##### Table of Contents



UNITED STATES SECURITIES AND EXCHANGE COMMISSION
 WASHINGTON, D.C. 20549
 FORM 10-K
 þ
    
    ANNUAL REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE
SECURITIES EXCHANGE ACT OF 1934
 For the fiscal year ended January 31, 2007
 OR
 o
    
    TRANSITION REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE
SECURITIES EXCHANGE ACT OF 1934
 For the transition period from  to
 Commission file number: 000-24381
 HASTINGS ENTERTAINMENT, INC.
  Texas
    
    75-1386375(State or other jurisdiction of
    
    (I.R.S. Employerincorporation or organization)
    
    Identification No.)3601 Plains Boulevard, Amarillo, Texas
    
    79102(Address of principal executive offices)
    
    (Zip Code)
 (806) 351-2300
 None
  Title of each class
    
    Name of each exchange on which registeredCommon Stock, $.01 par value per share
    
    The NASDAQ Stock Market LLC
  o þ
 o þ
 þ o
 þ
  o o þ
 o þ
   Class
    
    Outstanding at March 31, 2007Common Stock, $.01 par value per share
    
    11,019,653
  Document
    
    Parts Into Which IncorporatedPortions of the Proxy Statement for the annual meeting of
Shareholders of the registrant to be held in 2007
    
    Part III




---



##### Table of Contents



HASTINGS ENTERTAINMENT, INC.
Form 10-K Annual Report
For the Fiscal Year Ended January 31, 2007
 INDEX
 PAGEPART IItem 1. Business
    
    
    1Item 1A. Risk Factors
    
    
    8Item 1B. Unresolved Staff Comments
    
    
    11Item 2. Properties
    
    
    12Item 3. Legal Proceedings
    
    
    13Item 4. Submission of Matters to a Vote of Security Holders
    
    
    13PART IIItem 5. Market for Registrants Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities
    
    
    14Item 6. Selected Financial Data
    
    
    16Item 7. Managements Discussion and Analysis of Financial Condition and Results of Operation
    
    
    18Item 7A. Quantitative and Qualitative Disclosures About Market Risk
    
    
    29Item 8. Financial Statements and Supplementary Data
    
    
    30Item 9. Changes in and Disagreements With Accountants on Accounting and Financial Disclosure
    
    
    54Item 9A. Controls and Procedures
    
    
    54PART IIIItem 10. Directors, Executive Officers and Corporate Governance
    
    
    55Item 11. Executive Compensation
    
    
    55Item 12. Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters
    
    
    55Item 13. Certain Relationships and Related Transactions, and Director Independence
    
    
    55Item 14. Principal Accountant Fees and Services
    
    
    55PART IVItem 15. Exhibits and Financial Statement Schedules
    
    
    56SIGNATURES
    
    
    59CERTIFICATIONS
    
    
    61Severance Agreement and Release with David MoffattEmployment Agreement with Michael RigbyAmended Loan and Security AgreementConsent 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




---



##### Table of Contents



PART I
   
 ITEM 1. BUSINESS.
   1




---



##### Table of Contents



Superior Multimedia Concept.
 Minimum
    
    
    MaximumProduct Category
    
    Title Count
    
    
    Title CountBooks
    
    
    12,000
    
    
    
    63,000Music
    
    
    5,000
    
    
    
    25,000Sale VHS, DVD and Video Games
    
    
    7,000
    
    
    
    14,000Rental VHS, DVD, Video Games
    
    
    10,000
    
    
    
    21,000Used CDs, DVD, Video Games
    
    
    3,000
    
    
    
    29,000Used Books
    
    
    1,000
    
    
    
    20,000Boutique, Consumables and Accessories
    
    
    2,000
    
    
    
    4,000Periodicals
    
    
    1,000
    
    
    
    4,000Software
    
    
    
    
    
    
    1,000
  Fiscal YearProduct Category
    
    2006
    
    2005
    
    2004Music
    
    
    23
    %
    
    
    25
    %
    
    
    25
    %Books
    
    
    22
    %
    
    
    22
    %
    
    
    22
    %Video
    
    
    21
    %
    
    
    19
    %
    
    
    18
    %Rental
    
    
    17
    %
    
    
    17
    %
    
    
    19
    %Video Games
    
    
    9
    %
    
    
    9
    %
    
    
    8
    %Boutique
    
    
    4
    %
    
    
    4
    %
    
    
    4
    %Consumables
    
    
    3
    %
    
    
    3
    %
    
    
    2
    %Other
    
    
    1
    %
    
    
    1
    %
    
    
    2
    %
  Medium-Sized Market Focus.
 2




---



##### Table of Contents



Customer-Oriented Format.
 Low Pricing.
 Used and Budget-Priced Products.
 Internet. www.gohastings.com www.gohastings.com
   3




---



##### Table of Contents



New Release Allocation.
 Rental Asset Purchasing System.
 Store Replenishment.
 Selection Management.
 Model Stock Calculation/Ordering.
 4




---



##### Table of Contents



Inventory Management.
 Store Systems.
 Accounting and Finance.
 Warehouse Management.
    5




---



##### Table of Contents



6




---



##### Table of Contents



Name
    
    Age
    
    PositionJohn H. Marmaduke
    
    59
    
    Chairman of the Board, President and Chief Executive OfficerAlan Van Ongevalle
    
    39
    
    Senior Vice President of MerchandisingDan Crow
    
    60
    
    Vice President of Finance and Chief Financial OfficerKevin Ball
    
    50
    
    Vice President of MarketingPhil McConnell
    
    44
    
    Vice President of ProductJohn Hintz
    
    42
    
    Vice President of Information Technology
  John H. Marmaduke
 Alan Van Ongevalle
 Dan Crow
 Kevin Ball
 Phil McConnell
 John Hintz
 7




---



##### Table of Contents



www.sec.gov
 www.gohastings.com
 
 ITEM 1A. RISK FACTORS.
 CAUTIONARY STATEMENTS
  Our business is highly seasonal.
  Our business is dependent on consumer spending patterns.
  Intense competition from traditional retail sources and the Internet may adversely affect our
business.
  8




---



##### Table of Contents



Our business could be negatively impacted if the in-store video retailer distribution window is
reduced or eliminated.
    Our business is subject to changes in current rental video studio pricing policies.
   9




---



##### Table of Contents



Our business could be negatively impacted by new technology that provides alternate methods of
video delivery.
  We rely on certain key personnel.
  Our growth is dependent on our ability to execute our expansion strategy.
   10




---



##### Table of Contents



Changes to information technology systems may disrupt the supply chain.
  Our business is dependent upon renewing or entering into new leases on favorable terms.
  
 ITEM 1B. UNRESOLVED STAFF COMMENTS.
  11




---



##### Table of Contents



ITEM 2. PROPERTIES.
  Name of State
    
    Number of StoresAlabama
    
    
    1Arkansas
    
    
    11Arizona
    
    
    7Colorado
    
    
    4Georgia
    
    
    1Idaho
    
    
    9Indiana
    
    
    1Iowa
    
    
    1Kansas
    
    
    10Kentucky
    
    
    1Missouri
    
    
    7Montana
    
    
    6Nebraska
    
    
    4New Mexico
    
    
    16Oklahoma
    
    
    12Tennessee
    
    
    6Texas
    
    
    43Utah
    
    
    2Washington
    
    
    9Wyoming
    
    
    3Total
    
    
    154
     Number of Stores
    
    OptionsFiscal Year 2007
    
    
    16
    
    
    
    16Fiscal Year 2008
    
    
    15
    
    
    
    14Fiscal Year 2009
    
    
    32
    
    
    
    29Fiscal Year 2010
    
    
    16
    
    
    
    12Fiscal Year 2011
    
    
    16
    
    
    
    13Thereafter
    
    
    59
    
    
    
    54Total
    
    
    154
    
    
    
    138
 12




---



##### Table of Contents



ITEM 3. LEGAL PROCEEDINGS.
    
 ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.
  13




---



##### Table of Contents



PART II
 
 ITEM 5. MARKET FOR REGISTRANTS COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND ISSUER PURCHASES OF
EQUITY SECURITIES.
  High
    
    Low2006:First Quarter
    
    $
    6.24
    
    
    $
    4.75Second Quarter
    
    $
    8.00
    
    
    $
    5.51Third Quarter
    
    $
    8.17
    
    
    $
    5.60Fourth Quarter
    
    $
    8.40
    
    
    $
    5.432005:First Quarter
    
    $
    8.47
    
    
    $
    5.99Second Quarter
    
    $
    6.80
    
    
    $
    5.05Third Quarter
    
    $
    6.59
    
    
    $
    5.26Fourth Quarter
    
    $
    5.80
    
    
    $
    4.34
    Total number ofshares
    
    
    Approximatepurchased as
    
    
    dollar value ofpart of publicly
    
    
    shares that mayTotal number
    
    
    Average
    
    
    announced
    
    
    yet be purchasedof shares
    
    
    price paid
    
    
    plans or
    
    
    under the plans orPeriod
    
    purchased (1)
    
    
    per share
    
    
    programs
    
    
    programs (2)November 1 to November 30, 2006
    
    
    
    
    
    $
    
    
    
    
    
    
    
    
    N/ADecember 1 to December 31, 2006
    
    
    18,500
    
    
    
    7.13
    
    
    
    18,500
    
    
    
    N/AJanuary 1 to January 31, 2007
    
    
    24,100
    
    
    
    6.12
    
    
    
    24,100
    
    
    
    N/ATotal
    
    
    42,600
    
    
    $
    6.56
    
    
    
    42,600
    
    
    $
    4,055,772
 
 (1)
    
    All share purchases were open-market purchases made under a repurchase plan publicly
announced in a press release dated September 28, 2001. Our Board of Directors initially
authorized the repurchase of up to $5.0 million of our common stock. Since that time, the
Board of Directors has approved additional increases in the amounts of $2.5 million on April
4, 2005; $5.0 million on March 15, 2006; and $2.5 million on October 3, 2006. Each such
authorization to increase amounts was publicly announced in a press release. The purchases
satisfied the conditions of the safe harbor of Rule 10b-18 under the Securities Exchange Act
of 1934.(2)
    
    A total of 1,877,063 shares have been purchased under the repurchase plan at a total cost of
approximately $10.9 million, or approximately $5.81 per share. 14




---



##### Table of Contents



Comparison of Cumulative Five Year Total Return
 
 Fiscal Years EndedJanuary 31,
    
    
    January 31,
    
    
    January 31,
    
    
    January 31,
    
    
    January 31,
    
    
    January 31,2002
    
    
    2003
    
    
    2004
    
    
    2005
    
    
    2006
    
    
    2007Hastings
    
    $
    100.00
    
    
    $
    79.09
    
    
    $
    86.36
    
    
    $
    150.00
    
    
    $
    97.27
    
    
    $
    107.27S&P 500 Index
    
    
    100.00
    
    
    
    75.71
    
    
    
    100.08
    
    
    
    104.52
    
    
    
    113.26
    
    
    
    127.26Nasdaq Composite
    
    
    100.00
    
    
    
    68.30
    
    
    
    106.83
    
    
    
    106.64
    
    
    
    119.22
    
    
    
    127.40
   15




---



##### Table of Contents



ITEM 6. SELECTED FINANCIAL DATA.
  Fiscal Year(In thousands, except per share and square foot data)
    
    2006
    
    
    2005
    
    
    2004
    
    
    2003
    
    
    2002Income Statement Data:Merchandise revenue
    
    $
    454,142
    
    
    $
    444,291
    
    
    $
    440,596
    
    
    $
    404,977
    
    
    $
    395,548Rental asset revenue
    
    
    94,190
    
    
    
    93,640
    
    
    
    101,420
    
    
    
    103,341
    
    
    
    99,846Total revenues
    
    
    548,332
    
    
    
    537,931
    
    
    
    542,016
    
    
    
    508,318
    
    
    
    495,394Merchandise cost of revenue
    
    
    326,025
    
    
    
    314,328
    
    
    
    322,632
    
    
    
    299,055
    
    
    
    294,647Rental asset cost of revenue
    
    
    33,862
    
    
    
    34,458
    
    
    
    36,266
    
    
    
    37,727
    
    
    
    39,893Total cost of revenues
    
    
    359,887
    
    
    
    348,786
    
    
    
    358,898
    
    
    
    336,782
    
    
    
    334,540Gross profit
    
    
    188,445
    
    
    
    189,145
    
    
    
    183,118
    
    
    
    171,536
    
    
    
    160,854Selling, general and administrative expenses(1)
    
    
    177,467
    
    
    
    176,684
    
    
    
    171,293
    
    
    
    162,616
    
    
    
    158,025Pre-opening expenses
    
    
    94
    
    
    
    92
    
    
    
    409
    
    
    
    277
    
    
    
    479Operating income
    
    
    10,884
    
    
    
    12,369
    
    
    
    11,416
    
    
    
    8,643
    
    
    
    2,350Interest expense
    
    
    (3,260
    )
    
    
    (2,616
    )
    
    
    (1,918
    )
    
    
    (2,048
    )
    
    
    (1,987
    )Interest income (2)
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    1,291Other, net
    
    
    642
    
    
    
    399
    
    
    
    293
    
    
    
    324
    
    
    
    237Income before income taxes
    
    
    8,266
    
    
    
    10,152
    
    
    
    9,791
    
    
    
    6,919
    
    
    
    1,891Income tax expense (benefit)(3)
    
    
    3,247
    
    
    
    4,457
    
    
    
    3,982
    
    
    
    (1,358
    )
    
    
    Net income
    
    $
    5,019
    
    
    $
    5,695
    
    
    $
    5,809
    
    
    $
    8,277
    
    
    $
    1,891Basic income per share
    
    $
    0.45
    
    
    $
    0.50
    
    
    $
    0.51
    
    
    $
    0.73
    
    
    $
    0.17Diluted income per share
    
    $
    0.44
    
    
    $
    0.49
    
    
    $
    0.49
    
    
    $
    0.72
    
    
    $
    0.16Weighted-average common shares outstanding  basic
    
    
    11,244
    
    
    
    11,421
    
    
    
    11,411
    
    
    
    11,327
    
    
    
    11,343Weighted-average common shares outstanding  diluted
    
    
    11,518
    
    
    
    11,667
    
    
    
    11,942
    
    
    
    11,483
    
    
    
    11,779Other Data:Depreciation (4)
    
    $
    35,636
    
    
    $
    38,209
    
    
    $
    41,917
    
    
    $
    38,675
    
    
    $
    40,223Capital expenditures (5)
    
    $
    18,566
    
    
    $
    17,097
    
    
    $
    24,729
    
    
    $
    22,093
    
    
    $
    26,969Store Data:Total selling square footage at end of period
    
    
    3,121,737
    
    
    
    3,101,627
    
    
    
    3,039,582
    
    
    
    2,915,884
    
    
    
    2,846,955Comparable-store revenues increase (decrease) (6)
    
    
    1.8
    %
    
    
    (1.4
    %)
    
    
    5.0
    %
    
    
    1.9
    %
    
    
    5.0
    %
 January 31,2007
    
    
    2006
    
    
    2005
    
    
    2004
    
    
    2003Balance Sheet Data:Working capital (7)
    
    $
    71,941
    
    
    $
    52,508
    
    
    $
    52,404
    
    
    $
    39,756
    
    
    $
    52,829Total assets
    
    $
    257,498
    
    
    $
    254,661
    
    
    $
    251,299
    
    
    $
    233,491
    
    
    $
    234,014Total long-term debt, including
current maturities on capital lease
obligations
    
    $
    41,922
    
    
    $
    28,151
    
    
    $
    37,029
    
    
    $
    28,775
    
    
    $
    45,699Total shareholders equity
    
    $
    97,553
    
    
    $
    94,693
    
    
    $
    89,774
    
    
    $
    83,946
    
    
    $
    75,583
 16




---



##### Table of Contents



(1)
    
    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.(2)
    
    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.(3)
    
    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.(4)
    
    Includes amounts associated with our rental asset cost depreciation.(5)
    
    Includes purchases of property, equipment, and improvements, as well as purchases of retail
locations.(6)
    
    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.(7)
    
    Working capital is calculated as total current assets less total current liabilities. 17




---



##### Table of Contents



ITEM 7. MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATION.
       Lower of Cost or Market for Merchandise Inventory.
 Returns Process.
 18




---



##### Table of Contents



Rental Asset Depreciation.
     Store Closing Reserve.
 19




---



##### Table of Contents



Impairment or Disposal of Long-Lived Assets
 Revenue Recognition.
 Comparable-Store Revenue.
 Vendor Allowances.
 20




---



##### Table of Contents



Fiscal Year2006
    
    2005
    
    2004Merchandise revenue
    
    
    82.8
    %
    
    
    82.6
    %
    
    
    81.3
    %Rental asset revenue
    
    
    17.2
    
    
    
    17.4
    
    
    
    18.7Total revenues
    
    
    100.0
    
    
    
    100.0
    
    
    
    100.0Merchandise cost of revenue
    
    
    71.8
    
    
    
    70.7
    
    
    
    73.2Rental asset cost of revenue
    
    
    36.0
    
    
    
    36.8
    
    
    
    35.8Total cost of revenues
    
    
    65.6
    
    
    
    64.8
    
    
    
    66.2Gross profit
    
    
    34.4
    
    
    
    35.2
    
    
    
    33.8Selling, general and administrative expenses
    
    
    32.4
    
    
    
    32.8
    
    
    
    31.6Pre-opening expenses
    
    
    
    
    
    
    0.1
    
    
    
    0.132.4
    
    
    
    32.9
    
    
    
    31.7Operating income
    
    
    2.0
    
    
    
    2.3
    
    
    
    2.1Other income (expense):Interest expense
    
    
    (0.6
    )
    
    
    (0.5
    )
    
    
    (0.4
    )Interest income
    
    
    
    
    
    
    
    
    
    
    Other, net
    
    
    0.1
    
    
    
    0.1
    
    
    
    0.1(0.5
    )
    
    
    (0.4
    )
    
    
    (0.3
    )Income before income taxes
    
    
    1.5
    
    
    
    1.9
    
    
    
    1.8Income tax expense
    
    
    0.6
    
    
    
    0.8
    
    
    
    0.7Net income
    
    
    0.9
    %
    
    
    1.1
    %
    
    
    1.1
    %
 Fiscal Year2006
    
    2005
    
    2004Hastings Stores:Beginning number of stores
    
    
    153
    
    
    
    152
    
    
    
    148Openings
    
    
    1
    
    
    
    1
    
    
    
    5Closings
    
    
    
    
    
    
    
    
    
    
    (1
    )Ending number of stores
    
    
    154
    
    
    
    153
    
    
    
    152
 21




---



##### Table of Contents



Revenues.
 Fiscal Year Ended January 31,2007
    
    
    2006
    
    
    Increase/(Decrease)Percent of
    
    
    
    
    
    
    Percent ofRevenues
    
    
    Total
    
    
    Revenues
    
    
    Total
    
    
    Dollar
    
    
    PercentMerchandise revenue
    
    $
    454,142
    
    
    
    82.8
    %
    
    $
    444,291
    
    
    
    82.6
    %
    
    $
    9,851
    
    
    
    2.2
    %Rental revenue
    
    
    94,190
    
    
    
    17.2
    %
    
    
    93,640
    
    
    
    17.4
    %
    
    
    550
    
    
    
    0.6
    %Total revenues
    
    $
    548,332
    
    
    
    100.0
    %
    
    $
    537,931
    
    
    
    100.0
    %
    
    $
    10,401
    
    
    
    1.9
    %Comparable-store
revenues:Total
    
    
    1.8
    %Merchandise
    
    
    2.2
    %Rental
    
    
    0.2
    %
  Fiscal Year Ended January 31,2007
    
    2006Music
    
    
    -6.2
    %
    
    
    -1.8
    %Books
    
    
    0.0
    %
    
    
    -0.2
    %Video for sale
    
    
    12.9
    %
    
    
    1.9
    %Video games
    
    
    9.0
    %
    
    
    5.2
    %Boutique
    
    
    1.4
    %
    
    
    5.2
    %
    Gross Profit.
 22




---



##### Table of Contents



Selling, General and Administrative expenses (SG&A).
 Interest Expense.
 Income Taxes.
  Revenues.
 Fiscal Year2005
    
    
    2004
    
    
    Increase/(Decrease)Percent of
    
    
    
    
    
    
    Percent ofRevenues
    
    
    Total
    
    
    Revenues
    
    
    Total
    
    
    Dollar
    
    
    PercentMerchandise revenue
    
    $
    444,291
    
    
    
    82.6
    %
    
    $
    440,596
    
    
    
    81.3
    %
    
    $
    3,695
    
    
    
    0.8
    %Rental revenue
    
    
    93,640
    
    
    
    17.4
    %
    
    
    101,420
    
    
    
    18.7
    %
    
    
    (7,780
    )
    
    
    -7.7
    %Total revenues
    
    $
    537,931
    
    
    
    100.0
    %
    
    $
    542,016
    
    
    
    100.0
    %
    
    $
    (4,085
    )
    
    
    -0.8
    %Comparable-store revenues:Total
    
    
    -1.4
    %Merchandise
    
    
    0.1
    %Rental
    
    
    -7.5
    %
  Fiscal Year2005
    
    2004Music
    
    -1.8%
    
    1.8%Books
    
    -0.2%
    
    1.5%Video for sale
    
    1.9%
    
    15.4%Video games
    
    5.2%
    
    29.6%Boutique
    
    5.2%
    
    9.8%
  23




---



##### Table of Contents



Gross Profit.
 Selling, General and Administrative expenses (SG&A).
 Interest Expense.
 Income Taxes.
 24




---



##### Table of Contents



Consolidated Cash Flows
 Operating Activities .
 Investing Activities.
 Financing Activities .
  25




---



##### Table of Contents



Capital Structure.
   26




---



##### Table of Contents



Contractual Obligations and Off-Balance Sheet Arrangements
  Less than
    
    
    1 to 3
    
    
    3 to 5
    
    
    More thanContractual Obligations
    
    Total
    
    
    1 year
    
    
    Years
    
    
    Years
    
    
    5 YearsLong-term debt (principal only) (1)
    
    $
    41,922
    
    
    
    
    
    
    
    
    
    
    
    41,922
    
    
    
    Operating leases
    
    
    144,184
    
    
    
    24,002
    
    
    
    38,675
    
    
    
    25,799
    
    
    
    55,708Revenue sharing (2)
    
    
    960
    
    
    
    960
    
    
    
    
    
    
    
    
    
    
    
    Total
    
    $
    187,066
    
    
    
    24,962
    
    
    
    38,675
    
    
    
    67,721
    
    
    
    55,708
 
 (1)
    
    Based on our internal forecasts, we estimate interest payments for FY 2007 to be
approximately $3.3 million.(2)
    
    As of January 31, 2007, 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 2006. 27




---



##### Table of Contents



Fiscal year 2006:
    
    QuarterFirst
    
    
    Second
    
    
    Third
    
    
    FourthTotal revenues
    
    $
    131,412
    
    
    $
    123,094
    
    
    $
    119,636
    
    
    $
    174,190Operating income (loss)% of full year:
    
    $
    3,749
    
    
    $
    588
    
    
    $
    (2,787
    )
    
    $
    9,334Total revenues
    
    
    24.0
    %
    
    
    22.4
    %
    
    
    21.8
    %
    
    
    31.8
    %Operating income (loss)
    
    
    34.4
    %
    
    
    5.4
    %
    
    
    (25.6
    %)
    
    
    85.8
    %
 Fiscal
year 2005:
    
    QuarterFirst
    
    
    Second
    
    
    Third
    
    
    FourthTotal revenues
    
    $
    129,124
    
    
    $
    122,726
    
    
    $
    114,587
    
    
    $
    171,494Operating income (loss)% of full year:
    
    $
    1,623
    
    
    $
    1,721
    
    
    $
    (3,818
    )
    
    $
    12,843Total revenues
    
    
    24.0
    %
    
    
    22.8
    %
    
    
    21.3
    %
    
    
    31.9
    %Operating income (loss)
    
    
    13.1
    %
    
    
    13.9
    %
    
    
    (30.8
    %)
    
    
    103.8
    %
   28




---



##### Table of Contents



ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK.
  29




---



##### Table of Contents



ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA.
 HASTINGS ENTERTAINMENT, INC.
Index to Consolidated Financial Statements
and Financial Statement Schedule
 PageReport of Independent Registered Public Accounting Firm
    
    
    31Consolidated Balance Sheets as of January 31, 2007 and 2006
    
    
    32Consolidated Statements of Operations for the years ended January 31, 2007, 2006 and 2005
    
    
    33Consolidated Statements of Shareholders Equity for the years ended January 31, 2007, 2006 and 2005
    
    
    34Consolidated Statements of Cash Flows for years ended January 31, 2007, 2006 and 2005
    
    
    35Notes
to Consolidated Financial Statements
    
    
    36ScheduleFinancial Statement Schedule II  The Financial Statement Schedule filed as part of this report is
listed under Part IV, Item 15. Exhibits and Financial Statement Schedules.
    
    
    58
 30




---



##### Table of Contents



REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
 
      
 31




---



##### Table of Contents



HASTINGS ENTERTAINMENT, INC. AND SUBSIDIARIES
 
  
 January 31,2007
    
    
    2006AssetsCurrent assetsCash and cash equivalents
    
    $
    3,837
    
    
    $
    3,617Merchandise inventories
    
    
    167,277
    
    
    
    165,049Deferred income taxes
    
    
    3,891
    
    
    
    4,234Prepaid expenses and other current assets
    
    
    10,633
    
    
    
    7,016Total current assets
    
    
    185,638
    
    
    
    179,916Rental assets, net of accumulated depreciation of
$22,604 and $26,501 atJanuary 31, 2007 and 2006, respectively
    
    
    11,931
    
    
    
    12,606Property and equipment, net
    
    
    57,422
    
    
    
    60,013Deferred income taxes
    
    
    1,765
    
    
    
    1,492Intangible assets, net
    
    
    411
    
    
    
    454Other assets
    
    
    331
    
    
    
    180$
    257,498
    
    
    $
    254,661Liabilities and Shareholders EquityCurrent liabilitiesCurrent maturities on capital lease obligations
    
    $
    
    
    
    $
    94Trade accounts payable
    
    
    76,518
    
    
    
    88,991Accrued expenses and other current liabilities
    
    
    37,179
    
    
    
    38,323Total current liabilities
    
    
    113,697
    
    
    
    127,408Long-term debt, excluding current maturities on
capital lease obligations
    
    
    41,922
    
    
    
    28,057Other liabilities
    
    
    4,326
    
    
    
    4,503Shareholders 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 2006 and 2005 issued;11,011,353 in fiscal 2006 and11,383,172 shares in fiscal 2005, outstandingAdditional paid-in capital
    
    
    36,906
    
    
    
    36,076Retained earnings
    
    
    66,485
    
    
    
    61,466Other comprehensive income
    
    
    67
    
    
    
    141Treasury stock, at cost
    
    
    (6,024
    )
    
    
    (3,109
    )97,553
    
    
    
    94,693$
    257,498
    
    
    $
    254,661
  32




---



##### Table of Contents



HASTINGS ENTERTAINMENT, INC. AND SUBSIDIARIES
 
  
 Fiscal Year2006
    
    
    2005
    
    
    2004Merchandise revenue
    
    $
    454,142
    
    
    $
    444,291
    
    
    $
    440,596Rental asset revenue
    
    
    94,190
    
    
    
    93,640
    
    
    
    101,420Total revenues
    
    
    548,332
    
    
    
    537,931
    
    
    
    542,016Merchandise cost of revenue
    
    
    326,025
    
    
    
    314,328
    
    
    
    322,632Rental asset cost of revenue
    
    
    33,862
    
    
    
    34,458
    
    
    
    36,266Total cost of revenues
    
    
    359,887
    
    
    
    348,786
    
    
    
    358,898Gross profit
    
    
    188,445
    
    
    
    189,145
    
    
    
    183,118Selling, general and administrative expenses
    
    
    177,467
    
    
    
    176,684
    
    
    
    171,293Pre-opening expenses
    
    
    94
    
    
    
    92
    
    
    
    409Operating income
    
    
    10,884
    
    
    
    12,369
    
    
    
    11,416Other income (expense):Interest expense
    
    
    (3,260
    )
    
    
    (2,616
    )
    
    
    (1,918
    )Other, net
    
    
    642
    
    
    
    399
    
    
    
    293Income before income taxes
    
    
    8,266
    
    
    
    10,152
    
    
    
    9,791Income tax expense
    
    
    3,247
    
    
    
    4,457
    
    
    
    3,982Net income
    
    $
    5,019
    
    
    $
    5,695
    
    
    $
    5,809Basic income per share
    
    $
    0.45
    
    
    $
    0.50
    
    
    $
    0.51Diluted income per share
    
    $
    0.44
    
    
    $
    0.49
    
    
    $
    0.49
  33




---



##### Table of Contents



HASTINGS ENTERTAINMENT, INC. AND SUBSIDIARIES
 
    Additional
    
    
    
    
    
    
    OtherCommon Stock
    
    
    Paid-in
    
    
    Retained
    
    
    Comprehensive
    
    
    Treasury Stock
    
    
    Total ShareholdersShares
    
    
    Amount
    
    
    Capital
    
    
    Earnings
    
    
    Income
    
    
    Shares
    
    
    Amount
    
    
    EquityBalances at January 31,
2004
    
    
    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
    )
    
    
    89,774Issuance of stock to directors
    
    
    
    
    
    
    
    
    
    
    2
    
    
    
    
    
    
    
    
    
    
    
    (4,655
    )
    
    
    26
    
    
    
    28Purchase of treasury stock
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    344,440
    
    
    
    (2,069
    )
    
    
    (2,069
    )Exercise of stock options
    
    
    
    
    
    
    
    
    
    
    (425
    )
    
    
    
    
    
    
    
    
    
    
    (267,388
    )
    
    
    1,432
    
    
    
    1,007Other stock-based compensation
    
    
    
    
    
    
    
    
    
    
    117
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    117Comprehensive income:Net income
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    5,695
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    5,695Unrealized gain on
interest rate cap, net of
$98 in deferred taxes
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    141
    
    
    
    
    
    
    
    
    
    
    
    141Total comprehensive income
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    5,836Balances at January 31, 2006
    
    
    11,944,544
    
    
    
    119
    
    
    
    36,076
    
    
    
    61,466
    
    
    
    141
    
    
    
    561,372
    
    
    
    (3,109
    )
    
    
    94,693Issuance of stock to directors
    
    
    
    
    
    
    
    
    
    
    17
    
    
    
    
    
    
    
    
    
    
    
    (13,741
    )
    
    
    83
    
    
    
    100Purchase of treasury stock
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    595,600
    
    
    
    (4,237
    )
    
    
    (4,237
    )Exercise of stock options and
other
    
    
    
    
    
    
    
    
    
    
    758
    
    
    
    
    
    
    
    
    
    
    
    (210,040
    )
    
    
    1,239
    
    
    
    1,997Other stock-based compensation
    
    
    
    
    
    
    
    
    
    
    55
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    55Comprehensive income:Net income
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    5,019
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    5,019Unrealized loss on
interest rate cap, net of
$55 in deferred taxes
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (74
    )
    
    
    
    
    
    
    
    
    
    
    (74
    )Total comprehensive income
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    4,945Balances at January 31, 2007
    
    
    11,944,544
    
    
    $
    119
    
    
    $
    36,906
    
    
    $
    66,485
    
    
    $
    67
    
    
    
    933,191
    
    
    $
    (6,024
    )
    
    $
    97,553
  34




---



##### Table of Contents



HASTINGS ENTERTAINMENT, INC. AND SUBSIDIARIES
 
    Fiscal Year2006
    
    
    2005
    
    
    2004Cash flows from operating activities:Net income
    
    $
    5,019
    
    
    $
    5,695
    
    
    $
    5,809Adjustments to reconcile net income to net cash provided
by operating activities:Rental asset depreciation expense
    
    
    15,771
    
    
    
    18,472
    
    
    
    22,842Purchases of rental assets
    
    
    (28,689
    )
    
    
    (28,900
    )
    
    
    (35,142
    )Property and equipment depreciation expense
    
    
    19,865
    
    
    
    19,737
    
    
    
    19,075Amortization expense
    
    
    43
    
    
    
    88
    
    
    
    88Loss on rental assets lost, stolen and defective
    
    
    1,224
    
    
    
    672
    
    
    
    1,221Loss on disposal or impairment of property and equipment, excluding rental assets
    
    
    1,295
    
    
    
    1,463
    
    
    
    835Deferred income taxes
    
    
    70
    
    
    
    (2,220
    )
    
    
    1,427Non-cash compensation
    
    
    155
    
    
    
    145
    
    
    
    60Changes in operating assets and liabilities:Merchandise inventories
    
    
    10,138
    
    
    
    1,240
    
    
    
    (3,077
    )Other current assets
    
    
    (3,617
    )
    
    
    (71
    )
    
    
    151Trade accounts payable
    
    
    (9,379
    )
    
    
    420
    
    
    
    4,010Accrued expenses and other liabilities
    
    
    22
    
    
    
    4,810
    
    
    
    725Other assets and liabilities, net
    
    
    (402
    )
    
    
    (342
    )
    
    
    (671
    )Net cash provided by operating activities
    
    
    11,515
    
    
    
    21,209
    
    
    
    17,353Cash flows from investing activities:Purchase of property, equipment and improvements
    
    
    (18,566
    )
    
    
    (17,097
    )
    
    
    (24,729
    )Net cash used in investing activities
    
    
    (18,566
    )
    
    
    (17,097
    )
    
    
    (24,729
    )Cash flows from financing activities:Borrowings under revolving credit facility
    
    
    585,927
    
    
    
    556,224
    
    
    
    574,643Repayments under revolving credit facility
    
    
    (572,062
    )
    
    
    (564,583
    )
    
    
    (566,170
    )Payments under long-term debt and capital lease obligations
    
    
    (94
    )
    
    
    (210
    )
    
    
    (219
    )Purchase of treasury stock
    
    
    (4,237
    )
    
    
    (2,069
    )
    
    
    (904
    )Change in cash overdraft
    
    
    (3,094
    )
    
    
    2,489
    
    
    
    Proceeds from exercise of stock options and other
    
    
    831
    
    
    
    928
    
    
    
    697Net cash provided by (used in) financing activities
    
    
    7,271
    
    
    
    (7,221
    )
    
    
    8,047Net increase (decrease) in cash
    
    
    220
    
    
    
    (3,109
    )
    
    
    671Cash at beginning of year
    
    
    3,617
    
    
    
    6,726
    
    
    
    6,055Cash at end of year
    
    $
    3,837
    
    
    $
    3,617
    
    
    $
    6,726
  35




---



##### Table of Contents



(1)
    
    Operations and Summary of Significant Accounting Policies
 (a)
    
    GeneralHastings Entertainment, Inc. and subsidiaries operate a chain of retail stores in 20
states, primarily in the Western and Midwestern United States. Revenues are generated
from the sale of new and used music, books, DVDs, videogames, and videocassettes, as
well as new software, periodicals, consumables, and accessory products. 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 wholly-owned subsidiaries. All intercompany transactions and balances have
been eliminated in consolidation.(c)
    
    Basis of PresentationWe consider our retail and internet operations to be separate operating segments for
purposes of determining reportable segments based on the criteria of SFAS No. 131,
Disclosures about Segments of an Enterprise and Related Information. We determined that
the Internet segment was immaterial for segment reporting purposes. Therefore, we
combine both operating segments into one reporting segment.Our fiscal years ended January 31, 2007, 2006 and 2005 are referred to as fiscal 2006,
2005 and 2004, respectively.(d)
    
    Cash and Cash EquivalentsThe Company considers all credit card receivables of $1.2 million and $1.0 million for
fiscal 2006 and 2005, 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. Negative cash balances are reclassified to trade
accounts payable.(e)
    
    Revenue RecognitionMerchandise and rental asset 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 sales 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.The Company reduces its revenue through reserves for the estimated utilization of early
return credits received by renters for early return of rentals. The liability is
relieved upon the redemption of these early return credits.
 36




---



##### Table of Contents



(f)
    
    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.Expenses included in cost of revenues include cost of product purchased from vendors;
rental asset depreciation expense; shrinkage; inventory markdowns and write-offs;
freight charges; receiving costs; inspection costs; and internal transfer costs. In
addition, the Company includes in cost of goods sold all expenses associated with our
distribution center, including freight, warehouse personnel costs, supplies,
maintenance, depreciation, occupancy, property tax, and utility costs; as well as costs
associated with our returns center, including vendor refused product, handling charges,
return fees, freight, return center personnel costs, supplies, maintenance,
depreciation, rent, and utilities. We include occupancy costs for retail locations in
SG&A expenses.The Company transfers rental assets that have been converted to previously viewed titles
for sale, from Property and equipment to Merchandise inventories. The transfer to
Merchandise Inventories is recorded at the time of conversion, which is the first date
the product is available for sale. During fiscal 2006, 2005, and 2004, $12.4 million,
$10.8 million, and $12.2 million, respectively, were transferred from rental assets to
merchandise inventory at the lower of net book value or market.
 37




---



##### Table of Contents



(g)
    
    Property and EquipmentProperty and equipment are recorded at cost and depreciated using the straight-line
method, except for rental 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 assets, except for the initial purchases of new stores, are depreciated using an
accelerated method over six months or nine months. The initial purchases of rental
assets for new stores are depreciated over 36 months using the straight-line method.
Rental assets, which include VHS, DVDs, Books on CD, and video games, are depreciated to
salvage values ranging from $2.50 to $10. Rental assets purchased for less than
established salvage values are not depreciated.Beginning with the fourth quarter of 2006, we changed the estimated useful life of
rental video games from six months to nine months to better reflect the products
extended rental life. In addition, we increased the salvage value on rental video games
from $4 to $10 to better match the recovery rate on higher cost games released on new
gaming systems. All other rental assets, which include DVDs, VHS units, and Books on
CD, continue to be depreciated on an accelerated basis over six months to salvage values
of either $2.50 for VHS units or $4.00 for DVD units and Books on CD. These changes in
estimates related to our rental assets decreased our cost of rental revenues by
approximately $0.2 million, or $0.02 per diluted share, for the year ended January 31,
2007.Expenditures for maintenance, repairs and renewals that do not materially prolong the
original useful lives of assets are charged to expense as incurred.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.In accordance with SFAS No. 144, we evaluate poor performing stores on a quarterly basis
to determine whether projected future cash flows over the remaining initial lease term
are sufficient to recover the carrying value of the fixed asset investment in each
individual store. If projected future cash flows are less than the carrying value of
the fixed asset investment, an impairment charge is recognized if the carrying value is
less than the fair value of such assets. The carrying value of leasehold improvements
as well as certain other property and equipment is subject to impairment write-down.
 38




---



##### Table of Contents



(h)
    
    Financial InstrumentsThe carrying amount of long-term debt approximates fair value as of January 31, 2007 and
2006 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.(i)
    
    Stock Based CompensationPrior to February 1, 2006, the Company applied the disclosure-only provisions of SFAS
123, Accounting for Stock-Based Compensation(SFAS 123). In accordance with the
provisions of SFAS 123, the Company applied APB 25, Accounting for Stock Issued to
Employees(APB 25) and related interpretations in accounting for its plans and,
accordingly, did not recognize compensation expense for these plans because all options
were issued at exercise prices equal to or greater than the market value at date of
grant.Effective February 1, 2006, the Company adopted SFAS 123 (revised 2004), Share-Based
Payments(SFAS 123R), which revises SFAS 123 and supersedes APB 25. SFAS 123R requires
all share-based payments to employees to be recognized in the financial statements based
on their fair values using an option-pricing model, such as the Black-Scholes model, at
the date of grant. The Company has elected to use the modified prospective method for
adoption, which requires compensation expense to be recorded for all unvested stock
options and restricted shares beginning in the first quarter of adoption.The Company recognized approximately $55,000, before income taxes, related to the
adoption of SFAS 123R in fiscal 2006. See Note 12 below for further information on
share-based compensation.(j)
    
    Advertising CostsAdvertising costs for newspaper, television and other media
are expensed as incurred. Advertising expenses, net of allowances
from vendors, for the fiscal years 2006, 2005, and 2004 were $7.7 million,
$7.8 million and $6.7 million, respectively.We receive payments and credits from vendors pursuant to cooperative advertising
programs and display allowances. During fiscal years 2006, 2005 and 2004, we received a
total of approximately $9.0 million, $7.8 million and $6.6 million, respectively for
such payments and credits. To the extent such payments are a reimbursement for
specific, identifiable costs, such amounts are recorded as a reduction in SG&A expenses
at the time the associated advertisement is publicly released. The remainder of these
payments and allowances are recorded as a reduction of merchandise inventory and the
cost of rental assets 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).(k)
    
    Pre-opening CostsPre-opening expenses include human resource costs, travel, rent, advertising, supplies
and certain other costs incurred prior to a stores opening and are expensed as
incurred.(l)
    
    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.
 39




---



##### Table of Contents



(m)
    
    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.(n)
    
    Impact of Recently Issued Accounting StandardsIn June 2006, the FASB issued FIN 48, Accounting for Uncertainty in Income Taxesan
interpretation of FASB Statement No. 109, Accounting for Income Taxes (FIN 48), which
clarifies the accounting for uncertainty in income taxes. FIN 48 prescribes a
recognition threshold and measurement attribute for the financial statement recognition
and measurement of a tax position taken or expected to be taken in a tax return. The
Interpretation requires that the Company recognize in its financial statements, the
impact of a tax position, if that position is more likely than not of being sustained on
audit, based on the technical merits of the position. FIN 48 also provides guidance on
derecognition, classification, interest and penalties, accounting in interim periods,
disclosure, and transition. The provisions of FIN 48 are effective beginning February
1, 2007 with the cumulative effect of the change in accounting principle recorded as an
adjustment to beginning retained earnings. The Company is in the process of evaluating
the provisions of FIN 48 but does not anticipate that adoption will have a material
impact on its consolidated balance sheets or statements of operations, shareholders
equity and cash flows.
 40




---



##### Table of Contents



(2)
    
    Merchandise InventoriesMerchandise inventories consist of the following:
 January 31,2007
    
    
    2006Books
    
    $
    64,721
    
    
    $
    67,973Videos
    
    
    55,024
    
    
    
    48,973Music
    
    
    40,135
    
    
    
    41,657Other
    
    
    11,862
    
    
    
    9,950171,742
    
    
    
    168,553Less
allowance for
inventory
shrinkage and
obsolescence
    
    
    4,465
    
    
    
    3,504$
    167,277
    
    
    $
    165,049
 During fiscal 2006 and 2005, we purchased approximately 18% and 19%, respectively, of all
products (defined herein as merchandise inventories and rental assets) from three vendors.(3)
    
    Property and EquipmentProperty and equipment consist of the following:
 January 31,2007
    
    
    2006Furniture, equipment and software
    
    $
    143,522
    
    
    $
    135,569Leasehold improvements
    
    
    63,755
    
    
    
    61,863Buildings and land
    
    
    258
    
    
    
    258Work in progress
    
    
    621
    
    
    
    255Property under capital leases
    
    
    
    
    
    
    1,246208,156
    
    
    
    199,191Less accumulated depreciation
    
    
    150,734
    
    
    
    139,178Property and equipment, net
    
    $
    57,422
    
    
    $
    60,013
 41




---



##### Table of Contents



(4)
    
    Accrued Expenses and Other Current LiabilitiesAccrued expenses and other current liabilities consist of the following:
 January 31,2007
    
    
    2006Allowance for cost of inventory returns
    
    $
    1,586
    
    
    $
    1,276Deferred gift card revenue
    
    
    16,354
    
    
    
    14,769Salaries, vacation, bonus and benefits
    
    
    7,664
    
    
    
    7,371Short term lease obligations
    
    
    1,209
    
    
    
    1,077Sales taxes payable
    
    
    2,062
    
    
    
    1,923Federal income tax payable
    
    
    2,138
    
    
    
    5,254Other accrued expenses
    
    
    6,166
    
    
    
    6,653Total
    
    $
    37,179
    
    
    $
    38,323
 Merchandise inventories that are not sold can normally be returned to the vendors. The
allowance for cost of inventory returns represents estimated costs related to merchandise
returned or to be returned to vendors for which credit from the vendor 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 vendors 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 vendors may change in the near term. During fiscal 2006, 2005,
and 2004 we reduced merchandise cost of revenues by approximately $1.6 million, $2.2 million,
and $2.1 million, respectively, related to favorable differences between actual settlements
with vendors as compared to amounts accrued.
 42




---



##### Table of Contents



(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, 2007 and 2006 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 SG&A expenses in our consolidated statement
of operations.The following table provides a rollforward of reserves that were established for these charges
for fiscal 2006, 2005 and 2004:
 Future LeasePayments
    
    
    Other Costs
    
    
    TotalBalance 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
    
    
    
    
    
    
    
    1,283Additions to provision
    
    
    253
    
    
    
    
    
    
    
    253Changes in estimates
    
    
    191
    
    
    
    8
    
    
    
    199Cash outlay, net
    
    
    (1,018
    )
    
    
    (8
    )
    
    
    (1,026
    )Balance at January 31, 2006
    
    
    709
    
    
    
    
    
    
    
    709Additions to provision
    
    
    176
    
    
    
    
    
    
    
    176Changes in estimates
    
    
    243
    
    
    
    
    
    
    
    243Cash outlay, net
    
    
    (452
    )
    
    
    
    
    
    
    (452
    )Balance at January 31, 2007
    
    $
    676
    
    
    $
    
    
    
    $
    676
 As of January 31, 2007, the reserve balance, which is net of estimated sublease income, is
expected to be paid over the next five years.
 43




---



##### Table of Contents



(6)
    
    Long-term DebtLong-term debt and capitalized lease obligations consist of the following:
 January 31,2007
    
    
    2006Revolving credit facility
    
    $
    41,922
    
    
    $
    28,057Capitalized lease obligations
    
    
    
    
    
    
    9441,922
    
    
    
    28,151Less current maturities
    
    
    
    
    
    
    94$
    41,922
    
    
    $
    28,057
    2007
    
    $
    2008
    
    
    2009
    
    
    2010
    
    
    2011
    
    
    41,922Thereafter
    
    
    $
    41,922
 44




---



##### Table of Contents



(7)
    
    LeasesWe lease retail space under operating leases with terms ranging from three to 15 years, with
certain leases containing renewal options. Renewal options are typically for five years and
contain lease terms similar to those of the original lease. Lease agreements generally
provide for minimum rentals. Some leases also include additional contingent rental amounts
based upon specified percentages of sales above predetermined levels. Operating leases are
accounted for in conformity with FAS 13-1, Accounting for Rental Costs Incurred during a
Construction Period, which requires rental costs associated with operating leases that are
incurred during a construction period to be recognized as rental expense. Rental expense for
operating leases is comprised of the following:
 Fiscal Year2006
    
    
    2005
    
    
    2004Minimum rentals
    
    $
    23,759
    
    
    $
    22,474
    
    
    $
    20,962Contingent rentals
    
    
    491
    
    
    
    588
    
    
    
    648Less sublease income
    
    
    (109
    )
    
    
    (95
    )
    
    
    (87
    )Rental expense
    
    $
    24,141
    
    
    $
    22,967
    
    
    $
    21,523
  2007
    
    $
    24,0022008
    
    
    21,1072009
    
    
    17,5682010
    
    
    13,7662011
    
    
    12,033Thereafter
    
    
    55,708Total minimum lease payments
    
    
    144,184Less sublease income
    
    
    1,330Net minimum lease payments under
operating leases
    
    $
    142,854
 45




---



##### Table of Contents



(8)
    
    Income TaxesIncome tax expense is comprised of the following:
 Fiscal Year2006
    
    
    2005
    
    
    2004Current federal
    
    $
    2,883
    
    
    $
    5,759
    
    
    $
    1,970Current state and local
    
    
    294
    
    
    
    918
    
    
    
    586Deferred federal, state, and local
    
    
    70
    
    
    
    (2,220
    )
    
    
    1,426$
    3,247
    
    
    $
    4,457
    
    
    $
    3,982
 The difference between expected federal income tax expense (computed by applying the statutory
rate of 35% to income before income taxes) and actual income tax expense is as follows:
 Fiscal Year2006
    
    
    2005
    
    
    2004Computed expected income tax expense
    
    $
    2,893
    
    
    $
    3,553
    
    
    $
    3,427State and local income taxes, net of
federal income tax effect
    
    
    300
    
    
    
    583
    
    
    
    509Other
    
    
    54
    
    
    
    321
    
    
    
    46$
    3,247
    
    
    $
    4,457
    
    
    $
    3,982
 The tax effects of temporary differences that give rise to significant portions of the
deferred tax assets and deferred tax liabilities are presented below:
 Fiscal Year2006
    
    
    2005Deferred tax assets:Gift cards
    
    $
    1,182
    
    
    $
    1,056Abandoned leases
    
    
    260
    
    
    
    273Deferred rent and lease incentives
    
    
    1,776
    
    
    
    1,875Inventories
    
    
    983
    
    
    
    2,078Property and equipment
    
    
    6,299
    
    
    
    4,822Other
    
    
    1,248
    
    
    
    1,100Total deferred tax assets
    
    
    11,748
    
    
    
    11,204Deferred tax liabilities:Rental assets
    
    
    (6,092
    )
    
    
    (5,478
    )Total deferred tax liabilities
    
    
    (6,092
    )
    
    
    (5,478
    )Net deferred tax assets
    
    $
    5,656
    
    
    $
    5,726
 46




---



##### Table of Contents



(9)
    
    Income Per ShareThe computations of basic and diluted income per share are as follows:
 Fiscal Year2006
    
    
    2005
    
    
    2004Net income
    
    $
    5,019
    
    
    $
    5,695
    
    
    $
    5,809Average shares outstanding:Basic
    
    
    11,244
    
    
    
    11,421
    
    
    
    11,411Effect of stock options
    
    
    274
    
    
    
    246
    
    
    
    531Diluted
    
    
    11,518
    
    
    
    11,667
    
    
    
    11,942Income per share:Basic
    
    $
    0.45
    
    
    $
    0.50
    
    
    $
    0.51Diluted
    
    $
    0.44
    
    
    $
    0.49
    
    
    $
    0.49
 Options to purchase 184,156 shares of Common Stock at exercise prices ranging from $6.82 to
$13.64 per share outstanding at January 31, 2007; 726,980 shares of Common Stock at exercise
prices ranging from $6.095 per share to $14.03 per share outstanding at January 31, 2006; and
523,556 shares of Common Stock at exercise prices ranging from $7.30 per share to $14.03 per
share outstanding at January 31, 2005, 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 on the last day of the plan
quarter or who became disabled, died, or retired during 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 full-time employees who have attained age 21
and completed one year of service 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 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 552,896, 490,997, and 459,864 at January
31, 2007, 2006, and 2005, 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 $0.7 million, $1.3 million, and $0.6
million for fiscal 2006, 2005, and 2004, respectively.
 47




---



##### Table of Contents



11)
    
    Shareholders EquityWe have seven stock option plans: the 1991 and 1994 Stock Option Plans; the 1996, 2002, and
2006 Incentive Stock Plans; and the 1996 and 2002 Outside Directors Plans (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 each of the 2002 and 2006 Incentive Stock Plans, 101,180 shares
may be granted under the 1996 Outside Directors Plan and 200,000 shares may be granted under
the 2002 Outside Directors Plan. As of January 31, 2007, we had 665,411 options available for
future grants under all stock option plans.The 1991 and 1994 Stock Option Plans and the 1996, 2002, and 2006 Incentive Stock Plans
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 2006, 2005 and 2004,
there were no RSUs awarded under the Plan. Compensation expense is recognized using the
straight-line method over three years, which is the vesting period of the RSUs. Under this
methodology, we recorded approximately $0, $0 and $18 of compensation expense related to RSUs
in fiscal year 2006, 2005 and 2004, respectively. As of January 31, 2007, 2006 and 2005,
there were no RSUs outstanding under the plan.
 48




---



##### Table of Contents



12)
    
    Stock Based CompensationPrior to February 1, 2006, we accounted for stock-based compensation in accordance with
Accounting Principles Board Opinion (APB) No. 25 Accounting for Stock Issued to Employees
(APB No. 25) and followed the disclosure-only provisions of Statement of Financial
Accounting Standard (SFAS) No. 123 Accounting for Stock-Based Compensation (SFAS No.
123), as amended by SFAS No. 148, Accounting for Stock-Based Compensation  Transition and
Disclosure. Accordingly, compensation expense was not recognized in our consolidated
statement of operations in connection with stock options that were granted under our
stock-based compensation plan.Effective with our fiscal year beginning February 1, 2006, we adopted SFAS No. 123(R)
Share-Based Payment (SFAS No. 123(R)), which no longer permits use of the intrinsic value
method under APB No. 25. We used the modified prospective method to adopt SFAS No. 123(R),
which requires that compensation expense be recorded for all stock-based compensation granted
on or after February 1, 2006, as well as the unvested portion of previously granted options.
On January 27, 2006, our Board of Directors (the Board) approved a resolution to vest all
stock options outstanding as of that date. The Board decided to fully vest these options,
many of which had exercise prices that were higher than the Companys stock price, to minimize
the expense to our consolidated financial statements upon adoption of SFAS No. 123(R). This
acceleration of vesting affected 587,609 unvested stock options. As a result, there is no
compensation expense associated with stock options granted prior to February 1, 2006 in the
consolidated statements of operations. Effective with the current fiscal year, compensation
expense will be recognized for amortization of the fair value of stock options granted during
fiscal 2006 and fiscal years thereafter. The Company recognized approximately $55,000, before
income taxes, related to the adoption of SFAS 123R in fiscal 2006.Under the modified prospective method, the financial statements for periods prior to February
1, 2006, will not include compensation cost calculated under the fair value method. The
following table illustrates the effect on net income and earnings per share if the Company had
applied the fair value recognition provisions of SFAS No. 123 to stock-based employee
compensation (in thousands) prior to February 1, 2006:
 Fiscal Year2005
    
    
    2004Net income, as reported
    
    $
    5,695
    
    
    $
    5,809Add: Stock-based compensation included in
reported net income, net of tax
    
    
    81
    
    
    
    35Less: Stock-based compensation expense determined
under fair value based method, net of tax
    
    
    (1,523
    )
    
    
    (687
    )Pro forma net income
    
    $
    4,253
    
    
    $
    5,157Income per share:Basic, as reported
    
    $
    0.50
    
    
    $
    0.51Basic, pro forma
    
    $
    0.37
    
    
    $
    0.45Diluted, as reported
    
    $
    0.49
    
    
    $
    0.49Diluted, pro forma
    
    $
    0.36
    
    
    $
    0.44
 Under the Companys stock plans, options may be granted to directors, officers and employees
at the fair market value of the Companys common stock on the date of grant. Stock option
grants generally vest ratably over five years and expire within ten years after the date of
grant. Shares issued upon exercise of options are issued from treasury shares. The fair
value of each option award is estimated on the date of grant using the Black-Scholes
option-pricing model, which is consistent with the valuation techniques that were previously
utilized for options in footnote disclosures required under SFAS No. 123.
 49




---



##### Table of Contents



The following assumptions were used in the calculation of fair value:
 Fiscal Year2006
    
    2005
    
    2004Expected dividend yield
    
    
    
    
    
    
    
    
    
    
    Risk-free interest rate
    
    
    4.79
    %
    
    
    4.27
    %
    
    
    2.71
    %Expected life in years (using short-cut method)
    
    
    4.92
    
    
    
    4.98
    
    
    
    5.28Historical Volatility
    
    
    .51
    
    
    
    .60
    
    
    
    .62
 A summary of information with respect to all stock option plans is as follows:
 Weighted-averageexercise priceOptions
    
    
    (in dollars)Outstanding 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
    
    
    $
    6.12Granted
    
    
    144,680
    
    
    
    5.52Exercised
    
    
    (267,388
    )
    
    
    3.47Forfeited and expired
    
    
    (160,640
    )
    
    
    6.20Outstanding at January 31, 2006
    
    
    1,603,867
    
    
    $
    6.50Granted
    
    
    107,680
    
    
    
    7.39Exercised
    
    
    (210,040
    )
    
    
    3.96Forfeited and expired
    
    
    (453,006
    )
    
    
    10.78Outstanding at January 31, 2007
    
    
    1,048,501
    
    
    $
    5.26Options available for grant at January 31, 2007
    
    
    665,411
 The total intrinsic value of stock options exercised for the fiscal years ended January 31,
2007 and 2006 was $674,241 and $729,711, respectively. The total fair value of stock options
granted for the fiscal years ended January 31, 2007 and 2006 was $372,752 and $437,938,
respectively.
 50




---



##### Table of Contents



At January 31, 2007, 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-Weighted-
    
    average
    
    Aggregateaverage exercise
    
    remaining
    
    intrinsic value (inOptions
    
    price (in dollars)
    
    contractual life
    
    thousands)Range: $1.33 to $4.99Options outstanding and
exercisable at January 31,
2007
    
    
    436,498
    
    
    $
    3.26
    
    
    4.72 years
    
    $
    1,151,061Range: $5.00 to $9.99Options outstanding and
exercisable at January 31,
2007
    
    
    485,113
    
    
    $
    6.24
    
    
    6.08 years
    
    $
    71,833Options outstanding and
unexercisable at January
31, 2007
    
    
    105,150
    
    
    $
    7.39
    
    
    8.84 years
    
    
    Price: $10.00 to $13.64Options outstanding and
exercisable at January 31,
2007
    
    
    21,740
    
    
    $
    13.09
    
    
    0.77 years
    
    
    
 At January 31, 2007, 2006 and 2005, the number of options exercisable was 943,351; 1,603,867;
and 959,076, respectively, and the weighted-average exercise price of those options was $5.26,
$6.50 and $7.55, respectively.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 is as follows
(in dollars):
 Weighted Average Exercise price for
    
    Weighted Average Fair value forFiscal Year
    
    Fiscal Year2006
    
    2005
    
    2004
    
    2006
    
    2005
    
    2004Options granted at
market price
    
    $
    7.29
    
    
    $
    5.52
    
    
    $
    5.99
    
    
    $
    3.64
    
    
    $
    3.03
    
    
    $
    3.34Options granted at
prices exceeding market
price
    
    $
    7.94
    
    
    $
    
    
    
    $
    6.31
    
    
    $
    3.06
    
    
    $
    
    
    
    $
    2.98Total options granted
    
    $
    7.39
    
    
    $
    5.52
    
    
    $
    6.03
    
    
    $
    3.55
    
    
    $
    3.03
    
    
    $
    3.31
 51




---



##### Table of Contents



(13)
    
    Supplemental Cash Flow InformationCash payments for interest during fiscal 2006, 2005 and 2004 totaled $3.5 million, $2.6
million and $2.1 million, respectively. Cash payments for income taxes during fiscal 2006,
2005 and 2004 totaled $6,099,222; $3,513,481; and $259,780, respectively.(14)
    
    Commitments and ContingenciesThe Company is obligated to pay certain studios minimum amounts associated with certain
revenue-sharing agreements related to rental assets. As of January 31, 2007, such minimum
future payments approximated $960,000, which are expected to be paid during fiscal 2007.During fiscal 2005, we were named as a defendant in lawsuits in the states of New Mexico and
Texas alleging that our extended viewing fees for movie and game rentals are illegal under the
Uniform Commercial Code. On October 27, 2005, the Company petitioned the court for summary
judgment in one such lawsuit pending in the state of New Mexico. On November 28, 2005, the
judge granted the Companys petition for summary judgment and dismissed all pending claims in
that lawsuit. The plaintiff subsequently appealed the courts summary judgment. The
plaintiff in the other lawsuit, which was filed in the state of Texas, filed an amended
petition wherein he abandoned all but one claim. On May 15, 2006, he filed a motion for class
certification.The Company settled all litigation regarding the matters described above, including the
dropping of the motion for class certification, with prejudice for $85,000 in February 2007.
At January 31, 2007, the settlement was accrued.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 or cash flows.
 52




---



##### Table of Contents



(15)
    
    Interim Financial Results (Unaudited)
 QuarterFiscal year 2006:
    
    First
    
    Second
    
    Third
    
    FourthTotal revenues
    
    $
    131,412
    
    
    $
    123,094
    
    
    $
    119,636
    
    
    $
    174,190Total cost of revenues
    
    
    84,790
    
    
    
    79,641
    
    
    
    77,836
    
    
    
    117,620Selling, general and administrative expenses
    
    
    42,873
    
    
    
    42,786
    
    
    
    44,572
    
    
    
    47,236Pre-opening expenses
    
    
    
    
    
    
    79
    
    
    
    15
    
    
    
    Operating income (loss)
    
    
    3,749
    
    
    
    588
    
    
    
    (2,787
    )
    
    
    9,334Interest (expense) and other income, net
    
    
    (595
    )
    
    
    (265
    )
    
    
    (845
    )
    
    
    (913
    )Income (loss) before taxes
    
    
    3,154
    
    
    
    323
    
    
    
    (3,632
    )
    
    
    8,421Income tax expense (benefit)
    
    
    1,229
    
    
    
    144
    
    
    
    (1,432
    )
    
    
    3,306Net income (loss)
    
    
    1,925
    
    
    
    179
    
    
    
    (2,200
    )
    
    
    5,115Basic income (loss) per share
    
    $
    0.17
    
    
    $
    0.02
    
    
    $
    (0.20
    )
    
    $
    0.46Diluted income (loss) per share
    
    $
    0.17
    
    
    $
    0.02
    
    
    $
    (0.20
    )
    
    $
    0.45
 QuarterFiscal year 2005:
    
    First
    
    Second
    
    Third
    
    FourthTotal revenues
    
    $
    129,124
    
    
    $
    122,726
    
    
    $
    114,587
    
    
    $
    171,494Total cost of revenues
    
    
    85,086
    
    
    
    77,625
    
    
    
    73,538
    
    
    
    112,537Selling, general and administrative expenses
    
    
    42,327
    
    
    
    43,376
    
    
    
    44,867
    
    
    
    46,114Pre-opening expenses
    
    
    88
    
    
    
    4
    
    
    
    
    
    
    
    Operating income (loss)
    
    
    1,623
    
    
    
    1,721
    
    
    
    (3,818
    )
    
    
    12,843Interest (expense) and other income, net
    
    
    (392
    )
    
    
    (607
    )
    
    
    (712
    )
    
    
    (506
    )Income (loss) before taxes
    
    
    1,231
    
    
    
    1,114
    
    
    
    (4,530
    )
    
    
    12,337Income tax expense (benefit)
    
    
    477
    
    
    
    443
    
    
    
    (1,799
    )
    
    
    5,336Net income (loss)
    
    
    754
    
    
    
    671
    
    
    
    (2,731
    )
    
    
    7,001Basic income (loss) per share
    
    $
    0.07
    
    
    $
    0.06
    
    
    $
    (0.24
    )
    
    $
    0.61Diluted income (loss) per share
    
    $
    0.06
    
    
    $
    0.06
    
    
    $
    (0.24
    )
    
    $
    0.61
 53




---



##### Table of Contents



ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE.
  
 ITEM 9A. CONTROLS AND PROCEDURES.
   54




---



##### Table of Contents



PART III
 
 ITEM 10. DIRECTORS, EXECUTIVE OFFICERS AND CORPORATE GOVERNANCE.
  Section 16(a) Beneficial Ownership Reporting Compliance
  Code of Ethics and Other Corporate Governance Information
  
 ITEM 11. EXECUTIVE COMPENSATION.
  
 ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND RELATED STOCKHOLDER MATTERS.
  
 ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS, AND DIRECTOR INDEPENDENCE.
  
 ITEM 14. PRINCIPAL ACCOUNTANT FEES AND SERVICES.
  55




---



##### Table of Contents



PART IV
 
 ITEM 15. EXHIBITS AND FINANCIAL STATEMENT SCHEDULES.
  Report of Independent Registered Public Accounting Firm
    
    
    31Consolidated Balance Sheets as of January 31, 2007 and 2006
    
    
    32Consolidated Statements of Operations for the years ended
January 31, 2007, 2006 and 2005
    
    
    33Consolidated Statements of Shareholders Equity for the years
ended January 31, 2007, 2006 and 2005
    
    
    34Consolidated Statements of Cash Flows for the years ended
January 31, 2007, 2006 and 2005
    
    
    35Notes to Consolidated Financial Statements
    
    
    362. The following financial statement schedule and other information
required to be filed by Items 8 and 15(d) of Form 10-K are
included in Part IV:Financial Statement Schedule II  Valuation and Qualifying Accounts
and Reserves
    
    
    58
 All 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.
 56




---



##### Table of Contents



ExhibitNumber
    
    
    
    
    
    
    
    Description10.17
    
    *
    
    
    (2
    )
    
    Form of Employment Agreement by and between the Company and certain of its executives.10.18
    
    
    
    
    (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.10.22
    
    
    
    
    (9
    )
    
    Severance Agreement and Release with Robert Berman, dated March 19, 2005.10.23
    
    
    
    
    (9
    )
    
    Amended Loan and Security Agreement, dated July 11, 2005, between Hastings Entertainment, Inc.
and Fleet Retail Group, LLC., Agent, and CIT Group/Business Credit, Inc., Co-Agent.10.24
    
    
    
    
    (9
    )
    
    Severance Agreement and Release with Steve Hicks, dated December 16, 2005.10.25
    
    
    
    
    (9
    )
    
    Amended Loan and Security Agreement, dated February 28, 2006, between Hastings Entertainment,
Inc. and Fleet Retail Group, LLC., Agent, and CIT Group/Business Credit, Inc., Co-Agent.
Severance Agreement and Release with David Moffatt, dated April 5, 2006.10.26
    
    
    
    
    (10
    )
    
    Severance Agreement and Release
with David Moffatt, dated April 5, 2006.10.27
    
    
    
    
    (10
    )
    
    Employment Agreement with Michael
Rigby, dated December 5, 2005.10.28
    
    
    
    
    (10
    )
    
    Amended Loan and Security
Agreement, dated February 27, 2007, between Hastings Entertainment,
Inc. and Fleet Retail Group, LLC., Agent, and CIT Group/Business
Credit, Inc., Co-Agent.21.1
    
    
    
    
    (2
    )
    
    Subsidiaries of the Company.23.1
    
    
    
    
    (10
    )
    
    Consent of Ernst & Young LLP.24.1
    
    
    
    
    (10
    )
    
    Powers of Attorney (included on signature page).31.1
    
    
    
    
    (10
    )
    
    Certification of Chief Executive Officer of Registrant Pursuant to SEC Rule
13a-14(a)/15d-14(a).31.2
    
    
    
    
    (10
    )
    
    Certification of Chief Financial Officer of Registrant Pursuant to SEC Rule
13a-14(a)/15d-14(a).32.1
    
    
    
    
    (10
    )
    
    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)
    
    Previously filed as an exhibit to the Companys Annual Report on Form 10-K for
the fiscal year ended January 31, 2006, and incorporated herein by reference.(10)
    
    Filed herewith. 57




---



##### Table of Contents



HASTINGS ENTERTAINMENT, INC.
 Fiscal Year2006
    
    
    2005
    
    
    2004Reserves deducted from assets:Allowance for shrinkage and inventory
obsolescence:Balance at the beginning of period
    
    $
    3,889
    
    
    $
    3,055
    
    
    $
    3,405Additions charged to costs and expenses
    
    
    12,957
    
    
    
    11,759
    
    
    
    12,345Deductions for write-offs
    
    
    (11,930
    )
    
    
    (10,925
    )
    
    
    (12,695
    )Balance at end of period
    
    $
    4,916
    
    
    $
    3,889
    
    
    $
    3,055Reserves added to liabilities:Allowance for costs of inventory returns:Balance at the beginning of period
    
    $
    1,276
    
    
    $
    2,057
    
    
    $
    3,658Additions charged to costs and expenses
    
    
    5,241
    
    
    
    4,198
    
    
    
    5,776Deductions for write-offs and payments
    
    
    (4,931
    )
    
    
    (4,979
    )
    
    
    (7,377
    )Balance at end of period
    
    $
    1,586
    
    
    $
    1,276
    
    
    $
    2,057
 58




---



##### Table of Contents



SIGNATURES
  HASTINGS ENTERTAINMENT, INC.Date: April 20, 2007
    By:
    /s/ Dan CrowDan CrowVice President and Chief Financial Officer
(Principal Financial and Accounting Officer) POWER OF ATTORNEY
   Signature
    
    Title
    
    Date/s/ John H. Marmaduke
    
    Chairman of the Board, President and
    
    April 19, 2007John H. Marmaduke
    
    Chief Executive Officer(Principal Executive Officer)/s/ Danny W. Gurr
    
    Director
    
    April 19, 2007Danny W. Gurr/s/ Daryl L. Lansdale
    
    Director
    
    April 19, 2007Daryl L. Lansdale/s/ Ann S. Lieff
    
    Director
    
    April 19, 2007Ann S. Lieff/s/ Frank O. Marrs
    
    Director
    
    April 19, 2007Frank O. Marrs/s/ Jeffrey G. Shrader
    
    Director
    
    April 19, 2007Jeffrey G. Shrader
 59