 2009 are not necessarilyindicative of the results that might be expected for fiscal 2009.  For further information, refer to the Company’sfinancial statements and notes included in the Company’s Form 10-K filedon March 23, 2009.

 

**Nature of Business—**The Company is a leading specialtyretailer of action sports related apparel, footwear, equipment and accessoriesoperating under the Zumiez brand name. As of May 2, 2009, the Company operated 358 stores primarilylocated in shopping malls, giving the Company a presence in 31 states.  The Company’s stores cater to young men andwomen between the ages of 12 and 24 who seek brands representing a lifestylecentered on activities that include skateboarding, surfing, snowboarding,bicycle motocross (or “BMX”) and motocross. The Company supports the action sports lifestyle and promotes its brandthrough a multi-faceted marketing approach that is designed to integrate itsbrand image with its customers’ activities and interests.  In addition, the Company operates a websitethat sells merchandise online and provides content and a community for itstarget customers.  The Company, based inEverett, WA, was formed in August 1978 and operates within one reportablesegment.

 

**Fiscal Year—**The Company uses a fiscal calendar widelyused by the retail industry which results in a fiscal year consisting of a52-week or 53-week period ending on the Saturday closest to January 31.  Each fiscal year consists of four 13-weekquarters, with an extra week added to the fourth quarter every five or sixyears.  “Fiscal 2008” was the 52-weekperiod ended January 31, 2009.  Thefirst three months of fiscal 2009 was the 13-week period ended May 2,2009.  The first three months of fiscal2008 was the 13-week period ended May 3, 2008.  “Fiscal 2009” is the 52-week period ending January 30,2010.

 

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**2. Summary of SignificantAccounting Policies**

 

Information regarding theCompany’s significant accounting policies is contained in Note 2, “Summary ofSignificant Accounting Policies,” to the consolidated financial statements inthe Company’s Form 10-K filed on March 23, 2009.  Presented below in this note and thefollowing notes is supplemental information that should be read in conjunctionwith “Notes to Consolidated Financial Statements” in that annual report.

 

**Marketable Securities—**At May 2, 2009, marketablesecurities, classified as available for sale, were $62.5 million and consistedof state and local municipal instruments, U.S. treasury reserves and U.S.agency debt instruments with original maturities over 90 days.  As of May 2, 2009, we had $1.7 millioninvested, net of a temporary impairment charge of $0.3 million in auction ratesecurities, which are classified as long-term, available-for-sale marketablesecurities on our condensed consolidated balance sheet.

 

Auction rate securitiesare generally long-term debt instruments that provide liquidity through a Dutchauction process that resets the applicable interest rate at pre-determinedcalendar intervals.  This mechanism generallyallows existing investors to rollover their holdings and continue to own theirrespective securities or liquidate their holdings by selling their securitiesat par value.  Prior to February 3,2008, we invested in these securities for short periods of time as part of ourcash management program.  However, theuncertainties in the credit markets, that began in early 2008, have preventedus and other investors from liquidating holdings of auction rate securities inrecent auctions for these securities because the amount of securities submittedfor sale has exceeded the amount of purchase orders.  Should the auctions continue to fail, weanticipate we have the ability to hold these securities until the liquidity inthe market improves.  These investmentsare fully collateralized by the United States government and are insuredagainst loss of principal and interest by a bond insurer whose credit ratingsis Ba3 by Moody’s Investors Services.  Ifthe credit ratings of the issuer, the bond insurers or the collateraldeteriorate, we may adjust the carrying value of these investments.  Although we are uncertain as to when theliquidity issues relating to these investments will improve, we consider theseissues to be only temporary.  It ispossible that further declines in fair value may occur and those declines, ifany, would be recognized in our condensed consolidated balance sheet as “accumulatedother comprehensive income.”  If we deemthese losses to be other than temporary we will realize these losses in ourcondensed consolidated statement of operations. We continue to monitor the market for auction rate securities andconsider its impact, if any, on the fair market value of the investments.

 

**Receivables—** At May 2, 2009 and January 31,2009 the receivables included the following:

 
| ** **                    | ** ** | **Fiscal Year Ended** | ** ** |
|-------------------------------|------------|-----------------------|------------|
| ** **                    | ** ** | **May 2, 2009**  | ** ** | **January 31, 2009** | ** ** |
| Tenant  allowances receivable |       | $                     | 2,329      |   | $ | 901 |   |
| Credit cards  receivable      |       | 2,024                 |       | 1,884 |   |
| Interest  receivable          |       | 788                   |       | 418 |   |
| Employee  receivables         |       | 383                   |       | 410 |   |
| Vendor credits                |       | 194                   |       | 483 |   |
| Other  receivables            |       | 199                   |       | 459 |   |
|                          |       | $                     | 5,917      |   | $ | 4,555 |   |

 

The Company does notextend credit to its customers except through independent third-party creditcards, which are generally collected in several business days.

 

**MerchandiseInventories—**Merchandise inventories are valued at the lower of cost ormarket.  The cost of merchandiseinventories are based upon an average cost methodology.  Merchandise inventories may includeitems that have been written down to the Company’s best estimate of their netrealizable value.  The Company’sdecisions to write-down its merchandise inventories are based on its currentrate of sale, the age of the inventory and other factors.  Actual final sales prices to customersmay be higher or lower than the Company’s estimated sales prices and couldresult in a fluctuation in gross profit. Historically, any additional write-downs have not been significant tothe Company.  We have reserved forinventory as of May 2, 2009 and January 31, 2009 in the amounts ofapproximately $1.8 million and $3.6 million, respectively.  The inventory reserve includes inventorywhose estimated market value is below cost, and an estimate for inventoryshrinkage.  These reserve amounts areevaluated quarterly.  The inventoryrelated to these reserves is not marked up in subsequent periods.

 

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**LeaseholdImprovements and Equipment—**Leasehold improvements and equipment are stated atcost less accumulated depreciation utilizing the straight-line method over theassets’ estimated useful lives.  Theuseful lives of our major classes of assets are as follows:

 
| Leasehold  improvements                                         |   | Lesser of 7 years or the term of the lease |
|-----------------------------------------------------------------|--------|--------------------------------------------|
| Fixtures                                                        |   | 3 – 7 years                           |
| Computer  equipment, software, store equipment & other |   | 3 – 5 years                           |

 

The cost and relatedaccumulated depreciation of assets sold or otherwise disposed of is removedfrom the accounts and the related gain or loss is reported in the condensedconsolidated statement of operations.

 

**Valuationof Long-Lived Assets—**The Company reviews the carrying value of long-livedassets for impairment whenever events or changes in circumstances indicate thatthe carrying value of such assets may not be recoverable.  Measurement of the impairment loss is basedon the fair value of the asset or group of assets.  Generally, fair value will be determinedusing accepted valuation techniques, such as the present value of expectedfuture cash flows.

 

**FairValue of Financial Instruments—**Statement of Financial Accounting Standards No. 107*“Disclosures about Fair Value of FinancialInstruments”* (“SFAS No. 107”), requires management todisclose the estimated fair value of certain assets and liabilities as financialinstruments.  Financial instruments aregenerally defined by SFAS No. 107 as cash, evidence of ownershipinterest in an entity, or a contractual obligation that both conveys to oneentity a right to receive cash or other financial instruments from anotherentity and imposes on the other entity the obligation to deliver cash or otherfinancial instruments to the first entity. At May 2, 2009 and January 31, 2009, the carrying amounts ofcash and cash equivalents, receivables, payables and other accrued liabilitiesapproximated fair value because of the short maturity of these financialinstruments.  The carrying value ofmarketable securities, excluding auction rate securities described below,approximate the fair value because these financial instruments have floatinginterest rates, which reflect current market conditions.

 

Statement of Financial Accounting Standards No. 157“*Fair Value Measurements*” defines fairvalue, establishes framework for measuring fair value in accordance withgenerally accepted accounting principles and expands disclosures about fairvalue measurements.  In October 2008,the Financial Accounting Standards Board (“FASB”), issued Financial AccountingStandards Board Staff Position (“FSP”) No. SFAS 157-3 (“FSP 157-3”), “*Determining the Fair Value of a Financial Asset When the Market forThat Asset Is Not Active*.  FSP157-3 clarifies the application of SFAS No. 157 *“Fair ValueMeasurements,”* in a market that is not active and provides anexample to illustrate key considerations in determining the fair value of afinancial asset when the market for that financial asset is not active.  Contractual maturities of investmentsunderlying our available-for-sale securities at May 2, 2009 included $1.7million in auction rate securities, net of $0.3 million temporaryimpairment.  Based on current market conditions, auctions related to these securitiesmay be unsuccessful at the scheduled auctions.  Unsuccessful auctionscould result in our holding securities beyond their next scheduled auctionreset dates if a secondary market does not develop; therefore, limiting theshort-term liquidity of these investments.

 

**Other Accrued Liabilities****—**At May 2,2009 and January 31, 2009 other accrued liabilities consisted of thefollowing:

 
| ** **                 | ** ** | **Fiscal Year Ended**     | ** ** |
|----------------------------|------------|---------------------------|------------|
| ** **                 | ** ** | **May 2, 2009** | ** ** | **January 31, 2009** | ** ** |
| Accrued Payables           |       | $                         | 2,837      |   | $ | 2,564 |   |
| Gift cards  unredeemed     |       | 2,331                     |       | 3,061 |   |
| Accrued sales  tax         |       | 1,741                     |       | 1,425 |   |
| Other current  liabilities |       | 564                       |       | 550 |   |
|                       |       | $                         | 7,473      |   | $ | 7,600 |   |

 

**Cost of Goods Sold—** Cost of sales consists of brandedmerchandise costs, and our private label merchandise including design,sourcing, importing and inbound freight costs. Our cost of sales also includes markdowns, shrinkage, certainpromotional costs, buying, occupancy and warehousing costs.  This may not be comparable to the way in which the Company’s competitors orother retailers compute their cost of goods sold.

 

With respect to thefreight component of our ecommerce sales, we arrange and pay the freight forour customers and bill them for this service. Such amounts billed are included in revenue and the related freight costis charged to cost of goods sold.  Forthe three months ended May 2, 2009 and May 3, 2008, the Companyincurred shipping costs related to ecommerce sales of approximately $158,000and $126,000.

 

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**Stock Compensation—**The Company maintains several stockincentive plans under which non-qualified stock options, incentive stockoptions and restricted stock have been granted to employees and non-employeedirectors.  The Company accounts forstock-based compensation in accordance with FASB Statement No. 123(R), *Share-Based Payment* (“SFAS No. 123(R)”).  Under the provisions of SFAS No. 123(R),the estimated fair value of share-based awards granted under the 2005 StockIncentive Plan is recognized as compensation expense over the vesting period.

 

The fair value of stockoption grants are estimated on the date of grant using the Black-Scholes optionpricing method with the following weighted-average assumptions used for grantsissued during the three month periods ended May 2, 2009 and May 3,2008.

 
| ** **                         | ** ** | **For the Three Months Ended** | ** ** |
|------------------------------------|------------|--------------------------------|------------|
| ** **                         | ** ** | **May 2, 2009**           | ** ** | **May 3, 2008** | ** ** |
| Dividend yield                     |       | —                         | %          | — | % |
| Volatility rate                    |       | 66.71                          | %          | 55.20 | % |
| Average expected  life (in years): |       |                           |       |   |   |
| Expected  lives-Five years         |       | —                         |       | 6.50 |   |
| Expected  lives-Four years         |       | 6.25                           |       | 6.25 |   |
| Average  risk-free interest rate:  |       | 1.65                           | %          | 2.78 | % |

 

The following table summarizes the Company’s stockoption activity for the three months ended May 2, 2009 and May 3,2008 (in thousands except weighted-average exercise price):

 
| ** **                          | ** ** | **Three Months Ended** | ** ** | **Three Months Ended**                  | ** ** |
|-------------------------------------|------------|------------------------|------------|-----------------------------------------|------------|
| ** **                          | ** ** | **May 2, 2009**   | ** ** | **May 3, 2008**                    | ** ** |
| ** **                          | ** ** | **Stock  Options**     | ** ** | **Weighted-  Average  Exercise  Price** | ** ** | **Stock  Options** | ** ** | **Weighted-  Average  Exercise  Price** | ** ** |
| Outstanding at  beginning of period |       | 1,793                  |       | $                                       | 17.13      |   | 1,958 |   | $ | 16.29 |   |
| Granted                             |       | 213                    |       | $                                       | 6.88       |   | 155 |   | $ | 14.17 |   |
| Exercised                           |       | (157                   | )          | $                                       | 1.16       |   | (16 | ) | $ | 3.87 |   |
| Forfeited                           |       | (71                    | )          | $                                       | 16.76      |   | (9 | ) | $ | 30.73 |   |
| Outstanding at  end of period       |       | 1,778                  |       | $                                       | 17.33      |   | 2,088 |   | $ | 16.43 |   |
| Exercisable at  end of period       |       | 859                    |       | $                                       | 3.93       |   | 645 |   | $ | 9.28 |   |

 

During the three month periods ended May 2, 2009and May 3, 2008, the Company granted 213,200 and 155,000 stock optionswith a Black-Scholes weighted average fair value of $4.24 and $7.83.  In connection with these grants, the Companyrecognized approximately $51,000 and $81,000 of stock-based compensationexpense in the three months ended May 2, 2009 and May 3, 2008.

 

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The following table summarizes the Company’srestricted stock activity for the three months ended May 2, 2009 and May 3,2008 (in thousands except grant date weighted average fair value):

 
| ** **                          | ** ** | **Three Months Ended** | ** ** | **Three Months Ended**                         | ** ** |
|-------------------------------------|------------|------------------------|------------|------------------------------------------------|------------|
| ** **                          | ** ** | **May 2, 2009**   | ** ** | **May 3, 2008**                           | ** ** |
| ** **                          | ** ** | **Restricted  Stock**  | ** ** | **Grant Date  Weighted   Average  Fair Value** | ** ** | **Intrinsic  Value** | ** ** | **Restricted  Stock** | ** ** | **Grant Date  Weighted  Average  Fair Value** | ** ** | **Intrinsic  Value** | ** ** |
| Outstanding at  beginning of period |       | 285                    |       | $                                              | 15.49      |   | $ | 2,034 |   | 16 |   | $ | 37.19 |   | $ | 539 |   |
| Granted                             |       | 406                    |       | $                                              | 6.88       |   | — |   | 252 |   | $ | 14.06 |   | — |   |
| Vested                              |       | (54                    | )          | $                                              | 14.40      |   | — |   | — |   |   |   | — |   |
| Forfeited                           |       | (3                     | )          | $                                              | 14.00      |   | — |   | — |   |   |   | — |   |
| Outstanding at  end of period       |       | 634                    |       | $                                              | 10.07      |   | $ | 7,370 |   | 268 |   | $ | 15.44 |   | $ | 6,100 |   |

 

The intrinsic value of restricted stock awards is themarket value of the outstanding restricted stock on the last business day ofthe quarter.  The market value per sharewas $11.62 and $22.76 at May 2, 2009 and May 3, 2008.

 

During the three month period ended May 2, 2009and May 3, 2008, the Company granted approximately 406,000 and 252,000shares of restricted stock to employees with a weighted average fair marketvalue on the date of grant of $6.88 and $14.06 per share.  In connection with these grants, the Companyrecognized approximately $75,000 and $108,000 in stock-based compensationexpense during the three month period ended May 2, 2009 and May 3,2008.  There were 20,000 shares ofperformance-based restricted stock included in the calculation of stock-basedcompensation expense for the three months ended May 3, 2008.

 

The Company recorded approximately $0.6 million oftotal stock-based compensation expense for the three month period ended May 2,2009, of which approximately $0.1 million was attributable to the Board ofDirectors.  The Company recorded approximately$1.0 million of stock-based compensation for the three month period ended May 3,2008, of which approximately $0.2 million was attributable to the Board ofDirectors.  The stock-based compensationexpense is calculated on an accelerated method for stock options and astraight-line basis for restricted stock over the vesting periods of therelated equity grant.  This charge had noimpact on the Company’s reported cash flows. The Company recorded approximately $28,000 and $41,000 for the threemonths ended May 2, 2009 and May 3, 2008 in stock-based compensationexpense pursuant to APB 25.

 

At May 2, 2009 and January 31, 2009 therewas approximately $9.8 million and $8.6 million of total unrecognizedcompensation cost related to unvested stock options and restricted stock grantsof which approximately $0.1 million and $0.2 million was attributable to theBoard of Directors.  This cost is expectedto be recognized over a weighted-average period of approximately three to eightyears.

 

**Goodwill****andOther Intangible Assets** — In accordance with Statement of FinancialAccounting Standards No. 142, “*Accounting for Goodwilland Other Intangible Assets”* (“SFAS No. 142”), the Company doesnot amortize goodwill derived from purchase business combinations.  The Company evaluates the recoverability ofgoodwill annually based on a two-step impairment test.  The first step compares the fair value ofeach reporting unit with its carrying amount, including goodwill.  If the carrying amount exceeds fair value,then the second step of the impairment test is performed to measure the amountof any impairment loss.  Additionalimpairment assessments may be performed on an interim basis if the Companyencounters events or changes in circumstances that would indicate that, morelikely than not, the book value of goodwill has been impaired.  There was no impairment of goodwill in the2008 fiscal year or for the three months ended May 2, 2009.

 

**Recent accounting pronouncements**

 

In December 2007, FASB issued SFAS No. 141(revised 2007), *“Business Combinations”* (“SFAS141No. (R),”) which replaces SFAS No. 141, *“BusinessCombinations”* (“SFAS No. 141”). SFAS No. 141(R) retains the underlying concepts of SFAS 141 inthat all business combinations are still required to be accounted for at fairvalue under the acquisition method of accounting but SFAS No. 141(R) changedthe method of applying the acquisition method in a number of significantaspects.  Acquisition costs willgenerally be expensed as incurred; non-controlling interests will be valued atfair value at the

 

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acquisition date; in-process research and developmentwill be recorded at fair value as an indefinite-lived intangible asset at theacquisition date; restructuring costs associated with a business combinationwill generally be expensed subsequent to the acquisition date; and changes indeferred tax asset valuation allowances and income tax uncertainties after theacquisition date generally will affect income tax expense. SFAS No. 141(R) iseffective on a prospective basis for all business combinations for which theacquisition date is on or after the beginning of the first annual periodsubsequent to December 15, 2008, with the exception of the accounting forvaluation allowances on deferred taxes and acquired tax contingencies.  SFAS No. 141(R) amends SFAS No. 109,*“Accounting for Income Taxes,”*such thatadjustments made to valuation allowances on deferred taxes and acquired taxcontingencies associated with acquisitions that closed prior to the effectivedate of SFAS No. 141(R) would also apply the provisions of SFAS No. 141(R).  The Company’s adoption of SFAS No. 141(R) doesnot have a material impact on its condensed consolidated financial statements.

 

In December 2007,the FASB issued SFAS No. 160, “*Non-controlling Interestsin Consolidated Financial Statements.*”  (“SFAS No. 160”) amends AccountingResearch Bulletin No. 51, *“Consolidated FinancialStatements”* and requires (i) classification of non-controllinginterests, commonly referred to as minority interests, within stockholders’equity, (ii) net income to include the net income attributable to thenon-controlling interest and (iii) enhanced disclosure of activity relatedto non-controlling interests.  SFAS No. 160is effective for fiscal years beginning after December 15, 2008.  The Company’s adoption of SFAS No. 160does not have a material impact on its condensed consolidated financialstatements.

 

In February 2008,the FASB issued FSP No. FAS 157-2, (“FSP 157-2”), which delays theeffective date of SFAS No.157, *“Fair Value Measurements,”*for nonfinancial assets and nonfinancial liabilities, except foritems that are recognized or disclosed at fair value in the financialstatements on a recurring basis (at least annually).  Nonfinancial assets and nonfinancialliabilities would include all assets and liabilities other than those meetingthe definition of a financial asset or financial liability as defined inparagraph 6 of SFAS No. 159, *“The Fair Value Option forFinancial Assets and Financial Liabilities.”*  This FASB Staff Position defers the effectivedate of SFAS No. 157 to fiscal years beginning after November 15,2008, and interim periods within those fiscal years for items within the scopeof FSP 157-2.  During the three monthsended May 2, 2009, the Company adopted the provisions of FSP 157-2 anddetermined that it does not have a material impact on the condensedconsolidated financial statements.

 

 In April 2008,the FASB issued FSP No. FAS 142-3, *Determinationof the Useful Lives of Intangible Assets*(“FSP 142-3”), which amendsthe factors that should be considered in developing renewal or extensionassumptions used to determine the useful life of a recognized intangible assetunder SFAS No. 142, *Goodwill and OtherIntangible Assets*. The intent of FSP 142-3 is to improve theconsistency between the useful life of a recognized intangible asset under SFASNo. 142 and the period of expected cash flows used to measure the fairvalue of the asset under SFAS No. 141(R) and other U.S. generallyaccepted accounting principles.  FSP142-3 is effective for financial statements issued for fiscal years beginningafter December 15, 2008, and interim periods within those fiscal years.The Company’s adoption of FSP 142-3 does not have a material impact on itscondensed consolidated financial statements.

 

In March 2009, theFASB issued FSP No. FAS 157-4, *“Determining Fair ValueWhen the Volume and Level of Activity for the Asset or Liability HaveSignificantly Decreased and Identifying Transactions That Are Not Orderly”* (“FSP 157-4”), which provides additional guidance on determining whether a market for afinancial asset is not active and eliminates the proposed presumption that alltransactions are distressed (not orderly) unless proven otherwise under thefair value measurements of SFAS No. 157, “*Fair ValueMeasurements*.”  FSP 157-4 iseffective for interim periods ending after June 15, 2009.  We are currently evaluating the effects, ifany, that FSP 157-4 may have on our condensed consolidated financialstatements.

 

In March 2009, theFASB issued FSP No. FAS 115-2, *“Recognition andPresentation of Other-Than-Temporary Impairments*”  (“FSP 115-2”), which provides additionalguidance for determining whether an impairment is other-than-temporary to debtsecurities in the financial statements and requires disclosure of the totalother-than-temporary impairment in the statement of earnings with an offset forthe amount recognized in other comprehensive income.  FSP 115-2 is effective for interim periodsending after June 15, 2009.  We arecurrently evaluating the effects, if any, that FSP 115-2 may have on ourcondensed consolidated financial statements.

 

In April 2009, theFASB issued FSP No. FAS No. 107-1, “*InterimDisclosures about Fair Value of Financial Instruments,”* (“FSP 107-1”),that require an entity to provide disclosures about fair value of financialinstruments in interim financial informationand Accounting Principles Board Opinion No. 28 (“APB28-1”)*“Interim Financial Disclosures,* thatrequires those disclosures in summarized financial information at interimreporting periods.  FSP 107-1 and APB28-1 are effective for interim periods ending after June 15, 2009.  We are currently evaluating the effects, ifany, that FSP 107-1 and APB 28-1 may have on our condensed consolidatedfinancial statements.

 

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**3.****Commitments andContingencies**

 

L**eases**—TheCompany is committed under operating leases for all of its retail storelocations.  In addition to minimum futurelease payments, all store leases provide for additional rental payments basedon sales, as well as common area maintenance charges.  A majority of our leases provide for ongoingco-tenancy requirements which would further lower rental rates, and /or permitlease terminations should required co-tenants cease to operate for specificperiods of time.  Total rent expense,base rent and contingent rent for the three month periods ended May 2,2009 and May 3, 2008 (in thousands) are as follows:

 
| ** **                         | ** ** | **For the Three Months Ended** | ** ** |
|------------------------------------|------------|--------------------------------|------------|
| ** **                         | ** ** | **May 2, 2009**           | ** ** | **May 3, 2008** | ** ** |
| Store base rent  expense           |       | $                              | 7,891      |   | $ | 6,787 |   |
| Other base rent  expense           |       |                           | 244        |   |   | 243 |   |
| Total base rent  expense           |       |                           | 8,135      |   |   | 7,030 |   |
| Contingent and  other rent expense |       | 5,225                          |       | 4,453 |   |
| Total rent  expense                |       | $                              | 13,360     |   | $ | 11,483 |   |
|                                    |            |                                |            |  |  |  |  |  |

 

**Litigation—** On December 10, 2007, a putativeclass action complaint was filed in the U.S. District Court for the WesternDistrict of Washington against the Company and certain of its current andformer directors and officers.  Theaction was purported to be brought on behalf of a class of purchasers of theCompany’s stock during the period March 14, 2007 to January 4, 2008and alleged that the defendants violated the federal securities lawsduring this period of time by, among other things, having made materiallyfalse or misleading statements and that the defendants engaged in insidertrading. The defendants moved to dismiss all claims in October 2008.  On March 30, 2009, the U.S. DistrictCourt for the Western District of Washington issued its ruling without oralargument, dismissing the case with prejudice.

 

In addition, on December 20, 2007, a shareholderderivative action was filed in the Superior Court of the State of Washington (SnohomishCounty), allegedly on behalf of and for the benefit of the Company, againstcertain of the Company’s current directors and current and formerofficers.  Following the March 30, 2009 ruling by the U.S DistrictCourt on the putative class action complaint, the related shareholderderivative action was voluntarily dismissed.

 

On March 5, 2008, aformer employee commenced an action against the Company in California statecourt (*Evan Johnson v. Zumiez, Inc., et al.,*CaseNo. RG08374968, Alameda County Superior Court, filed March 5, 2008)alleging that the Company failed to pay all overtime wages owing to him andother employees in California, failed to provide meal breaks as required byCalifornia law, failed to provide employees with proper itemized wagestatements (pay stubs) as required by California law, and failed to payterminated employees waiting time penalties under California Labor Code section203.  Plaintiff then filed a firstamended complaint which added an additional claim that employees under age 18worked more hours than permitted by the Labor Code; the first amended complaintalso seeks to recover penalties under the Private Attorney General Act foralleged violation of various Labor Code sections.  The suit was filed as a putative classaction, but no motion requesting certification of the case as a class actionhas been filed.  The Company has filed ananswer to the first amended complaint and discovery is being conducted. Notrial date has been set.  At this earlystage of the case, we estimate that the Company’s potential exposure forsettlement would range from $0 to $600,000. However, these matters are subject to inherent uncertainties and ourview on these matters may change in the future.

 

A putative class action, *Chandra Berg v. Zumiez Inc.*, was filed against the Companyin the Los Angeles Superior Court under case number BC408410 on February 25,2009.  The action alleges causes ofaction for failure to pay overtime wages to present and former store managersin California, failure to provide meal periods and rest breaks to storemanagers, failure to reimburse retail employees for clothing required by theCompany’s dress code, failure to reimburse retail employees for businessexpenses, failure to provide store managers with accurate itemized wagestatements, failure to pay terminated store managers all wages due at the timeof termination, unfair business practices and declaratory relief.  The Company has filed an answer to theComplaint and discovery is being conducted. No motion requesting certification of the case as a class action hasbeen filed, and no trial date has been set. At this early stage of the case, it is not possible to estimate theamount or range of potential loss with any degree of certainty.

 

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**Insurance Reserves—**The Company is responsible for medicaland dental insurance claims up to a specified aggregate amount.  The Company maintains a reserve for estimatedmedical and dental insurance claims based on historical claims experience andother estimated assumptions.

 

**4. Fair Value Measurements—**On February 3, 2008 the Companyadopted SFAS No. 157, *“Fair Value Measurements”*(“SFAS 157”), as clarified by FSP FAS 157-3 *“Determining the FairValue of a Financial Asset When the Market for That Asset Is Not Active,”*for financial assets and financial liabilities. SFAS No. 157 defines fair value, establishes a framework for measuringfair value and expands disclosure about fair value measurements as follows:

 

·                  Level 1**—**Quotedprices in active markets for identical assets or liabilities;

 

·                  Level 2**—**Quotedprices for similar assets or liabilities in active markets or inputs that areobservable;

 

·                  Level 3**—**Inputsthat are unobservable.

 

In October 2008, theFASB issued FSP No. 157-3, “*Determiningthe Fair Value of a Financial Asset When the Market for That Asset is NotActive”*(“FSP 157-3”).  FSP157-3 clarifies the application of SFAS No. 157 to financial assets forwhich an active market does not exist. Specifically, FSP 157-3 addresses the following SFAS No. 157application issues:

 

·                  How the reporting entity’s ownassumptions (that is, expected cash flows and appropriately risk-adjusteddiscount rates) should be considered when measuring fair value when relevantobservable inputs do not exist.

 

·                  How available observable inputs in amarket that is not active should be considered when measuring fair value.

 

·                  How the use of market quotes (forexample, broker quotes or pricing services for the same or similar financialassets) should be considered when assessing the relevance of observable andunobservable inputs available to measure fair value.

 

The following tablesummarizes assets measured at fair value on a recurring basis at May 2,2009 and January 31, 2009, as required by SFAS 157:

 
| **Marketable securities** | ** ** | **Level 1**             | ** ** | **Level 2** | ** ** | **Level 3** | ** ** |
|---------------------------|------------|-------------------------|------------|-------------|------------|-------------|------------|
| ** **                | ** ** | **(in thousands)** | ** ** |
| At May 2,  2009      |       | $                       | —     |        | $          | 60,819      |       | $ | 1,664 |   |
| At  January 31, 2009 |       | $                       | —     |        | $          | 45,525      |       | $ | 1,767 |   |

 

The $1.7 million in Level3 marketable securities represents two $1.0 million auction rate securities netof temporary impairment charge of approximately $0.3 million.  One of these $1.0 million securities failedto sell at its scheduled auction in March 2009.  The interest rate of this security reset to arate of 1.16%.  The next scheduledauction for this security is in March 2010.  Subsequent to May 2, 2009, the remaining$1.0 million security redeemed at par. The Company’s valuation method is based on numerous assumptionsincluding assessments of the underlying structure of each security, expectedcash flows, credit ratings, liquidity and other relevant factors.  Accordingly, these securities are classifiedas Level 3 within SFAS 157’s valuation hierarchy since the Company’s initialadoption of SFAS 157 at February 3, 2008. These assumptions, assessments and the interpretations of relevantmarket data are subject to uncertainties, are difficult to predict and requiresignificant judgment.  The use ofdifferent assumptions, applying different judgment to inherently subjectivematters and changes in future market conditions could result in significantlydifferent estimates of fair value.

 

As a result of thetemporary declines in fair value for the Company’s auction rate securities,which the Company attributes to current liquidity issues rather than creditissues, it has recorded an unrealized loss of approximately $0.3 million and$0.2 million to accumulated other comprehensive income in the condensedconsolidated balance sheets as of May 2, 2009 and January 31,2009.  The Company believes the currentilliquid conditions are temporary in nature and that it has the ability to holdauction rate securities until liquidity returns to the market.  If it is later determined that the fair valueof auction rate securities is other than temporarily impaired, the Company willrecord a loss in the condensed consolidated statement of operations.  Due to the Company’s belief that the marketfor these investments may take in excess of twelve months to fully recover, theCompany has classified them as noncurrent assets on the accompanying condensedconsolidated balance sheets as of May 2, 2009 and January 31, 2009.

 

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The Level 2 marketablesecurities includes high credit money market accounts, US treasuries, USgovernment agency securities, certificates of deposit, and municipal bondstraded in the over-the-counter market. Fair values are based on quoted market prices for similar assets orliabilities or determined using inputs that use as their basis readilyobservable market data that are actively quoted and can be validated throughexternal sources, including third-party pricing services, brokers, and markettransactions.

 

The following tablepresents the changes in the Level 3 fair-value category for the three monthsended May 2, 2009.  The Companyclassifies financial instruments in Level 3 of the fair-value hierarchy whenthere is reliance on at least one significant unobservable input to thevaluation model.  In addition to theseunobservable inputs, the valuation models for Level 3 financial instruments mayalso rely on a number of inputs that are readily observable either directly orindirectly.

 
| ** **             | ** ** | **January 31,  2009** | ** ** | **Transfers in  and/or (out) of  level 3** | ** ** | **Total  unrealized loss  included in  Accumlated  Comprehensive  Loss** | ** ** | **May 2,  2009** | ** ** |
|------------------------|------------|----------------------------|------------|--------------------------------------------|------------|--------------------------------------------------------------------------|------------|-----------------------|------------|
|                   |       | **(in thousands)**         |       |
| Marketable  securities |       | $                          | 1,767      |                                       |       |                                                                     | $          | (103                  | )          | $ | 1,664 |   |
|                        |            |                            |            |                                            |            |                                                                          |            |                       |            |  |  |  |

 

**5. Net Income Per Share, Basicand Diluted—**Basic net loss or income per share is computed pursuant to SFAS No. 128 *“Earnings per Share”* based on the weighted average number ofcommon shares outstanding during the period. Diluted net income per share is applicable only in periods of net incomeand is computed by dividing net income by the weighted average number of commonshares outstanding for the period and potentially dilutive common shareequivalents outstanding for the period. Periods of net loss require the diluted computation to be the same asthe basic computation.  Common shareequivalents included in the computation of diluted net income per sharerepresent shares issuable upon assumed exercise of outstanding stock options,non-vested restricted stock and employee stock purchase plan shareequivalents.  Potentially anti-dilutiveshares not included in the calculation of diluted net income or loss per shareconsist of options to purchase common stock where the option exercise price isgreater than the average market price of the Company’s common stock during theperiod reported.  Total potentiallyanti-dilutive securities were 918,650 and 895,975 for the three months ended May 2,2009 and May 3, 2008.  There were158,759 non-vested restricted shares included in the calculation of diluted netincome per share as of May 3, 2008.

 

The following table setsforth the computation of basic and diluted net (loss) income per share (inthousands, except share and per share amounts):

 
| ** **                                                       | ** ** | **For the Three Months Ended** | ** ** |
|------------------------------------------------------------------|------------|--------------------------------|------------|
| ** **                                                       | ** ** | **May 2, 2009**           | ** ** | **May 3, 2008** | ** ** |
| Net (loss)  income                                               |       | $                              | (1,658     | ) | $ | 1,362 |   |
| Weighted average  common shares for basic net income per share   |       | 29,314,611                     |       | 29,012,733 |   |
| Dilutive effect  of stock options and restricted stock           |       | —                         |       | 339,617 |   |
| Weighted average  common shares for diluted net income per share |       | 29,314,611                     |       | 29,352,350 |   |
| Basic net (loss)  income per share                               |       | $                              | (0.06      | ) | $ | 0.05 |   |
| Diluted net  (loss) income per share                             |       | $                              | (0.06      | ) | $ | 0.05 |   |

 

**Item2:  MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION ANDRESULTS OF OPERATIONS**

 

*The following discussion andanalysis of our financial condition and results of operations should be read inconjunction with our condensed consolidated financial statements and relatednotes included elsewhere in this quarterly report.  This discussion contains forward-lookingstatements that involve risks and uncertainties.  Our actual results could differ materiallyfrom those anticipated in these forward-looking statements as a result ofvarious factors, including those discussed in the section entitled “RiskFactors” in our Form 10-K filed with the SEC on March 23, 2009 and inthis Form 10-Q.*

 

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*Forward-looking statements arebased on our expectations regarding net sales, selling, general andadministrative expenses, profitability, financial position, business strategy,new store openings, and plans and objectives of management.  The words “believe,” “may,” “will,” “estimate,”“continue,” “anticipate,” “intend,” “expect” and similar expressions, as theyrelate to us and our business, industry, markets and consumers, are intended toidentify forward-looking statements.  Wehave based these forward-looking statements largely on our current expectationsand projections about future events and financial trends that we believe mayaffect our financial condition, results of operations, business strategy andfinancial needs.  These forward-lookingstatements are subject to a number of risks, uncertainties and assumptions,including, among others, those described in “Risk Factors” and elsewhere inthis quarterly report and in the Form 10-K referred to in the precedingparagraph.  New risk factors emerge from time to time and it is notpossible for our management to predict all risk factors, nor can we assess theimpact of all factors on our business or the extent to which any factor, orcombination of factors, may cause actual results to differ materially fromthose contained in any forward-looking statements.  We assume no obligation to update anyforward-looking statements as a result of new information, future events ordevelopments.  References in thefollowing discussion to “we”, “us”, “our”, “the Company” and similar referencesmean Zumiez Inc. and its consolidated subsidiary, unless otherwise expresslystated or the context otherwise requires.*

 

**Overview**

 

We are a mall basedspecialty retailer of action sports related apparel, footwear, equipment andaccessories operating under the Zumiez brand name.  As of May 2, 2009, we operated 358stores primarily located in shopping malls, giving us a presence in 31 states.Our stores cater to young men and women between the ages of 12 and 24 who seekbrands representing a lifestyle centered on activities that includeskateboarding, surfing, snowboarding, BMX, and motocross.  We support the action sports lifestyle andpromote our brand through a multi-faceted marketing approach that is designedto integrate our brand image with our customers’ activities and interests. Thisapproach, combined with our differentiated merchandising strategy, storedesign, comprehensive training programs and passionate employees, allows us toprovide an experience for our customers that we believe is consistent withtheir attitudes, fashion tastes and identities and is otherwise unavailable inmost malls.

 

**General**

 

Net sales constitutegross sales net of estimated returns. Net sales include our in-store sales, our ecommerce sales and ecommerceshipping revenue.  Information in thisreport with respect to comparable store sales, includes our ecommerce salesand, accordingly, information in this quarterly report with respect tocomparable store sales includes ecommerce sales.  Ecommerce sales were 1.8% and 1.2% of totalsales for the periods ended May 2, 2009 and May 3, 2008.  Sales with respect to gift cards are deferredand recognized when gift cards are redeemed. The amount of the gift card liability is determined taking into accountour estimate of the portion of gift cards that will not be redeemed orrecovered (“gift card breakage”).  Giftcard breakage is recognized as revenue after 24 months, at which time thelikelihood of redemption is considered remote based on our historicalredemption data.

 

We report “comparablestore sales” based on net sales, and stores are included in our comparablestore sales beginning on the first anniversary of their first day ofoperation.  Changes in our comparablestore sales between two periods are based on net sales of stores which were inoperation during both of the two periods being compared and, if a store isincluded in the calculation of comparable store sales for only a portion of oneof the two periods being compared, then that store is included in thecalculation for only the comparable portion of the other period.  When additional square footage is added to astore that is included in comparable store sales, the store remains incomparable store sales.  There may bevariations in the way in which some of our competitors and other apparelretailers calculate comparable or same store sales.  As a result, data regarding our comparablestore sales may not be comparable to similar data made available by ourcompetitors or other retailers.

 

Cost of goods sold consists of the cost ofmerchandise sold to customers, inbound shipping costs, ecommerce shippingcosts, distribution costs, depreciation on leasehold improvements at thedistribution center, buying and merchandising costs and store occupancy costs. This may not be comparable to the way in which our competitors or otherretailers compute their cost of goods sold.

 

Selling, general andadministrative expenses consist primarily of store personnel wages and benefits,administrative staff and infrastructure expenses, store supplies, depreciationon leasehold improvements at our home office and stores, facility expenses, andtraining, advertising and marketing costs. Credit card fees, insurance, public company expenses, Sarbanes Oxleycompliance expenses, stock based compensation and other miscellaneous operatingcosts are also included in selling, 

 

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general andadministrative expenses.  Thismay not be comparable to the way in which our competitors or otherretailers compute their selling, general and administrative expenses.  We expect that our selling, general andadministrative expenses will, as described below, increase in future periodsdue in part to increased expenses associated with opening new stores.

 

Our success is largelydependent upon our ability to anticipate, identify and respond to the fashiontastes of our customers and to provide merchandise that satisfies customerdemands.  Any inability to provideappropriate merchandise in sufficient quantities in a timely manner could havea material adverse effect on our business, operating results and financialcondition.

 

**Key Performance Indicators**

 

Our management evaluatesthe following items, which we consider key performance indicators, in assessingour performance:

 

*Comparable store sales.* Comparable store sales provide a measure of sales growth for stores openat least one year over the comparable prior year period.

 

Our management considerscomparable store sales to be an important indicator of our currentperformance.  Comparable store salesresults are important to achieve leveraging of our costs, including storepayroll, store supplies and rent. Comparable store sales also have a direct impact on our total net sales,cash and working capital.

 

*Gross profit*. Gross profit measures whether we are optimizing the price and inventorylevels of our merchandise.  Gross profitis the difference between net sales and cost of sales.  Cost of sales consists of branded merchandisecosts, and our private label merchandise including design, sourcing, importingand inbound freight costs.  Our cost ofsales also includes markdowns, shrinkage, certain promotional costs and buying,store occupancy and warehousing costs. Any inability to obtain acceptable levels of initial markups or anysignificant increase in our use of markdowns could have an adverse effect onour gross profit and results of operations.

 

*Operating income.* Weview operating income as a key indicator of our success.  The key drivers of operating income arecomparable store sales, gross profit, our ability to control selling, generaland administrative expenses, and our level of capital expenditures affectingdepreciation expense.

 

*Store productivity.* Store productivity, including net sales peraverage square foot, average unit retail price, the number of transactions perstore, the number of units sold per store and the number of units pertransaction, is evaluated by our management in assessing our operationalperformance.  In addition, we review ourstores operating income as a measure of their profitability.

 

**Critical Accounting Policies andEstimates**

 

Our discussion andanalysis of our financial condition and results of operations are based on ourfinancial statements, which have been prepared in conformance with accountingprinciples generally accepted in the United States of America (“GAAP”).  In preparing financial statements inaccordance with GAAP, we are required to make estimates and assumptions thathave an impact on the assets, liabilities, revenue and expense amountsreported.  These estimates can alsoaffect supplemental information disclosed by us, including information aboutcontingencies, risk, and financial condition. We believe, given current facts and circumstances, that our estimatesand assumptions are reasonable, adhere to GAAP, and are consistently applied.  Inherent in the nature of an estimate orassumption is the fact that actual results may differ from estimates andestimates may vary as new facts and circumstances arise.  In preparing the financial statements, wemake routine estimates and judgments in determining the net realizable value ofaccounts receivable, inventory, fixed assets, prepaid assets, goodwill andcertain liabilities.  We believe our mostcritical accounting estimates and assumptions are in the following areas:

 

*Impairment of Marketable andNon-Marketable Securities*.  We periodically review ourmarketable securities for impairment.  Ifwe conclude that any of these investments are impaired, we determine whethersuch impairment is “other-than-temporary” as defined under FSP 115-1.  Factors we consider to make such a determinationinclude the duration and severity of the impairment, as well as the reasonfor the decline in value and the potential recovery period.  If any impairment is considered “other-than-temporary,”we will write down the asset to its fair value and take a corresponding chargeto our condensed consolidated statement of operations.

 

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*Valuation of merchandise inventories*. We carry our merchandise inventories at the lower of cost ormarket.  Merchandise inventories mayinclude items that have been written down to our best estimate of their net realizablevalue.  Our decisions to write-down ourmerchandise inventories are based on our current rate of sale, the age of theinventory and other factors.  Actualfinal sales prices to our customers may be higher or lower than our estimatedsales prices and could result in a fluctuation in gross margin.  Historically, any additional write-downs havenot been significant and we do not adjust the historical carrying value ofmerchandise inventories upwards based on actual sales experience.

 

We estimate an inventoryshrinkage reserve for anticipated losses for the period.  Shrinkage refers to a reduction in inventorydue to shoplifting, employee theft and paperwork errors.  The estimate for the shrinkage reserve iscalculated based on historical percentages and can be affected by changes in merchandisemix and changes in actual shrinkage trends. We do not believe there is a reasonable likelihood that there will be amaterial change in the future estimates or assumptions we use to calculate ourinventory shrinkage reserve.  However, ifactual physical inventory losses differ significantly from our estimate, ouroperating results could be adversely affected.

 

*Leasehold improvements andequipment*.  We review the carrying value of our leaseholdimprovements and equipment for impairment whenever events or changes incircumstances indicate that the carrying value of such assets may not berecoverable.  Recoverability of assets tobe held and used is determined by a comparison of the carrying amount of anasset to future undiscounted net cash flows expected to be generated by theasset.  If such assets are consideredimpaired, the impairment recognized is measured by comparing projectedindividual store discounted cash flow to the asset carrying values.  Declines in projected store cash flow couldresult in the impairment of assets.  Theactual economic lives of these assets may be different than our estimateduseful lives, thereby resulting in a different carrying value.  These evaluations could result in a change inthe depreciable lives of those assets and therefore our depreciation expense infuture periods.

 

*Revenue recognition and salesreturns reserve*.  We recognize revenue upon purchase bycustomers at our retail store locations or upon shipment for orders placedthrough our website as both title and risk of loss have transferred.  Revenue is recorded net of estimated andactual sales returns and deductions for coupon redemptions and otherpromotions.  We offer a return policy of30 days and the estimated sales return reserve is based on projectedmerchandise returns determined through the use of historical average returnpercentages.  We do not believe there isa reasonable likelihood that there will be a material change in the futureestimates or assumptions we use to calculate our sales return reserve.  However, if the actual rate of sales returnsincreases significantly, our operating results could be adversely affected.

 

Revenue is not recordedon purchase of gift cards.  A currentliability is recorded upon purchase, and revenue is recognized when the giftcard is redeemed for merchandise.  Theamount of the gift card liability is determined taking into account ourestimate of the portion of gift cards that will not be redeemed or recovered (“giftcard breakage”).  Gift card breakage isrecognized as revenue after 24 months, at which time the likelihood ofredemption is considered remote based on our historical redemption data.

 

*LeaseAccounting.*  The Company occupies its retail stores andcombined home office and distribution center under operating leases generallywith terms of five to ten years.  Some ofthese leases have early cancellation clauses, which permit the lease to beterminated if certain sales levels are not met in specific periods.  Some leases contain renewal options forperiods ranging from one to five years under substantially the same terms andconditions as the original leases.  Mostof the store leases require payment of a specified minimum rent, plus acontingent rent based on a percentage of the store’s net sales in excess of aspecified threshold.  Most of the leaseagreements have defined escalating rent provisions, which are straight-linedover the term of the related lease, including any lease renewals deemed to beprobable.  The Company straight-lines andrecognizes its rent expense over the term of the lease, plus the constructionperiod prior to occupancy of the retail location, using a mid-monthconvention.  For certain locations, theCompany receives cash tenant allowances and has reported these amounts as adeferred liability which is amortized to rent expense over the term of thelease.

 

*Accounting for Income Taxes.*  As part of the process ofpreparing the condensed consolidated financial statements, income taxes areestimated for each of the jurisdictions in which we operate.  This process involves estimating actualcurrent tax exposure together with assessing temporary differences resultingfrom differing treatment of items for tax and accounting purposes.  These differences result in deferred taxassets and liabilities, which are included within the balance sheet.  The likelihood that deferred tax assets willbe recovered from future taxable income is assessed, recognizing that futuretaxable income may give rise to new deferred tax assets.  To the extent that future recovery is notlikely, a valuation allowance would be established.  To the extent that a valuation allowance isestablished or increased, an expense will be included within the tax provisionin the income statement.

 

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Significant managementjudgment is required in determining the provision for income taxes, deferredtax assets and liabilities and any valuation allowance recorded against netdeferred tax assets.  Based on ourhistory of operating earnings, no valuation allowance has been recorded as of May 2,2009.  In the event that actual resultsdiffer from these estimates, or these estimates are adjusted in future periods,a valuation allowance may need to be established, which could impact ourfinancial position and results of operations. The Company’s policy is to recognize penalties and interest related tounrecognized tax benefits in income tax expense.  Provisions for income taxes are based on numerousfactors that are subject to audit by the Internal Revenue Service and the taxauthorities in the various jurisdictions in which we do business.

 

*Stock-based compensation*. The Company maintains several equity award plans under whichnon-qualified stock options and restricted stock have been granted to employeesand non-employee directors.  The Companyaccounts for stock in accordance with Financial Accounting Standards Board (“FASB”)Statement No. 123(R), *Share-Based Payment*(“SFAS No. 123(R)”).  Under theprovisions of SFAS No. 123(R), the estimated fair value of share-basedawards granted under the 2005 Stock Incentive Plan is recognized ascompensation expense over the vesting period.

 

**Resultsof Operations**

 

The following tablepresents, for the periods indicated, selected items in the statements ofoperations as a percent of net sales:

 
| ** **                                    | ** ** | **For the Three Months Ended** | ** ** |
|-----------------------------------------------|------------|--------------------------------|------------|
| ** **                                    | ** ** | **May 2, 2009**           | ** ** | **May 3, 2008** | ** ** |
| Net sales                                     |       | 100.0                          | %          | 100.0 | % |
| Cost of goods  sold                           |       | 71.5                           |       | 68.8 |   |
| Gross profit                                  |       | 28.5                           |       | 31.2 |   |
| Selling, general  and administrative expenses |       | 33.0                           |       | 29.1 |   |
| Operating profit                              |       | (4.5                           | )          | 2.1 |   |
| Interest income,  net                         |       | 0.5                            |       | 0.7 |   |
| Earnings before  income taxes                 |       | (4.0                           | )          | 2.8 |   |
| Provision for  income taxes                   |       | 1.8                            |       | 1.1 |   |
| Net Income                                    |       | (2.2                           | )%         | 1.7 | % |

 

**Three Months (13 weeks) Ended May 2,2009 Compared With Three Months (13 weeks) Ended May 3, 2008**

 

***NetSales***

 

Net sales decreased to $76.8 million for thethree months ended May 2, 2009 from $78.7 million for the three monthsended May 3, 2008, a decrease of $1.9 million, or 2.4%.

 

Comparable store net sales decreased by 15.3% for thethree months ended May 2, 2009 compared to the three months ended May 3,2008.  Geographically our stores in thewestern one-half of the U.S., which account for 55% of our comparable storesales, declined by 20%.  The decrease incomparable stores net sales was primarily due to lower net sales of men’s andwomen’s apparel, snow and skate hardgoods and accessories partially offset byhigher net sales of footwear.  Forinformation as to how we define comparable stores, see “General” above.

 

The decrease in total netsales was due to a decrease in net sales from comparable stores ofapproximately $12.2 million partially offset by an increase innon-comparable store sales of $10.3 million.  The decrease in comparablestore sales was due to fewer transactions.  The increase in non-comparablestore sales was due to the opening of 52 new stores subsequent to May 3,2008.

 

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***GrossProfit***

 

Gross profit for thethree months ended May 2, 2009 was $21.9 million compared with $24.6million for the three months ended May 3, 2008, a decrease ofapproximately $2.7 million, or 10.8%. As a percentage of net sales, gross margin decreased to 28.5% for thethree months ended May 2, 2009 from 31.2% for the three months ended May 3,2008.  The reduction in gross margin as apercent of net sales was primarily driven by increased store occupancy costs partiallyoffset by lower shipping costs.

 

***Selling,General and Administrative Expenses***

 

Selling, general andadministrative, or “SG&A” expenses in the three months ended May 2,2009 were $25.3 million compared with $22.9 million in the three monthsended May 3, 2008, an increase of $2.4 million, or 10.5%.  Thisincrease was primarily the result of costs associated with operating 52 newstores subsequent to May 3, 2008 and to a lesser extent increases ininfrastructure and administrative staff to support our new store growth. As a percentage of net sales, SG&A expenses increased to 33.0% in the threemonths ended May 2, 2009 from 29.1% in the three months ended May 3,2008.  The increase in SG&A expenses as a percentage of net sales wasprimarily attributable to the increase in store payroll and payroll relatedcosts, additional depreciation on new stores and administrative support for newstore growth partially offset by a decrease in stock-based compensation.

 

***OperatingProfit or Loss***

 

As a result of the abovefactors, operating loss was $3.4 million in the three months ended May 2,2009 compared with operating profit of $1.6 million in the three months ended May 3,2008, a decrease of $5.1 million.  As apercentage of net sales, operating loss was 4.5% in the three months ended May 2,2009 compared with operating profit of 2.1% in the three months ended May 3,2008.

 

***Provisionfor Income Taxes***

 

Income tax benefit was$1.4 million for the three months ended May 2, 2009 compared withincome tax provision of $0.9 million for the three months ended May 32008.  The effective tax rate was 46.2%and 38.0% for three months ended May 2, 2009 and May 3, 2008.  The higher effective tax rate for the threemonths ended May 2, 2009 resulted primarily from the accounting associatedwith certain tax adjustments made during the quarter.

 

***NetIncome or Loss***

 

Net loss was $1.7 millionin the three months ended May 2, 2009 compared to a net income of $1.4million in the three months ended May 3, 2008, a decrease of $3.0 million.  As a percentage of net sales, net loss was2.2% in the three months ended May 2, 2009 compared with net income of1.7% in the three months ended May 3, 2008.

 

**Liquidity and Capital Resources**

 

Our primary uses of cashare for capital investments, inventory, store remodeling, store fixtures andongoing infrastructure improvements such as technology enhancements anddistribution capabilities.  Historically,our main sources of liquidity have been cash flows from operations.

 

The significantcomponents of our working capital are inventory and liquid assets such as cash,marketable securities and receivables, reduced by accounts payable and accruedexpenses.  Our working capital positionbenefits from the fact that we generally collect cash from sales to customersthe same day or within several days of the related sale, while we typicallyhave payment terms with our vendors.

 

As of May 2, 2009,we held two $1.0 million Auction Rate Securities valued at $1.7 million,net of approximately $0.3 million temporary impairment charge.  One of these $1.0 million securities failedto sell at its scheduled auction in March 2009.  The interest rate for this security reset toa prescribed rate of 1.16%.  Subsequentto May 2, 2009, the remaining $1.0 million security redeemed at par.  We currently do not intend to hold theremaining security beyond its next auction date and will try to sell thesecurity when its auction date comes up in March 2010.  However, the current uncertainties in thecredit markets have prevented us and other investors from liquidating holdingsof auction rate securities because the amount of 

 

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securities submitted forsale has exceeded the amount of purchase orders.  If the March 2010 auction fails, we planto hold the remaining security until the next auction date when the securitycoupon rate will reset to a prescribed “failure” rate.  Unsuccessful auctions could result in ourholding a security beyond its next scheduled auction reset date if a secondarymarket does not develop; therefore, limiting the short-term liquidity ofauction rate security investments.  Thesesecurities have been classified as long term” assets on our condensedconsolidated balance sheet as of May 2, 2009.

 

Our capital requirementsinclude construction and fixture costs related to the opening of new stores andfor remodeling expenditures for existing stores.  Future capital requirements will depend onmany factors, including the pace of new store openings, the availability ofsuitable locations for new stores, and the nature of arrangements negotiatedwith landlords.  In that regard, our netinvestment to open a new store has varied significantly in the past due to anumber of factors, including the geographic location and size of the new store,and is likely to vary significantly in the future.  During fiscal 2009, we expect to spendapproximately $23.0 million to $24.0 million on capital expenditures, amajority of which will relate to leasehold improvements and fixtures for the 36new stores we plan to open in fiscal 2009 and a smaller amount will relate toequipment, systems and improvements for our distribution center and support infrastructure.  However, there can be no assurance that thenumber of stores that we actually open in fiscal 2009 will not be differentfrom the number of stores we plan to open, or that actual fiscal 2009 capitalexpenditures will not differ from this expected amount.

 

We expect cash flows fromoperations and available borrowings under our revolving credit facility will besufficient to meet our foreseeable cash requirements for operations and plannedcapital expenditures for at least the next twelve months.  Beyond this time frame, if these sources arenot sufficient to meet our capital requirements, then we will be required toobtain additional equity or debt financing in the future.  There can be no assurance that equity or debtfinancing will be available to us when we need it or, if available, that theterms will be satisfactory to us and not dilutive to our then-currentshareholders.

 

Net cash provided byoperating activities for the three months ended May 2, 2009 wasapproximately $8.9 million primarily related to an increase in trade accountspayable and deferred rent, partially offset by an increase in inventory and adecrease in income taxes payable.  Forthe three months ended May 3, 2008 net cash provided by operations of $8.3million was primarily related to an increase in trade accounts payable anddeferred rent, partially offset by an increase in inventory.

 

Net cash used ininvesting activities was $22.4 million for the three months ended May 2,2009, related to $6.8 million of capital expenditures for new store openingsand existing store renovations and $15.6 million in net purchases of marketablesecurities.  Net cash used in investingactivities was $5.7 million for the three months ended May 3, 2008,related to $9.4 million of capital expenditures for new store openings andexisting store renovations partially offset by the $3.7 million in net sales ofmarketable securities.

 

Net cash provided byfinancing activities for the three months ended May 2, 2009 was $0.7million related to the proceeds received from exercise of stock options and therelated tax benefit.  Net cash used infinancing activities for the three months ended May 3, 2008 was $6.9million related to the payment of book overdrafts partially offset by proceedsreceived from exercise of stock options and the related tax benefit.

 

We have a creditagreement with Wells Fargo HSBC Trade Bank, N.A.  The credit agreement provides us with asecured revolving credit facility until August 30, 2009 of up to$25.0 million.  The secured revolvingcredit facility provides for the issuance of standby commercial letters ofcredit in an amount not to exceed $5.0 million outstanding at any time and witha term not to exceed 365 days, although the amount of borrowings available atany time under our secured revolving credit facility is reduced by the amountof standby letters of credit outstanding at that time.  There were no outstanding borrowings underthe secured revolving credit facility at May 2, 2009 or January 31,2009.  The Company had open letters ofcredit outstanding under our secured revolving credit facility of $1.8 millionat May 2, 2009 and approximately $0.3 million at January 31,2009.  The secured revolving creditfacility bears interest at floating rates based on the lower of the prime rate(3.25% at May 2, 2009) minus 0.50% or the LIBOR rate (1.88% at May 2,2009), plus 1.00% for advances over $500,000 for a minimum of 30 days anda maximum of 180 days.  The creditagreement contains a number of restrictions and covenants that generally limitour ability to, among other things, (1) incur additional debt, (2) undergoa change in ownership and (3) enter into certain transactions.  The credit agreement also contains financialcovenants that require us to meet certain specified financial tests and ratios,including, a minimum net income after taxes of $1.00, for any trailing twelvemonth period, a maximum total liabilities divided by tangible net worth of 1.15and a minimum quick asset ratio of 1.0. Our two most restrictive covenants are our quick asset ratio thatessentially precludes us from borrowing to the extent we were to have no cash,marketable securities or accounts receivable and our net income covenant thatrequires us make at least $1.00 in net income after taxes for any trailingtwelve month period.  All of our personalproperty, including, among other things, our inventory, equipment and fixtures,has been pledged to secure our obligations under the credit agreement.  We must also provide financial informationand statements to our lender.  We were incompliance with all such covenants at January 31, 2009.

 

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**Contractual Obligations andCommercial Commitments**

 

There was no materialchanges outside the ordinary course of business in our contractual obligationsduring the three months ended May 2, 2009. Our operating lease obligations are not recognized as liabilities in thefinancial statements.  The followingtable summarizes the total amount of future payments (in thousands) due undercertain of our contractual obligations at May 2, 2009:

 
| ** **                   | ** ** | ** ** | ** **    | **Less than** | ** ** | ** **     | ** ** | ** **    | ** **   | **More than** | ** ** |
|------------------------------|------------|------------|---------------|---------------|------------|----------------|------------|---------------|--------------|---------------|------------|
| **Contractual Obligations**  | ** ** | **Total**  | ** **    | **1 Year**    | ** ** | **1- 3 Years** | ** ** | **3-5 Years** | ** **   | **5 Years**   | ** ** |
| Operating Lease  Obligations |       | $          |  328,016 |          | $          |  29,064   |       | $             |  80,009 |          | $          |  75,448 |   | $ |  143,495 |   |
| Purchase  Obligations        |       | 74,307     |          | 74,307        |       | —         |       | —        |         | —        |       |
| Letters of  Credit           |       | 1,838      |          | 1,838         |       | —         |       | —        |         | —        |       |
|                         |       | $          |  404,161 |          | $          |  105,209  |       | $             |  80,009 |          | $          |  75,448 |   | $ |  143,495 |   |

 

We occupy our retailstores and combined home office and distribution center under operating leasesgenerally with terms of five to ten years. Some of our leases have early cancellation clauses, which permit thelease to be terminated by us if certain sales levels are not met in specificperiods.  Some leases contain renewaloptions for periods ranging from one to five years under substantially the sameterms and conditions as the original leases. In addition to future minimum lease payments, substantially all of ourstore leases provide for additional rental payments (or “percentage rent”) ifsales at the respective stores exceed specified levels, as well as the paymentof common area maintenance charges and real estate taxes.  Amounts in the above table do not includepercentage rent, common area maintenance charges or real estate taxes.  Most of our lease agreements have definedescalating rent provisions, which we have straight-lined over the term of thelease, including any lease renewals deemed to be probable.  For certain locations, we receive cash tenantallowances and we have reported these amounts as a deferred liability that isamortized to rent expense over the term of the lease, including any leaserenewals deemed to be probable.  Rentexpense, including common area maintenance and other occupancy costs, was $13.4million and $11.5 million for the three months ended May 2, 2009 and May 3,2008.

 

At May 2, 2009, wehad outstanding purchase orders to acquire merchandise from vendors ofapproximately $74.3 million.  Wehave an option to cancel these commitments with no notice prior toshipment.  At May 2, 2009, we hadapproximately $1.8 million of letters of credit outstanding.

 

**Off-Balance Sheet Obligations**

 

Our only off-balancesheet contractual obligations and commercial commitments as of May 2, 2009related to operating lease obligations, open purchase orders, and letters ofcredit.  We have excluded these itemsfrom our balance sheet in accordance with GAAP. We presently do not have any non-cancelable purchase commitments.  At May 2, 2009, we had outstandingpurchase orders to acquire merchandise from vendors for approximately$74.3 million.  These purchases areexpected to be financed by cash flows from operations and borrowings under oursecured revolving credit facility.  Wehave an option to cancel these commitments with no notice prior toshipment.  At May 2, 2009, we had$1.8 million of letters of credit outstanding under our secured revolvingcredit facility.  At May 2, 2009, wewere committed to property owners for operating lease obligations in the amountof $328.0 million.  Most of our leasescontain cancellation or kick-out clauses in our favor that relieve us from anyfuture obligation under a lease if specified sales levels are not achieved by aspecific date.

 

**Impact of Inflation**

 

We do not believe thatinflation has had a material impact on our net sales or operating results inthe recent past.  There can be noassurance that our business will not be affected by inflation in the future.

 

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**Risk Factors**

** **

*Investingin our securities involves a high degree of risk.  The following risk factors, issues anduncertainties should be considered in evaluating our future prospects.  In particular, keep these risk factors inmind when you read “forward-looking” statements elsewhere in this report.  Forward-looking statements relate to ourexpectations for future events and time periods.  Generally, the words “anticipate,” “believe,”“expect,” “intend” and similar expressions identify forward-lookingstatements.  Forward-looking statementsinvolve risks and uncertainties, and future events and circumstances coulddiffer significantly from those anticipated in the forward-lookingstatements.  Any of the following riskscould harm our business, operating results or financial condition and couldresult in a complete loss of your investment. Additional risks and uncertainties that are not yet identified or thatwe currently think are immaterial may also harm our business and financialcondition in the future.*

* *

***Our growth strategy depends on our ability to open andoperate a significant number of new stores each year, which could strain ourresources and cause the performance of our existing stores to suffer.***

*** ***

Our growth largelydepends on our ability to open and operate new stores successfully.  However, our ability to open new stores issubject to a variety of risks and uncertainties including the currentdeterioration of the macroeconomic environment, and we may be unable toopen new stores as planned, and any failure to successfully open and operatenew stores would have a material adverse effect on our results of operationsand on the market price of our common stock. We intend to continue to open new stores in future years whileremodeling a portion of our existing store base annually.  In addition, our proposed expansion willplace increased demands on our operational, managerial and administrativeresources.  These increased demands couldcause us to operate our business less effectively, which in turn could causedeterioration in the financial performance of our individual stores and ouroverall business.  To the extent our newstore openings are in markets where we already have stores, wemay experience reduced net sales in existing stores in those markets.  In addition, successful execution of ourgrowth strategy may require that we obtain additional financing, and wecannot assure you that we will be able to obtain that financing on acceptableterms or at all.

 

Unlike previous years,the number of anticipated store openings in fiscal 2009 may increase ordecrease due to market conditions.  Wehave opened or acquired, on average, approximately twenty-five percent newstores over the last five years.  As welook to fiscal 2009 and beyond, we will likely slow this rate of growth untilwe see the macroeconomic environment improve.

 

***If we fail to effectively execute our expansion strategy, wemay not be able to successfully open new store locations in a timelymanner, if at all, which could have an adverse affect on our net sales andresults of operations.***

*** ***

Our ability to open andoperate new stores successfully depends on many factors, including, amongothers, our ability to:

 

·                  identify suitable store locations, theavailability of which is outside of our control;

 

·                  negotiate acceptable lease terms,including desired tenant improvement allowances;

 

·                  source sufficient levels of inventory atacceptable costs to meet the needs of new stores;

 

·                  hire, train and retain store personnel;

 

·                  successfully integrate new stores intoour existing operations; and

 

·                  identify and satisfy the merchandisepreferences of new geographic areas.

 

In addition, many of ourplanned new stores are to be opened in regions of the United States in which wecurrently have few, or no, stores.  Theexpansion into these markets may present competitive, merchandising anddistribution challenges that are different from those currently encountered inour existing markets.  Any of thesechallenges could adversely affect our business and results of operations.

 

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***Our business is dependent upon our being able to anticipate,identify and respond to changing fashion trends, customer preferences and otherfashion-related factors; failure to do so could have a material adverse effecton us.***

 

Customer tastes andfashion trends in the action sports lifestyle market are volatile and tend tochange rapidly.  Our success depends onour ability to effectively anticipate, identify and respond to changing fashiontastes and consumer preferences, and to translate market trends into appropriate,saleable product offerings in a timely manner. If we are unable to successfully anticipate, identify or respond tochanging styles or trends and misjudge the market for our products or any newproduct lines, our sales may be lower than predicted and we may befaced with a substantial amount of unsold inventory or missedopportunities.  In response to such asituation, we may be forced to rely on markdowns or promotional sales todispose of excess or slow-moving inventory, which could have a material adverseeffect on our results of operations.

*** ***

***Our ability to attract customers to our stores dependsheavily on the success of the shopping malls in which our stores are located;any decrease in customer traffic in those malls could cause our sales to beless than expected.***

*** ***

In order to generatecustomer traffic we depend heavily on locating our stores in prominentlocations within successful shopping malls. Sales at these stores are derived, in part, from the volume of trafficin those malls.  Our stores benefit fromthe ability of a mall’s other tenants to generate consumer traffic in thevicinity of our stores and the continuing popularity of malls as shoppingdestinations.  Our sales volume and malltraffic generally may be adversely affected by, among other things,economic downturns in a particular area, competition from ecommerce retailers,non-mall retailers and other malls, increases in gasoline prices and theclosing or decline in popularity of other stores in the malls in which we arelocated.  A reduction in mall traffic asa result of these or any other factors could have a material adverse effect onour business, results of operations and financial condition.

 

***Our sales and inventory levels fluctuate on a seasonalbasis, leaving our operating results particularly susceptible to changes inback-to-school and holiday shopping patterns.***

*** ***

Our sales are typicallydisproportionately higher in the third and fourth fiscal quarters of eachfiscal year due to increased sales during the back-to-school and winter holidayshopping seasons.  Sales during theseperiods cannot be used as an accurate indicator of annual results.  Our sales in the first and second fiscalquarters are typically lower than in our third and fourth fiscal quarters due,in part, to the traditional retail slowdown immediately following the winterholiday season.  As a result of this seasonality, any factorsnegatively affecting us during the last half of the year, including unfavorableeconomic conditions, adverse weather or our ability to acquire seasonalmerchandise inventory, could have a material adverse effect on our financialcondition and results of operations for the entire year.  In addition, in order to prepare for theback-to-school and winter holiday shopping seasons, we must order and keep instock significantly more merchandise than we carry during other times of theyear.  Any unanticipated decrease indemand for our products during these peak shopping seasons could require us tosell excess inventory at a substantial markdown, which could have a materialadverse effect on our business, results of operations and financial condition.

 

***Our quarterly results of operations are volatile andmay decline.***

*** ***

Our quarterly results ofoperations have fluctuated significantly in the past and can be expected tocontinue to fluctuate significantly in the future.  As discussed above, our sales and operatingresults are typically lower in the first and second quarters of our fiscal yeardue, in part, to the traditional retail slowdown immediately following thewinter holiday season.  Our quarterlyresults of operations are affected by a variety of other factors, including:

 

·                  the timing of new store openings and therelative proportion of our new stores to mature stores;

 

·                  whether we are able to successfullyintegrate any new stores that we acquire and the presence or absence of anyunanticipated liabilities in connection therewith;

 

·                  fashion trends and changes in consumerpreferences;

 

·                  calendar shifts of holiday or seasonalperiods;

 

·                  changes in our merchandise mix;

 

·                  timing of promotional events;

 

·                  general economic conditions and, inparticular, the retail sales environment;

 

·                  actions by competitors or mall anchortenants;

 

·                  weather conditions;

 

·                  the level of pre-opening expenses associatedwith our new stores; and

 

·                  inventory shrinkage beyond our historicalaverage rates.

 

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***Failure to successfully integrate any businesses or storesthat we acquire could have an adverse impact on our results of operations andfinancial performance.***

*** ***

We may from time to timeacquire other retail stores, individually or in groups, or businesses.  We may experience difficulties inassimilating any stores or businesses we may acquire and any such acquisitionsmay also result in the diversion of our capital and our management’s attentionfrom other business issues and opportunities. We may not be able to successfully integrate any stores or businessesthat we may acquire, including their facilities, personnel, financial systems,distribution, operations and general operating procedures.  If we fail to successfully integrateacquisitions or if such acquisitions fail to provide the benefits that weexpect to receive, we could experience increased costs and other operatinginefficiencies, which could have an adverse effect on our results of operationsand financial performance.

 

***Ourbusiness is susceptible to weather conditions that are out of our controlincluding the potential risks of unpredictable weather patterns, including anyweather patterns associated with global warming, and the resultant unseasonableweather could have a negative impact on our results of operations.***

*** ***

Our business issusceptible to unseasonable weather conditions. For example, extended periods of unseasonably warm temperatures(including any weather patterns associated with global warming) during thewinter season or cool weather during the summer season could render a portionof our inventory incompatible with those unseasonable conditions.  These prolonged unseasonable weatherconditions, particularly in regions of the United States where we have a concentrationof stores, could have a material adverse effect on our business and results ofoperations.

 

***We may be unable to compete favorably in the highlycompetitive retail industry, and if we lose customers to our competitors, oursales could decrease.***

*** ***

The teenage and youngadult retail apparel, hardgoods and accessories industry is highlycompetitive.  We compete with otherretailers for vendors, teenage and young adult customers, suitable storelocations, qualified store associates and management personnel.  In the softgoods market which includesapparel, accessories and footwear, we currently compete with otherteenage-focused retailers.  In addition,in the softgoods market we compete with independent specialty shops, departmentstores, and direct marketers that sell similar lines of merchandise and targetcustomers through catalogs and ecommerce. In the hardgoods market which includes skateboards, snowboards,bindings, components and other equipment, we compete directly or indirectlywith the following categories of companies: other specialty retailers thatcompete with us across a significant portion of our merchandising categories,such as local snowboard and skate shops; large-format sporting goods stores andchains and ecommerce retailers.

 

Some of our competitorsare larger than we are and have substantially greater financial, marketing andother resources than we do.  Directcompetition with these and other retailers may increase significantly inthe future, which could require us, among other things, to lower our prices andcould result in the loss of our customers. Current and increased competition could have a material adverse effecton our business, results of operations and financial condition.

 

***If we fail to maintain good relationships with vendors or ifa vendor is otherwise unable or unwilling to supply us with adequate quantitiesof their products at acceptable prices, our business and financial performancecould suffer.***

*** ***

Our business is dependenton continued good relations with our vendors. In particular, we believe that we generally are able to obtainattractive pricing and other terms from vendors because we are perceived as adesirable customer, and deterioration in our relationship with our vendorswould likely have a material adverse effect on our business.  We do not have any contractual relationshipswith our vendors, other than normal course of business purchase orders and,accordingly, there can be no assurance that our vendors will provide us with anadequate supply or quality of products or acceptable pricing.  Our vendors could discontinue selling to usor raise the prices they charge at any time. There can be no assurance that we will be able to acquire desiredmerchandise in sufficient quantities on terms acceptable to us in thefuture.  Also, certain of our vendors’sell their products directly to the retail market and therefore compete with usdirectly, and other vendors may decide to do so in the future.  There can be no assurance that such vendorswill not decide to discontinue supplying their products to us, supply us onlyless popular or lower quality items, raise the prices they charge us or focuson selling their products directly.  Inaddition, a number of our vendors are smaller, less capitalized companies andare more likely to be impacted by unfavorable general economic and marketconditions than larger and better capitalized companies.  These smaller vendors may not have sufficientliquidity during economic downturns to properly fund their businesses and theirability to supply their products to us could be negatively impacted.  Any inability to acquire suitable merchandiseat acceptable prices, or the loss of one or more key vendors, would have amaterial adverse effect on our business, results of operations and financialcondition.

 

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***If welose key management or are unable to attract and retain the talent required forour business, our financial performance could suffer.***

 

Our performance dependslargely on the efforts and abilities of our senior management, including ourCo-Founder and Chairman, Thomas D. Campion, our Chief Executive Officer,Richard M. Brooks, our Chief Financial Officer, Trevor S. Lang, our Presidentand General Merchandising Manager, Lynn K. Kilbourne and ourExecutive Vice President of Stores, Ford K. Wright.  None of our employees, except Mr. Brooks,has an employment agreement with us and we do not plan to obtain key personlife insurance covering any of our employees. If we lose the services of one or more of our key executives, wemay not be able to successfully manage our business or achieve our growthobjectives.  As our business grows, wewill need to attract and retain additional qualified management personnel in atimely manner and we may not be able to do so.

 

***Our failure to meet our staffing needs could adverselyaffect our ability to implement our growth strategy and could have a materialimpact on our results of operations.***

*** ***

Our success depends inpart upon our ability to attract, motivate and retain a sufficient numberof qualified employees, including regional managers, district managers, storemanagers and store associates, who understand and appreciate our corporate culturebased on a passion for the action sports lifestyle and are able to adequatelyrepresent this culture to our customers. Qualified individuals of the requisite caliber, skills and number neededto fill these positions may be in short supply in some areas, and theemployee turnover rate in the retail industry is high.  Competition for qualified employees couldrequire us to pay higher wages to attract a sufficient number of suitableemployees.  If we are unable to hire andretain store managers and store associates capable of consistently providing ahigh level of customer service, as demonstrated by their enthusiasm for ourculture and knowledge of our merchandise, our ability to open new storesmay be impaired and the performance of our existing and new stores couldbe materially adversely affected.  We arealso dependent upon temporary personnel to adequately staff our stores anddistribution center, particularly during busy periods such as theback-to-school and winter holiday seasons. There can be no assurance that we will receive adequate assistance fromour temporary personnel, or that there will be sufficient sources of temporarypersonnel.  Although none of ouremployees is currently covered by collective bargaining agreements, we cannotguarantee that our employees will not elect to be represented by labor unionsin the future, which could increase our labor costs and could subject us to therisk of work stoppages and strikes. Any such failure to meet our staffing needs, any material increases inemployee turnover rates, any increases in labor costs or any work stoppages orinterruptions or strikes could have a material adverse effect on our businessor results of operations.

 

***Our operations, including our sole distribution center, areconcentrated in the western United States, which makes us susceptible toadverse conditions in this region.***

*** ***

Our home office and soledistribution center are located in a single facility in Washington, and asubstantial number of our stores are located in the western half of the UnitedStates.  We also have a substantialnumber of stores in the New York/New Jersey region and Texas.  As a result, our business may be moresusceptible to regional factors than the operations of more geographicallydiversified competitors.  These factorsinclude, among others, economic and weather conditions, demographic andpopulation changes and fashion tastes. In addition, we rely on a single distribution center in Everett,Washington to receive, store and distribute the vast majority of our merchandiseto all of our stores and to fulfill our ecommerce sales.  As a result, a natural disaster or othercatastrophic event, such as an earthquake affecting western Washington, inparticular, or the West Coast, in general, could significantly disrupt ouroperations and have a material adverse effect on our business, results ofoperations and financial condition.

 

***We are required to make substantial rental payments underour operating leases and any failure to make these lease payments when duewould likely have a material adverse effect on our business and growth plans.***

*** ***

We do not own any of ourretail stores or our combined home office and distribution center, but insteadwe lease all of these facilities under operating leases.  Payments under these operating leases accountfor a significant portion of our operating expenses and has historically beenour third largest expense behind cost of sales and our employee relatedcosts.  For example, total rentalexpense, including additional rental payments (or “percentage rent”) based onsales of some of the stores, common area maintenance charges and real estatetaxes, under operating leases was $13.4 million and $11.5 million for thethree months ended May 2, 2009 and May 3, 2008 .  As of May 2, 2009, we were a party tooperating leases requiring future minimum lease payments aggregatingapproximately $184.5 million through fiscal year 2014 and approximately $143.5million thereafter.  In addition,substantially all of our store leases provide for additional rental paymentsbased on sales of the respective stores, as well as common area maintenancecharges, and require that we pay real estate taxes, none of 

 

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which is included in theamount of future minimum lease payments. These amounts generally escalate each year.  We expect that any new stores we open willalso be leased by us under operating leases, which will further increase ouroperating lease expenses.

 

Our substantial operatinglease obligations could have significant negative consequences, including:

 

·                  increasing our vulnerability to general adverseeconomic and industry conditions;

 

·                  limiting our ability to obtain additional financing;

 

·                  requiring that a substantial portion of our availablecash be applied to pay our rental obligations, thus reducing cash available forother purposes and;

 

·                  limiting our flexibility in planning for or reactingto changes in our business or in the industry in which we compete, and placingus at a disadvantage with respect to some of our competitors.

 

We depend on cash flowfrom operations to pay our lease expenses and to fulfill our other cashneeds.  If our business does not generatesufficient cash flow from operating activities, and sufficient funds are nototherwise available to us from borrowings under bank loans or from othersources, we may not be able to service our operating lease expenses, growour business, respond to competitive challenges or to fund our other liquidityand capital needs, which would have a material adverse effect on us.

 

***The terms of our revolving credit facility impose operatingand financial restrictions on us that may impair our ability to respond tochanging business and economic conditions. This impairment could have a significant adverse impact on our business.***

*** ***

We have a $25 millionrevolving credit facility with Wells Fargo HSBC Trade Bank, N.A., maturing in August 2009,that contains a number of significant restrictions and covenants that generallylimit our ability to, among other things, (1) incur additionalindebtedness, (2) enter into certain transactions and (3) undergo achange in ownership.  In addition, all ofour personal property, including our inventory, equipment and fixtures, secureour obligations under the revolving credit agreement.  Our credit agreement also contains financialcovenants that require us to meet specified financial tests and ratios,including a minimum net income after taxes greater than $1.00, a minimum totalliabilities divided by tangible net worth not greater than 1.15 and a minimumquick asset ratio not less than 1.0.  Ourtwo most restrictive covenants are our quick asset ratio that essentiallyprecludes us from borrowing to the extent we were to have no cash, marketablesecurities or accounts receivable and our net income covenant that requires usmake at least $1.00 in net income after taxes. Our ability to comply with these ratios may be affected by eventsbeyond our control.

 

A breach of any of theserestrictive covenants or our inability to comply with the required financialtests and ratios could result in a default under the credit agreement.  If a default occurs, the lender may electto declare all borrowings outstanding, together with accrued interest and otherfees, to be immediately due and payable. If we are unable to repay outstanding borrowings when due, whether attheir maturity or if declared due and payable by the lender following a default,the lender has the right to proceed against the collateral granted to it tosecure the indebtedness.  As a result,any breach of these covenants or failure to comply with these tests and ratioscould have a material adverse effect on us. There can be no assurance that we will not breach the covenants or failto comply with the tests and ratios in our credit agreement or any other debtagreements we may enter into in the future and, if a breach occurs, therecan be no assurance that we will be able to obtain necessary waivers oramendments from the lenders.

 

The restrictionscontained in our credit agreement could: (1) limit our ability to plan foror react to market conditions or meet capital needs or otherwise restrict ouractivities or business plans; and (2) adversely affect our ability tofinance our operations, strategic acquisitions, investments or other capitalneeds or to engage in other business activities that would be in our interest.

 

***Our business could suffer as a result of small parcel deliveryservices such as United Parcel Service or Federal Express being unable todistribute our merchandise.***

*** ***

We rely upon small parceldelivery services for our product shipments, including shipments to, from andbetween our stores.  Accordingly, we aresubject to risks, including employee strikes and inclement weather, whichmay affect their ability to meet our shipping needs.  Among other things, any circumstances thatrequire us to use other delivery services for all or a portion of our shipmentscould result in increased costs and delayed deliveries and could harm ourbusiness materially.  In 

 

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addition, although wehave contracts with small parcel delivery services, we have the right toterminate these contracts upon 30 days written notice.  Although the contracts with these smallparcel delivery services provide certain discounts from the shipment rates ineffect at the time of shipment, the contracts do not limit their ability toraise the shipment rates at any time. Accordingly, we are subject to the risk that small parcel deliveryservices may increase the rates they charge, that they may terminatetheir contracts with us, that they may decrease the rate discountsprovided to us when an existing contract is renewed or that we may beunable to agree on the terms of a new contract with them, any of which couldmaterially adversely affect our operating results.

*** ***

***Our business could suffer if a manufacturer fails to useacceptable labor practices.***

*** ***

We do not control ourvendors or the manufacturers that produce the products we buy from them, nor dowe control the labor practices of our vendors and these manufacturers.  The violation of labor or other laws by anyof our vendors or these manufacturers, or the divergence of the labor practicesfollowed by any of our vendors or these manufacturers from those generallyaccepted as ethical in the United States, could interrupt, or otherwisedisrupt, the shipment of finished products to us or damage our reputation.  Any of these, in turn, could have a materialadverse effect on our financial condition and results of operations.  In that regard, most of the products sold inour stores are manufactured overseas, primarily in Asia and Central America,which may increase the risk that the labor practices followed by themanufacturers of these products may differ from those consideredacceptable in the United States.

 

***Our failure to adequately anticipate a correct mix ofprivate label merchandise may have a material adverse effect on ourbusiness.***

*** ***

Sales from private labelmerchandise accounted for 15.0% of our net sales in fiscal 2008.  We may take steps to increase thepercentage of net sales of private label merchandise in the future, althoughthere can be no assurance that we will be able to achieve increases in privatelabel merchandise sales as a percentage of net sales.  Because our private label merchandisegenerally carries higher gross margins than other merchandise, our failure toanticipate, identify and react in a timely manner to fashion trends with ourprivate label merchandise, would likely have a material adverse effect onour comparable store sales, financial condition and results of operations.

 

***Most of our merchandise is produced by foreignmanufacturers, therefore the availability and costs of these productsmay be negatively affected by risks associated with international tradeand other international conditions.***

*** ***

Most of our merchandiseis produced by manufacturers around the world. Some of these facilities are located in regions that may beaffected by natural disasters, political instability or other conditions that couldcause a disruption in trade.  Trade restrictionssuch as increased tariffs or quotas, or both, could also affect the importationof merchandise generally and increase the cost and reduce the supply ofmerchandise available to us.  Anyreduction in merchandise available to us or any increase in its cost due totariffs, quotas or local issues that disrupt trade could have a materialadverse effect on our results of operations. Although the prices charged by vendors for the merchandise we purchaseare all denominated in United States dollars, a continued decline in therelative value of the United States dollar to foreign currencies could lead toincreased merchandise costs, which could negatively affect our competitiveposition and our results of operation.

 

***If our information systems hardware or software fails tofunction effectively or does not scale to keep pace with our planned growth,our operations could be disrupted and our financial results could be harmed.***

*** ***

Over the past severalyears, we have made improvements to our infrastructure and existing hardwareand software systems, as well as implemented new systems.  If these or any other information systems andsoftware do not work effectively, this could adversely impact the promptnessand accuracy of our transaction processing, financial accounting and reportingand our ability to manage our business and properly forecast operating resultsand cash requirements.  To manage theanticipated growth of our operations and personnel, we may need to continueto improve our operational and financial systems, transaction processing,procedures and controls, and in doing so could incur substantial additionalexpenses that could impact our financial results.

 

***Our inability or failure to protect our intellectualproperty or our infringement of other’s intellectual property could have anegative impact on our operating results.***

*** ***

We believe that ourtrademarks and domain names are valuable assets that are critical to oursuccess.  The unauthorized use or othermisappropriation of our trademarks or domain names could diminish the value ofthe Zumiez brand, our store concept, our private label brands or our goodwilland cause a decline in our net sales. Although we have secured or are in the process of securing protectionfor our trademarks and domain names in a number of countries outside of theUnited States, 

 

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there are certaincountries where we do not currently have or where we do not currently intend toapply for protection for certain trademarks or at all.  Also, the efforts we have taken to protectour trademarks may not be sufficient or effective.  Therefore, we may not be able to preventother persons from using our trademarks or domain names outside of the UnitedStates, which also could adversely affect our business.  We are also subject to the risk that wemay infringe on the intellectual property rights of third parties.  Any infringement or other intellectualproperty claim made against us, whether or not it has merit, could betime-consuming, result in costly litigation, cause product delays or require usto pay royalties or license fees.  As aresult, any such claim could have a material adverse effect on our operatingresults.

 

***The effects of war or acts of terrorism could adverselyaffect our business.***

*** ***

Substantially all of ourstores are located in shopping malls. Any threat of terrorist attacks or actual terrorist events, particularlyin public areas, could lead to lower customer traffic in shopping malls.  In addition, local authorities or mallmanagement could close shopping malls in response to security concerns.  Mall closures, as well as lower customertraffic due to security concerns, would likely result in decreased sales.  Additionally, the escalation of the armedconflicts in the Middle East, or the threat, escalation or commencement of waror other armed conflict elsewhere, could significantly diminish consumerspending, and result in decreased sales for us. Decreased sales would have amaterial adverse effect on our business, financial condition and results ofoperations.

 

***Theoutcome of litigation could have a material adverse effect on our business and******mayresult in substantial costs and could divert management’s attention.***

 

We are involved, fromtime to time, in litigation incidental to our business including complaintsfiled by investors.  This litigationcould result in substantial costs, and could divert management’s attention andresources, which could harm our business. Risks associated with legal liability are often difficult to assess orquantify, and their existence and magnitude can remain unknown for significantperiods of time.  While we maintaindirector and officer insurance, the amount of insurance coverage may not besufficient to cover a claim and the continued availability of this insurancecannot be assured.  As a result, therecan be no assurance that the actual outcome of pending or future litigationwill not have a material adverse effect on our results of operations orfinancial condition.

 

***Ouroperations expose us to the risk of litigation which could lead to significantpotential liability and costs that could harm our business, financial conditionor results of operations.***

*** ***

Weemploy a substantial number of full-timeand part-time employees, a majority of whom are employed at our storelocations.  As a result, we are subjectto a large number of federal and state laws and regulations relating toemployment.  This creates a risk ofpotential claims that we have violated laws related to discrimination andharassment, health and safety, wage and hour laws, criminal activity, personalinjury and other claims.  We are alsosubject to other types of claims in the ordinary course of our business.  Some or all of these claims may give rise tolitigation, which could be time-consuming for our management team, costly andharmful to our business.

 

In addition, we areexposed to the risk of class action litigation. The costs of defense and the risk of loss in connection with classaction suits are greater than in single-party litigation claims.  Due to the costs of defending against suchlitigation, the size of judgments that may be awarded against us, and the lossof significant management time devoted to such litigation, we cannot assure youthat such litigation will not disrupt our business or impact our financialresults.

 

***Our ecommerce operations subject us to numerous risks thatcould have an adverse effect on our results of operations.***

*** ***

Although ecommerce salesconstitute a small portion of our overall sales, our ecommerce operationssubject us to certain risks that could have an adverse effect on ouroperational results, including:

 

·                  diversion of traffic and sales from our stores;

 

·                  liability for online content; and

 

·                  risks related to the computer systems that operate ourwebsite and related support systems, including computer viruses and electronicbreak-ins and similar disruptions.

 

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In addition, risks beyondour control, such as governmental regulation of the ecommerce, entry of ourvendors in the ecommerce business in competition with us, online securitybreaches and general economic conditions specific to the ecommerce and onlinecommerce could have an adverse effect on our results of operations.

 

***We have incurred and will continue to incur significantexpenses as a result of being a public company, which will negatively impactour financial performance.***

*** ***

We completed our initialpublic offering in May 2005 and we have incurred and will continue toincur significant legal, accounting, insurance and other expenses as a resultof being a public company.  TheSarbanes-Oxley Act of 2002, as well as related rules implemented by theSEC and The NASDAQ Global Select Market, has required changes in corporategovernance practices of public companies. Compliance with these laws, rules and regulations, includingcompliance with Section 404 of the Sarbanes-Oxley Act as discussed in thefollowing risk factor, have caused and will continue to cause us to incursignificant costs and expenses, including legal and accounting costs, and havemade and will continue to make some activities more time-consuming andcostly.  These laws, rules andregulations have made it more expensive for us to obtain director and officerliability insurance, and we have been required to accept reduced policy limitsand coverage.  As a result, itmay be more difficult for us to attract and retain qualified persons toserve on our board of directors or as officers. As a result of the foregoing, we have incurred and we expect to incursignificant legal, accounting, insurance and certain other expenses on anongoing basis, which will negatively impact our financial performance and couldhave a material adverse effect on our results of operations and financialcondition.

 

***Failure to maintain adequate financial and managementprocesses and controls could lead to errors in our financial reporting andcould harm our ability to manage our expenses.***

*** ***

Reporting obligations asa public company and our anticipated growth are likely to place a considerablestrain on our financial and management systems, processes and controls, as wellas on our personnel.  In addition, we arerequired to document and test our internal controls over financial reportingpursuant to Section 404 of the Sarbanes-Oxley Act of 2002 so that ourmanagement can certify as to the effectiveness of our internal controls and ourindependent registered public accounting firm can render an opinion on theeffectiveness of our internal control over financial reporting on an annualbasis.  This process requires us todocument our internal controls over financial reporting and to potentially makesignificant changes thereto, if applicable. As a result, we have incurred and expect to continue to incursubstantial expenses to test our financial controls and systems, and we havebeen and in the future may be required to improve our financial andmanagerial controls, reporting systems and procedures, to incur substantialexpenses to make such improvements and to hire additional personnel.  If our management is ever unable to certifythe effectiveness of our internal controls or if our independent registeredpublic accounting firm cannot render an opinion on the effectiveness of ourinternal control over financial reporting, or if material weaknesses in ourinternal controls are ever identified, we could be subject to regulatoryscrutiny and a loss of public confidence, which could have a material adverseeffect on our business and our stock price. In addition, if we do not maintain adequate financial and managementpersonnel, processes and controls, we may not be able to accurately reportour financial performance on a timely basis, which could cause a decline in ourstock price and adversely affect our ability to raise capital.

 

***The security of our databases that contain personalinformation of our retail customers could be breached, which could subject usto adverse publicity, litigation, and expenses. In addition, if we are unable to comply with security standards createdby the credit card industry, our operations could be adversely affected.***

 

Database privacy, networksecurity, and identity theft are matters of growing public concern.  In an attempt to prevent unauthorized accessto our network and databases containing confidential, third-party information,we have installed privacy protection systems, devices, and activity monitoringon our network.  Nevertheless, ifunauthorized parties gain access to our networks or databases, they may be ableto steal, publish, delete, or modify our private and sensitive third-partyinformation.  In such circumstances, wecould be held liable to our customers or other parties or be subject toregulatory or other actions for breaching privacy rules.  This could result in costly investigationsand litigation, civil or criminal penalties, and adverse publicity that couldadversely affect our financial condition, results of operations, andreputation.  Further, if we are unable tocomply with the security standards, established by banks and the credit cardindustry, we may be subject to fines, restrictions, and expulsion from cardacceptance programs, which could adversely affect our retail operations.

 

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***The current uncertainty surrounding the United Stateseconomy coupled with cyclical economic trends in action sports retailing couldhave a material adverse effect on our results of operations.***

 

The action sports retailindustry historically has been subject to substantial cyclicality.  As economic conditions in the United Stateschange, the trends in discretionary consumer spending become unpredictable anddiscretionary consumer spending could be reduced due to uncertainties about thefuture.  When discretionary consumerspending is reduced, purchases of action sports apparel and related productsmay decline.  The current recession inthe U.S. economy and increased government debt spending may result in economicuncertainties that could have a material adverse impact on our results ofoperations and financial position.

 

***We may fail to meet analyst expectations, which could causethe price of our stock to decline.***

*** ***

Our common stock istraded publicly and various securities analysts follow our financial resultsand issue reports on us.  These reportsinclude information about our historical financial results as well as theanalysts’ estimates of our future performance. The analysts’ estimates are based upon their own opinions and are oftendifferent from our estimates or expectations. If our operating results are below the estimates or expectations ofpublic market analysts and investors, our stock price could decline.  In December 2007, a securities classaction litigation was brought against us and such actions are frequentlybrought against other companies following a decline in the market price oftheir securities.  If our stock price isvolatile, we may become involved in this type of litigation in the future. Any litigationcould result in substantial costs and a diversion of management’s attention andresources that are needed to successfully run our business.

 

***Thetrading price of our investment in marketable securities may fluctuate***

*** ***

We have our excess cashinvested in diversified high credit money market accounts, US treasuries,certificates of deposit, municipal bonds and auction rate securities.  The investments have historically beenconsidered very safe investments with very minimal default rates.  However, the recent uncertainties in thecredit markets have prevented us and other investors from liquidating holdingsof auction rate securities in recent auctions for these securities because theamount of securities submitted for sale has exceeded the amount of purchaseorders.  We reduced our holdings ofauction rate securities during fiscal 2007 through the auction process.  As of January 31, 2009, we had$1.7 million, net of $0.3 million temporary impairment, invested inauction rate securities that are classified as long-term marketable securitieson our consolidated balance sheet.  Forthe year ended January 31, 2009, we incurred a temporary impairment chargeon these investments of approximately $0.3 million recorded in othercomprehensive income.  If marketliquidity issues continue, we may incur additional impairment charges on theseinvestments.

 

***Adecline in the market price of our stock and performance of our Company maytrigger an impairment of the goodwill recorded on our balance sheet***

*** ***

Goodwill and otherintangible assets with indefinite lives must be tested for impairment at leastonce a year or more frequently if management believes indicators of impairmentexist.  The Company evaluates therecoverability of goodwill annually based on a two-step impairment test.  The first step compares the fair value ofeach reporting unit with its carrying amount, including goodwill.  If the carrying amount exceeds fair value,then the second step of the impairment test is performed to measure the amountof any impairment loss.  Any reduction inthe carrying value of our goodwill as a result of our impairment analysis couldresult in a non-cash goodwill impairment charge to our statement of operations.  A goodwill impairment charge could have asignificant impact on earnings and potentially result in a violation of ourfinancial covenants, thereby limiting our ability to secure short termfinancing.

 

***Changesto estimates related to our property and equipment, or operating results thatare lower than our current estimates at certain store locations, may cause usto incur non-cash impairment charges.***

*** ***

We make certain estimatesand projections in connection with impairment analyses for certain of our storelocations and other property and equipment in accordance with “Statement ofFinancial Accounting Standards (“SFAS”) No. 144, Accounting for theImpairment or Disposal of Long-Lived Assets.” For example, we review for impairment all stores for which current cashflows from operations are either negative or nominal.  Recoverability of store assets is measured bya comparison of the carrying amount of an asset to estimated undiscountedfuture cash flows expected to be generated by the asset.  If the carrying amount is higher, impairmentloss is measured by the amount, if any, by which the carrying amount of theassets exceeds their fair value based on the present value of estimatedexpected future cash flows.  Thesecalculations require us to make a number of estimates and projections of futureresults.  If these estimates orprojections change or prove 

 

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incorrect, we may be andhave been, required to record impairment charges on certain store locations andother property and equipment.  If theseimpairment charges are significant, our operating results would be adverselyaffected and our bank covenants may be violated.

 

***Ourbusiness could suffer if our ability to acquire financing is reduced oreliminated.***

*** ***

In the current economicenvironment, we cannot be assured that our borrowing relationship with ourlender will continue or that our lender will remain able to support itscommitments to us in the future.  If ourlender fails to do so, then we may not be able to secure alternative financingon commercially reasonable terms, or at all.

 

It**em3:   Quantitative and Qualitative Disclosures About Market Risk**

 

During different times ofthe year, due to the seasonality of our business, we have borrowed under ourrevolving credit facility.  To the extentwe borrow under our secured revolving credit facility, which bears interests atfloating rates based on either the prime rate or LIBOR, we are exposed tomarket risk related to changes in interest rates.  At May 2, 2009, we had no borrowingsoutstanding under our secured revolving credit facility.  At May 2, 2009, we had $1.8 million ofletters of credit outstanding under our secured revolving credit facility.  We are not a party to any derivativefinancial instruments.

 

**Item4:   Controls and Procedures**

** **

*Evaluation of Disclosure Controlsand Procedures*.  We carried out an evaluation, under thesupervision and with the participation of our management, including our ChiefExecutive Officer (“CEO”) and Chief Financial Officer (“CFO”), of theeffectiveness of the design and operation of our disclosure controls andprocedures (as defined in Securities Exchange Act Rule 13a-15(e)).  Based on this evaluation, our CEO and CFOconcluded that, as of May 2, 2009, our disclosure controls and procedureswere effective.

 

Disclosure controls andprocedures, no matter how well designed and implemented, can provide onlyreasonable assurance of achieving an entity’s disclosure objectives.  The likelihood of achieving such objectivesis affected by limitations inherent in disclosure controls and procedures.  These include the fact that human judgment indecision-making can be faulty and that breakdowns in internal control can occurbecause of human failures such as simple errors or mistakes or intentionalcircumvention of the established process.

 

*Changes in Internal Control Over FinancialReporting*.  There has been no change in our internalcontrol over financial reporting (as defined in Securities Exchange Act Rule 13a-15(f))during the quarter ended May 2, 2009 that has materially affected, or isreasonably likely to materially affect, our internal control over financialreporting.

 

**PART II-  OTHER INFORMATION**

 

**Item 1.   Legal Proceedings**

 

We are involved from timeto time in litigation incidental to our business.  The Company is unable to predict the outcomeof litigated cases.  A courtdetermination in any of litigation actions against the Company could result insignificant liability and could have a material adverse effect on the Company’sbusiness, results of operations or financial condition.

 

See Note 3 to the Notesto Condensed Consolidated Financial Statements found in Item 1 of this Form 10-Q(listed under “Litigation” under Commitments and Contingencies).

 

**Item1A.  Risk Factors**

 

Please refer to the RiskFactors set forth in Item 2 of Part I of this Form 10-Q as well asthe risk factors previously disclosed in Item 1A of Part I of our AnnualReport on Form 10-K for the year ended January 31, 2009.  There have been no material changes in therisk factors set forth in our Annual Report on From 10-K for the year ended January 31,2009.

** **

**Item2.  Changes in Securities; Use ofProceeds and Issuer Purchases of Equity Securities**

 

None

 

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**Item3.  Defaults Upon Senior Securities**

 

None.

 

**Item4.  Submission of Matters to a Vote ofSecurity Holders**

** **

None

 

**Item5.  Other Information**

** **

None

** **

**Item6.  Exhibits**

** **

Exhibits

 
| Exhibit No. | ** ** | **Description of Exhibits**                                                                                                                                                                                                       |
|------------------|------------|-----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
| 31.1             |       | Certification of the Principal Executive Officer  pursuant to Rule 13a-14(a)/15d-14(a) of the Securities Exchange Act  of 1934, as amended, as adopted pursuant to Section 302 of the  Sarbanes-Oxley Act of 2002. |
|             |       |                                                                                                                                                                                                                              |
| 31.2             |       | Certification of the Principal Financial Officer  pursuant to Rule 13a-14(a)/15d-14(a) of the Securities Exchange Act  of 1934, as amended, as adopted pursuant to Section 302 of the  Sarbanes-Oxley Act of 2002. |
|             |       |                                                                                                                                                                                                                              |
| 32.1             |       | Certifications of the Principal Executive Officer  and Principal Financial Officer pursuant to Section 906 of the  Sarbanes-Oxley Act of 2002, 18 U.S.C. Section 1350                                                   |

 

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** **

**SIGNATURE**

 

Pursuant to therequirements of the Securities Exchange Act of 1934, as amended, the registranthas duly caused this report to be signed on its behalf by the undersignedhereunto duly authorized.

 
|                                 | ZUMIEZ INC. |
|---------------------------------|-------------|
|                            |        |   |
|                            | By:         | /s/ TREVOR S. LANG |
|                            |        | Trevor S. Lang |
|                            |        |   |
|                            |        | Principal Financial  Officer and Secretary |
| Dated:   May 29, 2009 |        | (Principal Accounting Officer) |

 

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