**Form 10-Q**

 

**SECURITIES AND EXCHANGECOMMISSION**

**Washington, D.C. 20549**

 

| **(Mark One)**                                                                                       |                                                                                               |   |
|------------------------------------------------------------------------------------------------------|----------------------------------------------------------------------------------------------------|--------|
|                                                                                                 |                                                                                               |   |
| **ý**                                                                                           | **QUARTERLY REPORT PURSUANT TO SECTION 13 OR  15(d) OF THE SECURITIES EXCHANGE ACT OF 1934**  |
|                                                                                                 |
| **For the  quarterly period ended February 26, 2005**                                           |
|                                                                                                 |
| **OR**                                                                                               |
|                                                                                                 |
| **o**                                                                                                | **TRANSITION REPORT PURSUANT TO SECTION 13 OR  15(d) OF THE SECURITIES EXCHANGE ACT OF 1934** |
|                                                                                                 |
| **Commission File Number             1-6807** |
|                                                                                                      |                                                                                                    |        |  |

 

**FAMILY DOLLAR STORES, INC.**

(Exact name of registrant as specified in itscharter)

 

| **DELAWARE**                                                                                                              |   | **56-0942963**                        |
|---------------------------------------------------------------------------------------------------------------------------|--------|---------------------------------------|
| (State or other  jurisdiction of  incorporation or organization)                                                          |   | (I.R.S. Employer  Identification No.) |
|                                                                                                                      |   |                                  |
| **P. O. Box 1017, 10401 Monroe  Road  Charlotte, North Carolina**                                                         |   | **28201-1017**                        |
| (Address of principal  executive offices)                                                                                 |   | (Zip Code)                            |
|                                                                                                                      |
| Registrant’s telephone  number, including area code         **704-847-6961** |

 

Indicateby check mark whether the registrant (1) has filed all reports required to befiled by Section 13 or 15(d) of the Securities Exchange Act of 1934 duringthe preceding 12 months (or for such shorter period that the registrant wasrequired to file such reports), and (2) has been subject to such filingrequirements for the past 90 days.

Yes ý  No  o

 

Indicateby check mark whether the registrant is an accelerated filer (as defined inRule 12-b of the Exchange Act). Yes  ý No  o

 

Indicatethe number of shares outstanding of each of the issuer’s classes of commonstock, as of the latest practicable date.

 

| **Class**                     | ** ** | **Outstanding at April 1,  2005** |
|-------------------------------|------------|----------------------------------------|
| Common Stock, $.10 par  value |       | 166,750,054 shares                     |

 

 

----

 

FAMILY DOLLAR STORES, INC., ANDSUBSIDIARIES

 

INDEX

 
| Part I - Financial Information |                             |
|--------------------------------|----------------------------------|
|                           |                             |   |
|                           | Item 1 -                         | Consolidated Condensed Financial  Statements: |   |
|                           |                             |   |   |
|                           |                             | Consolidated Condensed Balance Sheets -  February 26, 2005 and August 28, 2004 |   |
|                           |                             |   |   |
|                           |                             | Consolidated Condensed Statements of Income  -  Quarter Ended February 26, 2005 and February 28, 2004 |   |
|                           |                             |   |   |
|                           |                             | Consolidated Condensed Statements of Income  –  First Half Ended February 26, 2005 and February 28, 2004 |   |
|                           |                             |   |   |
|                           |                             | Consolidated Condensed Statements of Cash  Flows -  First Half Ended February 26, 2005 and February 28, 2004 |   |
|                           |                             |   |   |
|                           |                             | Notes to Consolidated Condensed Financial  Statements |   |
|                           |                             |   |   |
|                           | Item 2 -                         | Management’s Discussion and Analysis of Financial  Condition and Results of Operations |   |
|                           |                             |   |   |
|                           | Item 4 –                    | Controls and Procedures |   |
|                           |                             |
| Part II –                 | Other Information and Signatures |   |
|                           |                             |   |   |
|                           | Item 1 –                    | Legal Proceedings |   |
|                           |                             |   |   |
|                           | Item 2 –                    | Unregistered Sales of Equity Securities and  Use of Proceeds |   |
|                           |                             |   |   |
|                           | Item 4 –                    | Submission of Matters to a Vote of Security  Holders |   |
|                           |                             |   |   |
|                           | Item 5 –                    | Other Information |   |
|                           |                             |   |   |
|                           | Item 6 –                    | Exhibits |   |
|                           |                             |   |   |
|                           | Signatures                       |   |   |

 

----

 

FAMILY DOLLARSTORES, INC., AND SUBSIDIARIES

 

CONSOLIDATED CONDENSED BALANCE SHEETS

(Unaudited)

 
| **(In thousands, except share amounts)**                                                                                                                                                                                                                                   | ** ** | **February 26,  2005** | ** ** | **August 28,  2004**      | ** ** |
|----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|------------|-----------------------------|------------|--------------------------------|------------|
|                                                                                                                                                                                                                                                                       |       |                        |       | **(As restated,  See Note 9)** |       |
| Assets                                                                                                                                                                                                                                                                     |       |                        |       |                           |       |
| Current  assets:                                                                                                                                                                                                                                                           |       |                        |       |                           |       |
| Cash and  cash equivalents (Note 2)                                                                                                                                                                                                                                        |       | $                           | 79,895     |                           | $          | 87,023 |   |
| Investment  securities (Note 2)                                                                                                                                                                                                                                            |       | 203,255                     |       | 120,840                        |       |
| Merchandise  inventories                                                                                                                                                                                                                                                   |       | 954,018                     |       | 980,124                        |       |
| Deferred  income taxes                                                                                                                                                                                                                                                     |       | 89,793                      |       | 84,084                         |       |
| Income tax  refund receivable                                                                                                                                                                                                                                              |       | —                      |       | 1,304                          |       |
| Prepayments  and other current assets                                                                                                                                                                                                                                      |       | 49,417                      |       | 16,937                         |       |
| Total  current assets                                                                                                                                                                                                                                                      |       | 1,376,378                   |       | 1,290,312                      |       |
|                                                                                                                                                                                                                                                                       |       |                        |       |                           |       |
| Property and  equipment, net                                                                                                                                                                                                                                               |       | 957,289                     |       | 918,449                        |       |
|                                                                                                                                                                                                                                                                       |       |                        |       |                           |       |
| Other assets                                                                                                                                                                                                                                                               |       | 17,260                      |       | 15,600                         |       |
|                                                                                                                                                                                                                                                                       |       |                        |       |                           |       |
|                                                                                                                                                                                                                                                                       |       | $                           | 2,350,927  |                           | $          | 2,224,361 |   |
|                                                                                                                                                                                                                                                                       |       |                        |       |                           |       |
| Liabilities  and Shareholders’ Equity                                                                                                                                                                                                                                 |       |                        |       |                           |       |
|                                                                                                                                                                                                                                                                       |       |                        |       |                           |       |
| Current  liabilities:                                                                                                                                                                                                                                                      |       |                        |       |                           |       |
| Accounts  payable and accrued liabilities                                                                                                                                                                                                                                  |       | $                           | 807,115    |                           | $          | 800,585 |   |
| Income taxes  payable                                                                                                                                                                                                                                                      |       | 17,028                      |       | —                         |       |
| Total  current liabilities                                                                                                                                                                                                                                                 |       | 824,143                     |       | 800,585                        |       |
|                                                                                                                                                                                                                                                                       |       |                        |       |                           |       |
| Deferred  income taxes                                                                                                                                                                                                                                                     |       | 90,103                      |       | 86,694                         |       |
|                                                                                                                                                                                                                                                                       |       |                        |       |                           |       |
| Commitments  and Contingencies (Note 7)                                                                                                                                                                                                                                    |       |                        |       |                           |       |
|                                                                                                                                                                                                                                                                       |       |                        |       |                           |       |
| Shareholders’  equity (Notes 5 and 6):                                                                                                                                                                                                                                |       |                        |       |                           |       |
| Preferred  stock, $1 par; authorized and unissued 500,000 shares                                                                                                                                                                                                           |       |                        |       |                           |       |
| Common  stock, $.10 par; authorized 600,000,000 shares; issued 188,279,914 shares at February 26,  2005 and 187,671,318 shares at August 28, 2004, and outstanding  167,429,879 shares at February 26, 2005 and 167,396,998 shares at August 28,  2004 |       | 18,828                      |       | 18,767                         |       |
| Capital in  excess of par                                                                                                                                                                                                                                                  |       | 121,198                     |       | 106,853                        |       |
| Retained  earnings                                                                                                                                                                                                                                                         |       | 1,603,228                   |       | 1,498,890                      |       |
|                                                                                                                                                                                                                                                                       |       | 1,743,254                   |       | 1,624,510                      |       |
|                                                                                                                                                                                                                                                                       |       |                        |       |                           |       |
| Less common  stock held in treasury, at cost (20,850,035 shares at February 26, 2005  and 20,274,320 shares at August 28, 2004) (Note 6)                                                                                                                         |       | 306,573                     |       | 287,428                        |       |
| Total  shareholders’ equity                                                                                                                                                                                                                                           |       | 1,436,681                   |       | 1,337,082                      |       |
|                                                                                                                                                                                                                                                                       |       |                        |       |                           |       |
|                                                                                                                                                                                                                                                                       |       | $                           | 2,350,927  |                           | $          | 2,224,361 |   |

 

See notes to consolidated condensed financial statements

 

2

----

 

FAMILY DOLLARSTORES, INC., AND SUBSIDIARIES

 

CONSOLIDATED CONDENSED STATEMENTS OF INCOME

(Unaudited)

 
| ** **                                      | ** ** | **Quarter Ended**           | ** ** |
|-------------------------------------------------|------------|-----------------------------|------------|
| **(In thousands, except per share amounts)**    | ** ** | **February 26,  2005** | ** ** | **February 28,  2004** | ** ** |
| ** **                                      | ** ** | ** **                  | ** ** | **(As restated,  See Note 9)** | ** ** |
| ** **                                      | ** ** | ** **                  | ** ** | ** ** | ** ** |
| Net sales                                       |       | $                           | 1,586,754  |   | $ | 1,402,798 |   |
|                                            |       |                        |       |   |   |
| Cost and  expenses:                             |       |                        |       |   |   |
| Cost of  sales                                  |       | 1,065,835                   |       | 928,984 |   |
| Selling,  general and administrative expenses   |       | 394,422                     |       | 347,154 |   |
| Cost of  sales and operating expenses           |       | 1,460,257                   |       | 1,276,138 |   |
|                                            |       |                        |       |   |   |
| Income  before provision for taxes on income    |       | 126,497                     |       | 126,660 |   |
| Provision  for taxes on income                  |       | 46,424                      |       | 46,228 |   |
|                                            |       |                        |       |   |   |
| Net income                                      |       | $                           | 80,073     |   | $ | 80,432 |   |
|                                            |       |                        |       |   |   |
| Net income  per common share - Basic (Note 6)   |       | $                           | 0.48       |   | $ | 0.47 |   |
|                                            |       |                        |       |   |   |
| Average  shares - Basic (Note 6)                |       | 167,723                     |       | 172,061 |   |
|                                            |       |                        |       |   |   |
| Net income  per common share - Diluted (Note 6) |       | $                           | 0.48       |   | $ | 0.46 |   |
|                                            |       |                        |       |   |   |
| Average  shares - Diluted (Note 6)              |       | 168,361                     |       | 173,003 |   |
|                                            |       |                        |       |   |   |
| Dividends  per common share                     |       | $                           | 0.095      |   | $ | 0.085 |   |

 

See notes to consolidated condensed financial statements.

 

3

----

 

FAMILY DOLLAR STORES, INC., AND SUBSIDIARIES

 

CONSOLIDATEDCONDENSED STATEMENTS OF INCOME

(Unaudited)

 
| ** **                                      | ** ** | **First Half Ended**        | ** ** |
|-------------------------------------------------|------------|-----------------------------|------------|
| **(In thousands, except per share amounts)**    | ** ** | **February 26,  2005** | ** ** | **February 28,  2004** | ** ** |
|                                            |       | ** **                  | ** ** | **(As restated,  See Note 9)** | ** ** |
|                                            |       | ** **                  | ** ** | ** ** | ** ** |
| Net sales                                       |       | $                           | 2,966,999  |   | $ | 2,647,481 |   |
|                                            |       |                        |       |   |   |
| Cost and  expenses:                             |       |                        |       |   |   |
| Cost of  sales                                  |       | 1,985,728                   |       | 1,742,342 |   |
| Selling,  general and administrative expenses   |       | 769,609                     |       | 678,583 |   |
| Cost of  sales and operating expenses           |       | 2,755,337                   |       | 2,420,925 |   |
|                                            |       |                        |       |   |   |
| Income  before provision for taxes on income    |       | 211,662                     |       | 226,556 |   |
| Provision  for taxes on income                  |       | 77,160                      |       | 82,687 |   |
|                                            |       |                        |       |   |   |
| Net income                                      |       | $                           | 134,502    |   | $ | 143,869 |   |
|                                            |       |                        |       |   |   |
| Net income  per common share - Basic (Note 6)   |       | $                           | 0.80       |   | $ | 0.84 |   |
|                                            |       |                        |       |   |   |
| Average  shares - Basic (Note 6)                |       | 167,671                     |       | 172,207 |   |
|                                            |       |                        |       |   |   |
| Net income  per common share - Diluted (Note 6) |       | $                           | 0.80       |   | $ | 0.83 |   |
|                                            |       |                        |       |   |   |
| Average  shares - Diluted (Note 6)              |       | 168,241                     |       | 173,319 |   |
|                                            |       |                        |       |   |   |
| Dividends  per common share                     |       | $                           | 0.18       |   | $ | 0.16 |   |

 

See notes to consolidated condensed financial statements.

 

4

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FAMILY DOLLARSTORES, INC., AND SUBSIDIARIES

 

CONSOLIDATED CONDENSED STATEMENTS OF CASH FLOWS

(Unaudited)

 
| ** **                                                                         | ** ** | **First Half Ended**        | ** ** |
|------------------------------------------------------------------------------------|------------|-----------------------------|------------|
| **(In thousands)**                                                                 | ** ** | **February 26,  2005** | ** ** | **February 28,  2004** | ** ** |
|                                                                               |       |                        |       | **(As restated,  See Note 9)** |   |
|                                                                               |       |                        |       |   |   |
| Cash flows  from operating activities:                                             |       |                        |       |   |   |
| Net income                                                                         |       | $                           | 134,502    |   | $ | 143,869 |   |
| Adjustments  to reconcile net income to net cash provided by operating activities: |       |                        |       |   |   |
| Depreciation  and amortization                                                     |       | 53,066                      |       | 50,458 |   |
| Deferred  income taxes                                                             |       | (2,300                      | )          | 393 |   |
| Tax benefit  from stock option exercise                                            |       | 2,490                       |       | 3,589 |   |
| Loss on  disposition of property and equipment                                     |       | 1,077                       |       | 2,490 |   |
| Changes in  operating assets and liabilities:                                      |       |                        |       |   |   |
| Merchandise  inventories                                                           |       | 26,106                      |       | 31,210 |   |
| Income tax  refund receivable                                                      |       | 1,304                       |       | — |   |
| Prepayments  and other current assets                                              |       | (32,480                     | )          | (1,246 | ) |
| Other assets                                                                       |       | (1,660                      | )          | (1,939 | ) |
| Accounts  payable and accrued liabilities                                          |       | (20,602                     | )          | 20,913 |   |
| Income taxes  payable                                                              |       | 17,028                      |       | 15,735 |   |
|                                                                               |       | 178,531                     |       | 265,472 |   |
| Cash flows  from investing activities:                                             |       |                        |       |   |   |
| Purchases of  investment securities                                                |       | (193,200                    | )          | (242,015 | ) |
| Sales of  investment securities                                                    |       | 110,785                     |       | 129,009 |   |
| Capital  expenditures                                                              |       | (94,787                     | )          | (68,948 | ) |
| Proceeds  from dispositions of property and equipment                              |       | 1,804                       |       | 541 |   |
|                                                                               |       | (175,398                    | )          | (181,413 | ) |
| Cash flows  from financing activities:                                             |       |                        |       |   |   |
| Net  purchases of stock for treasury                                               |       | (19,145                     | )          | (33,426 | ) |
| Change in  cash overdrafts                                                         |       | 25,471                      |       | (20,571 | ) |
| Proceeds  from exercise of employee stock options                                  |       | 11,916                      |       | 10,267 |   |
| Payment of  dividends                                                              |       | (28,503                     | )          | (25,850 | ) |
|                                                                               |       | (10,261                     | )          | (69,580 | ) |
|                                                                               |       |                        |       |   |   |
| Net change  in cash and cash equivalents                                           |       | (7,128                      | )          | 14,479 |   |
|                                                                               |       |                        |       |   |   |
| Cash and  cash equivalents at beginning of period                                  |       | $                           | 87,023     |   | $ | 80,994 |   |
|                                                                               |       |                        |       |   |   |
| Cash and  cash equivalents at end of period                                        |       | $                           | 79,895     |   | $ | 95,473 |   |
|                                                                               |       |                        |       |   |   |
| Supplemental  disclosure of cash flow information:                                 |       |                        |       |   |   |
| Cash paid  during the period for:                                                  |       |                        |       |   |   |
| Interest  paid                                                                     |       | $                           | —     |   | $ | — |   |
| Income taxes  paid                                                                 |       | 58,638                      |       | 62,969 |   |

 

See notes to consolidated condensed financial statements.

 

5

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FAMILY DOLLAR STORES, INC., ANDSUBSIDIARIES

 

NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS

 

1.               In the opinion of the Company, theaccompanying unaudited consolidated condensed financial statements contain alladjustments (consisting of only normal recurring accruals) necessary to presentfairly the financial position as of February 26, 2005, and the results ofoperations for the quarter and first half ended February 26, 2005 and February 28,2004, and the cash flows for the first half ended February 26, 2005, and February 28,2004.  For further information, refer tothe consolidated financial statements and footnotes included in the Company’sAnnual Report on Form 10-K for the year ended August 28, 2004, and Note 9below.

 

**The results of operations forthe current quarter and first half ended February 26, 2005 are notnecessarily indicative of the results to be expected for the full year.**

** **

**Certain reclassifications ofthe fiscal 2004 amounts have been made to conform to the fiscal 2005presentation.  These include investmentsin auction rate securities and variable rate demand notes, which had a changein classification from cash and cash equivalents to investment securities.  In addition, outstanding checks had a changein classification from cash and cash equivalents to accounts payable andaccrued liabilities.**

 

**The Company manages itsbusiness on the basis of one reportable segment.**

 

2.               The Company considers all highly liquidinvestments with an original maturity of three months or less to be “cashequivalents.” The carrying amount of the Company’s cash equivalentsapproximates fair value due to the short maturities of these investments andconsists primarily of money market funds and other overnight investments.  The Company maintains cash deposits withmajor banks, which from time to time may exceed federally insured limits.  The Company periodically assesses the financialcondition of the institutions and believes that the risk of any loss isminimal.

 

The items classified as investment securities areprincipally auction rate securities and variable rate demand notes.  The Company classifies all investmentsecurities as available-for-sale. Securities accounted for as available-for-sale are required to bereported at fair value with unrealized gains and losses, net of taxes, excludedfrom net income and shown separately as a component of accumulated othercomprehensive income within shareholders’ equity.  The securities that the Company hasclassified as available-for-sale generally trade at par and as a resulttypically do not have any realized or unrealized gains or losses.

 

3.               The preparation of the Company’s consolidatedcondensed financial statements, in conformity with accounting principlesgenerally accepted in the United States of America, requires management to makeestimates and assumptions.  Theseestimates and assumptions affect the reported amounts of assets andliabilities, the disclosure of contingent assets and liabilities at the date ofthe financial statements, and the reported amounts of revenues and expensesduring the reporting period.  Actualresults could differ from these estimates.

 

6

----

 

4.               The Company has unsecured revolving creditfacilities with banks for short-term borrowings of up to $200 million.  One hundred million dollars of the facilitiesexpires on May 26, 2005, and the remaining $100 million expires on May 31,2009.  The Company expects that thefacilities expiring on May 26, 2005, will be extended.  Any borrowings under these facilities are ata variable interest rate based on short-term market interest rates.  The Company had no borrowings against thesefacilities during the first half ended February 26, 2005.

 

5.               The Company’s non-qualified stock option planprovides for the granting of options to key employees to purchase shares ofcommon stock at prices not less than the fair market value on the date ofgrant.  Options expire five years fromthe date of grant and are exercisable to the extent of 40% after the secondanniversary of the grant and an additional 30% at each of the following twoanniversary dates on a cumulative basis.

 

**The Company accounts forstock options granted to employees using the intrinsic value method, underwhich no compensation expense is recorded since the exercise price of the stockoptions is equal to the market price of the underlying stock on the date of thegrant.  Had compensation cost for thestock options issued been determined consistent with Statement of FinancialAccounting Standards No. 123, “Accounting for Stock-Based Compensation,” asamended by Statement of Financial Accounting Standards No. 148, “Accounting forStock Based Compensation – Transition and Disclosure,” net income and netincome per share would have been reduced to the following pro forma amounts (inthousands, except per share amounts):**

 
| ** **                               | ** ** | **Quarter Ended**          | ** ** | **First Half Ended**          | ** ** |
|------------------------------------------|------------|----------------------------|------------|-------------------------------|------------|
| ** **                               | ** ** | **February 26, 2005** | ** ** | **February 28, 2004(1)** | ** ** | **February 26, 2005** | ** ** | **February 28,2004(1)** | ** ** |
| Net  income-as reported                  |       | $                          | 80,073     |                          | $          | 80,432 |   | $ | 134,502 |   | $ | 143,869 |   |
|                                     |       |                       |       |                          |       |   |   |   |   |
| Pro forma  stock-based compensation cost |       | (2,272                     | )          | (2,190                        | )          | (4,360 | ) | (4,111 | ) |
| Net  income-pro forma                    |       | $                          | 77,801     |                          | $          | 78,242 |   | $ | 130,142 |   | $ | 139,758 |   |
| Net income  per share as reported:       |       |                       |       |                          |       |   |   |   |   |
| Basic                                    |       | $                          | .48        |                          | $          | .47 |   | $ | .80 |   | $ | .84 |   |
| Diluted                                  |       | $                          | .48        |                          | $          | .46 |   | $ | .80 |   | $ | .83 |   |
|                                     |       |                       |       |                          |       |   |   |   |   |
| Net income  per share-pro forma:         |       |                       |       |                          |       |   |   |   |   |
| Basic                                    |       | $                          | .46        |                          | $          | .45 |   | $ | .78 |   | $ | .81 |   |
| Diluted                                  |       | $                          | .46        |                          | $          | .45 |   | $ | .78 |   | $ | .81 |   |

 

----

(1) See Note 9

 

**The assumptions used tocalculate the fair value of options granted are evaluated and revised, asnecessary, to reflect market conditions and experience.**

 

**Thefollowing is a summary of transactions under the plan during the first halfended February 26, 2005 and February 28, 2004 (in thousands, exceptper share amounts).**

 
| ** **            | ** ** | **First Half Ended**                | ** ** |
|-----------------------|------------|-------------------------------------|------------|
| ** **            | ** ** | **February 26, 2005**          | ** ** | **February 28, 2004** | ** ** |
| ** **            | ** ** | **Number of  shares  under option** | ** ** | **Option price  per share** | ** ** | **Number of  shares  under option** | ** ** | **Option price  per share** | ** ** |
| Outstanding-beginning |       | 5,956                               |       | $14.75-$44.00 |   | 5,001 |   | $14.75-$39.00 |   |
| Granted               |       | 1,851                               |       | $26.25-$33.25 |   | 1,850 |   | $32.75-$44.00 |   |
| Exercised             |       | (609                                | )          | $14.75-$32.25 |   | (516 | ) | $15.00-$30.50 |   |
| Cancelled             |       | (189                                | )          |   |   | (142 | ) |   |   |
| Outstanding-ending    |       | 7,009                               |       | $16.00-$44.00 |   | 6,193 |   | $14.75-$44.00 |   |
| Exercisable  options  |       | 1,912                               |       | $16.00-$35.50 |   | 1,437 |   | $14.75-$32.50 |   |

 

7

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6.               Basic net income per common share is computedby dividing net income by the weighted average number of shares outstandingduring each period.  Diluted net incomeper common share gives effect to all securities representing potential commonshares that were dilutive and outstanding during the period.  The exercise prices for certain of theoutstanding stock options that the Company has awarded exceed the averagemarket price of the Company’s common stock. Such stock options are antidilutive (options for 1.9 million and 2.0million shares for the second quarter and first half ended February 26,2005, respectively) and were not included in the computation of diluted netincome per share.  In the calculation ofdiluted net income per common share, the denominator includes the number ofadditional common shares that would have been outstanding if the Company’soutstanding stock options had been exercised.

 

**During the years ended August 28,2004 and August 30, 2003, the Company purchased in the open market 5.6million and 2.2 million shares, respectively, at a cost of $176.7 million and$65.9 million, respectively.  During thesecond quarter ended February 26, 2005, the Company purchased in the openmarket 578,800 shares at a cost of $19.2 million, leaving 1.6 million sharesauthorized to be purchased.**

 

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

 
| ** **                                          | ** ** | **Quarter Ended**           | ** ** |
|-----------------------------------------------------|------------|-----------------------------|------------|
| ** **                                          | ** ** | **February 26,  2005** | ** ** | **February 28,  2004 (1)** | ** ** |
| Basic Net  Income Per Share:                        |       |                        |       |   |   |
|                                                |       |                        |       |   |   |
| Net Income                                          |       | $                           | 80,073     |   | $ | 80,432 |   |
|                                                |       |                        |       |   |   |
| Weighted  Average Number of Shares Outstanding      |       | 167,723                     |       | 172,061 |   |
|                                                |       |                        |       |   |   |
| Net Income  Per Common Share – Basic           |       | $                           | .48        |   | $ | .47 |   |
|                                                |       |                        |       |   |   |
| Diluted Net  Income Per Share:                      |       |                        |       |   |   |
|                                                |       |                        |       |   |   |
| Net Income                                          |       | $                           | 80,073     |   | $ | 80,432 |   |
|                                                |       |                        |       |   |   |
| Weighted  Average Number of Shares Outstanding      |       | $                           | 167,723    |   | 172,061 |   |
|                                                |       |                        |       |   |   |
| Effect of  Dilutive Securities – Stock Options |       | 638                         |       | 942 |   |
| Average  Shares – Diluted                      |       | 168,361                     |       | 173,003 |   |
|                                                |       |                        |       |   |   |
| Net Income  Per Common Share – Diluted         |       | $                           | .48        |   | $ | .46 |   |

 
|                                                |   | **First Half Ended**        |       |
|-----------------------------------------------------|--------|-----------------------------|------------|
|                                                |   | **February 26,  2005** | ** ** | **February 28,  2004 (1)** |   |
|                                                |   | ** **                  | ** ** | ** ** |   |
| Basic Net  Income Per Share:                        |   |                        |       |   |   |
|                                                |   |                        |       |   |   |
| Net Income                                          |   | $                           | 134,502    |   | $ | 143,869 |   |
|                                                |   |                        |       |   |   |
| Weighted  Average Number of Shares Outstanding      |   | 167,671                     |       | 172,207 |   |
|                                                |   |                        |       |   |   |
| Net Income  Per Common Share – Basic           |   | $                           | .80        |   | $ | .84 |   |
|                                                |   |                        |       |   |   |
| Diluted Net  Income Per Share:                      |   |                        |       |   |   |
|                                                |   |                        |       |   |   |
| Net Income                                          |   | $                           | 134,502    |   | $ | 143,869 |   |
|                                                |   |                        |       |   |   |
| Weighted  Average Number of Shares Outstanding      |   | 167,671                     |       | 172,207 |   |
|                                                |   |                        |       |   |   |
| Effect of  Dilutive Securities – Stock Options |   | 570                         |       | 1,112 |   |
| Average  Shares – Diluted                      |   | 168,241                     |       | 173,319 |   |
|                                                |   |                        |       |   |   |
| Net Income  Per Common Share – Diluted         |   | $                           | .80        |   | $ | .83 |   |

 

----

(1) See Note 9

 

8

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**7.**               On January 30, 2001, Janice Morgan and BarbaraRichardson, two individuals who have held the position of Store Manager forsubsidiaries of the Company, filed a Complaint against the Company in theUnited States District Court for the Northern District of Alabama.  Thereafter, pursuant to the Court’s ruling,notice of the pendency of the lawsuit was sent to approximately 13,000 currentand former Store Managers holding the position on or after July 1, 1999.Approximately 2,550 of those receiving such notice filed consent forms andjoined the lawsuit as plaintiffs, including approximately 2,300 former StoreManagers and approximately 250 then current employees.  After rulings by the Court on motions todismiss certain plaintiffs filed by the Company and motions to reconsider filedby plaintiffs, 1,424 plaintiffs remain in the case.  No further motions to dismiss or reinstateplaintiffs remain pending.

** **

**The case has proceeded as acollective action under the Fair Labor Standards Act (“FLSA”).  The Complaint alleges that the Companyviolated the FLSA by classifying the plaintiffs and other similarly situatedcurrent and former Store Managers as “exempt” employees who are not entitled toovertime compensation.  Plaintiffs seekto recover unpaid overtime compensation, prejudgment interest, liquidateddamages, an award of attorneys’ fees, costs and expenses, and such other reliefas the Court may deem proper. Discovery is complete, the Court has denied theCompany’s motion to decertify the case as a collective action, and trial is setfor June 13, 2005, in Tuscaloosa, Alabama. The Court has informed the parties that it has set aside June 13through July 1 for the trial. Plaintiffs’ motion for summary judgment with respect to 34 of theplaintiffs based on arguments regarding the number of employees supervisedduring the relevant time period remains under submission.**

 

**In general, the Companybelieves that the Store Managers are “exempt” employees under the FLSA and havebeen properly compensated, that this action should not proceed as a collectiveaction, and that the Company has meritorious defenses that should enable it toultimately prevail.  However, the outcomeof any litigation is inherently uncertain. The Company bears the burden of proof at trial of establishing itsentitlement to the exemption from the overtime requirements of the FLSA, and noassurances can be given that the Company will be successful in defending thisaction.  Limits the Court has imposed onthe conduct of the trial and future rulings by the Court on both substantiveand procedural motions and issues, including evidentiary issues at trial, maysignificantly impact the course and outcome of these proceedings.  Resolution of this matter could have amaterial adverse effect on the Company’s financial position, liquidity or resultsof operation.**

** **

**The Company is involved innumerous other legal proceedings and claims incidental to its business,including litigation related to alleged failures to comply with various stateand federal employment laws.  While theultimate outcome cannot be determined, the Company currently believes thatthese proceedings and claims, both individually and in the aggregate, shouldnot have a material adverse effect on the Company’s financial position,liquidity or results of operations. However, the outcome of any litigation is inherently uncertain and, ifdecided adversely to the Company, the Company may be subject to liability thatcould have a material adverse effect on the Company’s financial position,liquidity or results of operations.**

 

9

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**8.**               In December 2004, the Financial Accounting StandardsBoard (“FASB”) issued Statement of Financial Accounting Standards (“SFAS”) No.123R, “Share-Based Payment,” which requires all companies to measurecompensation cost for all share-based payments (including employee stockoptions) at fair value, effective for public companies for interim or annualperiods beginning after June 15, 2005. The FASB concluded that companies can adopt the new standard in one oftwo ways: the modified prospective transition method, in which a company wouldrecognize share-based employee compensation cost from the beginning of thefiscal period in which the recognition provisions are first applied as if thefair-value-based accounting method had been used to account for all employeeawards granted, modified, or settled after the effective date and to any awardsthat were not fully vested as of the effective date; or the modifiedretrospective transition method, in which a company would recognize employeecompensation cost for periods presented prior to the adoption of SFAS No. 123Rin accordance with the original provisions of SFAS No. 123 “Accounting forStock-Based Compensation,” pursuant to which a company would recognize employeecompensation cost in the amounts reported in the pro forma disclosures providedin accordance with SFAS No. 123.  TheCompany expects to adopt SFAS No. 123R during the first quarter of fiscal 2006,and has not made a determination as to the method it will adopt.

** **

**9.**               On February 7, 2005, the Office of the ChiefAccountant of the Securities and Exchange Commission (“SEC”) issued a letter tothe American Institute of Certified Public Accountants expressing its viewsregarding certain operating lease accounting issues and their application undergenerally accepted accounting principles in the United States of America (“GAAP”).  In light of this letter, the Company’smanagement initiated a review of its lease-related accounting and determinedthat its then-current method of accounting for leasehold improvements funded bylandlord incentives or allowances under operating leases (tenant improvementallowances), its then-current method of accounting for rent holidays and itsthen-current amortization of leasehold improvements were not in accordance withGAAP.  As a result, the Company isrestating its consolidated condensed financial statements for the quarter endedNovember 27, 2004, and its consolidated financial statements for thefiscal years 2002 through 2004.

 

**The Company previouslyamortized leasehold improvements over their estimated useful economic life ofup to ten years.  In some cases thisperiod extended into an option period for the lease. The Company will nowamortize leasehold improvements over the shorter of the term of the relatedlease (generally five years) or the asset’s useful economic life. Further, theCompany had recognized rent expense for leases beginning on the rentcommencement date.  This had the effectof excluding the pre-opening period of its stores from the calculation of theperiod over which it expensed rent.  TheCompany now recognizes straight-line rent expense (including any rentadjustment during the lease term) over a period that includes the pre-openingperiod.  For tenant improvementallowances and rent holidays, the Company now records a deferred rent liabilityand amortizes the deferred rent over the terms of the leases as reductions torent expense.  The restatement had noimpact on historic or future cash flows or the timing of lease payments.**

 

**The Company previouslyrecorded auction rate securities and variable rate demand notes as cash andcash equivalents and has reclassified these investments to investmentsecurities.  Additionally, the Companyhas reclassified outstanding checks from cash and cash equivalents to accountspayable and accrued liabilities.  Thereduction to cash and cash equivalents as of August 28, 2004 as a resultof these reclassifications was approximately $62.6 million.**

 

10

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The effect of the restatement described above aswell as the change in classification of investment securities and outstandingchecks from cash and cash equivalentsis as follows (in thousands except per shareamounts):

 

Consolidated Condensed Balance Sheets

 
| ** **                                       | ** ** | **As Previously  Presented  August 28,  2004** | ** ** | **As  Restated  August 28,  2004** | ** ** |
|--------------------------------------------------|------------|-----------------------------------------------------|------------|-----------------------------------------|------------|
| Cash and  cash equivalents                       |       | 149,602                                             |       | 87,023                                  |       |
| Investment  securities                           |       | —                                              |       | 120,840                                 |       |
| Deferred  income taxes                           |       | 77,341                                              |       | 84,084                                  |       |
| Total  current assets                            |       | 1,225,308                                           |       | 1,290,312                               |       |
| Property and  equipment, net                     |       | 926,514                                             |       | 918,449                                 |       |
| Total assets                                     |       | 2,167,422                                           |       | 2,224,361                               |       |
| Accounts  payable and accrued liabilities        |       | 713,551                                             |       | 800,585                                 |       |
| Total  current liabilities                       |       | 713,551                                             |       | 800,585                                 |       |
| Deferred  income taxes                           |       | 93,471                                              |       | 86,694                                  |       |
| Retained  earnings                               |       | 1,522,208                                           |       | 1,498,890                               |       |
| Total  shareholders’ equity                 |       | 1,360,400                                           |       | 1,337,082                               |       |
| Total  liabilities and shareholders’ equity |       | 2,167,422                                           |       | 2,224,361                               |       |

 

Consolidated Condensed Statements of Income(unaudited)

 
| ** **                                    | ** ** | **As Previously  Presented  Quarter Ended  February 28,  2004** | ** ** | **As  Restated  Quarter Ended  February 28,  2004** | ** ** |
|-----------------------------------------------|------------|----------------------------------------------------------------------|------------|----------------------------------------------------------|------------|
| Selling,  general and administrative expenses |       | 345,560                                                              |       | 347,154                                                  |       |
| Income  before provision for taxes on income  |       | 128,254                                                              |       | 126,660                                                  |       |
| Provision  for taxes on income                |       | 46,813                                                               |       | 46,228                                                   |       |
| Net income                                    |       | 81,441                                                               |       | 80,432                                                   |       |
| Net income  per common share - Basic          |       | 0.47                                                                 |       | 0.47                                                     |       |
| Net income  per common share - Diluted        |       | 0.47                                                                 |       | 0.46                                                     |       |

 
| ** **                                    | ** ** | **As Previously  Presented  First Half Ended  February 28,  2004** | ** ** | **As  Restated  First Half Ended  February 28,  2004** | ** ** |
|-----------------------------------------------|------------|-------------------------------------------------------------------------|------------|-------------------------------------------------------------|------------|
| Selling, general  and administrative expenses |       | 675,386                                                                 |       | 678,583                                                     |       |
| Income  before provision for taxes on income  |       | 229,753                                                                 |       | 226,556                                                     |       |
| Provision  for taxes on income                |       | 83,860                                                                  |       | 82,687                                                      |       |
| Net income                                    |       | 145,893                                                                 |       | 143,869                                                     |       |
| Net income  per common share - Basic          |       | 0.85                                                                    |       | 0.84                                                        |       |
| Net income  per common share - Diluted        |       | 0.84                                                                    |       | 0.83                                                        |       |

 

11

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Consolidated Condensed Statements of Cash Flows(unaudited)

 
| ** **                                        | ** ** | **As Previously  Presented  First Half Ended  February 28,  2004** | ** ** | **As  Restated  First Half Ended  February 28,  2004** | ** ** |
|---------------------------------------------------|------------|-------------------------------------------------------------------------|------------|-------------------------------------------------------------|------------|
|                                              |       | ** **                                                              | ** ** | ** **                                                  |       |
| Net income                                        |       | 145,893                                                                 |       | 143,869                                                     |       |
| Depreciation  and amortization                    |       | 48,444                                                                  |       | 50,458                                                      |       |
| Deferred  income taxes                            |       | 1,566                                                                   |       | 393                                                         |       |
| Accounts  payable and accrued liabilities         |       | 19,136                                                                  |       | 20,913                                                      |       |
| Cash flows  from operating activities             |       | 261,289                                                                 |       | 265,472                                                     |       |
|                                              |       |                                                                    |       |                                                        |       |
| Purchases of  investment securities               |       | —                                                                  |       | (242,015                                                    | )          |
| Sales of  investment securities                   |       | —                                                                  |       | 129,009                                                     |       |
| Capital  expenditures                             |       | (68,354                                                                 | )          | (68,948                                                     | )          |
| Cash flows  from investing activities             |       | (67,813                                                                 | )          | (181,413                                                    | )          |
|                                              |       |                                                                    |       |                                                        |       |
| Change in  cash overdrafts                        |       | —                                                                  |       | (20,571                                                     | )          |
| Cash flows  from financing activities             |       | (49,009                                                                 | )          | (69,580                                                     | )          |
|                                              |       |                                                                    |       |                                                        |       |
| Net change  in cash and cash equivalents          |       | 148,056                                                                 |       | 14,479                                                      |       |
| Cash and  cash equivalents at beginning of period |       | 206,731                                                                 |       | 80,994                                                      |       |
| Cash and  cash equivalents at end of period       |       | 354,787                                                                 |       | 95,473                                                      |       |

 

12

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MANAGEMENT’S DISCUSSION AND ANALYSIS

OF FINANCIAL CONDITION ANDRESULTS OF OPERATIONS

 

**This discussion summarizes the significant factorsaffecting the consolidated results of operations and financial condition of theCompany for the thirteen week periods ended February 26, 2005 and February 28,2004 (the “2005 second quarter” and “2004 second quarter”, respectively) andthe twenty six week periods ended on the same dates (the “first half of 2005”and “first half of 2004”, respectively). This discussion should be read in conjunction with, and is qualified by,the financial statements included in this quarterly report, the financialstatements for the year ended August 28, 2004 (“fiscal 2004”), andManagement’s Discussion and Analysis of Financial Condition and Results ofOperations (“MD&A”), both contained in the Company’s Annual Report onForm 10-K for fiscal 2004.  Thisdiscussion reflects the Company’s correction of certain lease accountingpractices and the restatement of its financial statements as described in Note9 to the consolidated condensed financial statements.**

 

**This discussion containsforward-looking statements which are identified by such words as “expect,” “plan,”“anticipates” and similar phrases or words. All such forward-looking statements are subject to the Cautionary NoteRegarding Forward-Looking Statements set forth following this MD&A.**

 

**Resultsof Operations**

** **

***Fiscal 2005Outlook***

** **

**Inthe fiscal year ending August 27, 2005 (“fiscal 2005”), the Company isimplementing four key initiatives designed to increase sales and earnings – theurban initiative; the introduction of additional “Treasure Hunt” merchandise;the installation of coolers in selected stores and the continuation of anaggressive store opening program.**

 

**•**                  Urban Initiative – Investments are being made in people,process changes and technology, including organizational changes to support amore mobile and flexible workforce, to improve the operating performance ofmore than 1,000 high volume stores in large metropolitan markets.  During the first half of 2005, the urbaninitiative was substantially implemented in approximately 500 stores.

** **

**•**                  Treasure Hunt Merchandise – The Company’s basic assortmentof merchandise is being supplemented by additional opportunistically purchasedgoods which are designed to create more excitement in the stores throughout theyear, with particular emphasis on the holiday season.

** **

**•**                  Coolers – The installation of coolers for the sale ofperishable food began in the 2005 second quarter.  During the 2005 second quarter, coolers wereinstalled and stocked in approximately 200 stores.  The Company plans to have coolers installedin more than 500 stores by the end of fiscal 2005.  In addition, the Company also plans to beginimplementation by fiscal year-end of new point-of-sale software in selectedstores to facilitate the acceptance of food stamps in stores with coolers,simplify cashier training, and speed up checkout processes.

** **

**•**                  New Stores – Family Dollar’s aggressive store openingprogram is continuing.  The Company’scurrent plan is to open 500 to 560 stores and close 60 to 70 stores, resultingin about 8% to 9% net store growth and 9% to 10% net square footage growth infiscal 2005.  In the first half of 2005,the Company opened 188 stores and closed 54 stores.

 

13

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**Based on the operating results for the first half of fiscal2005, as discussed below, and the Company’s plans for the second half of 2005,the Company currently expects net income per diluted share of Common Stock tobe between $1.49 and $1.52 for fiscal 2005, compared to $1.50 in fiscal2004.  These numbers reflect a reductionof net income per diluted share of $0.03 in fiscal 2004 and a similar estimatedimpact in fiscal 2005 as a result of the correction of lease accountingpractices as discussed in Note 9.**

** **

**Net sales**

 

**Net sales increased 13.1%($184.0 million) in the 2005 second quarter, as compared with an increase of11.7% ($146.6 million) in the 2004 second quarter, and increased 12.1% ($319.5million) in the first half of 2005, as compared with an increase of 12.0%($282.7 million) in the first half of 2004. These increases were attributable to an increase in sales in comparablestores (stores open more than 13 months) for the 2005 second quarter and firsthalf of 4.5% ($62.2 million) and 3.6% ($92.4 million), respectively, with thebalance of the increases primarily relating to sales from new stores opened as partof the Company’s new store expansion program. Sales of lower margin basic consumables continued to be stronger thansales of higher margin discretionary goods in both the 2005 second quarter andfirst half.  Despite comparable storesales growth in home and seasonal merchandise in the 2005 second quarter, salesof more discretionary merchandise, including hanging apparel and domestics,continued to be below the Company’s plan for the first half of 2005.**

** **

**The comparable store sales of4.5% for the 2005 second quarter included increases of 4.0% in the December reportingperiod, 5.2% in the January reporting period and 4.9% in the February reportingperiod.  The 4.5% increase in comparablestore sales includes an increase of approximately 5.8% in the sales of hardlinemerchandise and no change in the sales of softline merchandise.  In the 2005 second quarter, the customercount, as measured by the number of register transactions in comparable stores,increased approximately 0.7% and the average transaction increasedapproximately 3.7% to $9.87 over the 2004 second quarter.  Hardlines as a percentage of total salesincreased to approximately 78.7% in the 2005 second quarter compared toapproximately 77.8% in the 2004 second quarter. Softlines as a percentage of sales decreased to 21.3% in the 2005 secondquarter compared to approximately 22.2% in the 2004 second quarter.**

** **

**The comparable store sales of3.6% for the first half of 2005 included an increase of 5.2% in hardlinemerchandise and a decrease of approximately 2.0% in softline merchandise.  In the first half of 2005, the customer countincreased approximately 0.5% and the average transaction increasedapproximately 3.0% to $9.40 over the first half of 2004.  Hardlines as a percentage of total sales increasedto approximately 78.9% in the first half of 2005 compared to approximately77.6% in the first half of 2004. Softlines as a percentage of sales decreased to 21.1% in the first halfof 2005 compared to approximately 22.4% in the first half of 2004.**

 

**Hardline merchandise includesprimarily household chemical and paper products, health and beauty aids, food,electronics, housewares and giftware, toys, school supplies, hardware andautomotive supplies.  Softline merchandiseincludes men’s, women’s, boy’s, girl’s and infant’s clothing and accessories,shoes, and domestic items such as blankets, sheets and towels.**

** **

**The average number of storesopen during the first half of 2005 was 8.6% more than stores open during thefirst half of 2004.  The Company had 5,600stores in operation at the end of the 2005 second quarter, as compared with5,175 stores in operation at the end of the 2004 second quarter, representingan increase of approximately 8.2%.**

 

14

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**Sales in comparable storesfor the five-week period ended April 2, 2005, increased approximately 2.4%above comparable store sales for the similar period in the prior fiscal year,including an increase of approximately 4.0% in sales of hardlines and adecrease of approximately 2.9% in sales of softlines.  The Company’s plan is for sales in comparablestores in the four-week period ending April 30, 2005, to increase in the3% to 5% range.**

 

Cost of Sales

** **

**Cost of sales increased 14.7%in the 2005 second quarter, as compared with the 2004 second quarter, andincreased 14.0% in the first half of 2005, as compared to the first half of2004.  These increases primarilyreflected the additional sales volume between these periods.  Cost of sales, as a percentage of net sales, was67.2% in the 2005 second quarter, compared with 66.2% in the 2004 secondquarter, and was 66.9% in the first half of 2005 compared with 65.8% in thesame period in 2004.  These increases inthe cost of sales percentages for both the 2005 second quarter and first halfwere due primarily to the continuing shift in the merchandise mix of sales tomore lower margin basic consumables and less higher margin discretionary goods,increased shrinkage and increased freight costs due to higher fuel expense.  The increases in the cost of sales percentagewere partially offset by lower markdowns during the 2005 second quarter andfirst half as compared to the prior fiscal year.**

** **

**Shrinkage in the 2005 secondquarter was less of an adverse factor than in the 2005 first quarter as theCompany continues implementing new loss prevention reports that provide morevisibility to store level issues and adding personnel to its Loss PreventionDepartment.  In addition, as part of itsurban initiative, the Company is modifying its field management structure toincrease management presence and the frequency of inspections in its urbanmarkets.  The Company’s eighthdistribution center which opened in Marianna, Florida in January 2005 willreduce the average distance between stores and a distribution center whichshould mitigate some of the negative impact of rising fuel costs.**

** **

**For fiscal 2005, the Company’s plan is for the cost ofsales percentage to increase as compared to the percentage in fiscal 2004 dueto the continuing effect of the factors discussed above.  The shrink initiatives and new distributioncenter are expected to mitigate these impacts during the second half of fiscal2005.**

 

**Selling, general and administrative expenses**

 

**Selling, general andadministrative expenses increased 13.6% in the 2005 second quarter, as comparedwith the 2004 second quarter, and increased 13.4% in the first half of 2005, ascompared with the first half of 2004. The increases in these expenses were due primarily to additional costsarising from the continued growth in the number of stores in operation.  Selling, general and administrative expenses,as a percentage of net sales, were 24.9% in the 2005 second quarter, ascompared with 24.8% in the 2004 second quarter, and were 25.9% in the first halfof 2005, as compared with 25.6% in the first half of 2004. The increases in thepercentages for both the 2005 second quarter and first half were due primarilyto planned expenses incurred in connection with previously announcedinitiatives, mainly payroll costs related to the urban initiative(approximately 0.3% of sales for both the 2005 second quarter and first half) andincreased legal related costs (approximately 0.1% of sales for both the 2005second quarter and first half).  As aresult of the 4.5% increase in sales in comparable stores in the 2005 secondquarter, most other costs in such period were leveraged.**

 

15

----

 

**For fiscal 2005, the Company’s plan is for the selling,general and administrative expense percentage to increase as compared to thepercentage in fiscal 2004.  The Companyexpects the funding of its various growth initiatives as previously mentionedto negatively impact its expense leverage in fiscal 2005 by approximately 0.4%of sales.**

** **

**Provision for taxes on income**

** **

**The effective tax rate was 36.7% for the 2005 secondquarter, as compared with 36.5% for the 2004 second quarter, and was 36.5% forthe first half of 2005 and first half of 2004. For the remainder of fiscal 2005, the Company’s plan is for theeffective tax rate to remain at approximately 36.7%.**

 

**Liquidity and CapitalResources**

 

**Atthe end of the 2005 second quarter, the Company had working capital of $552.2million and no outstanding borrowings. Changes in working capital during the first half of each of fiscal 2005and fiscal 2004 were primarily the result of earnings, capital expenditures andrepurchases of the Company’s Common Stock. The Company’s inventories at the end of the 2005 second quarter wereapproximately 5% higher on a per store basis than at the end of the 2004 secondquarter, excluding merchandise in transit to the distribution centers.  The majority of this increase was in basicconsumable merchandise.  Earlier receiptthis year of spring merchandise also contributed to the increase.  The Company expects that inventory on a perstore basis will continue to be gradually reduced due to programs focusing onimproving inventory productivity.**

** **

**Capital expenditures for thefirst half of 2005, were approximately $94.8 million, and are currentlyexpected to be approximately $250 to $270 million for fiscal 2005.  The majority of planned capital expendituresfor fiscal 2005 is related to the Company’s new store expansion; existing storeexpansions, relocations and renovations; the completion of construction of theeighth distribution center and start of construction of a ninth full-servicedistribution center; expenditures related to store-focused technologyinfrastructure and the continued implementation of a cooler program forperishable goods in selected stores.  Thenew store expansion and eighth distribution center require additionalinvestment in merchandise inventories.**

** **

**The Company currently plansto open 500 to 560 stores and close 60 to 70 stores in fiscal 2005, resultingin approximately 8% to 9% net new store growth and 9% to 10% net square footagegrowth.  Urban markets will continue tobe the focus with approximately 60% to 65% of the new stores expected to openin urban areas.  The Company alsocurrently plans to expand or relocate approximately 45 stores and renovateapproximately 110 stores in fiscal 2005. In fiscal 2004, the Company opened 500stores and closed 61 stores, expanded or relocated 79 stores and renovated 116stores.  In the first half of 2005, theCompany opened 188 stores, closed 54 stores, expanded or relocated 27 storesand renovated 80 stores.  The Companyoccupies most of its stores under operating leases.  Store opening, closing, expansion,relocation, and renovation plans, as well as overall capital expenditure plans,are continuously reviewed and are subject to change.**

 

**The Company had unsecuredrevolving credit facilities with banks for short-term borrowings of up to $200million.  One hundred million dollars ofthe facilities expires on May 26, 2005, and the remaining $100 million expireson May 31, 2009.  The Company had noborrowings against these facilities during the first half of 2005.  Cash flow from current operations andavailable revolving credit**

 

16

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**facilities as discussed aboveare expected to be sufficient to meet planned liquidity and capital resourceneeds, including store expansion and other capital spending programs and anyrepurchase of the Company’s Common Stock.**

** **

**Duringfiscal 2004 and the year ended August 30, 2003, the Company purchased inthe open market 5.6 million and 2.2 million shares, respectively, at a cost of$176.7 million and $65.9 million, respectively. During the 2005 second quarter, the Company purchased in the open market578,800 shares of the Company’s Common Stock at a cost of $19.2 million,leaving 1.6 million shares authorized to be purchased.**

 

**Thefollowing table shows the Company’s obligations and commitments as of the endof the 2005 second quarter to make future payments under contractualobligations (in thousands):**

 
| ** **                          | ** ** | **Payments Due During One Year  Fiscal Period Ending** | ** ** |
|-------------------------------------|------------|--------------------------------------------------------|------------|
| **Contractual Obligations**         | ** ** | **Total**                                              | ** ** | **February  2006** | ** ** | **February  2007** | ** ** | **February  2008** | ** ** | **February  2009** | ** ** | **February  2010** | ** ** | **Thereafter** | ** ** |
| Merchandise  letters of credit      |       | $                                                      | 70,543     |   | $ | 70,543 |   | $ |   |   | $ |   |   | $ |   |   | $ |   |   | $ |   |   |
| Operating  leases                   |       | 983,356                                                |       | 228,714 |   | 200,156 |   | 164,269 |   | 128,467 |   | 88,319 |   | 173,431 |   |
| Construction  obligations           |       | 23,543                                                 |       | 23,543 |   |   |   |   |   |   |   |   |   |   |   |
| Total  Contractual Cash Obligations |       | $                                                      | 1,077,442  |   | $ | 322,800 |   | $ | 200,156 |   | $ | 164,269 |   | $ | 128,467 |   | $ | 88,319 |   | $ | 173,431 |   |

 

Most of theCompany’s operating leases provide the Company with an option to extend theterm of the lease at designated rates.

 

The followingtable shows the Company’s other commercial commitments as of the end of the2005 second quarter (in thousands):

 
| **Other Commercial Commitments** | ** ** | **Total  Amounts  Committed** | ** ** |
|----------------------------------|------------|-------------------------------|------------|
|                             |       |                          |       |
| Standby  letters of credit       |       | $                             | 92,490     |   |
| Surety bonds                     |       | 6,452                         |       |
| Total  Commercial Commitments    |       | $                             | 98,942     |   |

 

**At the end of the 2005 second quarter, approximately $33.7million of the merchandise letters of credit are included in accounts payableand accrued liabilities on the Company’s balance sheet.  A substantial portion of the outstandingamount of standby letters of credit and surety bonds (which are primarilyrenewed on an annual basis) are used as surety for future premium anddeductible payments to the Company’s workers’ compensation and generalliability insurance carrier.  The Companyaccrues for these future payment liabilities as described in the “CriticalAccounting Policies” section of this discussion.**

 

17

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**Critical Accounting Policies**

 

**Management believes the following accounting principles arecritical because they involve significant judgments, assumptions, and estimatesused in the preparation of the Company’s consolidated financial statements.**

** **

**Merchandise Inventories:**

** **

**Inventories are valued using the retail method, based onretail prices less markon percentages, which approximates the lower offirst-in, first-out (FIFO) cost or market. The Company records adjustments to inventory through cost of goods soldwhen retail price reductions, or markdowns, are taken against on-handinventory.  In addition, management makesestimates and judgments regarding, among other things, initial markups,markdowns, future demand for specific product categories and market conditions,all of which can significantly impact inventory valuation.  If actual demand or market conditions aredifferent than those projected by management, additional markdowns may benecessary.  This risk is generally higherfor seasonal merchandise than for non-seasonal goods.  The Company also provides for estimatedinventory losses for damaged, lost or stolen inventory for the period from thephysical inventory to the financial statement date.  These estimates are based on historicalexperience and other factors.**

** **

**Property and Equipment:**

** **

**Property and equipment isstated at cost.  Depreciation for financialreporting purposes is being provided principally by the straight-line methodover the estimated useful lives of the related assets.  For leasehold improvements, this depreciationis over the shorter of the term of the related lease (generally five years) orthe asset’s useful economic life.  Thevaluation and classification of these assets and the assignment of usefuldepreciable lives involves significant judgments and the use of estimates.  The Company generally assigns no salvagevalue to property and equipment. Property and equipment is reviewed for impairment whenever events orchanges in circumstances indicate that the carrying amount of an asset may notbe recoverable.  Historically, impairmentlosses on fixed assets have not been material to the Company’s financialposition and results of operations.**

** **

**Insurance Liabilities:**

** **

**The Company is primarilyself-insured for health care, property loss, workers’ compensation and generalliability costs.  These costs aresignificant primarily due to the large number of the Company’s retail locationsand employees.  Because the nature ofthese claims is such that there can be a significant lag from the incurrence ofthe claim (which is when the expense is accrued) until payment is made, the percentageincrease in the accrual can be much more pronounced than the percentageincrease in the expense.  The Company’sself-insurance liabilities are based on the total estimated costs of claimsfiled and estimates of claims incurred but not reported, less amounts paidagainst such claims, and are not discounted. Management reviews current and historical claims data in developing itsestimates.  The Company also usesinformation provided by outside actuaries with respect to workers’ compensationand general liability claims.  If theunderlying facts and circumstances of the claims change or the historical trendis not indicative of future trends, then the Company may be required to recordadditional expense or a reduction to expense which could be material to thereported financial condition and results of operations.**

 

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CautionaryNote Regarding Forward-Looking Statements

 

**Certain statements containedin this Form 10-Q, or in other public filings, press releases, or other writtenor oral communications made by the Company or the Company’s representatives,which are not historical facts are forward-looking statements made pursuant tothe safe harbor provisions of the Private Securities Litigation Reform Act of1995.  These forward-looking statementsaddress the Company’s plans, activities or events which the Company expectswill or may occur in the future such as, without limitation, future capitalexpenditures, store openings, closings, renovations, expansions and relocations,additional distribution facilities, sales, cost of sales, expenses, the outcomeof legal proceedings and other aspects of the Company’s business andoperations. These forward-looking statements may be identified by the use ofthe words “plan,” “estimate,” “expect,” “anticipate,” “probably,” “should,” “project,”“intend,” “continue,” and similar terms and expressions.  Various risks, uncertainties and otherfactors may cause actual results to differ materially from those expressed insuch forward-looking statements. Such risks, uncertainties and other factorsinclude, but are not limited to:**

•                  Competitivefactors and pricing pressures

•                  Changesin economic conditions

•                  Theimpact of acts of war or terrorism

•                  Changesin consumer demand and product mix

•                  Unusualweather that may impact sales

•                  Theimpact of inflation

•                  Merchandisesupply and pricing constraints

•                  Successof merchandising and marketing programs

•                  Generaltransportation or distribution delays or interruptions

•                  Dependenceon imports, changes in currency exchange rates, trade restrictions, tariffs,quotas and freight rates

•                  Availabilityof real estate, and costs and delays associated with building, opening andoperating new distribution facilities and stores

•                  Costs,potential problems and achievement of results associated with theimplementation of new programs, systems and technology, including supply chainsystems, store technology, cooler installations and urban initiative programs

•                  Changesin food and energy prices and the impact on consumer spending and the Company’scosts

•                  Changesin shrinkage

•                  Adverseimpacts associated with legal proceedings and claims

•                  Changesin health care and other insurance costs

•                  Changesin the Company’s ability to attract and retain employees

•                  Changesin state or federal legislation or regulations, including the effects oflegislation and regulations on wage levels and entitlement programs

 

**Consequently, all of theforward-looking statements made by the Company in this and other documents orstatements are qualified by these and other factors, risks anduncertainties.  Readers are cautioned notto place undue reliance on these forward-looking statements, which speak onlyas of the date of this Form 10-Q.  Exceptas required by applicable securities laws, the Company does not undertake topublicly update or revise its forward-looking statements even if experience orfuture changes make it clear that projected results expressed or implied insuch statements will not be realized.**

 

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Item4.             Controlsand Procedures

 

Basedon an evaluation by management of the Company (with the participation of theCompany’s Chief Executive Officer and Chief Financial Officer), as of the endof the period covered by this report, the Company’s Chief Executive Officer andChief Financial Officer concluded that the Company’s disclosure controls andprocedures (as defined in Rules 13a-15 (e) and 15d-15(e) under the SecuritiesExchange Act of 1934, as amended (the “Exchange Act”)) were effective toprovide reasonable assurance that information required to be disclosed by theCompany in reports that the Company files or submits under the Exchange Act isrecorded, processed, summarized and reported within the time periods specifiedin Securities and Exchange Commission (“SEC”) rules and forms and that suchinformation is accumulated and communicated to our management, including ChiefExecutive Officer and Chief Financial Officer, to allow timely decisionsregarding required disclosures. Consistent with the suggestion of the SEC, theCompany has formed a Disclosure Committee consisting of key Company personneldesigned to review the accuracy and completeness of all disclosures made by theCompany.

 

InMarch 2005, after consulting with its Audit Committee, the Companyconcluded that its financial statements for the first quarter of fiscal 2005and for the years ended August 28, 2004, August 30, 2003 and August 31, 2002should be restated to correct certain errors relating to accounting for leasedproperties and therefore should no longer be relied upon. The Company hasdiscussed this restatement with its independent registered public accountants.On March 22, 2005, the Company issued a press release announcing theintended restatement of the Company’s historical financial statements and fileda report on Form 8-K with the SEC advising that the Company’s prior financialstatements should no longer be relied upon.

** **

**The Company does not consider the impact of correcting thepreviously issued financial statements to be material with respect to any individualreporting period.  However, because the cumulative effect of such change,if recorded in the current quarterly period, would be material to that period,the Company determined that a restatement of prior period financial statementswas appropriate.  See Note 9 to theconsolidated condensed financial statements.**

 

Therewas no change in the Company’s internal control over financial reporting duringthe fiscal quarter to which this report relates that has materially affected,or is reasonably likely to materially affect, the Company’s internal controlover financial reporting.

 

Subsequentto such quarter end, the Company effected a change in its internal control overfinancial reporting (as defined in Rule13a-15(f) under the Exchange Act) to remediate internal control deficienciesrelated to the application of our lease accounting policies and practices thatled to the restatement noted herein. As further discussed in Note 9 to theconsolidated condensed financial statements, the Company has corrected itslease accounting practices to amortize leasehold improvements over the shorterof the term of the related lease (generally five years) or the asset’s usefuleconomic life.  For tenant improvementallowances and rent holidays, the Company now records a deferred rent liabilityand amortizes the deferred rent over the terms of the leases as reductions torent expense.  In addition, the Companynow recognizes straight-line rent expense (including any rent adjustment duringthe lease term) over a period that includes the pre-opening period. The Companyhas implemented additional review processes over its leasing arrangements toensure the collection and communication of information necessary for the properaccounting for each lease in accordance with generally accepted accountingprinciples.

 

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PART II - OTHER INFORMATION

 

**Item 1.**             LegalProceedings 

** **

**The information in Note 7 tothe Consolidated Condensed Financial Statements contained in Part I, Item 1 ofthe Form 10-Q is incorporated herein by this reference.**

 

**Item2.**             Unregistered Sales of Equity Securities and Use of Proceeds

 

**Shares ofCommon Stock repurchased by the Company during the quarter ended February 26,2005 were as follows:**

 
| **Period**      | ** ** | **Total  Number of  Shares  Purchased** | ** ** | **Average  Price  Paid per  Share** | ** ** | **Total  Number of  Shares  Purchased as  Part of Publicly  Announced  Plans or  Programs** | ** ** | **Maximum  Number  of Shares  that May Yet Be  Purchased Under  the Plans or  Programs** | ** ** |
|-----------------|------------|-----------------------------------------|------------|-------------------------------------|------------|---------------------------------------------------------------------------------------------|------------|------------------------------------------------------------------------------------------|------------|
|            |       |                                    |       |                                |       |                                                                                        |       |                                                                                     |       |
| December        |       |                                    |       |                                |       |                                                                                        |       |                                                                                     |       |
| 11/28/04-1/1/05 |       | —                                  |       | $                                   | —     |                                                                                        | —     |                                                                                     | 2,221,700  |   |
|            |       |                                    |       |                                |       |                                                                                        |       |                                                                                     |       |
| January         |       |                                    |       |                                |       |                                                                                        |       |                                                                                     |       |
| 1/2/05-1/29/05  |       | —                                  |       | $                                   | —     |                                                                                        | —     |                                                                                     | 2,221,700  |   |
|            |       |                                    |       |                                |       |                                                                                        |       |                                                                                     |       |
| February        |       |                                    |       |                                |       |                                                                                        |       |                                                                                     |       |
| 1/30/05-2/26/05 |       | 578,800                                 |       | $                                   | 33.15      |                                                                                        | 578,800    |                                                                                     | 1,642,900  |   |
| Total           |       | 578,800                                 |       | $                                   | 33.15      |                                                                                        | 578,800    |                                                                                     | 1,642,900  |   |

 

**During the years ended August 28,2004 and August 30, 2003 the Company purchased in the open market 5.6million and 2.2 million shares, respectively, at a cost of $176.7 million and$65.9 million, respectively.  During thesecond quarter ended February 26, 2005, the Company purchased in the openmarket 578,800 shares of the Company’s Common Stock at a cost of $19.2 million,leaving 1.6 million shares authorized to be purchased.  Shares purchased under the share repurchaseauthorization are held in treasury and currently a portion of such shares arereissued under the Family Dollar 2000 Outside Directors Plan.  There is no expiration date governing theperiod during which the Company can make share repurchases.  There are no other repurchase programs underwhich the Company is authorized to repurchase outstanding shares.**

 

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Item 4.             Submission of Matters to a Vote of Security Holders

 

**At the Annual Meeting ofStockholders of the Company held January 20, 2005, stockholders voted to:**

** **

**(a)**                                  Elect to the Board of Directors of the Company the sevennominees named in the Proxy Statement for the Annual Meeting as follows:

 
| **Nominee**             | ** ** | **Shares  Voting For** | ** ** | **Shares Withholding  Authority to Vote** | ** ** |
|-------------------------|------------|------------------------|------------|-------------------------------------------|------------|
| Howard R.  Levine       |       | 153,110,463            |       | 3,272,208                                 |       |
| George R.  Mahoney, Jr. |       | 153,362,318            |       | 3,020,353                                 |       |
| Mark R.  Bernstein      |       | 114,971,713            |       | 41,410,958                                |       |
| Sharon  Allred Decker   |       | 125,560,649            |       | 30,822,022                                |       |
| Edward C.  Dolby        |       | 154,544,008            |       | 1,838,663                                 |       |
| Glenn A.  Eisenberg     |       | 154,588,532            |       | 1,794,139                                 |       |
| James G.  Martin        |       | 125,544,677            |       | 30,837,994                                |       |

 

**(b)**                                 Approve an amendment to the Company’s 1989 Non-QualifiedStock Option Plan to amend the term and vesting provisions applicable tocertain outstanding awards of options upon an optionee’s retirement, with141,347,224 shares voted for, 13,985,940 against and 1,049,495 sharesabstaining.

** **

**(c)**                                  Ratify the action of the Audit Committee of the Board ofDirectors in appointing PricewaterhouseCoopers LLP as independent registeredpublic accountants to audit the consolidated financial statements of theCompany and its subsidiaries for the year ending August 27, 2005, with154,271,745 shares voted for, 592,266 shares against and 1,518,657 abstaining

** **

**There were no brokernon-votes on the matters presented and no abstentions with respect to theelection to the Board of Directors.**

** **

**Item5.**             Other Information

** **

**On April 7, 2005, theCompany issued a news release with respect to the reporting of sales for thefive-week period ended April 2, 2005, and the current plan for sales incomparable stores for the four-week period ending April 30, 2005.  A copy of the news release is attached heretoas Exhibit 99 and is incorporated herein by reference.**

 

**Item6.**             Exhibits

 

(a)                                  Exhibitsfiled herewith:

 

31.1                           Certificationof Principal Executive Officer Pursuant to Rules 13a-14(a) and 15d-14(a) underthe Securities Exchange Act of 1934, as adopted pursuant to Section 302 ofthe Sarbanes-Oxley Act of 2002

 

31.2                           Certificationof Principal Financial Officer Pursuant to Rules 13a-14(a) and 15d-14(a) underthe Securities Exchange Act of 1934, as adopted pursuant to Section 302 ofthe Sarbanes-Oxley Act of 2002

 

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32.1                           Certificationof Principal Executive Officer Pursuant to 18 U.S.C. Section 1350 asadopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002

 

32.2                           Certificationof Principal Financial Officer Pursuant to 18 U.S.C. Section 1350 asadopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002

 

99                                    NewsRelease dated April 7, 2005

 

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PART II - OTHER INFORMATION

 

SIGNATURES

 

 

Pursuantto the requirements of the Securities Exchange Act of 1934, the registrant hasduly caused this report to be signed on its behalf by the undersigned thereuntoduly authorized.

 

 
|                     | FAMILY DOLLAR STORES, INC. |                                  |
|--------------------------|----------------------------|---------------------------------------|
|                     | (Registrant)               |                                  |
|                     |                       |
|                     |                       |                                  |
| Date: April 7, 2005 |                       |                                  | /s/  R. James Kelly |   |
|                     |                       | R. JAMES KELLY                        |
|                     |                       | Vice Chairman-Chief Financial Officer |
|                     |                       |                                  |
|                     |                       |                                  |
| Date: April 7, 2005 |                       |                                  | /s/  C. Martin Sowers |   |
|                     |                       | C. MARTIN SOWERS                      |
|                     |                       | Senior Vice President-Finance         |
|                          |                            |                                       |  |  |  |  |

 

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