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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION Washington, D. C. 20549
 FORM 10-K þANNUAL
REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE SECURITIES
EXCHANGE ACT OF 1934  OR oTRANSITION
REPORT PURSUANT TO SECTION 13 OR 15 (d) OF SECURITIES EXCHANGE
ACT OF 1934 
 Commission File Number: 000-24381 HASTINGS ENTERTAINMENT, INC.  Texas
    
    75-1386375(State or other jurisdiction of
    
    (IRS Employerincorporation or organization)
    
    Identification No.)3601 Plains Boulevard,
Amarillo, Texas
    
    79102(Address of principal executive
offices)
    
    (Zip Code)
 Registrants telephone number, including area code: (806) 351-2300 Securities registered pursuant to Section 12(b) of the Act: None Securities registered pursuant to Section 12(g) of the Act: Common Stock, $.01 par value per share
    
    Nasdaq National Market(Title of Class)
    
    (Name of Exchange on which registered)
 Indicate by check mark whether the registrant: (1) has filed all reports required to be filed by
Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding twelve months (or
for such shorter period that the registrant was required to file such reports), and (2) has been
subject to such filing requirements for the past 90 days.
Yes þ    No o Indicate by check mark whether the registrant is an accelerated filer (as defined in Rule 12b-2 of
the Exchange Act).
Yes o    No þ Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is
not contained herein, and will not be contained, to the best of registrants knowledge, in
definitive proxy or information statements incorporated by reference in Part III of this Form 10-K
or any amendment to this Form 10-K. þ




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As of July 30, 2004, which was the last business day of the registrants most recently completed
second fiscal quarter, the aggregate market value of the voting stock held by non-affiliates of the
registrant was approximately $46.1 million based upon the closing market price of $7.30 per share
of Common Stock on the Nasdaq National Market on that date. (For the purposes of determination of
the above-stated amounts, only the directors, executive officers and 10% or greater shareholders of
the registrant have been deemed affiliates; however, this does not represent a conclusion by the
registrant that any or all of such persons are affiliates of the registrant.) Number of shares of $.01 par value Common Stock outstanding as of March 31, 2005: 11,463,899 DOCUMENTS INCORPORATED BY REFERENCE Portions of the proxy statement for the annual meeting of shareholders of the registrant to be held
during 2005 are incorporated by reference into Parts II and III of this Form 10-K.




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HASTINGS ENTERTAINMENT, INC.
Form 10-K Annual Report
For the Fiscal Year Ended January 31, 2005 INDEX PAGEPART IItem 1. Business
    
    
    1Item 2. Properties
    
    
    10Item 3. Legal Proceedings
    
    
    11Item 4. Submission of Matters to a Vote of Security Holders
    
    
    11PART IIItem 5. Market for Registrants Common Equity and Related Stockholder Matters
    
    
    12Item 6. Selected Financial Data
    
    
    13Item 7. Managements Discussion and Analysis of Financial Condition and
Results of Operations
    
    
    15Item 7A. Quantitative and Qualitative Disclosures About Market Risk
    
    
    26Item 8. Financial Statements and Supplementary Data
    
    
    27Item 9. Changes in and Disagreements with Accountants on Accounting and
Financial Disclosure
    
    
    48Item 9A. Controls and Procedures
    
    
    48PART IIIItem 10. Directors and Executive Officers of the Registrant
    
    
    49Item 11. Executive Compensation
    
    
    49Item 12. Security Ownership of Certain Beneficial Owners and Management and
Related Stockholder Matters
    
    
    49Item 13. Certain Relationships and Related Transactions
    
    
    49Item 14. Principal Accountant Fees and Services
    
    
    49PART IVItem 15. Exhibits, Financial Statement Schedules and Reports on Form 8-K
    
    
    50SIGNATURES
    
    
    53CERTIFICATIONS
    
    
    55Consent of Ernst & Young LLPCertification of CEO Pursuant to Rule 13a-14(a)/15d-14(a)Certification of CFO Pursuant to Rule 13a-14(a)/15d-14(a)Certification of CEO and CFO Pursuant to Section 906




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PART I Forward-looking Statements Certain written and oral statements set forth below or made by Hastings or with the approval of an
authorized executive officer of the company constitute forward-looking statements within the
meaning of the Private Securities Litigation Reform Act of 1995. The words believe, expect,
intend, anticipate, project, will and similar expressions identify forward-looking
statements, which generally are not historical in nature. All statements which address operating
performance, events or developments that we expect or anticipate will occur in the future including
statements relating to the business, expansion, merchandising and marketing strategies of Hastings,
industry projections or forecasts, inflation, effect of critical accounting policies including
lower of cost or market for inventory adjustments, the returns process, rental video amortization,
store closing reserves, revenue recognition, comparable-store revenues and vendor allowances,
sufficiency of cash flow from operations, installation of our new information system and borrowings
under our revolving credit facility and statements expressing general optimism about future
operating results are forward-looking statements. Such statements are based upon company
managements current estimates, assumptions and expectations, which are based on information
available at the time of the disclosure, and are subject to a number of factors and uncertainties,
including, but not limited to, whether our assumptions turn out to be correct, our inability to
attain such estimates and expectations, a downturn in market conditions in any industry relating to
the products we inventory, sell or rent, the effects of or changes in economic conditions in the
U.S or the markets in which we operate our superstores, volatility of fuel and utility costs, acts
of war or terrorism inside the United States or abroad, our success in forecasting customer demand
for products and legal proceedings; any of which could cause actual results to differ materially
from those described herein. We undertake no obligation to affirm, publicly update or revise any
forward-looking statements, whether as a result of new information, future events or otherwise. 
 ITEM 1. BUSINESS General Hastings Entertainment, Inc. is a leading multimedia entertainment retailer. We operate
entertainment superstores that sell, trade, and rent various home entertainment products, including
books, music, software, periodicals, new and used CDs, DVDs, books, video games and videocassettes,
video game consoles and DVD players. As of March 31, 2005, we operated 153 superstores in small-
to medium-sized markets located in 20 states, primarily in the Western and Midwestern United
States. We also operate a multimedia entertainment e-commerce Web site offering a broad selection
of books, music, software, videocassettes, video games and DVDs. We operate two wholly-owned
subsidiaries: Hastings Properties, Inc. and Hastings Internet, Inc. References herein to fiscal
years are to the twelve-month periods, which end in January of each following calendar year. For
example, the twelve-month period ended January 31, 2005 is referred to as fiscal 2004. Industry Overviews Music. According to the Recording Industry Association of America (RIAA), total music shipments
by manufacturers to retailers increased 5.3% to $12.5 billion in 2004 compared to $11.9 billion in
2003, the industrys first sales increase in five years. This increase can be attributed to two
sources. First, the top 100 albums sold 153.3 million units in 2004 compared to 146.8 in 2003, an
increase of 4.4%. In addition, the sale of DVD music video format units, which represents 5% of
the industry sales mix, experienced extraordinary growth with a 66% sales increase from 2003 to
2004. The music industry has continually tried to battle online piracy, a force that has sparked
the negative trend in years prior to 2004. Mitch Bainwol, Chairman and CEO of the RIAA, believes
that the trends in industry enforcement are positive and several encouraging efforts were made in
2004, resulting in the increased sales numbers. 1




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Books. The Association of American Publishers estimates that total book industry sales rose 1.3%
in 2004, to an estimated $23.7 billion, up from approximately $23.4 billion in 2003. The adult
hardcover segment increased 6.3% to $2.6 billion and paperbound publications increased 2.8% to $1.5
billion. These gains were partially offset by a decline in the juvenile hardcover segment of 16.7%
to $0.6 billion, due to a popular Harry Potter release in fiscal 2003, but not in 2004. Rental Video. According to Paul Kagan Associates (Kagan), consumer spending on rental video
decreased approximately 1.7% to $8.1 billion in 2004. DVD revenues, which continue to drive the
rental industry, increased $0.8 billion to approximately $4.9 billion, up 18.1% in 2004 over 2003,
while VHS rentals declined $1.2 billion, or 32.5%, to approximately $2.5 billion over the same
period. Kagan projects that video rental revenues will decline from $8.1 billion in 2004 to
approximately $6.3 billion by 2009; however, due to many variables, it is difficult to project the
fluctuations in the industry. We believe rental video will remain a viable revenue source for
the following reasons:  (i)
    Despite increases in the sale of movies detailed below under Sale Video and Video
Games, according to Kagan, rental transactions continued to exceed sales transactions
during 2004. For the industry, rental transactions represented approximately 70.3% of
total rental and sell-through transactions during 2004 compared to approximately 74.7% in
2003. We believe renting videos provides consumers with low-cost entertainment, a factor
that will continue to drive rental transactions in the future.(ii)
    DVD continued its accelerated acceptance rate with DVD households as a percentage
of U.S. television households exceeding 65% in 2004 compared to approximately 51% in 2003.
Kagan projects that this number will exceed 92% by 2009. This penetration is moving far
beyond consumers that were early adopters of the DVD format, and with price points on DVD
hardware continuing to decline, we believe more consumers will be renting classic movies
and personal favorites in the DVD format for the first time. We also believe that
later-adopting DVD households are less likely to purchase DVDs at the high rates of
early-adopters.(iii)
    We believe that the DVD format, with its superior picture and sound quality and
extra features such as outtakes, director commentary and scene selection, will drive
continued growth in the industry.(iv)
    We also believe rental video will continue to be a favored entertainment medium
for millions of consumers due to its relatively inexpensive price points, broad selection
of new release and catalog (older) movies and ability for viewer control of the
experience (i.e., start, stop, fast-forward, pause and rewind).(v)
    We believe video game rentals will continue to play an important role in the
rental industry. Due to the relatively high purchase prices for game software, rental
pricing is an attractive option for consumers; especially those wanting to preview a game
prior to making a purchase. Sale Video and Video Games. According to Kagan, total industry revenues for the sale of DVD and
VHS increased approximately 18% to $16.0 billion during 2004 compared to $13.5 billion in 2003.
This increase resulted primarily from substantially all DVD product being released at prices low
enough that consumers can purchase a title at the same time it is available for rent. This lower
pricing has enabled consumers to build their video libraries and has helped to turn casual movie
watchers into collectors. Kagan estimates that total revenues from the sale of DVD and VHS will
approach $24.1 billion by 2009, and it is projected that DVD will represent approximately 99.8% of
the total revenues, compared to approximately 91.9% in 2003. According to the NPD Group, total sales for the video game industry, including portable and console
hardware, software and accessories, decreased 1% to $9.9 billion in 2004 compared to $10.0 billion
in 2003. Gains of 7%, 11%, and 10% posted by console software, portable game software, and
portable game hardware categories, respectively, were offset by a 27% reduction in sales of console
hardware, due primarily to a widely-publicized hardware inventory shortage during the 2004 holiday
season. 2




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Business Strategy Our goal is to enhance our position as a leading multimedia entertainment retailer in small- to
medium-sized communities by expanding and remodeling existing superstores, opening new superstores
in selected markets and to a lesser extent, offering our products through the Internet. Each
element of our business strategy is designed to build consumer awareness of the Hastings concept
and achieve high levels of customer loyalty and repeat business. We believe the key elements of
this strategy are the following: Superior Multimedia Concept.Our superstores present a wide variety of products tailored to local
preferences in a dynamic and comfortable store atmosphere with exceptional service. Our superstores
average approximately 20,000 square feet, with our new superstores generally ranging in size from
15,000 to 25,000 square feet. Our superstores offer customers an extensive product assortment
customized for a specific store. Below is a listing of the approximate minimum and maximum title
selections for our stores: Minimum
    
    
    MaximumProduct Category
    
    Title Count
    
    
    Title CountBooks
    
    
    11,000
    
    
    
    73,000Music
    
    
    8,000
    
    
    
    30,000Rental VHS, DVD, Video Games
    
    
    10,000
    
    
    
    25,000Used CDs, DVD, Video Games
    
    
    2,000
    
    
    
    23,000Sale VHS, DVD and Video Games
    
    
    4,000
    
    
    
    14,000Boutique, Consumables and Accessories
    
    
    2,000
    
    
    
    6,000Periodicals
    
    
    1,000
    
    
    
    3,000Software
    
    
    
    
    
    
    1,000Used Books
    
    
    
    
    
    
    12,000
 The following table shows our revenue mix as a percentage of total revenues for the last three
fiscal years: Fiscal YearProduct Category
    
    2004
    
    
    2003
    
    
    2002Music
    
    
    25
    %
    
    
    27
    %
    
    
    29
    %Books
    
    
    22
    %
    
    
    23
    %
    
    
    23
    %Rental
    
    
    19
    %
    
    
    20
    %
    
    
    20
    %Video
    
    
    18
    %
    
    
    17
    %
    
    
    15
    %Video Games
    
    
    8
    %
    
    
    6
    %
    
    
    5
    %Software
    
    
    2
    %
    
    
    2
    %
    
    
    3
    %Other
    
    
    6
    %
    
    
    5
    %
    
    
    5
    %
 Although our superstores core product assortment tends to be similar, the merchandise mix of
each of our superstores is tailored to accommodate the particular demographic profile of the local
market in which the superstore operates through the utilization of our proprietary purchasing and
inventory management systems. We believe that our multimedia format reduces our reliance on and
exposure to any particular entertainment segment and enables us to promptly add exciting new
entertainment categories to our product line. Small to Medium-Sized Market Superstore Focus.We target small- to medium-sized markets with
populations of generally less than 50,000 where our extensive product selection in both new and
used products, low pricing strategy, ability to trade-in, efficient operations and superior
customer service enable us to become the markets destination entertainment store. We believe that
the small- to medium-sized markets where we operate the majority of our superstores present an
opportunity to profitably operate and expand our unique entertainment superstore format. In our
opinion, these markets typically are underserved by existing book, music or video stores, and our
competitors in these markets are generally locally owned stores, national-chain specialty stores
and general merchandise retailers. We base our merchandising strategy for our superstores on an
in-depth understanding of our customers and our individual markets. We strive to optimize each
superstores merchandise selection by using our proprietary information systems to analyze the
sales history, anticipated demand and demographics of each superstores market. In addition, we
utilize flexible layouts that enable each superstore to arrange our products according to local
interests and to customize the layout in response to new customer preferences and product lines. 3




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Customer-Oriented Superstore Format.We design our superstores to provide an easy-to-shop, open
store atmosphere by offering major product categories in a store-within-a-store format. Most of
our superstores position product with customer affinities together around a wide racetrack aisle or
three-across departments (e.g., books, music and video) that are designed to allow customers to
view the entire superstore. This store configuration produces significant cross-marketing
opportunities among the various entertainment departments, which we believe results in higher
transaction volumes and impulse purchases. To encourage browsing and the perception of Hastings as
a community gathering place, we have incorporated amenities in many superstores, such as chairs for
reading, a broad selection of gourmet coffee and tea, soft drinks and snacks, music auditioning
stations, interactive information kiosks, telephones for free local calls, childrens play areas
and in-store promotional events. Low Pricing.Our pricing strategy at our superstores is to offer value to our customers by
maintaining everyday low prices that are competitive with or lower than the prices charged by other
retailers in the market. We determine our prices on a market-by-market basis, depending on the
level of competition and other market-specific considerations. We believe that our low pricing
structure results in part from (i) our ability to purchase directly from publishers, studios and
manufacturers as opposed to purchasing from distributors, (ii) our proprietary information systems,
to which we have made improvements that have enabled management to make more precise and targeted
purchases and pricing for each superstore, and (iii) our consistent focus on maintaining low
occupancy and operating costs. Used and Budget-Priced Products.Since 1994, we have bought or traded for customers CDs to sell
as used product in order to leverage the value of our CD offering. Since 2001, we have added DVDs
and video games to our used product offering. In addition to used products, we offer budget-priced
products in all of our major product categories to enhance our customers shopping experience.
During fiscal 2004 and 2003, we generated approximately 8.3% of our total revenues from used and
budget-priced products. During the fiscal 2004, we tested buying and selling used books in certain
of our markets. Due to the programs success, we are expanding the program to additional stores in
fiscal 2005. We believe our multimedia superstore concept will enhance our offering of used and
budget products allowing the customer to choose between a new or a less expensive used copy of the
same title. Internet.Augmenting our superstore offering, we operate an e-commerce Internet Web site
(www.gohastings.com). Our site enables customers to electronically access more than 800,000 new
and used entertainment products and unique, contemporary gifts. We fill Internet orders primarily
from our superstore inventories. The site features exceptional product and pricing offers, search
and auditioning capabilities, and digital downloading of music selections. The Web site is designed
to fully integrate into a store kiosk to leverage both the physical and digital shopping
experience. The site also features an Investor Relations section with links to past press release
information and filings with the Securities and Exchange Commission, including officer
certifications of financial information listed as exhibits to such filings. Expansion Strategy We plan to open one superstore while expanding and or relocating eight of our existing superstores
during fiscal 2005. We have identified numerous potential locations for future superstores in
under-served, small- to medium-sized markets that meet our new-market criteria. We believe that
with our current information systems and distribution capabilities, our infrastructure can support
our anticipated rate of expansion and growth for at least the next several years. Merchandising Strategy We are a leading multimedia entertainment retailer. By offering a broad array of products within
several distinct but complementary categories, we strive to appeal to a wide range of customers and
position our superstores as destination entertainment stores in our targeted small- to medium-sized
markets. Superstore Product Selection.Although all Hastings superstores carry a similar core product
assortment, the merchandise mix of books, music, software, videocassette, DVD, and video game
selections of each superstore is 4




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tailored continually to accommodate the particular demographic profile and demand of the local
market in which the superstore operates. We accomplish this customization through our proprietary
purchasing, inventory, selection and pricing management systems. The purchasing system analyzes
historic consumer purchasing patterns at each individual superstore to forecast customer demand for
new releases and anticipate seasonal changes in demand. In addition, our inventory management
process continually monitors product sales, as well as videocassette and DVD rentals, to identify
slow-moving books, music, software, videocassettes, DVD and video games for return to vendors and
rental videocassettes, DVD and video games for sale to customers as previously viewed items or
transfer to other superstores. Our pricing management system allows us to identify slow-moving
products and initiate an automated-progressive markdown program to enhance sell-through while
maximizing margin at each subsequent price reduction. It also automatically implements the price
change by printing new tags at the store. Our superstores offer customers an extensive product
assortment customized for a specific store with new releases and special offerings in each
entertainment product category that are prominently displayed and arranged by product category. In addition to our primary product lines, we continually add new product offerings to better serve
our customers. Products for sale in these categories include promotional t-shirts, licensed plush
toys, portable electronics, consumer electronics including DVD players and video game consoles,
musical instruments, poker games, greeting cards, audio books and consumables, including soft
drinks, coffee, popcorn and candy. Our full service coffee bar, The Hard Back Café, which is
operating in certain of our superstores, offers a broad selection of coffees, teas and food items.
Accessory items for sale include blank videocassettes and CDs, video cleaning equipment and
audiocassette and CD carrying cases. Many of these products generate impulse purchases and produce
higher margins. The rental of videocassette, video game and DVD players is provided as a service to
Hastings customers. During fiscal 2004, we merged our new and used CDs into the same display fixture. We also
consolidated our new and used DVDs for sale into the same display fixture. This provides for a
more straightforward shopping experience, offers a wider assortment, and provides the customer with
an immediate choice of purchasing a new or a lower-priced used item. Information System Our information system is based on technology that allows for communication and exchange of current
information among all locations, corporate and retail, via a wide-area network. The primary
components of the information system are as follows: New Release Allocation.Our buyers use our proprietary new release allocation system to purchase
new release products for the superstores and have the ability within the system to utilize multiple
methods of forecasting demand. By using store-specific sales history, factoring in specific market
traits, applying sales curves for similar titles or groups of products and minimizing subjectivity
and human emotion from a transaction, the system customizes purchases for each individual
superstore to satisfy customer demand. The process provides the flexibility to allow store
management to anticipate customer needs, including tracking missed sales and factoring in regional
influences. We believe that the new release allocation system enables us to increase revenues by
having the optimum levels and selection of products available in each superstore at the appropriate
time to satisfy customers entertainment needs. Rental Video Asset Purchasing System.Our proprietary rental video asset purchasing system uses
store-specific performance on individual rental videocassette titles to anticipate customer demand
for new release rental videocassettes. The system analyzes the first eight weeks performance of a
similar title and factors in the effect of such influences as seasonal trends, box office draw and
prominence of the movies cast to customize an optimum inventory for each individual superstore.
The system also allows for the customized purchasing of other catalog rental video assets on an
individual store basis, additional copy depth requirements under revenue-sharing agreements and
timely sell-off of previously viewed tapes. We believe that our rental video asset purchasing
system allows us to efficiently plan and stock each superstores rental video asset inventory,
thereby improving performance and reducing exposure from excess inventory. Store Replenishment.Store replenishment covers three main areas for controlling a superstores
inventory. 5




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Selection Management.Selection management constantly analyzes store-specific sales, traits and
seasonal trends to determine title selection and inventory levels for each individual superstore.
By forecasting annual sales of products and consolidating recommendations from store management,
the system enables us to identify overstocked or understocked items, prompt required store
actions and optimize inventory levels. The system tailors each stores individual inventory to
the market, utilizing over 2,000 product categories, configurations and product status. Model Stock Calculation/Ordering.Model stock calculation uses store-specific sales, seasonal
trends and sophisticated-sales curve fitting to forecast orders. It also accounts for turnaround
time from a vendor or our distribution center and tracks historical missed sales to adjust orders
to adequately fulfill sales potential. Orders are currently calculated on a weekly basis and
transmitted by all superstores to the corporate office to establish a source vendor for the
product. Inventory Management.Inventory management systems interface with other store systems and
accommodate electronic receiving and returns to maintain perpetual inventory information. Cycle
counting procedures allow us to perform all physical inventory functions, including the counting
of each superstores inventory up to four times per year. The system provides feedback to assist
in researching any variances. Store Systems.Each superstore has a dedicated server within the store for processing information
connected through a wide area network. This connectivity provides consolidation of individual
transactions and allows store management and corporate office associates easy access to the
information needed to make informed decisions. Transactions at the store are summarized and used to
assist in staff scheduling, loss prevention and inventory control. All point of sale transactions
utilize scanning technology, allowing for maximum customer efficiency at checkout. During fiscal
2004 we installed chain wide a new labor scheduler software system. The new Windows-based
software, among other things, requires less time of the store manager to maintain, provides
improved measurement and reporting of budget to scheduled and actual labor, and creates review- and
exception-based reports at the corporate office for management monitoring. Accounting and Finance.Our financial accounting software allows us to prepare a variety of daily
management reports covering store and corporate performance. Detailed financial information for
each superstore, as well as for warehouse units, which include our distribution and returns
facilities, and the corporate office, are generated on a monthly basis. Our payroll, accounts
payable, cash control, financial planning and certain tax functions are performed in-house. Warehouse Management.Our newly implemented warehouse management system provides for increased
product picking and shipping efficiencies, faster product introduction and movement from dock to
store shipment. The increased level of detail reporting in the new system will allow us to refine
product movement within the four walls, lowering the cost per unit transactions, and increase
on-hand accuracy. It has simplified data sharing across the enterprise, and includes event
management, analysis and reporting capabilities. Distribution and Suppliers Our distribution center is located in a 146,000 square foot facility adjacent to our corporate
headquarters in Amarillo, Texas. This central location and the local labor pool enable us to
realize relatively low transportation and labor costs. The distribution center is utilized
primarily for receiving, storing and distributing approximately 21,000 products offered in
substantially every superstore. The distribution center also is used in distributing large
purchases, including forward buys, closeouts and other bulk purchases. In addition, the
distribution facility is used to receive, process and ship items to be returned to manufacturers
and distributors, as well as the rebalancing of merchandise inventories among our superstores. This
facility currently provides inventory to all Hastings superstores and is designed to support our
anticipated rate of expansion and growth for at least the next several years. We ship products
weekly to each Hastings superstore, facilitating quick and responsive inventory replenishment.
Approximately 24% of our total product, based on store receipts, is distributed through the
distribution center. Approximately 76% of our total product 6




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is shipped directly from vendors to the superstores. In fiscal 2004, we focused our efforts to
improve cost controls, inventory management and supply chain metrics. Our information systems and corporate infrastructure facilitate our ability to purchase products
directly from manufacturers, which contributes to our low-pricing structure. In fiscal 2004, we
purchased the majority of our products directly from manufacturers, rather than through
distributors. Our top three suppliers accounted for approximately 22% of total products purchased
during fiscal 2004. While selections from a particular artist or author generally are produced by a
single manufacturer, we strive to maintain supplier relationships that can provide alternate
sources of supply. Products we purchase are generally returnable to the supplying vendor. Refer
to Item 7. Managements Discussion and Analysis of Financial Condition and Results of Operation 
General for a description of our returns process. Store Operations Most of our superstores employ one store manager and one or more assistant store managers. Store
managers and assistant store managers are responsible for the execution of all operational,
merchandising and marketing strategies for the superstore in which they work. Superstores also
generally have department managers, who are individually responsible for their respective book,
music, software, video, customer service and stocking departments within each superstore. Hastings
superstores are generally open daily from 10:00 a.m. to 11:00 p.m. However, several superstores are
open 9:00 a.m. to 11:00 p.m. or 10:00 a.m. to 10:00 p.m. The only days our superstores are closed
are Thanksgiving and Christmas. Competition The entertainment retail industry is highly competitive. We compete with a wide variety of book
retailers, music retailers, software retailers, Internet retailers and retailers that rent or sell
videocassettes and DVDs, including independent single store operations, local multi-store
operators, regional and national chains, as well as supermarkets, pharmacies, convenience stores,
bookstores, mass merchants, mail order operations, warehouse clubs, record clubs, other retailers
and various non-commercial sources such as libraries. With regard to our videocassette and DVD
sales and rental video products in particular, we compete with cable, satellite and pay-per-view
cable television systems. In addition, continuing technological advances that enhance the ability
of consumers to shop at home or access, produce and print written works or record music digitally
by home computer through the Internet or telephonic transmission could provide more serious
competition to us in the future. We compete in most of our markets with either national entertainment retailers or significant
retailers of general merchandise or both. We compete in our sale of books with retailers such as
Barnes & Noble, Inc., Books-A-Million, Inc., Borders Group, Inc., Walden Books and B. Dalton
Bookseller. We compete in our sale of music with music retailers, such as Transworld Entertainment
Musicland and consumer electronics stores, including Best Buy and Circuit City. Our principal
competitors in the sale and rental of videocassettes and DVDs are Blockbuster, Inc., Hollywood
Entertainment Corp. and Movie Gallery, Inc. In addition, we compete in the sale of books, music,
videocassettes, and DVDs and the rental of videocassettes, DVDs, and video games with local
entertainment retailers and significant retailers of general merchandise, such as Wal-Mart.
Retailers such as Amazon.com, Inc. and Barnes & Noble, Inc., continue to increase their retail
sales of entertainment products, such as books and music, via the Internet. We compete with other
entertainment retailers on the basis of title selection, the number of copies of popular selections
available, store location, visibility and pricing. Trademarks and Servicemarks We believe our trademarks and servicemarks, including the marks Hastings Books Music Video,
Hastings Your Entertainment Superstore, Hastings Hard Back Café, Hastings Your Entertainment
Superstore Hard Back Café, and Buy Sell Trade Rent have significant value and are important to

our marketing efforts. We have registered Hastings Books Music Video and Hastings Your
Entertainment Superstore as servicemarks with the United States 7




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Patent and Trademark Office (USPTO) and have filed applications for registration with the USPTO
with respect to the marks Hastings Hard Back Café and Hastings Your Entertainment Superstore
Hard Back Café. We are currently claiming common law rights in the mark Buy Sell Trade Rent and
anticipate filing a servicemark application for this mark with the USPTO in the near future. We
maintain a policy of pursuing registration of our principal marks and opposing any infringement of
our marks. Associates We refer to our employees as associates because of the critical role they play in the success of
each Hastings superstore and the company as a whole. As of January 31, 2005, we employed
approximately 6,952 associates, of which 2,231 are full-time and 4,721 are part-time associates. Of
this number, approximately 6,358 were employed at retail superstores, 311 were employed at our
distribution center and 283 were employed at our corporate offices. None of our associates are
represented by a labor union or are subject to a collective bargaining agreement. We believe that
our relations with our associates are good. Executive Officers of the Company Below is certain information about the executive officers of Hastings Entertainment, Inc. Name
    
    Age
    
    PositionJohn H. Marmaduke
    
    
    57
    
    
    Chairman of the Board, President and Chief Executive
OfficerDan Crow
    
    
    58
    
    
    Vice President of Finance and Chief Financial OfficerJames S. Hicks
    
    
    48
    
    
    Vice President of ProductAlan Van Ongevalle
    
    
    37
    
    
    Vice President of Information Technology & DistributionKevin Ball
    
    
    48
    
    
    Vice President of MarketingDavid Moffatt
    
    
    49
    
    
    Vice President of Human Resources
 All executive officers are chosen by the Board of Directors and serve at the Boards discretion.
Information concerning the business experience of our executive officers is as follows: John H. Marmaduke, age 57, has served as President and Chief Executive Officer of the Company since
July 1976 and as Chairman of the Board since October 1993. Mr. Marmaduke served as President of
the Companys former parent company, Western Merchandisers, Inc. (Western), from 1982 through
June 1994, including the years 1991 through 1994 when Western was a division of Wal-Mart Stores,
Inc. Mr. Marmaduke also serves on the board of directors of the Interactive Entertainment
Merchants Association. Mr. Marmaduke has been active in the entertainment retailing industry with
the Company and its predecessor company for over 30 years. Dan Crow, age 58, has served as Vice President of Finance and Chief Financial Officer of the
Company since October 2000. From July of 2000 to October 2000, Mr. Crow served as Vice President
of Finance. Mr. Crow is a member of the American Institute of Certified Public Accountants and
Financial Executives International and has served as Chief Financial Officer of various retail
companies including Discount Auto Parts, Inc., Scottys, Inc. and Lil Things, Inc. since 1984. James S. Hicks, age 48, has served as Vice President of Product of the Company since August 2002.
From August 1999 to August 2002, Mr. Hicks served as Vice President of Purchasing. From August
1997 to August 1999, Mr. Hicks served as the Senior Director of Purchasing and from April 1994 to
August 1997, was the Director of Purchasing. He was a District Leader for the Company from July
1984 to April 1994. From October 1982 to July 1984, Mr. Hicks served as a company troubleshooter
and from April 1982 to October 1982 was a store manager. Mr. Hicks began his career with Hastings
in August 1981 as a manager trainee. Prior to joining the Company, Mr. Hicks was the Regional
Credit Manager for Liquid Carbonics Corporation, a gas distributor and manufacturer headquartered
in Houston. 8




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##### Table of Contents



Alan Van Ongevalle, age 37, has served as Vice President of Information Technology and Distribution
since February 2003. From August 2002 to February 2003, Mr. Van Ongevalle served as Vice President
of Marketing and Distribution. From May 2000 to August 2002, Mr. Van Ongevalle served as Vice President of
Marketing. From August 1999 to May 2000, Mr. Van Ongevalle served as the Senior Director of
Marketing and as Director of Advertising from September 1998 to August 1999. Mr. Van Ongevalle
joined Hastings in November 1992 and held various store operation management positions including
Store Manager, Director of New Stores and the Southern Kansas area through September 1998. Kevin Ball, age 48, has served as Vice President of Marketing of the Company since May of 2004.
From 2001 to 2004, Mr. Ball served as Vice President of Marketing at Organized Living, a specialty
retailer of home organization products, headquartered in Kansas City. From 2000 to 2001, Mr. Ball
held the position of Vice President of Marketing at Crown Books in Washington, D.C. and from 1995
to 2000 was the Director of Marketing at Trans World Entertainment in Albany, N.Y. David Moffatt, age 49, has served as Vice President of Human Resources for the Company since June
2004. From 1999 to 2004, Mr. Moffatt served in several management capacities for PETsMART, most
recently as the Vice President of Staffing and Training. Prior to 1999, Mr. Moffatt spent over 12
years in retail and hotel management with companies such as Wal-Mart, Inc., Montgomery-Ward, and
Westin Hotels and Resorts. Available Information We file annual, quarterly and current reports, proxy statements and other information with the
Securities and Exchange Commission. The public may read and copy any materials we file with the
SEC at the SECs public Reference Room at 450 Fifth Street, N.W., Washington, D.C. 20549. The
public may obtain information on the operation of the Public Reference Room by calling the SEC at
1-800-SEC-0330. The SEC also maintains an Internet site that contains reports, proxy and
information statements, and other information regarding issuers that file electronically with the
SEC. The address of that site is (www.sec.gov). The address of our Internet Web site is (www.gohastings.com) and through the links on the Investor
Relations portion of our Web site, we make available free of charge our annual report on Form 10-K,
quarterly reports on Form 10-Q, current reports on Form 8-K, and other items filed with the SEC
pursuant to Section 13(a) or 15(d) of the Securities Exchange Act of 1934. Such material is made
available through our Web site as soon as reasonably practicable after we electronically file or
furnish the material with the SEC. In addition, links to press releases, our board committee
charters and our code of ethics for financial and other executive officers are posted in the
Investor Relations section. 9




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ITEM 2. PROPERTIES As of January 31, 2005, we operated 152 superstores in 20 states located as indicated in the
following table: Name of State
    
    Number of SuperstoresAlabama
    
    
    1Arkansas
    
    
    11Arizona
    
    
    7Colorado
    
    
    4Georgia
    
    
    1Idaho
    
    
    9Indiana
    
    
    1Iowa
    
    
    1Kansas
    
    
    10Kentucky
    
    
    1Missouri
    
    
    7Montana
    
    
    6Nebraska
    
    
    4New Mexico
    
    
    15Oklahoma
    
    
    12Tennessee
    
    
    6Texas
    
    
    43Utah
    
    
    2Washington
    
    
    8Wyoming
    
    
    3Total
    
    
    152
 Currently, we lease sites for all our superstores. These sites typically are located in
pre-existing, stand-alone buildings or strip shopping centers. Our primary market areas are small-
and medium-sized communities with populations generally less than 50,000. We have developed a
systematic approach using our site selection criteria to evaluate and identify potential sites for
new superstores. Key demographic criteria for superstores include
community population,
community and regional retail sales, personal and household disposable income levels, education
levels, median age, and proximity of colleges or universities. Other site selection factors include
current competition in the community, visibility, available parking, ease of access and other
neighbor tenants. To maintain low occupancy costs, we typically concentrate on leasing existing
locations that have been operated previously by other retailers. We actively manage our existing superstores and from time to time close under-performing stores.
During fiscal 2004 we closed one superstore and during fiscal 2003 we closed three superstores. The terms of our superstore leases vary considerably. We strive to maintain maximum location
flexibility by entering into leases with long initial terms and multiple short-term extension
options. We have been able to enter into leases with these terms in part because we generally bear
a substantial portion of the cost of preparing the space for a superstore. The following table sets forth as of January 31, 2005 the number of superstores that have current
lease terms that will expire during each of the following fiscal years and the associated number of
superstores for which we have options to extend the lease term: Number of Superstores
    
    OptionsFiscal Year 2005
    
    
    11
    
    
    
    10Fiscal Year 2006
    
    
    11
    
    
    
    11Fiscal Year 2007
    
    
    19
    
    
    
    19Fiscal Year 2008
    
    
    17
    
    
    
    16Fiscal Year 2009
    
    
    32
    
    
    
    30Thereafter
    
    
    62
    
    
    
    58Total
    
    
    152
    
    
    
    144
 10




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##### Table of Contents



We have not experienced any significant difficulty renewing or extending leases on a
satisfactory basis. Our headquarters and distribution center are located in Amarillo, Texas in a leased facility
consisting of approximately 44,500 square feet for office space and 146,000 square feet for the
distribution center. The leases for this property terminate in September 2008, and we have the
option to renew these leases through March 2020. 
 ITEM 3. LEGAL PROCEEDINGS During the current fiscal year, we were named as defendants in complaints alleging that our
extended viewing fees for movie and game rentals are illegal under the Uniform Commercial Code.
While we intend to vigorously defend these matters and anticipate favorable results, the ultimate
outcome of these matters cannot be estimated at this time. In the event an adverse judgment was
rendered, the impact on the consolidated financial statements could be material. We are also involved in various other claims and legal actions arising in the ordinary course of
business. In the opinion of management, the ultimate disposition of these matters will not have a
material adverse effect on our financial position, results of operations and cash flows. 
 ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS No matters were submitted to a vote of the security holders during the fourth quarter of fiscal
2004. 11




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PART II 
 ITEM 5. MARKET FOR REGISTRANTS COMMON EQUITY AND RELATED STOCKHOLDER MATTERS The shares of Hastings Entertainment, Inc. common stock are listed and traded on The Nasdaq
National Market (Nasdaq) under the symbol HAST. Our common stock began trading on June 12, 1998,
following our initial public offering. The following table contains, for the periods indicated, the
high and low sales prices per share of our common stock as reported on the Nasdaq: High
    
    
    Low2004:First Quarter
    
    $
    7.30
    
    
    $
    4.40Second Quarter
    
    $
    10.25
    
    
    $
    6.29Third Quarter
    
    $
    8.07
    
    
    $
    5.37Fourth Quarter
    
    $
    9.99
    
    
    $
    6.452003:First Quarter
    
    $
    4.30
    
    
    $
    3.00Second Quarter
    
    $
    4.20
    
    
    $
    3.00Third Quarter
    
    $
    4.37
    
    
    $
    3.01Fourth Quarter
    
    $
    5.00
    
    
    $
    3.35
 As of March 31, 2005, there were approximately 366 holders of record of our Common Stock. The payment of dividends is within the discretion of the Board of Directors and will depend on our
earnings, capital requirements, and our operating and financial condition, among other factors.
Our current revolving credit facility restricts the payment of dividends. In view of such
restrictions, it is unlikely that we will pay a dividend in the foreseeable future. With respect to equity compensation plan information, please refer to Item 12 of this Annual
Report. 12




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##### Table of Contents



ITEM 6. SELECTED FINANCIAL DATA The five-year selected financial data presented below has been revised to reflect the Companys
restatement related to lease accounting, discussed in Note 1 to the Financial Statements. The data
set forth below should be read in conjunction with Managements Discussion and Analysis of
Financial Condition and Results of Operations and the Companys Financial Statements and notes
thereto. Fiscal Year2004
    
    
    2003
    
    
    2002
    
    
    2001
    
    
    2000(In thousands, except per share and square foot data)
    
    
    
    
    
    (restated)(1)
    
    
    
    
    
    
    (restated)(1)
    
    
    (restated)(1)Income Statement Data:Merchandise revenue
    
    $
    440,596
    
    
    $
    404,977
    
    
    $
    395,548
    
    
    $
    379,322
    
    
    $
    370,512Rental video revenue
    
    
    101,420
    
    
    
    103,341
    
    
    
    99,846
    
    
    
    92,326
    
    
    
    87,691Total revenues
    
    
    542,016
    
    
    
    508,318
    
    
    
    495,394
    
    
    
    471,648
    
    
    
    458,203Merchandise cost of revenue
    
    
    319,107
    
    
    
    297,523
    
    
    
    292,888
    
    
    
    280,054
    
    
    
    280,459Rental video cost of revenue
    
    
    39,791
    
    
    
    39,259
    
    
    
    41,652
    
    
    
    41,504
    
    
    
    38,022Total cost of revenues
    
    
    358,898
    
    
    
    336,782
    
    
    
    334,540
    
    
    
    321,558
    
    
    
    318,481Gross profit
    
    
    183,118
    
    
    
    171,536
    
    
    
    160,854
    
    
    
    150,090
    
    
    
    139,722Selling, general and administrative expenses(2) (3)
    
    
    171,293
    
    
    
    162,616
    
    
    
    158,025
    
    
    
    144,223
    
    
    
    149,205Pre-opening expenses
    
    
    409
    
    
    
    277
    
    
    
    479
    
    
    
    182
    
    
    
    33Operating income (loss)
    
    
    11,416
    
    
    
    8,643
    
    
    
    2,350
    
    
    
    5,685
    
    
    
    (9,516
    )Interest expense
    
    
    (1,918
    )
    
    
    (2,048
    )
    
    
    (1,987
    )
    
    
    (2,090
    )
    
    
    (3,485
    )Interest income (4)
    
    
    
    
    
    
    
    
    
    
    1,291
    
    
    
    
    
    
    
    Other, net
    
    
    293
    
    
    
    324
    
    
    
    237
    
    
    
    252
    
    
    
    197Income (loss) before income taxes
    
    
    9,791
    
    
    
    6,919
    
    
    
    1,891
    
    
    
    3,847
    
    
    
    (12,804
    )Income tax expense (benefit)(5)
    
    
    3,982
    
    
    
    (1,358
    )
    
    
    
    
    
    
    (66
    )
    
    
    1,942Net income (loss)
    
    $
    5,809
    
    
    $
    8,277
    
    
    $
    1,891
    
    
    $
    3,913
    
    
    $
    (14,746
    )Basic income (loss) per share
    
    $
    0.51
    
    
    $
    0.73
    
    
    $
    0.17
    
    
    $
    0.33
    
    
    $
    (1.27
    )Diluted income (loss) per share
    
    $
    0.49
    
    
    $
    0.72
    
    
    $
    0.16
    
    
    $
    0.33
    
    
    $
    (1.27
    )Weighted-average common shares outstanding  basic
    
    
    11,411
    
    
    
    11,327
    
    
    
    11,343
    
    
    
    11,742
    
    
    
    11,645Weighted-average common shares outstanding  diluted
    
    
    11,942
    
    
    
    11,483
    
    
    
    11,779
    
    
    
    11,898
    
    
    
    11,645Other Data:Depreciation (6)
    
    $
    41,917
    
    
    $
    38,675
    
    
    $
    40,223
    
    
    $
    35,613
    
    
    $
    33,501Capital expenditures (7)
    
    $
    59,871
    
    
    $
    53,456
    
    
    $
    64,664
    
    
    $
    46,495
    
    
    $
    30,482Store Data:Total selling square footage at end of period
    
    
    3,039,582
    
    
    
    2,915,884
    
    
    
    2,846,955
    
    
    
    2,727,446
    
    
    
    2,759,735Comparable-store revenues increase (8)
    
    
    5.0
    %
    
    
    1.9
    %
    
    
    5.0
    %
    
    
    4.7
    %
    
    
    0.1
    %
 January 31,2005
    
    
    2004
    
    
    2003
    
    
    2002
    
    
    2001(restated)(1)
    
    
    (restated)(1)
    
    
    (restated)(1)
    
    
    (restated)(1)Balance Sheet Data:Working capital (9)
    
    $
    50,749
    
    
    $
    36,591
    
    
    $
    49,837
    
    
    $
    48,836
    
    
    $
    45,438Total assets
    
    
    254,116
    
    
    
    234,560
    
    
    
    235,027
    
    
    
    227,355
    
    
    
    211,142Total long-term debt, including
current maturities on capital lease
obligations
    
    
    39,846
    
    
    
    29,844
    
    
    
    46,712
    
    
    
    33,432
    
    
    
    29,610Total shareholders equity
    
    $
    89,774
    
    
    $
    83,946
    
    
    $
    75,583
    
    
    $
    73,770
    
    
    $
    72,321
 13




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##### Table of Contents



(1)
    In fiscal 2004, like many other retailers, the Company restated its financial statements as the
result of clarification from the office of the Chief Accountant of the Securities and Exchange
Commission regarding certain lease accounting matters and their application under generally
accepted accounting principles. These restatements primarily affected depreciation expense,
rent expense, net income, and equity. Fiscal 2001 and 2000 earnings per diluted share decreased
$0.01 and $0.02, respectively. See Note 1 of the accompanying financial statements for
additional information.(2)
    We recorded pre-tax charges of $2.6 million in fiscal 2002 related to the settlement of
shareholder class action lawsuits. These charges reduced net income by $2.6 million or
approximately $0.22 per diluted share.(3)
    In fiscal 2000, we recorded $2.7 million in accounting and legal fees associated with the
restatement of the first three quarters of fiscal 1999 and the prior four fiscal years. As a
result of these fees, fiscal year 2000 net losses were increased by $2.7 million, or $0.23 per
diluted share.(4)
    We recorded interest income of approximately $1.3 million in the second quarter of fiscal
2002 as a result of interest earned on income tax refunds for amended returns filed for fiscal
years 1995 through 1998. As a result, net income was increased by approximately $0.11 per
diluted share.(5)
    The results for fiscal year 2003 reflect an income tax benefit of approximately $1.4 million,
or $0.12 per diluted share, primarily due to the reversal of a valuation allowance of
approximately $4.4 million previously applied against our deferred tax assets. Based on our
past three fiscal years of profitability and our projections of future taxable income, we
believe that a valuation allowance is no longer required as of January 31, 2004 as the
realization of our deferred tax assets is now considered more likely than not.(6)
    Includes amounts associated with our rental video cost amortization.(7)
    Includes procurement of rental video assets.(8)
    Stores included in the comparable-store revenues calculation are those stores that have been
open for a minimum of 60 weeks. Also included are stores that are remodeled or relocated.
Sales via the internet are not included and closed stores are removed from each comparable
period for the purpose of calculating comparable-store revenues.(9)
    Working capital is calculated as total current assets less total current liabilities. 14




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##### Table of Contents



ITEM 7. MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS The following discussion should be read in conjunction with our consolidated financial statements
and the related notes thereto and Item 6. Selected Financial Data appearing elsewhere in this
Annual Report. CAUTIONARY STATEMENTS The following cautionary statements and other information included in this Annual Report on Form
10-K should be carefully considered. The risks and uncertainties described below are not the only
ones we face. Additional risks and uncertainties not presently known to us or that we currently
deem immaterial also may impair our business operations. If any of the following risks occur, our
business, financial condition, operating results and cash flows could be materially adversely
affected. Expansion Strategy.Our growth strategy is dependent principally on our ability to open new
superstores and remodel, expand and/or relocate certain of our existing superstores and operate
them profitably. In general, the rate of our expansion depends, among other things, on general
economic and business conditions affecting consumer confidence and spending, the availability of
qualified management personnel and our ability to manage the operational aspects of our growth. It
also depends upon the availability of adequate capital, which in turn depends in a large part upon
the cash flow generated from operations. Our future results will depend, among other things, on the success in implementing our expansion
strategy. If stores are opened more slowly than expected, sales at new stores reach targeted
levels more slowly than expected (or fail to reach targeted levels) or related overhead costs
increase in excess of expected levels, our ability to successfully implement our expansion strategy
would be adversely affected. Seasonality.As is the case with many retailers, a significant portion of our revenues, and an
even greater portion of our operating profit, is generated in the fourth fiscal quarter, which
includes the holiday selling season. As a result, a substantial portion of our annual earnings has
been, and will continue to be, dependent on the results of this quarter. Less than satisfactory
net sales for such period could have a material adverse effect on the Companys financial condition
or results of operations for the year and may not be sufficient to cover any losses that may have
been incurred in the first three quarters of the year. We experience reduced video rental activity
in the spring because customers spend more time outdoors. Major world or sporting events, such as
the Super Bowl, the Olympic Games or the World Series, also have a temporary adverse effect on
revenues. Future operating results may be affected by many factors, including variations in the
number and timing of superstore openings, the number and popularity of new book, music and video
titles, the cost of the new release or best renter titles, changes in comparable-store revenues,
competition, marketing programs, increases in the minimum wage, weather, special or unusual events,
and other factors that may affect our operations. Competition.We operate in numerous, highly competitive industries including the book, music, sale
video and rental video industries. In each of these products, we compete directly with national
superstore operators, as well as regional chains and superstores, specialty retailers dealing in
our products, independent single store operators, discount stores, warehouse and mail order clubs,
and mass merchandisers. In addition, the Internet is a significant channel for retailing for most
of the product categories that we offer. In particular, the retailing of books, music and video
over the Internet is highly competitive. In addition, we face competition from companies engaged in
the business of selling books, music and movies and the renting of movies via electronic means,
including the downloading of music content and in-home video delivery. An increase in competition
in the physical or electronic markets in which we operate could have a material effect on our
operations. Consumer Spending Patterns.Revenues generated from the sale and rental of books, music, videos
and other products we carry have historically been dependent upon discretionary consumer spending,
which may be affected by general economic conditions, consumer confidence and other factors beyond
our control. A decline in consumer spending on the buying and/or rental of the products we offer
could have a material adverse effect on our financial condition and results of operations and our
ability to fund our expansion strategy. 15




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##### Table of Contents



Reliance on Key Personnel.Management believes that the Companys continued success will depend,
to a significant extent, upon the efforts and abilities of Mr. John H. Marmaduke, Chairman,
President and Chief Executive Officer. The loss of the services of Mr. Marmaduke could have a
material adverse effect on our operations. We maintain key man life insurance on Mr. Marmaduke.
In addition, our success depends, in part, on our ability to retain key management and attract
other personnel to satisfy our current and future needs. The inability to retain key management
personnel or attract additional qualified personnel could have a material adverse effect on our
operations. Home Video Retailer Distribution Window.A competitive advantage that home video retailers
currently enjoy over most other movie distribution channels, except theatrical release, is the
early timing of the home video retailer distribution window. After the initial theatrical release
of a movie, studios generally make their movies available to home video retailers (for rental and
retail, including by mass merchant retailers) for specified periods of time. This distribution
window is typically exclusive against most other forms of non-theatrical movie distribution, such
as pay-per-view, video-on-demand, premium television, basic cable and network and syndicated
television. The length of this exclusive distribution window for home video retailers varies, but
has traditionally ranged from 45 to 60 days for domestic video stores. Thereafter, movies are made
sequentially available to television distribution channels. Our business could be negatively affected if (i) video retailer distribution windows were no longer
the first following the theatrical release; (ii) the length of the home video retailer distribution
windows were shortened; or (iii) the home video retailer distribution windows were no longer as
exclusive as they are now because newly released movies would be made available earlier on these
other forms of non-theatrical movie distribution. As a result, consumers would no longer need to
wait until after the home video retailer distribution window to view a newly released movie on
these other distribution channels. We believe that the studios have a significant interest in maintaining a viable home video retail
industry. However, the order, length and exclusivity of each window for each distribution channel
is determined solely by the studio releasing the movie, and we cannot predict future decisions by
the studios, or the impact, if any, of those decisions. In addition, any consolidation or vertical
integration of media companies to include both content providers and digital distributors could
pose a risk to the continuation of the distribution window. Current Rental Video Studio Pricing Policies.Recent studio pricing for movies released to home
video retailers has impacted our video business. Historically, studio pricing was based on whether
or not a studio desired to promote a movie for both rental and sale to the consumer, or primarily
for rental, from the beginning of the home video distribution window. In order to promote a movie
title for rental, the title would be released to home video retailers at a price that was too high
to allow for an affordable sales price by the retailer to the consumer at the beginning of the
retail home video distribution window. As rental demand subsided, the studio would reduce pricing
in order to then allow for reasonably priced sales to consumers. Currently, substantially all DVD
titles are released at a price to the home video retailer that is low enough to allow for an
affordable sales price by the retailer to the consumer from the beginning of the retail home video
distribution window. This sell-through pricing policy has led to increasing competition from other
retailers, including mass merchants such as Wal-Mart and online retailers, who are able, due to the
lower sell-through prices, to purchase DVDs for sale to consumers at the same time as traditional
home video retailers, like Hastings, purchase both DVDs and VHS product for rental. In addition,
some retailers sell movies at lower prices in order to increase overall traffic to their stores or
businesses, and mass merchants may be more willing to sell at lower prices, and in some instances,
below wholesale. These factors have increased consumer interest in purchasing DVDs, which has
reduced the significance of the VHS rental window. We believe that the increased consumer purchases are due in part to consumer interest in building
DVD libraries of classic movies and personal favorites and that the studios will remain dependent
on the traditional home video retailer to generate revenues for the studios from titles that are
not classics or current box office hits. We therefore believe the importance of the video rental
industry to the studios will continue to be a factor in studio pricing decisions. However, we
cannot control or predict studio pricing policies with certainty, and we cannot assure you that
consumers will not, as a result of further decreases in studio sell-through pricing and/or
sustained or further depressed pricing by competitors, increasingly desire to purchase rather than
rent movies. Personal DVD libraries could also cause 16




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##### Table of Contents



consumers to rent or purchase fewer movies in
the future. Our profitability could therefore be negatively affected if, in
light of any such consumer behavior, we were unable to (i) grow our rental business, (ii) replace
gross profits from generally higher-margin rentals with gross profits from increased sales of
generally lower-margin sell-through product; or (iii) otherwise positively affect gross profits,
such as through price increases or cost reductions. Our ability to achieve one or more of these
objectives is subject to risks, including the risk that we may not be able to compete effectively
with other DVD retailers, some of whom may have competitive advantages such as the pricing
flexibility described above or favorable consumer perceptions regarding value. Regardless of the wholesale pricing environment, the extent of our profitability is dependent on
our ability to enter into arrangements with the studios that effectively balance copy depth and
cost considerations. Each type of arrangement provides different advantages and challenges for us.
The ability to negotiate preferred terms under revenue sharing agreements for the procurement of
DVD, video games and VHS titles is crucial to our operations. Our profitability could be
negatively affected if studios were to make other changes in their wholesale pricing policies and
revenue-sharing agreements. Alternate Methods of Video Delivery.Advances in technologies such as video-on-demand or certain
changes in consumer behavior driven by these or other technologies and methods of delivery, could
have a negative effect on our business. In particular, our business could be impacted if (i) newly
released movies were to be made widely available by the studios to these technologies at the same
time or before they are made available to home video retailers for rental; and (ii) these
technologies were to be widely accepted by consumers. In addition, advances in direct broadcast
satellite and cable technologies may adversely affect public demand for video store rentals. If
direct broadcast satellite and digital cable were to become more widely available and accepted,
this could cause a smaller number of movies to be rented if viewers were to favor the expanded
number of conventional channels and expanded content, including movies, specialty programming and
sporting events, offered through these services. If this were to occur, it could have a negative
effect on our video store business. Direct broadcast satellite providers transmit numerous channels
of programs by satellite transmission into subscribers homes. Also, cable providers are taking
advantage of digital technology to transmit many additional channels of television programs over
cable lines to subscribers homes. Amortization and Salvage Value of Rental Video.Certain events mentioned in this Annual Report on
Form 10-K and others, including a downturn in the rental video industry as a whole or in the
markets within which we operate our superstores, further consolidation of rental video retailers, a
substantial change in customer demand and a change in the mix of rental video revenues, could
affect the salvage value we have assigned to our rental video assets. The effect could result in a
material reduction of the carrying value of our rental video assets and have a material impact on
the financial results of an annual or interim period. In particular, the growth of the DVD market
and the shift of consumer purchases from VHS (videocassettes) to DVD could result in a decrease in
the salvage value of rental videos. At some point during the rental cycle, a VHS item, as with DVD
and games, is available for purchase by a customer as a previously viewed tape (PVT). With the
shift in consumer interest from VHS to DVD, we have experienced a significant reduction in the
revenues generated by VHS, see Fiscal 2004 Compared to Fiscal 2003 and Fiscal 2003 Compared to
Fiscal 2002 in this section. In order to reduce exposure to a declining product category, we
monitor closely the recovery value received as well as the on hand levels of our PVT. In addition,
we are implementing an electronic pull criteria that will better identify when a tape should be
made available as PVT in order to maximize recovery value. Our current experience is that the
amount received for a previously viewed tape is higher than our estimated salvage value of that
item in our rental inventory. Based in part on this factor and sales of previously viewed tapes,
we believe our estimate of salvage value is appropriate, however, if future demand or market
conditions are less favorable than management projections, inventory adjustments, including
possible changes to rental video asset cost amortization methods or salvage values, may be
required. 17




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Overview Hastings Entertainment is a leading multimedia entertainment retailer that sells, trades, and rents
various home entertainment products, including books, music, software, periodicals, new and used
DVDs, video games and videocassettes, video game consoles and DVD players through its entertainment
superstores and its Internet Web site. As of January 31, 2005, we operated 152 superstores
averaging approximately 20,000 square feet in small- to medium-sized markets located in 20 states,
primarily in the Western and Midwestern United States. Each of the superstores is wholly owned by
us and operates under the name of Hastings. Our operating strategy is to enhance our position as a multimedia entertainment retailer by
expanding and remodeling existing superstores, opening new superstores in selected markets, and
offering our products through our Internet Web site. References herein to fiscal years are to the
twelve-month periods that end in January of the following calendar year. For example, the
twelve-month period ended January 31, 2005 is referred to as fiscal 2004. Critical Accounting Policies Our financial statements are prepared in accordance with accounting principles generally accepted
in the United States, which require management to make estimates and assumptions that affect the
reported amounts of assets and liabilities at the date of the financial statements, the disclosure
of contingent liabilities and the reported amounts of revenues and expenses during the reporting
period. Actual results could differ from those estimates. We believe the following critical
accounting policies affect our more significant estimates and assumptions used in the preparation
of our financial statements. Our significant estimates and assumptions are reviewed, and any
required adjustments are recorded, on a monthly basis. Lower of Cost or Market for Merchandise Inventory.Our merchandise inventories are recorded at the
lower of cost or market. As with any retailer, economic conditions, cyclical customer demand and
changes in purchasing or distribution can affect the carrying value of inventory. As circumstances
warrant, we record lower of cost or market inventory adjustments. In some instances, these
adjustments can have a material effect on the financial results of an annual or interim period. In
order to determine such adjustments, we evaluate the age, inventory turns and estimated fair value
of merchandise inventory by product category and record an adjustment if estimated market value is
below cost. Through merchandising and an automated-progressive markdown program, we quickly take
the steps necessary to increase the sell-off of slower moving merchandise to eliminate or lessen
the effect of these adjustments. Returns Process.Merchandise inventory owned by us is generally returnable based upon return
agreements with our merchandise vendors. We continually return merchandise to vendors based on,
among other factors, current and projected sales trends, overstock situations, authorized return
timelines or changes in product offerings. At the end of any reporting period, cost accruals are
required for inventory that has been returned to vendors, is in the process of being returned to
vendors, or has been identified to be returned to vendors. These costs can include freight,
valuation and quantity differences, and other fees charged by a vendor. In order to appropriately
match the costs associated with the return of merchandise with the process of returning such
merchandise, we utilize an allowance for cost of inventory returns. To accrue for such costs and
estimate this allowance, we utilize historical experience adjusted for significant estimated or
contractual modifications. Certain adjustments to the allowance can have a material effect on the
financial results of an annual or interim period. Rental Asset Depreciation.We have a series of direct revenue-sharing agreements with major
studios and we anticipate that our future involvement in revenue-sharing agreements will be similar
to that of fiscal year 2004. Revenue sharing allows us to acquire rental video assets at a lower
up-front capital cost than traditional buying arrangements. We then share with studios a percentage
of the actual net rental revenues generated over a contractually determined period of time. The
increased access to additional copies of new releases under revenue-sharing agreements allows
customer demand for new releases to be satisfied over the shorter period of time when the new
releases are most popular. Under the terms of the specific contracts with supplying studios, we
expense revenue-sharing payments through rental video cost of revenue, as revenues are recognized.
The capitalized cost of all rental video assets acquired for a fixed price is being amortized on an
accelerated basis over six months to a salvage value of 18




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##### Table of Contents



$4 per unit, except for rental video assets purchased for the initial stock of a new superstore,
which are being amortized on a straight line basis over 36 months to a salvage value of $4. Rental
video assets purchased for less than $4 are not amortized. We monitor closely the recovery value of our rental video assets and are implementing an electronic
pull criteria in order to maximize recovery value. Our current experience is that the recovery
value of our rental video assets is higher than our estimated salvage value of that item in our
rental inventory. Based in part on this factor and sales of previously viewed tapes, we believe
our estimate of salvage value is appropriate. However, if future demand or market conditions are
less favorable than management projections, inventory adjustments, including possible changes to
rental video asset cost amortization methods or salvage values, may be required. Store Closing Reserve.On a quarterly basis, and in the normal course of business, we evaluate our
store base to determine if we need to close or relocate a store(s). Management will evaluate,
among other factors, current and future profitability, market trends, age of store and lease
status. The primary expense items associated with the closure of a store relate to the net present
value of minimum lease payments (the present value of remaining lease payments under an active
lease) and the write-off of leasehold improvements and other assets not remaining in our
possession. Prior to December 31, 2002, such expense items were recorded as of the date that
management made the decision to close or relocate a store and sublease income was not recorded as
part of the estimate until a contract with a sublet tenant had been signed. Subsequent to December 31, 2002, and in accordance with the adoption of SFAS No. 146, we now
recognize such expense items at the time the location is closed or relocated. The amount recorded
can fluctuate based on the age of the closing location, term and remaining years of the lease and
the number of stores being closed or relocated. We actively pursue sublease tenants on all closed
or relocated locations and, as part of the final estimation of store closing liability, the impact
of any sublease income is estimated. The net of the described charges and sublease income
estimates can have a material effect on the financial results of an annual or interim period. Revenue Recognition.We generate revenue primarily from retail sales and rental of our products.
Merchandise and rental revenues are recognized at the point of sale or rental or at the time
merchandise is shipped to the customer. Revenues are presented net of estimated returns and
exclude all taxes. Customers may return certain merchandise for exchange or refund within our
policies, and an allowance has been established to provide for projected returns. There are no
provisions for uncollectible amounts since payment is received at the time of sale. We, as with
most retailers, also offer gift cards for sale. Deferred revenue, a current liability, is
recognized at the time a gift card is sold with the costs of designing, printing and distributing
the cards recorded as an expense as incurred. The deferred revenue liability is relieved and
revenue is recognized upon the redemption of the gift cards. From time to time we will offer sales
incentives to customers, in the form of rebates. Revenue is reduced by the amount of estimated
redemptions, based on experience of similar types of rebate offers, and a deferred revenue
liability is established. The deferred revenue liability is relieved when the customer has
completed all criteria necessary to file a valid rebate claim. Any remaining portion of deferred
revenue is recorded as revenue following the termination of the extended redemption period and
following completion of all outstanding rebate claims. Comparable-Store Revenue.Stores included in the comparable-store revenues calculation are those
stores that have been open for a minimum of 60 weeks. Also included are stores that are remodeled
or relocated. Sales via the internet are not included and closed stores are removed from each
comparable period for the purpose of calculating comparable-store revenues. Vendor Allowances.In 2003, the Emerging Issues Task Force (EITF) reached a consensus on Issue
No. 02-16, Accounting by a Customer (Including a Reseller) for Certain Consideration Received from
a Vendor (EITF 02-16), which addresses the accounting for cash consideration received from a
vendor by a reseller for various vendor-funded allowances, including cooperative advertising
support. The EITF determined that cash consideration received from a vendor should be presumed to
be a reduction of the prices of vendors products and, therefore, should be shown as a reduction in
the cost of goods sold when recognized in the resellers income statements. The only exception to
this rule is if the reimbursement is for specific, incremental identifiable costs. If the amount
of cash consideration received exceeds the cost being reimbursed, that excess amount should be
characterized as a reduction of cost of goods 19




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##### Table of Contents



sold when recognized in the resellers income statements. In January 2003, the EITF issued
transition guidance concluding that this interpretation should be applied to all new or modified
arrangements entered into after December 31, 2002. Accordingly, a portion of our vendor
advertising allowances have been recorded as a reduction of merchandise inventory and the cost of
rental assets and will be recognized in cost of revenues as inventory is sold and as rental assets
are rented. Certain amounts that we receive from vendors, such as cooperative advertising
payments, are considered reimbursement for specific, identifiable costs and therefore continue to
be recorded as a reduction of SG&A. Results of Operations Lease Accounting.In February 2005, the Securities and Exchange Commission clarified certain lease
accounting matters and their application under generally accepted accounting principles. The SEC
specifically addressed the depreciable life of leasehold improvements, rent holidays, and
landlord-tenant incentives. The Company reviewed its accounting practices with respect to rent
holidays and amortization of leasehold improvements. As a result of this review, the Company
determined that certain of its lease accounting practices were not in accordance with the views
expressed by the SEC. Historically, the Company has recorded rent expense on a straight-line basis over the initial
non-cancelable lease term, with the term commencing when rent payments began. Rent payments
typically began on the store opening date, which had the effect of excluding the build-out period
(or rent holiday period) from the calculation of the rent period. Additionally, the Company had
amortized certain leasehold improvements over a period longer than allowed by the SECs
interpretation of related accounting guidance. To correct such errors, the Company has restated its financial statements for certain quarterly and
annual periods in fiscal 2004, 2003, and 2002. Such adjustments resulted in increases in net
income per diluted share of $0.05 and $0.04 for fiscal years 2004 and 2003, respectively, and
beginning shareholders equity in fiscal 2002 was reduced by $3.6 million. The restatement has no
impact on historic or future cash flows or the timing of lease payments. The following tables present our statement of operations data, expressed as a percentage of
revenue, and the number of superstores open at the end of period for the three most recent fiscal
years. Fiscal Year2004
    
    
    2003
    
    
    2002(restated)Merchandise revenue
    
    
    81.3
    %
    
    
    79.7
    %
    
    
    79.8
    %Rental video revenue
    
    
    18.7
    
    
    
    20.3
    
    
    
    20.2Total revenues
    
    
    100.0
    
    
    
    100.0
    
    
    
    100.0Merchandise cost of revenue
    
    
    72.4
    
    
    
    73.5
    
    
    
    74.0Rental video cost of revenue
    
    
    39.2
    
    
    
    38.0
    
    
    
    41.7Total cost of revenues
    
    
    66.2
    
    
    
    66.2
    
    
    
    67.5Gross profit
    
    
    33.8
    
    
    
    33.8
    
    
    
    32.5Selling, general and administrative expenses
    
    
    31.6
    
    
    
    32.0
    
    
    
    31.9Pre-opening expenses
    
    
    0.1
    
    
    
    0.1
    
    
    
    0.131.7
    
    
    
    32.1
    
    
    
    32.0Operating income
    
    
    2.1
    
    
    
    1.7
    
    
    
    0.5Other income (expense):Interest expense
    
    
    (0.4
    )
    
    
    (0.4
    )
    
    
    (0.4
    )Interest income
    
    
    
    
    
    
    
    
    
    
    0.3Other, net
    
    
    0.1
    
    
    
    0.1
    
    
    
    0.0
 20




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##### Table of Contents



Fiscal Year2004
    
    
    2003
    
    
    2002(restated)(0.3
    )
    
    
    (0.3
    )
    
    
    (0.1
    )Income before income taxes
    
    
    1.8
    
    
    
    1.4
    
    
    
    0.4Income tax expense (benefit)
    
    
    0.7
    
    
    
    (0.2
    )
    
    
    Net income
    
    
    1.1
    %
    
    
    1.6
    %
    
    
    0.4
    %
 Fiscal Year2004
    
    
    2003
    
    
    2002Hastings Superstores:Beginning number of stores
    
    
    148
    
    
    
    146
    
    
    
    142Openings
    
    
    5
    
    
    
    5
    
    
    
    7Closings
    
    
    (1
    )
    
    
    (3
    )
    
    
    (3
    )Ending number of stores
    
    
    152
    
    
    
    148
    
    
    
    146
 Fiscal 2004 Compared to Fiscal 2003 Revenues.Total revenues for fiscal 2004 increased $33.7 million, or 6.6%, to $542.0
million compared to $508.3 million for the same period in the prior year, resulting principally
from an increase of 5.0% in comparable-store revenues (Comps). The following is a summary of
our revenue results (dollars in thousands): Fiscal Year Ended January 31,2005
    
    
    2004
    
    
    Increase/(Decrease)Percent of
    
    
    
    
    
    
    Percent ofRevenues
    
    
    Total
    
    
    Revenues
    
    
    Total
    
    
    Dollar
    
    
    PercentMerchandise revenue
    
    $
    440,596
    
    
    
    81.3
    %
    
    $
    404,977
    
    
    
    79.7
    %
    
    $
    35,619
    
    
    
    8.8
    %Rental revenue
    
    
    101,420
    
    
    
    18.7
    %
    
    
    103,341
    
    
    
    20.3
    %
    
    
    (1,921
    )
    
    
    -1.9
    %Total revenues
    
    $
    542,016
    
    
    
    100.0
    %
    
    $
    508,318
    
    
    
    100.0
    %
    
    $
    33,698
    
    
    
    6.6
    %Comparable-store revenues:Merchandise
    
    
    7.5
    %Rental
    
    
    -4.5
    %Total
    
    
    5.0
    %
 The higher merchandise Comps were primarily the result of changes in the following major
categories: Fiscal Year Ended January 31,2005
    
    2004Music
    
    
    1.8
    %
    
    
    -7.5
    %Books
    
    
    1.5
    %
    
    
    0.7
    %Video for sale
    
    
    15.4
    %
    
    
    17.7
    %Video games
    
    
    29.6
    %
    
    
    34.4
    %Sidelines
    
    
    9.8
    %
    
    
    5.2
    %
 Our video Comp increase, including the rental and sell-through revenues from all video and video
game products, was 7.9% for the fiscal year ended January 31, 2005. Gross Profit.For the fiscal year 2004, total gross profit dollars increased approximately $11.6
million, or 6.8%, to $183.1 million from $171.5 million for the same period last year, primarily as
a result of higher revenues. As a percentage of total revenues, gross profit was 33.8% for the
fiscal year ended January 31, 2005, the same as the prior year. Gross profit from merchandise
sales increased 1.1% from 26.5% in fiscal 2003 to 27.6% for fiscal 2004. 21




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Increased merchandise
gross profit resulted from greater margin improvements occurring in each product department,
particularly our books and music departments, partially offset by approximately $2.1 million in
incremental costs related to the conversion of our warehouse management system and $2.1 million in
decreased favorable vendor settlements. The increase in merchandise gross profit was offset by
declining gross profit from rental sales, which dropped 1.2% from 62.0% in fiscal 2003 to 60.8% in
fiscal 2004, which primarily results from lower rental sales. Selling, General and Administrative expenses (SG&A).SG&A increased approximately $8.7 million
to $171.3 million for the full fiscal year compared to $162.6 million in the prior year, due
primarily to higher human resource and occupancy costs associated with the operation of a greater
number of new, expanded and relocated superstores. As a percentage of total revenues, SG&A
decreased to 31.6% for the fiscal year ended January 31, 2005 compared to 32.0% for prior year. Interest Expense.For fiscal 2004, when compared to fiscal 2003, interest expense remained
constant at 0.4% of total revenues. Income Taxes.For fiscal 2004, the Company recorded income tax expense of approximately $4.0
million, using an effective tax rate of 40.9% applied against income from operations. In the prior
fiscal year, the Company reversed a valuation allowance of $4.4 million associated with a deferred
tax asset resulting in a net income tax benefit of $1.4 million. Fiscal 2003 Compared to Fiscal 2002 Revenues.Total revenues for fiscal 2003 increased $12.9 million, or 2.6%, to $508.3
million compared to $495.4 million for the same period in the prior year, resulting principally
from an increase of 1.9% in comparable-store revenues (Comps). The following is a summary of
our revenue results (dollars in thousands): Fiscal Year Ended January 31,2004
    
    
    2003
    
    
    Increase/(Decrease)Percent of
    
    
    
    
    
    
    Percent ofRevenues
    
    
    Total
    
    
    Revenues
    
    
    Total
    
    
    Dollar
    
    
    PercentMerchandise revenue
    
    $
    404,977
    
    
    
    79.7
    %
    
    $
    395,548
    
    
    
    79.8
    %
    
    $
    9,429
    
    
    
    2.4
    %Rental revenue
    
    
    103,341
    
    
    
    20.3
    %
    
    
    99,846
    
    
    
    20.2
    %
    
    
    3,495
    
    
    
    3.5
    %Total revenues
    
    $
    508,318
    
    
    
    100.0
    %
    
    $
    495,394
    
    
    
    100.0
    %
    
    $
    12,924
    
    
    
    2.6
    %Comparable-store revenues:Merchandise
    
    
    1.7
    %Rental
    
    
    2.7
    %Total
    
    
    1.9
    %
 The higher merchandise Comps were primarily the result of changes in the following major
categories: Fiscal Year Ended January 31,2004
    
    2003Music
    
    
    -7.5
    %
    
    
    -6.3
    %Books
    
    
    0.7
    %
    
    
    3.6
    %Video for sale
    
    
    17.7
    %
    
    
    20.5
    %Video games
    
    
    34.4
    %
    
    
    97.8
    %Sidelines
    
    
    5.2
    %
    
    
    11.0
    %
 Our video Comp increase, including the rental and sell-through revenues from all video and video
game products, was 11.9% for the fiscal year ended January 31, 2004. 22




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Gross Profit.For the fiscal year 2003, total gross profit dollars increased approximately $10.6
million, or 6.6%, to $171.5 million from $160.9 million for the same period last year, primarily as
a result of higher revenues. As a percentage of total revenues, gross profit increased to 33.8%
for the fiscal year ended January 31, 2004, compared to 32.5% for the prior year. This increase
was due to an increase of 0.5% in merchandise gross profit percentage and an increase of 3.7% in
rental sales gross profit percentage, which primarily results from better revenue sharing contract
terms. Selling, General and Administrative expenses (SG&A).SG&A increased approximately $4.6 million
to $162.6 million for the full fiscal year compared to $158.0 million in the prior year, primarily
due to an increase in advertising costs of $4.4 million due to the adoption of EITF 02-16 which
requires the classification of certain consideration received from vendors as reductions of the
cost of products purchased from such vendors as opposed to reducing SG&A expense. As a percentage
of total revenues, SG&A increased to 32.0% for the fiscal year ended January 31, 2004 compared to
31.9% for prior year. Interest Expense.For fiscal 2003, when compared to fiscal 2002, interest expense remained
constant at 0.4% of total revenues. Income Taxes.The results for fiscal year 2003 reflect an income tax benefit of approximately $1.4
million, or $0.12 per diluted share, primarily due to the reversal of a valuation allowance of
approximately $4.4 million previously applied against our deferred tax assets. Based on our past
three fiscal years of profitability and our belief that existing and projected levels of pre-tax
income are sufficient to generate the minimum amount of future taxable income necessary to realize
the deferred tax asset, we believe that the realization of our deferred tax asset is now considered
more likely than not and a valuation allowance is no longer required as of January 31, 2004. Liquidity and Capital Resources We generate cash from operations exclusively from the sale of merchandise and the rental of video
products and we have substantial operating cash flow because most of our revenue is received in
cash and cash equivalents. Other than our principal capital requirements arising from the
purchase, warehousing and merchandising of inventory and rental videos, opening new superstores and
expanding existing superstores and updating existing and implementing new information systems
technology, we have no anticipated material capital commitments, except for the stock buyback
programs more fully discussed below. Our primary sources of working capital are cash flow from
operating activities, trade credit from vendors and borrowings under our amended revolving credit
facility. We believe our cash flow from operations and borrowings under our amended revolving
credit facility will be sufficient to fund our ongoing operations, new superstores and superstore
expansions through fiscal 2005. Historically we have experienced an increase in our debt level during the third quarter of our
fiscal year. For third quarter of fiscal 2005, we are projecting our debt level to increase to
approximately $49.0 million to $54.0 million. However, we expect this balance to reduce to
approximately $15.0 million to $20.0 million in the fourth quarter due to a higher level of
repayments following the holiday selling season. At January 31, 2005, total outstanding debt
(including capital lease obligations) was $39.8 million. Consolidated Cash Flows Operating Activities.Net cash flows from operating activities decreased $20.5 million,
or 28.1%, to $52.5 million in fiscal 2004 from $73.0 million in fiscal 2003. In addition to a
decrease in net income of approximately $2.5 million, inventory increased approximately $7.6
million in fiscal 2004 compared to a decrease of approximately $14.3 million in fiscal 2003.
Thus, the change in inventory primarily accounts for the decrease in cash provided by operating
activities from fiscal 2003 to fiscal 2004. The increase in merchandise inventory is primarily
the result of additional required stock due to additional selling square footage in 2004 over
2003 as the result of opening five new stores. 23




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##### Table of Contents



Investing Activities. Net cash used in investing activities increased $6.4 million, or
12.0%, from $53.5 million in fiscal 2003 to $59.9 million in fiscal 2004. This increase was
primarily the result of purchasing additional rental inventory stock for our new stores. Financing Activities.Cash provided by or used in financing activities is primarily
associated with borrowings and payments made under our revolving credit facility (described
below under Capital Structure). For fiscal 2004, cash provided by financing activities was
$9.8 million compared to cash used in financing activities of $16.9 million for fiscal 2003,
resulting from net borrowings on our revolving credit facility during fiscal 2004 of
approximately $10.2 million compared to net repayments for fiscal 2003 of approximately $16.7
million. On September 18, 2001 we announced a stock repurchase program of up to $5.0 million of our common
stock. During fiscal 2004, we purchased a total of 140,600 shares at a cost of $0.9 million, or
approximately $6.40 per share. There were no purchases of treasury shares during the fourth
quarter of fiscal 2004. As of January 31, 2005, a total of 937,023 shares had been purchased at a
cost of approximately $4.7 million, for an average cost of $4.99 per share. The company announced
an additional stock repurchase program on April 4, 2005, of up to $2.5 million of our common stock. Capital Structure.On December 9, 2003, we executed an amendment to our syndicated secured Loan
and Security Agreement with Fleet Retail Finance, Inc. and The CIT Group/Business Credit, Inc, (the
Facility). The amount outstanding under the Facility is limited by a borrowing base predicated
on eligible inventory, as defined, and certain rental video assets, net of accumulated depreciation
less specifically defined reserves and is limited to a ceiling of $80 million, less a $10 million
availability reserve. The Facility permits borrowings at various interest-rate options based on
the prime rate or London Interbank Offering Rate (LIBOR) plus applicable margin depending upon the
level of our minimum availability. The borrowing base under the Facility is limited to an advance
rate of 65% of eligible inventory and certain rental video assets net of accumulated amortization
less specifically defined reserves, which can be adjusted to reduce availability under the
Facility. Lenders may increase specifically defined reserves to reduce availability in the event
of adverse changes in our industry that are projected to impact the value of our assets pledged
as collateral. The Facility contains no financial covenants, restricts the payment of dividends
and includes certain other debt and acquisition limitations, allows for the repurchase of up to
$7.5 million of our common stock and requires a minimum availability of $10 million at all times.
The Facility is secured by substantially all the assets of the company and our subsidiaries and is
guaranteed by each of our three consolidated subsidiaries. The Facility matures on August 29,
2007. At January 31, 2005, we had $21.6 million in excess availability, after the $10 million
availability reserve, under the Facility. However, excess availability may be reduced in the
future as changes in the borrowing base occur or the lenders increase availability reserves. At
January 31, 2005 and 2004, respectively, we had borrowings outstanding of $39.2 million and $29.0
million under the Facility. The average rate of interest being charged under the Facility for
fiscal years ending January 31, 2005 and 2004 was 3.8%. We utilize standby letters of credit to support certain insurance policies. The aggregate amount
of the letters of credit at January 31, 2005 was approximately $1.1 million, which reduces the
excess availability under the Facility. From time to time, we enter into interest rate swap agreements with financial institutions in order
to obtain a fixed interest rate on a portion of our outstanding floating rate debt, thereby
reducing our exposure to interest rate volatility. Our most recent interest rate swap agreement
expired October 1, 2004, and was accounted for as a hedging instrument. No interest rate swaps
existed at January 31, 2005. At January 31, 2005, our minimum lease commitments for fiscal 2005 were approximately $24.2
million. The present value of total existing minimum operating lease commitments for fiscal years
2006 through 2024 discounted at 9.0% was approximately $90.7 million as of January 31, 2005. Contractual Obligations and Off-Balance Sheet Arrangements. Current accounting standards require
us to disclose our material obligations and commitments to make future payments under contracts,
such as debt and lease agreements. We disclose our contractual long-term debt repayment and the
principal portion of capital lease 24




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##### Table of Contents



obligations in Note 6 and our current and future operating and
capital lease payments in Note 7 to the consolidated financial statements. In the ordinary course
of business, we routinely enter into commitments for various aspects of our operations, such as
warehouse and office equipment. However, we do not believe that these commitments will have a
material effect on our financial condition, results of operations or cash flows. As of January 31,
2005, other than operating leases and standby letters of credit, we had not entered into any
off-balance sheet arrangements or third-party guarantees, nor is it our business practice to do so. The following summarizes our contractual obligations at January 31, 2005, and the effect such
obligations are expected to have on our liquidity and cash flows in future periods (in thousands): Less than
    
    
    1 to 3
    
    
    3 to 5
    
    
    More thanContractual Obligations
    
    Total
    
    
    1 year
    
    
    Years
    
    
    Years
    
    
    5 YearsLong-term debt
    
    $
    39,232
    
    
    $
    
    
    
    $
    39,232
    
    
    $
    
    
    
    $
    Operating leases
    
    
    157,132
    
    
    
    24,203
    
    
    
    43,361
    
    
    
    32,142
    
    
    
    57,426Capital leases (1)
    
    
    689
    
    
    
    283
    
    
    
    336
    
    
    
    70
    
    
    
    Revenue sharing (2)
    
    
    784
    
    
    
    784
    
    
    
    
    
    
    
    
    
    
    
    Total
    
    $
    197,837
    
    
    $
    25,270
    
    
    $
    82,929
    
    
    $
    32,212
    
    
    $
    57,426
   (1)
    Includes both principal and interest.(2)
    As of January 31, 2005 we were a party to revenue-sharing arrangements with various studios.
These agreements include minimum purchase requirements, based upon the box office results of
the title, at a lower initial product cost as compared to non-revenue sharing purchases. In
addition, these contracts require net rental revenues to be shared with the studios over an
agreed period of time. We have included amounts owed and an estimate of our contractual
obligation under these agreements for performance guarantees and minimum purchase requirements
for the period in which they can reasonably be estimated, which is approximately two months in
the future. Although these contracts may extend beyond the estimated two-month period, we
cannot reasonably estimate these amounts due to the uncertainty of purchases that will be made
under these agreements. The amounts presented above do not include revenue sharing accruals
for rental revenues recorded during fiscal 2004. Seasonality and Inflation Our business is highly seasonal, with significantly higher revenues and operating income realized
during the fourth quarter, which includes the holiday selling season. Below is a tabular
presentation of revenues and operating income by quarter, which illustrates the seasonal effects of
our business: Fiscal year 2004:
    
    QuarterFirst
    
    
    Second
    
    
    Third
    
    
    Fourth(restated)
    
    
    (restated)
    
    
    (restated)Total revenues
    
    $
    126,937
    
    
    $
    122,412
    
    
    $
    119,579
    
    
    $
    173,088Operating income (loss)
    
    
    3,476
    
    
    
    1,318
    
    
    
    (2,112
    )
    
    
    8,734% of full year:Total revenues
    
    
    23.4
    %
    
    
    22.6
    %
    
    
    22.1
    %
    
    
    31.9
    %Operating income (loss)
    
    
    30.4
    %
    
    
    11.5
    %
    
    
    (18.4
    )%
    
    
    76.5
    %
 Fiscal year 2003:
    
    QuarterFirst
    
    
    Second
    
    
    Third
    
    
    Fourth(restated)
    
    
    (restated)
    
    
    (restated)
    
    
    (restated)Total revenues
    
    $
    116,837
    
    
    $
    115,397
    
    
    $
    112,843
    
    
    $
    163,241Operating income (loss)
    
    
    (422
    )
    
    
    843
    
    
    
    (3,122
    )
    
    
    11,344% of full year:Total revenues
    
    
    23.0
    %
    
    
    22.7
    %
    
    
    22.2
    %
    
    
    32.1
    %Operating income (loss)
    
    
    (4.9
    )%
    
    
    9.7
    %
    
    
    (36.1
    )%
    
    
    131.3
    %
 25




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##### Table of Contents



See Footnote 14 to the Consolidated Financial Statements for additional information. We do not believe that inflation has materially impacted net income during the past three years.
Substantial increases in costs and expenses could have a significant impact on our operating
results to the extent such increases are not passed along to customers. Recent Accounting Pronouncements In November 2004, the FASB issued SFAS No. 151, Inventory Costs (SFAS 151), an amendment of
Accounting Research Bulletin No. 43, Chapter 44. SFAS 151 clarifies that abnormal amounts of idle
facility expense, freight, handling costs, and wasted materials (spoilage) should be recognized as
current-period charges and requires the allocation of fixed production overheads to inventory based
on the normal capacity of the production facilities. The statement will be effective for inventory
costs incurred during fiscal years beginning after June 15, 2005. The Company has evaluated the
provisions of SFAS 151 and does not anticipate that adoption will have an impact on its
consolidated balance sheets or statements of operations, shareholders equity and cash flows. In December 2004, the FASB issued SFAS No. 123 (Revised 2004), Share-Based Payment (SFAS 123R).
This statement replaces FASB Statement No. 123, Accounting for Stock-Based Compensation, and
supercedes APB Opinion No. 25, Accounting for Stock Issued to Employees. SFAS 123R requires all
companies to measure compensation cost for all share-based payments, including stock options, at
fair value. The statement will be effective for public companies no later than the beginning of
the first fiscal year commencing after June 15, 2005, which for the Company is the beginning of
fiscal 2006. The Company is currently evaluating the effect that SFAS 123R will have on its
consolidated balance sheets and its statements of shareholders equity and cash flows. The Company
believes the adoption of SFAS 123R in the future will not have a materially different impact on
results of operations than what the Company has disclosed in its proforma footnote disclosures
regarding stock compensation assuming expense recognition provisions of FAS 123 had been adopted.
SFAS 123R also requires that the benefits associated with the tax deductions in excess of
recognized compensation cost to be reported as a financing cash flow, rather than as an
operating cash flow as required under current literature. This requirement will reduce operating
cash flows and increase net financing cash flows in periods after the effective date. These future
amounts cannot be estimated, because they depend on, among other things, when employees exercise
stock options. However, the amount of operating cash flows recognized for such excess tax
deductions for the years ended January 31, 2005, 2004, and 2003 was not material. 
 ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK In the ordinary course of our business, we are exposed to certain market risks, primarily changes
in interest rates. Our exposure to interest rate risk consists of variable rate debt based on the
lenders base rate or LIBOR plus a specified percentage at our option. The annual impact on our
results of operations of a 100 basis point interest rate change on the January 31, 2005 outstanding
balance of the variable rate debt would be approximately $0.4 million. After an assessment of
these risks to our operations, we believe that the primary market risk exposures (within the
meaning of Regulation S-K Item 305) are not material and are not expected to have any material
adverse impact on our financial position, results of operations or cash flows for the next fiscal
year. 26




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##### Table of Contents



ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA HASTINGS ENTERTAINMENT, INC.
Index to Consolidated Financial Statements
and Financial Statement Schedule PageIndependent Registered Public Accounting Firms Report
    
    
    28Consolidated Balance Sheets as of January 31, 2005 and 2004
    
    
    29Consolidated Statements of Operations
for the years ended January 31, 2005, 2004 and 2003
    
    
    30Consolidated Statements of Shareholders Equity
for the years ended January 31, 2005, 2004 and 2003
    
    
    31Consolidated Statements of Cash Flows
for years ended January 31, 2005, 2004 and 2003
    
    
    32Notes to Consolidated Financial Statements
    
    
    33ScheduleFinancial Statement Schedule  The Financial Statement Schedule filed as part of
this report is listed under Part IV, Item 15. Exhibits, Financial Statement Schedules
and Reports on Form 8-K.
    
    
    52
 27




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##### Table of Contents



Report of Independent Registered Public Accounting Firm The Board of Directors
Hastings Entertainment, Inc. We have audited the accompanying consolidated balance sheets of Hastings Entertainment, Inc. and
subsidiaries as of January 31, 2005 and 2004, and the related consolidated statements of
operations, shareholders equity, and cash flows for each of the three years in the period ended
January 31, 2005. Our audits also included the financial statement schedule listed in the Index at
Item 15(a). These financial statements and schedule are the responsibility of the Companys
management. Our responsibility is to express an opinion on these financial statements and schedule
based on our audits. We conducted our audits in accordance with the standards of the Public Company Accounting Oversight
Board (United States). Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material misstatement. We
were not engaged to perform an audit of the Companys internal control over financial reporting.
Our audits included consideration of internal control over financial reporting as a basis for
designing audit procedures that are appropriate in the circumstances, but not for the purpose of
expressing an opinion on the effectiveness of the Companys internal control over financial
reporting. Accordingly, we express no such opinion. An audit includes examining, on a test basis,
evidence supporting the amounts and disclosures in the financial statements, assessing the
accounting principles used and significant estimates made by management, and evaluating the overall
financial statement presentation. We believe that our audits provide a reasonable basis for our
opinion. In our opinion, the financial statements referred to above present fairly, in all material
respects, the consolidated financial position of Hastings Entertainment, Inc. and subsidiaries at
January 31, 2005 and 2004, and the consolidated results of their operations and their cash flows
for each of the three years in the period ended January 31, 2005, in conformity with U.S. generally
accepted accounting principles. Also, in our opinion, the related financial statement schedule,
when considered in relation to the basic financial statements taken as a whole, presents fairly in
all material respects the information set forth therein. As discussed in Note 1 to the consolidated financial statements, the Company corrected its policies
for accounting for leases and amortization of leasehold improvements. The prior periods presented
have been restated for this correction. Additionally, as discussed in Note 1 to the consolidated
financial statements, effective January 1, 2003, the Company adopted Emerging Issues Task Force No.
02-16, Accounting of a Customer (Including a Reseller) for Certain Consideration Received from a
Vendor. /s/ Ernst & Young LLP Fort Worth, Texas
March 31, 2005 28




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HASTINGS ENTERTAINMENT, INC. AND SUBSIDIARIES 
 
 January 31,2005
    
    
    2004(restated)AssetsCurrent assetsCash and cash equivalents
    
    $
    9,543
    
    
    $
    7,124Merchandise inventories
    
    
    153,554
    
    
    
    138,552Deferred income taxes
    
    
    3,198
    
    
    
    1,779Prepaid expenses and other current assets
    
    
    6,945
    
    
    
    7,096Total current assets
    
    
    173,240
    
    
    
    154,551Property and equipment, net
    
    
    80,010
    
    
    
    76,037Deferred income taxes
    
    
    308
    
    
    
    3,154Intangible assets, net
    
    
    542
    
    
    
    630Other assets
    
    
    16
    
    
    
    188$
    254,116
    
    
    $
    234,560Liabilities and Shareholders EquityCurrent liabilitiesCurrent maturities on capital lease obligations
    
    $
    243
    
    
    $
    221Trade accounts payable
    
    
    86,082
    
    
    
    82,072Accrued expenses and other current liabilities
    
    
    36,166
    
    
    
    35,667Total current liabilities
    
    
    122,491
    
    
    
    117,960Long-term debt, excluding current maturities on capital
lease obligations
    
    
    39,603
    
    
    
    29,623Other liabilities
    
    
    2,248
    
    
    
    3,031Shareholders equity:Preferred stock, $.01 par value; 5,000,000 shares
authorized; none issued
    
    
    
    
    
    
    Common stock, $.01 par value; 75,000,000 shares authorized;
    
    
    119
    
    
    
    11911,944,544 shares in fiscal 2004 and 2003 issued;11,455,569 in fiscal 2004 and11,363,612 shares in fiscal 2003, outstandingAdditional paid-in capital
    
    
    36,382
    
    
    
    36,598Retained earnings
    
    
    55,771
    
    
    
    49,962Treasury stock, at cost
    
    
    (2,498
    )
    
    
    (2,733
    )89,774
    
    
    
    83,946$
    254,116
    
    
    $
    234,560
 See accompanying notes to consolidated financial statements. 29




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##### Table of Contents



HASTINGS ENTERTAINMENT, INC. AND SUBSIDIARIES 
 
 Fiscal Year2004
    
    
    2003
    
    
    2002(restated)Merchandise revenue
    
    $
    440,596
    
    
    $
    404,977
    
    
    $
    395,548Rental video revenue
    
    
    101,420
    
    
    
    103,341
    
    
    
    99,846Total revenues
    
    
    542,016
    
    
    
    508,318
    
    
    
    495,394Merchandise cost of revenue
    
    
    319,107
    
    
    
    297,523
    
    
    
    292,888Rental video cost of revenue
    
    
    39,791
    
    
    
    39,259
    
    
    
    41,652Total cost of revenues
    
    
    358,898
    
    
    
    336,782
    
    
    
    334,540Gross profit
    
    
    183,118
    
    
    
    171,536
    
    
    
    160,854Selling, general and administrative expenses
    
    
    171,293
    
    
    
    162,616
    
    
    
    158,025Pre-opening expenses
    
    
    409
    
    
    
    277
    
    
    
    479Operating income
    
    
    11,416
    
    
    
    8,643
    
    
    
    2,350Other income (expense):Interest income
    
    
    
    
    
    
    
    
    
    
    1,291Interest expense
    
    
    (1,918
    )
    
    
    (2,048
    )
    
    
    (1,987
    )Other, net
    
    
    293
    
    
    
    324
    
    
    
    237Income before income taxes
    
    
    9,791
    
    
    
    6,919
    
    
    
    1,891Income tax expense (benefit)
    
    
    3,982
    
    
    
    (1,358
    )
    
    
    Net income
    
    $
    5,809
    
    
    $
    8,277
    
    
    $
    1,891Basic income per share
    
    $
    0.51
    
    
    $
    0.73
    
    
    $
    0.17Diluted income per share
    
    $
    0.49
    
    
    $
    0.72
    
    
    $
    0.16
 See accompanying notes to consolidated financial statements. 30




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HASTINGS ENTERTAINMENT, INC. AND SUBSIDIARIES 
 
 Additional
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    TotalCommon Stock
    
    
    Paid-in
    
    
    Retained
    
    
    Treasury Stock
    
    
    ShareholdersShares
    
    
    Amount
    
    
    Capital
    
    
    Earnings
    
    
    Shares
    
    
    Amount
    
    
    EquityBalances at January 31, 2002 (restated)
    
    
    11,918,035
    
    
    
    119
    
    
    
    36,850
    
    
    
    39,794
    
    
    
    614,013
    
    
    
    (2,993
    )
    
    
    73,770Issuance of stock to directors
    
    
    26,509
    
    
    
    
    
    
    
    87
    
    
    
    
    
    
    
    (11,775
    )
    
    
    58
    
    
    
    145Purchase of treasury stock
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    104,923
    
    
    
    (521
    )
    
    
    (521
    )Exercise of stock options
    
    
    
    
    
    
    
    
    
    
    (188
    )
    
    
    
    
    
    
    (99,090
    )
    
    
    485
    
    
    
    297Net income
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    1,891
    
    
    
    
    
    
    
    
    
    
    
    1,891Balances at January 31, 2003 (restated)
    
    
    11,944,544
    
    
    
    119
    
    
    
    36,749
    
    
    
    41,685
    
    
    
    608,071
    
    
    
    (2,971
    )
    
    
    75,582Issuance of stock to directors
    
    
    
    
    
    
    
    
    
    
    (28
    )
    
    
    
    
    
    
    (25,002
    )
    
    
    118
    
    
    
    90Purchase of treasury stock
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    73,000
    
    
    
    (235
    )
    
    
    (235
    )Exercise of stock options
    
    
    
    
    
    
    
    
    
    
    (123
    )
    
    
    
    
    
    
    (75,137
    )
    
    
    355
    
    
    
    232Net income
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    8,277
    
    
    
    
    
    
    
    
    
    
    
    8,277Balances at January 31, 2004 (restated)
    
    
    11,944,544
    
    
    
    119
    
    
    
    36,598
    
    
    
    49,962
    
    
    
    580,932
    
    
    
    (2,733
    )
    
    
    83,946Issuance of stock to directors
    
    
    
    
    
    
    
    
    
    
    25
    
    
    
    
    
    
    
    (7,344
    )
    
    
    35
    
    
    
    60Purchase of treasury stock
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    140,600
    
    
    
    (904
    )
    
    
    (904
    )Exercise of stock options
    
    
    
    
    
    
    
    
    
    
    (241
    )
    
    
    
    
    
    
    (225,213
    )
    
    
    1,104
    
    
    
    863Net income
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    5,809
    
    
    
    
    
    
    
    
    
    
    
    5,809Balances at January 31, 2005
    
    
    11,944,544
    
    
    
    119
    
    
    
    36,382
    
    
    
    55,771
    
    
    
    488,975
    
    
    
    (2,498
    )
    
    
    89,774
 See accompanying notes to consolidated financial statements. 31




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HASTINGS ENTERTAINMENT, INC. AND SUBSIDIARIES 
 
 Fiscal Year2004
    
    
    2003
    
    
    2002(restated)Cash flows from operating activities:Net income
    
    $
    5,809
    
    
    $
    8,277
    
    
    $
    1,891Adjustments to reconcile net income to net cash provided
by operating activities:Rental asset depreciation expense
    
    
    22,842
    
    
    
    21,006
    
    
    
    22,673Property and equipment depreciation expense
    
    
    19,075
    
    
    
    17,669
    
    
    
    17,550Amortization expense
    
    
    88
    
    
    
    87
    
    
    
    68Loss on rental videos lost, stolen and defective
    
    
    5,774
    
    
    
    4,948
    
    
    
    5,711Loss on disposal of property and equipment, excluding rental videos
    
    
    835
    
    
    
    929
    
    
    
    1,307Deferred income taxes
    
    
    1,427
    
    
    
    (1,724
    )
    
    
    316Non-cash compensation
    
    
    60
    
    
    
    90
    
    
    
    127Changes in operating assets and liabilities:Merchandise inventories
    
    
    (7,630
    )
    
    
    14,259
    
    
    
    5,820Other current assets
    
    
    151
    
    
    
    (616
    )
    
    
    (638
    )Trade accounts payable
    
    
    4,010
    
    
    
    6,360
    
    
    
    (7,706
    )Accrued expenses and other liabilities
    
    
    665
    
    
    
    2,087
    
    
    
    7,379Other assets and liabilities, net
    
    
    (611
    )
    
    
    (368
    )
    
    
    (2,782
    )Net cash provided by operating activities
    
    
    52,495
    
    
    
    73,004
    
    
    
    51,716Cash flows from investing activities:Purchases of rental video
    
    
    (35,142
    )
    
    
    (31,363
    )
    
    
    (37,695
    )Purchase of property, equipment and improvements
    
    
    (24,729
    )
    
    
    (22,093
    )
    
    
    (26,969
    )Net cash used in investing activities
    
    
    (59,871
    )
    
    
    (53,456
    )
    
    
    (64,664
    )Cash flows from financing activities:Borrowings under revolving credit facility
    
    
    574,643
    
    
    
    510,459
    
    
    
    542,241Repayments under revolving credit facility
    
    
    (564,422
    )
    
    
    (527,132
    )
    
    
    (528,791
    )Payments under long-term debt and capital lease obligations
    
    
    (219
    )
    
    
    (195
    )
    
    
    (168
    )Purchase of treasury stock
    
    
    (904
    )
    
    
    (235
    )
    
    
    (521
    )Proceeds from exercise of stock options
    
    
    697
    
    
    
    232
    
    
    
    315Net cash provided by (used in) financing activities
    
    
    9,795
    
    
    
    (16,871
    )
    
    
    13,076Net increase in cash
    
    
    2,419
    
    
    
    2,677
    
    
    
    128Cash at beginning of year
    
    
    7,124
    
    
    
    4,447
    
    
    
    4,319Cash at end of year
    
    $
    9,543
    
    
    $
    7,124
    
    
    $
    4,447
 See accompanying notes to consolidated financial statements. 32




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Hastings Entertainment, Inc. and Subsidiaries 
 
  (1)
    Operations and Summary of Significant Accounting Policies  (a)
    GeneralHastings Entertainment, Inc. and subsidiaries operates a chain of retail superstores in
20 states, primarily in the Western and Midwestern United States. Revenues are
generated from the sale of new software, periodicals, and accessory products, as well as
new and used books, music, DVDs, video games and videocassettes. In addition, our
revenues include the rental of DVDs, video games and videocassettes.(b)
    Basis of ConsolidationThe consolidated financial statements present the results of Hastings Entertainment,
Inc. and its subsidiaries. All significant intercompany transactions and balances have
been eliminated in consolidation.(c)
    Basis of PresentationCertain prior year amounts have been reclassified to conform with the fiscal 2004
presentation.Our fiscal years ended January 31, 2005, 2004 and 2003 are referred to as fiscal 2004,
2003 and 2002, respectively.(d)
    Restatement of Prior Financial InformationOn February 7, 2005, the Office of the Chief Accountant of the Securities and Exchange
Commission (SEC) issued a letter to the American Institute of Certified Public
Accountants expressing its views regarding certain operating lease accounting issues and
their application under generally accepted accounting principles (GAAP). In light of
this letter, the Companys management initiated a review of its lease-related accounting
and determined that its historical method of accounting for rent holidays and leasehold
improvements, as more fully described below, was not in accordance with GAAP. As a
result, the Company restated its previously filed Consolidated Financial Statements for
the years ended January 31, 2004 and January 31, 2003. The Company also restated its
quarterly financial information for Fiscal 2003 and the first three quarters of Fiscal
2004, as shown in Note 14 of the Consolidated Financial Statements. The restatement
also affects periods prior to Fiscal 2002. The impact of the restatement on prior
periods has been reflected as a cumulative adjustment of $3.6 million to decrease
retained earnings as of February 1, 2002 in the Consolidated Statement of Shareholders
Equity.Historically, the Company has recorded rent expense on a straight-line basis over
the initial non-cancelable lease term, with the term commencing when rent payments
began. Rent payments typically began on the store opening date, which had the effect of
excluding the build-out period (or rent holiday period) from the calculation of the rent
period. Additionally, the Company had amortized certain leasehold improvements over a
period longer than allowed by the SECs interpretation of related accounting guidance.The Company did not amend its previously filed Annual Reports on Form 10-K or
Quarterly Reports on Form 10-Q for the restatement. Accordingly, the financial
statements and related financial information contained in such reports should no longer
be relied upon. All referenced amounts for prior periods in this Annual Report on Form
10-K are presented on a restated basis.The following is a summary of the effects of the restatement adjustments on our
Consolidated Statement of Operations. Net income for fiscal 2002 was not restated as
impact of such issues was immaterial. 33




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Hastings Entertainment, Inc. and Subsidiaries
Notes to Consolidated Financial Statements
January 31, 2005 and 2004
(Tabular amounts in thousands, except share data or unless otherwise noted) Consolidated Statements of OperationsAs PreviouslyReported
    
    
    Adjustments
    
    
    As RestatedFiscal year ended January 31, 2004Income before income taxes
    
    $
    6,062
    
    
    $
    857
    
    
    $
    6,919Net income
    
    
    7,750
    
    
    
    527
    
    
    
    8,277Diluted income per share
    
    
    0.68
    
    
    
    0.04
    
    
    
    0.72
  (e)
    Cash and Cash EquivalentsThe Company considers all credit card receivables of $1.0 million and $2.1 million for
fiscal 2004 and 2003, respectively, from MasterCard, Visa, Discover, and American
Express, and all highly liquid investments with an original maturity date of three
months or less to be cash equivalents.(f)
    Revenue RecognitionMerchandise and rental video revenue are recognized at the point of sale or rental or at
the time merchandise is shipped to the customer. Additionally, revenues are presented
net of estimated returns and exclude all taxes. An allowance has been established to
provide for projected merchandise returns.Gift card liabilities are recorded at the time of sale of such cards with the costs of
designing, printing and distributing the cards recorded as expense as incurred. The
liability is relieved and revenue is recognized upon redemption of the gift cards.(g)
    Merchandise InventoriesMerchandise inventories are recorded at the lower of cost, which approximates the
first-in, first-out (FIFO method), or market. Amounts are presented net of the
allowance for shrinkage and obsolescence. Shipping and handling costs related to
inventory procurement are included in cost of revenues.(h)
    Property and EquipmentProperty and equipment are recorded at cost and depreciated using the straight-line
method, except for rental video assets, which are depreciated using an accelerated
depreciation method. Furniture, fixtures, equipment and software are depreciated over
their estimated useful lives of three to seven years. Leasehold improvements are
amortized over the shorter of the related lease term or their estimated useful lives.
Rental video assets, except for the initial purchases for new stores, are depreciated
over six months using an accelerated methodology designed to match the revenue stream of
the rental asset. The initial purchases of rental video assets for new stores are
depreciated over 36 months using the straight-line method.The majority of rental videos are converted to merchandise inventory and sold through
our retail locations as previously viewed tapes. Such revenues and related cost of
revenues are included in merchandise revenue and cost of revenues. During fiscal 2004,
2003, and 2002, $7.4 million, $4.4 million, and $3.5 million, respectively, were
transferred from rental videos to merchandise inventory at the lower of cost or market.Expenditures for maintenance, repairs and renewals that do not materially prolong the
original useful lives of assets are charged to expense as incurred. 34




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Hastings Entertainment, Inc. and Subsidiaries
Notes to Consolidated Financial Statements
January 31, 2005 and 2004
(Tabular amounts in thousands, except share data or unless otherwise noted)  Property recorded pursuant to capital lease obligations is stated at the present value
of the minimum lease payments at the inception of each lease, not in excess of fair
value, and amortized on a straight-line basis over the related lease term.We review long-lived assets for impairment whenever events or changes in circumstances
indicate that the carrying amount of an asset may not be recoverable. Recoverability of
assets to be held and used is measured by a comparison of the carrying amount of the
asset to future net undiscounted cash flows expected to be generated by the asset. If
such assets are considered to be impaired, the impairment to be recognized is measured
by the amount by which the carrying amount of the assets exceeds the fair value of the
assets. Assets to be disposed of are reported at the lower of the carrying amount or
fair value less costs to sell.  (i)
    Financial InstrumentsThe carrying amount of long-term debt approximates fair value as of January 31, 2005 and
2004 due to the instruments bearing interest at variable market rates. The carrying
amount of accounts payable approximates fair value because of its short maturity period.From time to time, we enter into interest rate swap agreements with financial
institutions in order to obtain a fixed interest rate on a portion of our outstanding
floating rate debt, thereby reducing our exposure to interest rate volatility. Our most
recent interest rate swap agreement expired October 1, 2004, and was accounted for as a
hedging instrument. No interest rate swaps exist at January 31, 2005.(j)
    Stock Option PlansWe account for our stock option plans in accordance with the provisions of Accounting
Principles Board Opinion No. 25, Accounting for Stock Issued to Employees(APB 25),
and related interpretations. Compensation expense is recorded on the date of grant only
if the market price of the underlying stock exceeds the exercise price. Under Statement
of Financial Accounting Standards No. 123, Accounting for Stock-based Compensation
(SFAS 123), we may elect to recognize expense for stock-based compensation based on
the fair value of the awards, or continue to account for stock-based compensation under
APB 25 and disclose in the financial statements the effects of SFAS 123 as if the
recognition provisions were adopted. We have elected to continue to apply the
provisions of APB 25 and provide the pro forma disclosure provisions of SFAS 123.The following schedule reflects the impact on net income and net income per share if we
had applied the fair value recognition provisions of SFAS 123 to stock based
compensation. Fiscal Year2004
    
    
    2003
    
    
    2002(restated)Net income, as reported
    
    $
    5,809
    
    
    $
    8,277
    
    
    $
    1,891Add: Stock-based compensation
included in reported net
income, net of tax
    
    
    35
    
    
    
    55
    
    
    
    127Less: Stock-based compensation
expense determined under fair
value based method, net of tax
    
    
    (687
    )
    
    
    (369
    )
    
    
    (505
    )Proforma net income
    
    $
    5,157
    
    
    $
    7,963
    
    
    $
    1,513Income per share:Basic, as reported
    
    $
    0.51
    
    
    $
    0.73
    
    
    $
    0.17Basic, proforma
    
    $
    0.45
    
    
    $
    0.70
    
    
    $
    0.14Diluted, as reported
    
    $
    0.49
    
    
    $
    0.72
    
    
    $
    0.16Diluted, proforma
    
    $
    0.44
    
    
    $
    0.70
    
    
    $
    0.13
 35




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Hastings Entertainment, Inc. and Subsidiaries
Notes to Consolidated Financial Statements
January 31, 2005 and 2004
(Tabular amounts in thousands, except share data or unless otherwise noted)  (k)
    Advertising CostsAdvertising costs for newspaper, television and other media are expensed as
incurred. Gross advertising expenses for the fiscal years 2004, 2003, and 2002 were
$8.6 million, $9.8 million and $11.0 million, respectively.We receive payments and credits from vendors pursuant to cooperative advertising
programs and display allowances. During fiscal years 2004, 2003 and 2002, we received a
total of approximately $6.6 million, $6.8 million and $8.3 million, respectively for
such payments and credits. During fiscal 2003, we began recording certain of these
payments and allowances as a reduction of merchandise inventory and the cost of rental
videos in accordance with Emerging Issues Task Force Issue No. 02-16, Accounting by a
Customer (Including a Reseller) for Certain Consideration Received from a Vendor (EITF
02-16), which was adopted during fiscal 2003. As a result of adoption, selling,
general and administrative expenses increased approximately $4.4 million, total cost of
revenues decreased by $2.2 million and net income for fiscal 2003 decreased by
approximately $1.4 million, or $0.12 per diluted share, net of tax.(l)
    Pre-opening CostsPre-opening expenses include human resource costs, travel, rent, advertising, supplies
and certain other costs incurred prior to a superstores opening and are expensed as
incurred.(m)
    Income Per ShareBasic income per share is computed by dividing net income by the weighted-average number
of common shares outstanding during the period. Diluted income per share is similarly
computed, but includes the effect, when dilutive, of our weighted average number of
stock options outstanding.(n)
    Use of Management EstimatesThe preparation of the financial statements in conformity with generally accepted
accounting principles requires management to make estimates and assumptions that affect
the reported amounts of assets and liabilities and disclosure of contingent liabilities
at the date of the financial statements and the reported amounts of revenues and
expenses during the reporting period. Actual results could differ from those estimates.(o)
    Impact of Recently Issued Accounting StandardsIn November 2004, the FASB issued SFAS No. 151, Inventory Costs (SFAS 151), an
amendment of Accounting Research Bulletin No. 43, Chapter 44. SFAS 151 clarifies that
abnormal amounts of idle facility expense, freight, handling costs, and wasted materials
(spoilage) should be recognized as current-period charges and requires the allocation of
fixed production overheads to inventory based on the normal capacity of the production
facilities. The statement will be effective for inventory costs incurred during fiscal
years beginning after June 15, 2005. The Company has evaluated the provisions of SFAS
151 and does not anticipate that adoption will have an impact on its consolidated
balance sheets or statements of operations, shareholders equity and cash flows. 36




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Hastings Entertainment, Inc. and Subsidiaries
Notes to Consolidated Financial Statements
January 31, 2005 and 2004
(Tabular amounts in thousands, except share data or unless otherwise noted)  In December 2004, the FASB issued SFAS No. 123 (Revised 2004), Share-Based Payment
(SFAS 123R). This statement replaces FASB Statement No. 123, Accounting for
Stock-Based Compensation, and supercedes APB Opinion No. 25, Accounting for Stock
Issued to Employees. SFAS 123R requires all companies to measure compensation cost for
all share-based payments, including stock options, at fair value. The statement will be
effective for public companies no later than the beginning of the first fiscal year
commencing after June 15, 2005, which for the Company is the beginning of fiscal 2006.
The Company is currently evaluating the effect that SFAS 123R will have on its
consolidated balance sheets and its statements of shareholders equity and cash flows.
The Company believes the adoption of SFAS 123R in the future will not have a materially
different impact on results of operations than what the Company has disclosed in its
proforma footnote disclosures regarding stock compensation assuming expense recognition
provisions of FAS 123 had been adopted. SFAS 123R also requires that the benefits
associated with the tax deductions in excess of recognized compensation cost to be
reported as a financing cash flow, rather than as an operating cash flow as required
under current literature. This requirement will reduce operating cash flows and
increase net financing cash flows in periods after the effective date. These future
amounts cannot be estimated, because they depend on, among other things, when employees
exercise stock options. However, the amount of operating cash flows recognized for such
excess tax deductions for the years ended January 31, 2005, 2004, and 2003 was not
material.  (2)
    Merchandise InventoriesMerchandise inventories consisted of the following: January 31,2005
    
    
    2004Books
    
    $
    58,898
    
    
    $
    57,272Music
    
    
    42,642
    
    
    
    38,683Videos
    
    
    38,714
    
    
    
    32,175Other
    
    
    16,016
    
    
    
    13,607156,270
    
    
    
    141,737Less
allowance for
inventory
shrinkage and
obsolescence
    
    
    2,716
    
    
    
    3,185$
    153,554
    
    
    $
    138,552
  During fiscal 2004 and 2003, we purchased approximately 22% and 23%, respectively, of all
products (defined herein as merchandise inventories and rental videos) from three suppliers.  (3)
    Property and EquipmentProperty and equipment consists of the following: January 31,2005
    
    
    2004(restated)Rental videos
    
    $
    52,854
    
    
    $
    60,550Furniture, equipment and software
    
    
    122,408
    
    
    
    108,621Leasehold improvements
    
    
    59,405
    
    
    
    56,044Buildings and land
    
    
    258
    
    
    
    258Work in progress
    
    
    5,275
    
    
    
    3,070Property under capital leases
    
    
    2,126
    
    
    
    2,126242,326
    
    
    
    230,669Less accumulated
depreciation and
amortization
    
    
    162,316
    
    
    
    154,632$
    80,010
    
    
    $
    76,037
 37




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Hastings Entertainment, Inc. and Subsidiaries
Notes to Consolidated Financial Statements
January 31, 2005 and 2004
(Tabular amounts in thousands, except share data or unless otherwise noted)  (4)
    Accrued Expenses and Other Current LiabilitiesAccrued expenses and other current liabilities consisted of the following: January 31,2005
    
    
    2004(restated)Allowance for cost of inventory returns
    
    $
    2,057
    
    
    $
    3,658Deferred gift card revenue
    
    
    13,022
    
    
    
    11,611Salaries, vacation, bonus and benefits
    
    
    6,655
    
    
    
    7,397Short term lease obligations
    
    
    4,091
    
    
    
    4,039Sales taxes payable
    
    
    2,059
    
    
    
    1,996Federal income tax payable
    
    
    2,281
    
    
    
    214Other accrued expenses
    
    
    6,001
    
    
    
    6,752Total
    
    $
    36,166
    
    
    $
    35,667
  Merchandise inventories that are not sold can normally be returned to the suppliers. The
allowance for cost of inventory returns represents estimated costs related to merchandise
returned or to be returned to suppliers for which credit from the supplier is pending.
Because the amount of credit to be received requires estimates, it is reasonably possible that
our estimate of the ultimate settlement with our suppliers may change in the near term.In the ordinary course of business, we accrue estimated amounts for settlements with certain
vendors related to disputed merchandise purchases and returns. Because the ultimate
settlement amount requires estimates, it is reasonably possible that our estimate of the
ultimate settlement with our suppliers may change in the near term. During fiscal 2004 and
2003, we reduced merchandise cost of revenues by approximately $2.1 million and $4.2 million,
respectively, related to favorable differences between actual settlements with vendors as
compared to amounts accrued. Approximately $0.9 million of the fiscal 2004 reduction in cost
of revenues was recorded in the fourth quarter.  (5)
    Store Closing ReserveFrom time to time and in the normal course of business, we evaluate our store base to
determine if we need to close a store. Such evaluations include consideration of, among other
factors, current and future profitability, market trends, age of store and lease status.Amounts in Accrued expenses and other current liabilities and Other liabilities at January
31, 2005 and 2004 include accruals for the net present value of future minimum lease payments,
net of estimated sublease income, and other costs attributable to closed or relocated stores.
Expenses related to store closings are included in selling, general and administrative
expenses in our consolidated statement of operations.Charges related to superstore closings in fiscal 2004 and 2003 were not significant.Charges related to superstore closings in fiscal 2002 amounted to approximately $2.4 million,
including $1.2 million in accruals for the net present value of minimum lease payments and
$1.3 million for the write-off of leasehold improvements and other assets. 38




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Hastings Entertainment, Inc. and Subsidiaries
Notes to Consolidated Financial Statements
January 31, 2005 and 2004
(Tabular amounts in thousands, except per share data or unless otherwise noted) Offsetting these fiscal 2002 charges were changes in estimates in the store closing reserve of
approximately $2.0 million, primarily as a result of sublease activities for certain closed
and relocated superstores. The following table provides a rollforward of reserves that were established for these charges
for fiscal 2004, 2003 and 2002: Future LeasePayments
    
    
    Other Costs
    
    
    TotalBalance at January 31, 2002
    
    $
    5,919
    
    
    $
    13
    
    
    $
    5,932Additions to provision
    
    
    1,197
    
    
    
    217
    
    
    
    1,414Changes in estimates
    
    
    (1,930
    )
    
    
    
    
    
    
    (1,930
    )Cash outlay, net
    
    
    (2,228
    )
    
    
    (230
    )
    
    
    (2,458
    )Balance at January 31, 2003
    
    
    2,958
    
    
    
    
    
    
    
    2,958Additions to provision
    
    
    240
    
    
    
    150
    
    
    
    390Changes in estimates
    
    
    (5
    )
    
    
    
    
    
    
    (5
    )Cash outlay, net
    
    
    (1,178
    )
    
    
    (137
    )
    
    
    (1,315
    )Balance at January 31, 2004
    
    
    2,015
    
    
    
    13
    
    
    
    2,028Additions to provision
    
    
    143
    
    
    
    
    
    
    
    143Changes in estimates
    
    
    (94
    )
    
    
    79
    
    
    
    (15
    )Cash outlay, net
    
    
    (781
    )
    
    
    (92
    )
    
    
    (873
    )Balance at January 31, 2005
    
    $
    1,283
    
    
    $
    
    
    
    $
    1,283
 As of January 31, 2005, the reserve balance, which is net of estimated sublease income, is
expected to be paid over the next five years.  (6)
    Long-term DebtLong-term debt and capitalized lease obligations consisted of the following: January 31,2005
    
    
    2004Revolving credit facility
    
    $
    39,232
    
    
    $
    29,011Capitalized lease obligations
    
    
    614
    
    
    
    83339,846
    
    
    
    29,844Less current maturities
    
    
    243
    
    
    
    221$
    39,603
    
    
    $
    29,623
 On December 9, 2003, we executed an amendment to our syndicated secured Loan and Security
Agreement with Fleet Retail Finance, Inc. and The CIT Group/Business Credit, Inc, (the
Facility). The amount outstanding under the Facility is limited by a borrowing base
predicated on eligible inventory, as defined, and certain rental video assets, net of
accumulated depreciation less specifically defined reserves and is limited to a ceiling of $80
million, less a $10 million availability reserve. The Facility permits borrowings at various
interest-rate options based on the prime rate or London Interbank Offering Rate (LIBOR) plus
applicable margin depending upon the level of our minimum availability. The borrowing base
under the Facility is limited to an advance rate of 65% of eligible inventory and certain
rental video assets net of accumulated amortization less specifically defined reserves, which
can be adjusted to reduce availability under the Facility. Lenders may increase specifically
defined reserves to reduce availability in the event of adverse changes in our industry that
are projected to impact the value of our assets pledged as collateral. The Facility contains
no 39




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Hastings Entertainment, Inc. and Subsidiaries
Notes to Consolidated Financial Statements
January 31, 2005 and 2004
(Tabular amounts in thousands, except per share data or unless otherwise noted) financial covenants, restricts the payment of dividends and includes certain other debt and
acquisition limitations, allows for the repurchase of up to $7.5 million of our common stock
and requires a minimum availability of $10 million at all times. The Facility is secured by
substantially all of the assets of the company and our subsidiaries and is guaranteed by each
of our three consolidated subsidiaries. The Facility matures on August 29, 2007. At January
31, 2005, we had $21.6 million in excess availability, after the $10 million availability
reserve, under the Facility. However, excess availability may be reduced in the future as
changes in the borrowing base occur or the lenders increase availability reserves. The
average rate of interest being charged under the Facility for fiscal years ending January 31,
2005 and 2004 was 3.8%. We utilize standby letters of credit to support certain insurance policies. The aggregate
amount of the letters of credit at January 31, 2005 was approximately $1.1 million and reduces
the excess availability of the Facility. The capitalized lease obligations represent two leases on certain retail space with initial
terms of 15 years. The aggregate maturities of long-term debt and capitalized lease obligations for years
subsequent to fiscal 2004 are as follows: 2005
    
    $
    2432006
    
    
    1952007
    
    
    39,3412008
    
    
    672009
    
    
    Thereafter
    
    
    $
    39,846
  (7)
    LeasesWe lease retail space under operating leases with terms ranging from three to 15 years, with
certain leases containing renewal options. Lease agreements generally provide for minimum
rentals. Some leases also include additional contingent rental amounts based upon specified
percentages of sales above predetermined levels. Rental expense for operating leases is
comprised of the following: Fiscal Year2004
    
    
    2003
    
    
    2002Minimum rentals
    
    $
    20,962
    
    
    $
    19,595
    
    
    $
    18,007Contingent rentals
    
    
    648
    
    
    
    855
    
    
    
    1,434Less sublease income
    
    
    (87
    )
    
    
    (81
    )
    
    
    (52
    )Rental expense
    
    $
    21,523
    
    
    $
    20,369
    
    
    $
    19,389
 40




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Hastings Entertainment, Inc. and Subsidiaries
Notes to Consolidated Financial Statements
January 31, 2005 and 2004
(Tabular amounts in thousands, except per share data or unless otherwise noted) Future minimum lease payments under non-cancelable operating leases and the present value of
future minimum capital lease payments as of January 31, 2005 are: Capital
    
    
    Operatingleases
    
    
    leases2005
    
    $
    283
    
    
    $
    24,2032006
    
    
    216
    
    
    
    22,8452007
    
    
    120
    
    
    
    20,5162008
    
    
    70
    
    
    
    17,8232009
    
    
    
    
    
    
    14,319Thereafter
    
    
    
    
    
    
    57,426Total minimum lease payments
    
    
    689
    
    
    
    157,132Less sublease income
    
    
    
    
    
    
    2,757Net minimum lease payments under
operating leases
    
    
    
    
    
    $
    154,375Less amount representing imputed interest
    
    
    75Total obligations under capital leases
    
    
    614Less current principal maturities of capital
lease obligations
    
    
    243Obligations under capital leases,
excluding current maturities
    
    $
    371
 A director of the Company is a limited partner in various limited partnerships that lease land
and improvements to us under certain lease agreements. During fiscal 2004, 2003 and 2002, we
made lease payments of $0.5 million, $0.6 million and $0.5 million, respectively related to
these lease agreements.  (8)
    Income TaxesIncome tax expense (benefit) is comprised of the following: Fiscal Year2004
    
    
    2003
    
    
    2002(restated)Current federal
    
    $
    1,970
    
    
    $
    14
    
    
    $
    (287
    )Current state and local
    
    
    586
    
    
    
    352
    
    
    
    (29
    )Deferred federal
    
    
    1,229
    
    
    
    (1,581
    )
    
    
    287Deferred state and local
    
    
    197
    
    
    
    (143
    )
    
    
    29$
    3,982
    
    
    $
    (1,358
    )
    
    $
    
 The difference between expected federal income tax expense (benefit) (computed by applying the
statutory rate of 35% to income before income taxes) and actual income tax expense (benefit)
is as follows: Fiscal Year20032004
    
    
    (restated)
    
    
    2002Computed expected income tax expense
    
    $
    3,427
    
    
    $
    2,422
    
    
    $
    643State and local income taxes, net of
federal income tax effect
    
    
    509
    
    
    
    533
    
    
    
    66Other
    
    
    46
    
    
    
    123
    
    
    
    Changes in valuation allowance
    
    
    
    
    
    
    (4,436
    )
    
    
    (709
    )$
    3,982
    
    
    $
    (1,358
    )
    
    $
    
 41




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Hastings Entertainment, Inc. and Subsidiaries
Notes to Consolidated Financial Statements
January 31, 2005 and 2004
(Tabular amounts in thousands, except per share data or unless otherwise noted) The tax effects of temporary differences that give rise to significant portions of the
deferred tax assets and deferred tax liabilities are presented below: January 31,2005
    
    
    2004(restated)Deferred tax assets:Gift cards
    
    $
    938
    
    
    $
    984Abandoned leases
    
    
    494
    
    
    
    781Deferred rent and lease incentives
    
    
    1,947
    
    
    
    1,940Inventories
    
    
    1,573
    
    
    
    181Net operating loss carryforward
    
    
    
    
    
    
    1,749Other
    
    
    1,087
    
    
    
    1,470Total deferred tax assets
    
    
    6,039
    
    
    
    7,105Deferred tax liabilities:Property and equipment
    
    
    (2,533
    )
    
    
    (2,172
    )Total deferred tax liabilities
    
    
    (2,533
    )
    
    
    (2,172
    )Net deferred tax assets
    
    $
    3,506
    
    
    $
    4,933
  As of January 31, 2004, we had available $4.5 million of net tax operating loss carryforwards
for federal income tax purposes. Based on the changes in taxable temporary differences during
fiscal year 2004, we realized the entire amount of this operating loss carryforward.(9)
    Income Per ShareThe computations of basic and diluted income per share are as follows: Fiscal Year2004
    
    
    2003
    
    
    2002(restated)Net income
    
    $
    5,809
    
    
    $
    8,277
    
    
    $
    1,891Average shares outstanding:Basic
    
    
    11,411
    
    
    
    11,327
    
    
    
    11,343Effect of stock options
    
    
    531
    
    
    
    156
    
    
    
    436Diluted
    
    
    11,942
    
    
    
    11,483
    
    
    
    11,779Income per share:Basic
    
    $
    0.51
    
    
    $
    0.73
    
    
    $
    0.17Diluted
    
    $
    0.49
    
    
    $
    0.72
    
    
    $
    0.16
  Options to purchase 523,556 shares of Common Stock at exercise prices ranging from $7.30 to
$14.03 per share outstanding at January 31, 2005; 771,800 shares of Common Stock at exercise
prices ranging from $3.95 per share to $14.03 per share outstanding at January 31, 2004; and
798,270 shares of Common Stock at exercise prices ranging from $6.595 per share to $14.03 per
share outstanding at January 31, 2003, were not included in the computation of diluted income
per share because their inclusion would have been antidilutive.(10)
    401k and ASOPOur 401k plan permits full-time employees who have attained age 21 and part-time employees who
have worked a minimum of 1,000 hours in a year and have attained age 21 to participate in the
401k plan and elect to contribute up to 25% of their salary, subject to federal limitations,
to the plan. Employer contributions include a quarterly guaranteed match of 25% of employee
contributions up to a maximum of 6% deferral of compensation and are allocated solely to those
employees who are participating in the plan and are employed 42




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Hastings Entertainment, Inc. and Subsidiaries
Notes to Consolidated Financial Statements
January 31, 2005 and 2004
(Tabular amounts in thousands, except per share data or unless otherwise noted)  on the last day of the plan quarter. Also included is a discretionary match based on specific
criteria reviewed every fiscal six-month period by management and approved by the Board of
Directors. This discretionary match is allocated solely to those employees who are
participating in the plan and are employed on the last day of the six-month period.Our Associate Stock Ownership Plan (ASOP) permits employees who have attained age 21 and
completed one year of service and 1,000 hours in 12 consecutive months for part-time
associates, to participate in the ASOP. Employer contributions are determined at the
discretion of management. The Board of Directors has determined that the level of
contributions will be made based on attaining operational profit goals as set by the Board of
Directors. The contribution is based on a percentage of participants eligible compensation.
Common shares held by the ASOP were 459,864, 385,252, and 318,084 at January 31, 2005, 2004,
and 2003, respectively. Shares issued and held under the ASOP plan are included as
outstanding shares for the purposes of calculating income per share.Amounts expensed related to the 401k and ASOP Plans were $0.6 million, $1.5 million, and $0.6
million during fiscal 2004, 2003 and 2002, respectively.11)
    Shareholders EquityWe have six stock option plans: the 1991 and 1994 Stock Option Plans, the 1996 and 2002
Incentive Stock Plan and the 1996 and 2002 Outside Directors Plan (for non-employee
directors). A total of 505,900 shares may be granted under each of the 1991 and 1994 Stock
Option Plans, 632,375 shares may be granted under the 1996 Incentive Stock Plan, 500,000
shares may be granted under the 2002 Incentive Stock Plan, 101,180 shares may be granted under
the 1996 Outside Directors Plan and 100,000 shares may be granted under the 2002 Outside
Directors Plan. As of January 31, 2005, we had 398,454 options available for future issuances
under stock option plans.The 1991 and 1994 Stock Option Plans and the 1996 and 2002 Incentive Stock Plan authorize the
award of both incentive stock options and non-qualified stock options to purchase common stock
to officers, other associates and directors of the Company. The exercise price per share of
incentive stock options may not be less than the market price of our common stock on the date
the option is granted. The term of each option is determined by the Board of Directors and
generally will not exceed ten years from the date of grant. In general, each option award
vests at 20% per year over five years.The 1996 Incentive Stock Plan also authorizes the granting of stock appreciation rights,
restricted stock, dividend equivalent rights, stock awards, and other stock-based awards to
officers, other associates, directors, and consultants of the Company. There have been no
grants of these awards under this plan.We also have a management stock purchase plan that authorizes the issuance of up to 227,655
shares of common stock, pursuant to agreements providing for the purchase of restricted stock
units (RSUs). The cost of each RSU is equal to 75% of the fair market value of the common
stock of the Company on the date the RSU is awarded. During fiscal years 2004, 2003 and 2002,
there were no RSUs awarded under the Plan. Compensation expense is then recognized using the
straight-line method over three years, which is the vesting period of the RSUs. Under this
methodology, we recorded approximately $18, $218 and $1,900 of compensation expense in fiscal
year 2004, 2003 and 2002, respectively. As of January 31, 2005, 2004 and 2003, there were 0,
552 and 2,054 RSUs outstanding under the plan, respectively. 43




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##### Table of Contents



Hastings Entertainment, Inc. and Subsidiaries
Notes to Consolidated Financial Statements
January 31, 2005 and 2004
(Tabular amounts in thousands, except per share data or unless otherwise noted)  A summary of information with respect to all stock option plans is as follows: Weighted-averageexercisepriceOptions
    
    
    (in dollars)Outstanding at January 31, 2002
    
    
    1,595,285
    
    
    
    5.68Granted
    
    
    353,210
    
    
    
    6.66Exercised
    
    
    (99,090
    )
    
    
    3.47Forfeited and expired
    
    
    (94,066
    )
    
    
    6.23Outstanding at January 31, 2003
    
    
    1,755,339
    
    
    
    5.97Granted
    
    
    367,779
    
    
    
    3.42Exercised
    
    
    (75,137
    )
    
    
    3.12Forfeited and expired
    
    
    (130,529
    )
    
    
    4.20Outstanding at January 31, 2004
    
    
    1,917,452
    
    
    $
    5.71Granted
    
    
    310,493
    
    
    
    6.03Exercised
    
    
    (225,213
    )
    
    
    3.10Forfeited and expired
    
    
    (115,517
    )
    
    
    4.92Outstanding at January 31, 2005
    
    
    1,887,215
    
    
    $
    6.12Options available for grant at January 31, 2005
    
    
    398,454
 At January 31, 2005, the options outstanding and options exercisable, and their related
weighted-average exercise price, and the weighted-average remaining contractual life for the
ranges of exercise prices are shown in the table below. Weighted-average
    
    
    Weighted-averageexercise price
    
    
    remainingOptions
    
    
    (in dollars)
    
    
    contractual lifeRange: $1.27 to $4.99Options outstanding at January 31, 2005
    
    
    867,902
    
    
    $
    3.23
    
    
    6.11 yearsOptions exercisable at January 31, 2005
    
    
    377,346
    
    
    $
    3.21Range: $5.00 to $9.99Options outstanding at January 31, 2005
    
    
    563,023
    
    
    $
    6.39
    
    
    6.99 yearsOptions exercisable at January 31, 2005
    
    
    125,440
    
    
    $
    7.00Price: $10.00 to $14.03Options outstanding at January 31, 2005
    
    
    456,290
    
    
    $
    11.30
    
    
    1.96 yearsOptions exercisable at January 31, 2005
    
    
    456,290
    
    
    $
    11.30
 At January 31, 2005, 2004 and 2003, the number of options exercisable was 959,076, 886,253 and
704,121, respectively, and the weighted-average exercise price of those options was $7.55,
$7.75 and $8.55, respectively. We apply APB 25 and related interpretations in accounting for our Plans and since we generally
grant stock options, except for RSUs as described above, with an exercise price equal to or
greater than the current market price of the stock on the grant date, compensation expense is
not recorded. 44




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##### Table of Contents



Hastings Entertainment, Inc. and Subsidiaries
Notes to Consolidated Financial Statements
January 31, 2005 and 2004
(Tabular amounts in thousands, except per share data or unless otherwise noted) The per share weighted-average exercise price and the per share weighted-average fair value of
stock options at the date of grant, using the Black-Scholes option-pricing model for SFAS 123
disclosure purposes, is as follows (in dollars): Weighted Average Exercise price
    
    
    Weighted Average Fair value forfor Fiscal Year
    
    
    Fiscal Year2004
    
    
    2003
    
    
    2002
    
    
    2004
    
    
    2003
    
    
    2002Options granted at
market price
    
    $
    5.99
    
    
    $
    3.41
    
    
    $
    6.61
    
    
    $
    3.34
    
    
    $
    2.13
    
    
    $
    3.37Options granted at
prices exceeding market
price
    
    $
    6.31
    
    
    $
    3.72
    
    
    $
    7.30
    
    
    $
    2.98
    
    
    $
    0.08
    
    
    $
    0.18Total options granted
    
    $
    6.03
    
    
    $
    3.42
    
    
    $
    6.66
    
    
    $
    3.31
    
    
    $
    2.12
    
    
    $
    3.31
 The following assumptions were used in the calculation of fair value: Fiscal Year2004
    
    
    2003
    
    
    2002Expected dividend yield
    
    $
    
    
    
    
    
    
    
    
    Risk-free interest rate
    
    
    2.71
    %
    
    
    3.24
    %
    
    
    3.00
    %Expected life in years
    
    
    5.28
    
    
    
    4.96
    
    
    
    4.81Volatility
    
    
    .62
    
    
    
    .74
    
    
    
    .57
  (12)
    Supplemental Cash Flow InformationCash payments for interest during fiscal 2004, 2003 and 2002 totaled $2.1 million, $2.1
million and $2.0 million, respectively. Cash payments for income taxes during fiscal 2004,
2003 and 2002 totaled $259,780, $187,558, and $26,000, respectively.(13)
    Commitments and ContingenciesThe Company is obligated to pay certain studios minimum amounts associated with certain
revenue-sharing agreements related to rental videos. As of January 31, 2005, such minimum
future payments approximated $784,000, which are expected to be paid during fiscal 2005.During the current fiscal year, we were named as defendants in complaints alleging that our
extended viewing fees for movie and game rentals are illegal under the Uniform Commercial
Code. While we intend to vigorously defend these matters and anticipate favorable results,
the ultimate outcome of these matters cannot be estimated at this time. In the event an
adverse judgment was rendered, the impact on the consolidated financial statements could be
material.We are also involved in various other claims and legal actions arising in the ordinary course
of business. In the opinion of management, the ultimate disposition of these matters will not
have a material adverse effect on our financial position, results of operations and cash
flows. 45




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Hastings Entertainment, Inc. and Subsidiaries
Notes to Consolidated Financial Statements
January 31, 2005 and 2004
(Tabular amounts in thousands, except per share data or unless otherwise noted)  (14)
    Interim Financial Results (Unaudited) Fiscal year 2004:
    
    QuarterFirst
    
    

    Second
    
    

    Third
    
    

    Fourth(restated)
    
    
    (restated)
    
    
    (restated)Total revenues
    
    $
    126,937
    
    
    $
    122,412
    
    
    $
    119,579
    
    
    $
    173,088Total cost of revenues
    
    
    82,426
    
    
    
    78,665
    
    
    
    79,415
    
    
    
    118,392Selling, general and administrative expenses
    
    
    40,941
    
    
    
    42,189
    
    
    
    42,250
    
    
    
    45,913Pre-opening expenses
    
    
    94
    
    
    
    240
    
    
    
    26
    
    
    
    49Operating income (loss)
    
    
    3,476
    
    
    
    1,318
    
    
    
    (2,112
    )
    
    
    8,734Interest (expense) and other income, net
    
    
    (257
    )
    
    
    (381
    )
    
    
    (483
    )
    
    
    (504
    )Income (loss) before taxes
    
    
    3,219
    
    
    
    937
    
    
    
    (2,595
    )
    
    
    8,230Income tax expense (benefit)
    
    
    1,257
    
    
    
    305
    
    
    
    (973
    )
    
    
    3,393Net income (loss)
    
    
    1,962
    
    
    
    632
    
    
    
    (1,622
    )
    
    
    4,837Basic income (loss) per share
    
    $
    0.17
    
    
    $
    0.06
    
    
    $
    (0.14
    )
    
    $
    0.42Diluted income (loss) per share
    
    $
    0.17
    
    
    $
    0.05
    
    
    $
    (0.14
    )
    
    $
    0.40
 Fiscal year 2003:
    
    QuarterFirst
    
    

    Second
    
    

    Third
    
    

    Fourth(restated)
    
    
    (restated)
    
    
    (restated)
    
    
    (restated)Total revenues
    
    $
    116,837
    
    
    $
    115,397
    
    
    $
    112,843
    
    
    $
    163,241Total cost of revenues
    
    
    78,384
    
    
    
    74,911
    
    
    
    74,442
    
    
    
    109,045Selling, general and administrative expenses
    
    
    38,762
    
    
    
    39,575
    
    
    
    41,470
    
    
    
    42,809Pre-opening expenses
    
    
    113
    
    
    
    68
    
    
    
    53
    
    
    
    43Operating income (loss)
    
    
    (422
    )
    
    
    843
    
    
    
    (3,122
    )
    
    
    11,344Interest (expense) and other income, net
    
    
    (432
    )
    
    
    (441
    )
    
    
    (474
    )
    
    
    (377
    )Income (loss) before taxes
    
    
    (854
    )
    
    
    402
    
    
    
    (3,596
    )
    
    
    10,967Income tax expense (benefit) (a)
    
    
    82
    
    
    
    82
    
    
    
    82
    
    
    
    (1,604
    )Net income (loss)
    
    
    (936
    )
    
    
    320
    
    
    
    (3,678
    )
    
    
    12,571Basic income (loss) per share
    
    $
    (0.08
    )
    
    $
    0.03
    
    
    $
    (0.33
    )
    
    $
    1.11Diluted income (loss) per share
    
    $
    (0.08
    )
    
    $
    0.03
    
    
    $
    (0.33
    )
    
    $
    1.08
   (a)
    
    The results for fiscal year 2003 reflect an income tax benefit of approximately $1.4 million,
or $0.12 per diluted share, primarily due to the reversal of a valuation allowance of
approximately $4.4 million previously applied against our deferred tax assets. Based on our
past three fiscal years of profitability and our projections of future taxable income, we
believed that a valuation allowance was no longer required as of January 31, 2004 as the
realization of our deferred tax assets is now considered more likely than not. The following is a summary of the effects of the restatement adjustments on quarterly data
affected by the restatement. See Note 1 to the Consolidated Financial Statements for additional
information. 46




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##### Table of Contents



Hastings Entertainment, Inc. and Subsidiaries
Notes to Consolidated Financial Statements
January 31, 2005 and 2004
(Tabular amounts in thousands, except per share data or unless otherwise noted) Effects of Lease Restatement by QuarterAs PreviouslyReported
    
    
    Adjustments
    
    
    As RestatedThree months ended October 31, 2004Selling, general and administrative expenses
    
    $
    42,480
    
    
    $
    (230
    )
    
    $
    42,250Operating income (loss)
    
    
    (2,342
    )
    
    
    230
    
    
    
    (2,112
    )Income (loss) before taxes
    
    
    (2,825
    )
    
    
    230
    
    
    
    (2,595
    )Net income (loss)
    
    
    (1,763
    )
    
    
    141
    
    
    
    (1,622
    )Diluted income (loss) per share
    
    
    (0.15
    )
    
    
    0.01
    
    
    
    (0.14
    )Three months ended July 31, 2004Selling, general and administrative expenses
    
    $
    42,419
    
    
    $
    (230
    )
    
    $
    42,189Operating income
    
    
    1,088
    
    
    
    230
    
    
    
    1,318Income before taxes
    
    
    707
    
    
    
    230
    
    
    
    937Net income
    
    
    491
    
    
    
    141
    
    
    
    632Diluted income per share
    
    
    0.04
    
    
    
    0.01
    
    
    
    0.05Three months ended April 30, 2004Selling, general and administrative expenses
    
    $
    41,171
    
    
    $
    (230
    )
    
    $
    40,941Operating income
    
    
    3,246
    
    
    
    230
    
    
    
    3,476Income before taxes
    
    
    2,989
    
    
    
    230
    
    
    
    3,219Net income
    
    
    1,821
    
    
    
    141
    
    
    
    1,962Diluted income per share
    
    
    0.15
    
    
    
    0.02
    
    
    
    0.17Three months ended January 31, 2004Selling, general and administrative expenses
    
    $
    43,024
    
    
    $
    (215
    )
    
    $
    42,809Operating income
    
    
    11,129
    
    
    
    215
    
    
    
    11,344Income before taxes
    
    
    10,752
    
    
    
    215
    
    
    
    10,967Net income (loss)
    
    
    12,440
    
    
    
    131
    
    
    
    12,571Diluted income (loss) per share
    
    
    1.07
    
    
    
    0.01
    
    
    
    1.08Three months ended October 31, 2003Selling, general and administrative expenses
    
    $
    41,684
    
    
    $
    (214
    )
    
    $
    41,470Operating income (loss)
    
    
    (3,336
    )
    
    
    214
    
    
    
    (3,122
    )Income (loss) before taxes
    
    
    (3,810
    )
    
    
    214
    
    
    
    (3,596
    )Net income (loss)
    
    
    (3,810
    )
    
    
    132
    
    
    
    (3,678
    )Diluted income (loss) per share
    
    
    (0.34
    )
    
    
    0.01
    
    
    
    (0.33
    )Three months ended July 31, 2003Selling, general and administrative expenses
    
    $
    39,789
    
    
    $
    (214
    )
    
    $
    39,575Operating income
    
    
    629
    
    
    
    214
    
    
    
    843Income before taxes
    
    
    188
    
    
    
    214
    
    
    
    402Net income
    
    
    188
    
    
    
    132
    
    
    
    320Diluted income per share
    
    
    0.02
    
    
    
    0.01
    
    
    
    0.03Three months ended April 30, 2003Selling, general and administrative expenses
    
    $
    38,976
    
    
    $
    (214
    )
    
    $
    38,762Operating income (loss)
    
    
    (636
    )
    
    
    214
    
    
    
    (422
    )Income (loss) before taxes
    
    
    (1,068
    )
    
    
    214
    
    
    
    (854
    )Net income (loss)
    
    
    (1,068
    )
    
    
    132
    
    
    
    (936
    )Diluted income (loss) per share
    
    
    (0.09
    )
    
    
    0.01
    
    
    
    (0.08
    )
 47




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##### Table of Contents



ITEM 9.
    CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE None 
  ITEM 9A.
    CONTROLS AND PROCEDURES As required by Exchange Act Rules 13a-15 and 15d-15, an evaluation was conducted under the
supervision and with the participation of management, including our Chief Executive Officer and
Chief Financial Officer, of the effectiveness of the design and operation of our disclosure
controls and procedures as of January 31, 2005 to determine whether our disclosure controls and
procedures were effective as of such date to ensure that information required to be disclosed by us
in our reports filed or submitted under the Exchange Act is recorded, processed, summarized and
reported within the time periods specified in the SECs rules and forms. In performing this
evaluation, management considered our lease accounting practices in light of a February 7, 2005
letter issued by the office of the Chief Accountant of the SEC to the AICPA regarding lease
accounting issues and generally accepted accounting principles (the SEC Letter). Our historical
lease accounting practices were similar to those used by most other retailers. However, when
reviewed against generally accepted accounting principles as set forth in the SEC Letter, we
concluded that our historical method of accounting for rent holidays and amortization of certain
leasehold improvements was not in accordance with generally accepted accounting principles and that
certain previously issued quarterly and annual financial statements should be restated. See Note 1
and Note 14 to the consolidated financial statements for a discussion of the effects of these
changes. Based solely on this change in lease accounting practices, our Chief Executive Officer
and Chief Financial Officer concluded that our disclosure controls and procedures were not
effective as of January 31, 2005. Subsequent to year-end, we have cured the identified weakness in
our controls and procedures. There has not been any change in our internal control over financial reporting during the period
covered by this report that has materially affected, or is reasonably likely to materially affect,
our internal control over financial reporting. 48




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##### Table of Contents



PART III 
 ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT The information required by this item will be set forth in our Proxy Statement for our 2005 Annual
Meeting of Shareholders, to be filed within 120 days after the end of fiscal 2004 (our Proxy
Statement), under the heading Proposal No. 1: Election of Three Directors, which information is
incorporated herein by reference. The information required by this item regarding our executive
officers is set forth under the heading Executive Officers of the Company in Part I of this Form
10-K, which information is incorporated herein by reference. Section 16(a) Beneficial Ownership Reporting Compliance The information required by this item regarding compliance with Section 16(a) of the Securities
Exchange Act of 1934 will be set forth in our Proxy Statement under the heading Compliance with
Section 16(a) of the Securities Exchange Act of 1934, which is incorporated herein by reference. Code of Ethics and Other Corporate Governance Information Information regarding our Code of Ethics and the name of the individual determined by the board to
be the audit committee financial expert is included in our Proxy Statement, under the heading
Proposal No. 1: Election of Three Directors, which information is incorporated herein by
reference. 
 ITEM 11. EXECUTIVE COMPENSATION The information required by this item will be set forth in our Proxy Statement under the headings
Executive Compensation, Executive Compensation - Director Compensation, Executive Compensation
- Employee Contracts and Change of Control Arrangements, and Executive Compensation -
Compensation Committee Interlocks and Insider Participation, which information is incorporated
herein by reference. 
  ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND RELATED STOCKHOLDER
MATTERS The information required by this item will be set forth in our Proxy Statement under the headings,
Security Ownership of Certain Beneficial Owners and Management and Equity Compensation Plan
Information, which information is incorporated herein by reference. 
 ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS The information required by this item will be set forth in our Proxy Statement under the heading
Certain Relationships and Related Transactions, which information is incorporated herein by
reference. 
 ITEM 14. PRINCIPAL ACCOUNTANT FEES AND SERVICES The information required by this item will be set forth in our Proxy Statement under the heading
Principal Accountant Fees and Services, which information is incorporated herein by reference. 49




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##### Table of Contents



PART IV 
 ITEM 15. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K (a) 1.
    
    The following consolidated financial statements of the Company are included in Part II, Item 8:Independent Registered Public Accounting Firms Report
    
    
    28Consolidated Balance Sheets as of January 31, 2005 and 2004
    
    
    29Consolidated Statements of Operations for the years ended January 31, 2005, 2004 and 2003
    
    
    30Consolidated Statements of Shareholders Equity for the years ended January 31, 2005, 2004 and 2003
    
    
    31Consolidated Statements of Cash Flows for the years ended January 31, 2005, 2004 and 2003
    
    
    32Notes to Consolidated Financial Statements
    
    
    332.
    
    The following financial statement schedules and other information required to be filed by Items 8 and 15(d) of Form 10-K are
included in Part IV:Schedule II  Valuation and Qualifying Accounts
    
    
    52All other schedules are omitted because they are not applicable, not required or the
required information is included in the Consolidated Financial Statements and notes
thereto.3.
    
    The following exhibits are filed herewith or incorporated by reference as indicated
as required by Item 601 of Regulation S-K. The exhibits designated by an asterisk are
management contracts and/or compensatory plans or arrangements required to be filed as
exhibits to this report.
 ExhibitNumber
    
    
    
    
    
    
    
    Description3.1
    
    
    
    
    (1
    )
    
    Third Restated Articles of Incorporation of the Company.3.2
    
    
    
    
    (1
    )
    
    Amended and Restated Bylaws of the Company.4.1
    
    
    
    
    (2
    )
    
    Specimen of Certificate of Common Stock of the Company.4.2
    
    
    
    
    (1
    )
    
    Third Restated Articles of Incorporation of the Company (see 3.1 above).4.3
    
    
    
    
    (1
    )
    
    Amended and Restated Bylaws of the Company (see 3.2 above).10.1
    
    
    
    
    (1
    )
    
    Form of Indemnification Agreement by and between the Company and its
directors and executive officers.10.2
    
    *
    
    
    (1
    )
    
    Hastings Amended 1996 Incentive Stock Plan.10.3
    
    *
    
    
    (2
    )
    
    Hastings 1994 Stock Option Plan.10.4
    
    *
    
    
    (2
    )
    
    Hastings 1991 Stock Option Plan.10.5
    
    *
    
    
    (1
    )
    
    Hastings Entertainment, Inc. Associates 401(k) Plan and Trust.10.6
    
    *
    
    
    (1
    )
    
    Hastings Employee Stock Ownership Plan Trust Agreement.10.7
    
    *
    
    
    (2
    )
    
    Chief Executive Officer Stock Option, as amended.10.8
    
    *
    
    
    (1
    )
    
    Corporate Officer Incentive Plan.10.9
    
    *
    
    
    (1
    )
    
    Management Stock Purchase Plan.10.10
    
    *
    
    
    (1
    )
    
    Management Incentive Plan.10.11
    
    *
    
    
    (1
    )
    
    Salary Incentive Plan.10.12
    
    *
    
    
    (1
    )
    
    Hastings Entertainment, Inc. Stock Option Plan for Outside Directors.10.13
    
    *
    
    
    (3
    )
    
    Agreement, dated January 31, 2001 between John H. Marmaduke and the Company10.14
    
    
    
    
    (4
    )
    
    Lease Agreement, dated August 3, 1994, as amended, between Omni Capital Corporation and the
Company, for warehouse space located at Sunset Center in Amarillo, Texas.10.15
    
    
    
    
    (1
    )
    
    Lease Agreement, dated May 28, 1992, between the City of Amarillo and the Company for space
located at 1900 W.
7th Avenue in Amarillo, Texas.10.16
    
    *
    
    
    (2
    )
    
    Stock Grant Plan for Outside Directors.10.17
    
    *
    
    
    (2
    )
    
    Form of Employment Agreement by and between the Company and certain of its executives.
 50




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##### Table of Contents



ExhibitNumber
    
    
    
    
    
    
    
    Description10.18
    
    
    
    
    (5
    )
    
    Amended Lease Agreement, dated October 13, 1999, between Omni Capital Corporation and the
Company, for office space located at Sunset Center in Amarillo, Texas.10.19
    
    
    
    
    (6
    )
    
    Loan and Security Agreement, dated August 29, 2000 between Hastings Entertainment, Inc. and
Fleet Retail Finance, Inc., Agent.10.20
    
    
    
    
    (7
    )
    
    International Swap Dealers Association, Inc. Master Agreement between Hastings
Entertainment, Inc. and Fleet National Bank.10.21
    
    
    
    
    (8
    )
    
    Amended Loan and Security Agreement, dated December 9, 2003, between Hastings
Entertainment, Inc. and Fleet Retail Finance, Inc., Agent.21.1
    
    
    
    
    (2
    )
    
    Subsidiaries of the Company.23.1
    
    
    
    
    (9
    )
    
    Consent of Ernst and Young LLP.24.1
    
    
    
    
    (9
    )
    
    Powers of Attorney (included on signature page).31.1
    
    
    
    
    (9
    )
    
    Certification of Chief Executive Officer of Registrant Pursuant to SEC Rule 13a-14(a)/15d-14(a).31.2
    
    
    
    
    (9
    )
    
    Certification of Chief Financial Officer of Registrant Pursuant to SEC Rule 13a-14(a)/15d-14(a).32.1
    
    
    
    
    (9
    )
    
    Certification of Chief Executive Officer and Chief Financial Officer of Registrant Pursuant to 18
U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
   (1)
    
    Previously filed as an exhibit to the Companys Registration Statement on Form
S-1, dated March 18, 1998 (File No. 333-47969) and with a corresponding exhibit number
herein and are incorporated herein by reference.(2)
    
    Previously filed as an exhibit to the Companys Registration Statement on Form
S-1/A, dated May 19, 1998 (File No. 333-47969) and with a corresponding exhibit number
herein and are incorporated herein by reference.(3)
    
    Previously filed as an exhibit to the Companys Annual Report on Form 10-K for
the fiscal year ended January 31, 2001, and incorporated herein by reference.(4)
    
    Previously filed as an exhibit to the Companys Registration Statement on Form
S-1/A, dated June 11, 1998 (File No. 333-47969) and with a corresponding exhibit number
herein and are incorporated herein by reference.(5)
    
    Previously filed as an exhibit to the Companys Annual Report on Form 10-K, as
amended, for the fiscal year ended January 31, 2000, and incorporated herein by
reference.(6)
    
    Previously filed as an exhibit to the Companys Quarterly Report on Form 10-Q,
as amended, for the quarterly period ended July 31, 2000, and incorporated herein by
reference.(7)
    
    Previously filed as an exhibit to the Companys Annual Report on Form 10-K for
the fiscal year ended January 31, 2002, and incorporated herein by reference.(8)
    
    Previously filed as an exhibit to the Companys Annual Report on Form 10-K for
the fiscal year ended January 31, 2004, and incorporated herein by reference.(9)
    
    Filed herewith. (b) Reports on Form 8-K  (i)
    On November 9, 2004, we filed a current report on Form 8-K reporting, under Item 2.03.
Creation of a Direct Financial Obligation or an Obligation Under an Off-Balance Sheet
Arrangement of a Registrant, that we had increased our indebtedness under our revolving
credit agreement.(ii)
    On November 22, 2004, we filed a current report on Form 8-K reporting, under Item
2.02. Results of Operations and Financial Condition, among other things, our results for
the third fiscal quarter ended October 31, 2004. 51




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##### Table of Contents



Financial Statement Schedule II - HASTINGS ENTERTAINMENT, INC.    Fiscal Year2004
    
    
    2003
    
    
    2002Reserves deducted from assets:Allowance for shrinkage and inventory
obsolescence:Balance at the beginning of period
    
    $
    3,405
    
    
    $
    3,884
    
    
    $
    4,580Additions charged to costs and expenses
    
    
    12,345
    
    
    
    10,799
    
    
    
    10,697Deductions for write-offs
    
    
    (12,695
    )
    
    
    (11,278
    )
    
    
    (11,393
    )Balance at end of period
    
    $
    3,055
    
    
    $
    3,405
    
    
    $
    3,884Reserves added to liabilities:Allowance for costs of inventory returns:Balance at the beginning of period
    
    $
    3,658
    
    
    $
    4,729
    
    
    $
    5,128Additions charged to costs and expenses
    
    
    5,776
    
    
    
    6,247
    
    
    
    6,396Deductions for write-offs and payments
    
    
    (7,377
    )
    
    
    (7,318
    )
    
    
    (6,795
    )Balance at end of period
    
    $
    2,057
    
    
    $
    3,658
    
    
    $
    4,729
 52




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##### Table of Contents



SIGNATURES Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the undersigned, on behalf of
the registrant, thereunto duly authorized: HASTINGS ENTERTAINMENT, INC.Date: April 29, 2005
    
    By:
    
    /s/ Dan CrowDan CrowVice President and Chief Financial Officer(Principal Financial and Accounting Officer)
 POWER OF ATTORNEY Each person whose signature appears below hereby authorizes and constitutes John H. Marmaduke and
Dan Crow, and each of them singly, his true and lawful attorneys-in-fact with full power of
substitution and redistribution, for him and in his name, place and stead, in any and all
capacities to sign and file any and all amendments to this report with all exhibits thereto and
other documents in connection therewith, with the Securities and Exchange Commission, and he hereby
ratifies and confirms all that said attorneys-in-fact or any of them, or their substitutes, may
lawfully do or cause to be done by virtue hereof. Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed
below by the following persons on behalf of the registrant and in the capacities and on the dates
indicated. Signature
    
    Title
    
    Date/s/ John H. Marmaduke
    
    Chairman of the Board, President
and Chief Executive Officer
    
    April 1, 2005(Principal Executive Officer)John H. Marmaduke/s/ Gaines L. Godfrey
    
    Director
    
    April 1, 2005Gaines L. Godfrey/s/ Daryl L. Lansdale
    
    Director
    
    April 1, 2005Daryl L. Lansdale/s/ Ann S. Lieff
    
    Director
    
    April 1, 2005Ann S. Lieff/s/ Stephen S. Marmaduke
    
    Director
    
    April 1, 2005Stephen S. Marmaduke/s/ Frank O. Marrs
    
    Director
    
    April 1, 2005Frank O. Marrs/s/ Jeffrey G. Shrader
    
    Director
    
    April 1, 2005Jeffrey G. Shrader
 53