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UNITED STATES
SECURITIES AND EXCHANGE COMMISSIONWashington, D.C. 20549

FORM 10-K

|(Mark One)                                |                                                                                          
|----------------------------------------- | -----------------------------------------------------------------------------------------
|ý                                         | ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934     
|For the fiscal year ended January 5, 2003
|OR                                       
|o                                         | TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE- ACT OF 1934
|For the transition period from
 to       

Commission file number 0-24548

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MOVIE GALLERY, INC.(Exact name of registrant as specified in its charter)

|Delaware(State or other jurisdiction of
incorporation or organization)                                     |  | 63-1120122(IRS Employer Identification No.)
|---------------------------------------------------------------------------------------------------------- |  | -------------------------------------------
|900 West Main Street, Dothan, Alabama(Address of principal executive offices)                              |  | 36301(Zip code)                            
|(334) 677-2108(Registrant's Telephone Number, including Area Code)                                        
|Securities registered pursuant to Section 12(b) of the Act: None                                          
|Securities registered pursuant to Section 12(g) of the Act:
Common Stock, $.001 par value
(Title of class)

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Indicate
by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the
preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past
90 days. Yes ý    No o

Indicate
by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of
registrant's knowledge, in definitive proxy statement or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K.  o

Indicate
by check mark whether the registrant is an accelerated filer (as defined in Rule 12b-2 of the
Act). Yes ý    No o

The
aggregate market value of the common stock held by non-affiliates of the registrant as of July 7, 2002, was approximately $481,242,686, assuming solely for
purposes of this calculation that all directors and executive officers of the registrant and all stockholders beneficially owning more than 10% of the registrant's common stock are "affiliates." This
determination of affiliate status is not necessarily a conclusive determination for other purposes.

The
number of shares of common stock outstanding on March 17, 2003, was 32,129,238 shares.

Documents
incorporated by reference:

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The exhibit index to this report appears on page 37.

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ITEM 1.    BUSINESS

Our Company

We are the leading home video specialty retailer primarily focused on rural and secondary markets. We own and operate 1,809 retail stores, located in 43 states
and seven Canadian provinces, that rent and sell videocassettes, DVDs and video games. Our target markets are small towns and suburban areas of cities with populations generally between 3,000 and
20,000 where our primary competitors are typically independently owned stores and small regional chains. Since our initial public offering in August 1994, we have grown from 97 stores to our
present size through acquisitions and new store openings.

We
believe we are the lowest cost operator among the leading national home video specialty retail chains. We have developed and implemented a flexible and disciplined business strategy
that centers on driving revenue growth, maximizing store level productivity and profitability and minimizing operating costs. By focusing primarily on rural and secondary markets we are able to reduce
our operating costs through lower rents, flexible leases, reduced labor costs and economies of scale while simultaneously offering a large product assortment. We compete directly with the two largest
chains in our industry in approximately one-third of our store locations.

As
a result of our competitive strengths, our operating and growth strategies and our management team, we have achieved substantial growth over the past seven fiscal years. From fiscal
1995, the first full year of operations following our initial public offering, to fiscal 2002, we have grown total revenues from $149.2 million to $529.0 million, a compound annual
growth rate of 19.8%, and have grown Adjusted EBITDA (earnings before interest, taxes, depreciation and amortization, non-cash compensation and nonrecurring items, less purchases of rental
inventory, exclusive of new store opening inventory) from $8.8 million to $82.3 million, a compound annual growth rate of 37.7%. For a reconciliation of Adjusted EBITDA to operating
income, see Part II, Item 6 of this Form 10-K.

Movie
Gallery, Inc. was incorporated in Delaware in June 1994. Substantially all of our operations are conducted through our wholly-owned subsidiaries, M.G.A., Inc.,
and M. G. Midwest, Inc. Our executive
offices are located at 900 West Main Street, Dothan, Alabama 36301, and our telephone number is (334) 677-2108.

Industry Overview

Home Video Industry

Size and Growth.According to Adams Media Research, the domestic home video industry grew from an estimated
$15.3 billion in revenue in 1996 to $22.2 billion in 2002, representing a 6.4% compound annual growth rate, exceeding the 2.3% growth rate of the Consumer Price Index during the same
period. Adams Media expects this industry to reach $30.1 billion in revenue by 2007, fueled primarily by DVD penetration. At the end of 2002, approximately 90% of all television households
owned a VCR and approximately 36% owned a DVD player. According to Adams Media, the number of households owning DVD players is expected to increase from approximately 38.8 million at the end of
2002 to over 75 million by 2007. Based on our experience, we believe that for a period of time after a household purchases a DVD player, there is an increase in both rentals and purchases.

Trends.The home video specialty retail industry is highly fragmented and continues to experience consolidation, particularly
in the rural and secondary markets in which we operate. According to the Video Software Dealers Association, there are over 27,000 domestic stores in our industry. Further, the three largest video
store chains account for approximately 9,000 stores, or 33% of total domestic stores, with an estimated 56% of the total rental market share. The remaining 67% of total stores are comprised of
independent operators, small chains and other rental outlets. We believe that the home video specialty retail industry will continue to consolidate into regional and national chains. Over the

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past several years, the combination of increased product offerings, economies of scale, access to capital and improved marketing efforts have solidified the positions of the largest retail chains
versus independent operators and undercapitalized second-tier regional chains.

Interdependence of Movie Studios and Home Video.Historically, new technologies, including the development of the VCR and,
more recently, DVD, have led to the creation of additional distribution channels for movie studios beyond the traditional movie theater arena. Movie studios seek to maximize their revenue from
distribution channels by releasing movies in sequential release date "windows" to the various movie distribution channels. The order of distribution of movies is currently: (1) movie theaters;
(2) home video, which includes home video specialty retailers such as Movie Gallery and other distribution channels for packaged media such as mass merchant retailers;
(3) pay-per-view, which
includes newer video-on-demand ("VOD") technologies; and (4) all other sources, including cable and syndicated television. Most movie studios release hit movie titles to
the home video market from 30 days to 60 days prior to the pay-per-view release date. We believe that this window of release from the movie studios is indicative
of the importance of the home video retail channel to the overall profitability of movie studios and other independent movie suppliers. We also believe that because the sequential release method has
allowed movie studios to increase their overall revenues, movie studios will continue the practice of sequential release even as VOD becomes more readily available to consumers.

According
to industry sources, home video is currently the largest single source of domestic revenue for the movie studios, accounting for over half of the domestic studio revenue in
2002. Only a small percentage of the movies produced are profitable from the studios' portion of the theatrical box office receipts. As a result, the movie studios depend on the revenues earned from
the home video industry to produce substantial revenues from not only the hit movies, but the lower grossing non-hit and made-for-video movies.

Product Pricing.The home video retail channel is comprised of both rentals and sales of videocassettes and DVDs. Movie
studios attempt to maximize revenues primarily through three standard pricing strategies designed to influence the relative levels of movie rentals versus sales:



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Video Game Industry

According to industry reports, domestic sales of video game software increased to approximately $6.0 billion in 2002 from approximately $4.6 billion
in 2001. Domestic sales of video game hardware were estimated at $4.2 billion in 2002 versus $3.7 billion in 2001. These increases were primarily attributable to sales of Microsoft Xbox
and Nintendo GAMECUBE hardware and software which were released in the fourth quarter of 2001, as well as continued sales of Sony PlayStation 2 hardware and software which was released in the fourth
quarter of 2000.

The
video game industry is characterized by the short lifecycles of hardware and software due to the rapid changes that tend to occur in technology. Growth in this industry is driven by
increases in the installed base of video game hardware systems and is dependent upon the introduction of new hardware platforms and continued improvement in systems technology leading to the
development of new game titles. At the end of 2002, the installed base of video game hardware systems in the United States was estimated at approximately 28.3 million Sony PlayStation units,
18.1 million Nintendo 64 units, 15.9 million Sony PlayStation 2 units, 4.6 million Microsoft Xbox units and 3.6 million Nintendo GAMECUBE units, representing a cumulative
increase in the installed base from the end of 2001 of approximately 24%. We expect the video game industry to continue to grow as a result of significant technological advancements made in the last
few years. These advancements allow for more flexibility and creativity in software development, as well as the introduction of hardware with the potential to offer capabilities beyond gaming, such as
DVD and compact disc play and backward compatibility of game software.

Competitive Strengths

Primary Focus on Rural and Secondary Markets.We aim to locate newly built stores in small towns or suburban areas of cities
with populations typically between 3,000 and 20,000 where we can be the market leader. We believe our focus on smaller markets allows us to achieve a higher return on invested capital than we would
obtain in larger urban markets because of the reduced level of competition, lower operating costs and our expertise in operating in rural and secondary markets. Our principal competitors are single
store and small chain operators with smaller advertising budgets than ours, limited inventory breadth and depth and less access to capital than we have. As a result, we believe we are the leader in
the majority of our markets.

We
believe our market focus also delays competition arising from new technologies such as VOD. We expect that the rural and secondary markets in which we operate are likely to be among
the last markets to build the infrastructure necessary to support VOD. The typical plant upgrades required to deliver VOD are costly, and as a result, cable and digital subscriber line operators have
pursued development in higher density areas where they can achieve better returns on invested capital.

Low Cost Operator.We believe that we are a low cost operator in each of our markets. In 2002, our average initial investment
to build new stores was approximately $135,000 per store. This

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investment included leasehold improvements, fixtures, signage and inventory (net of payables). We have developed a strategy to minimize operating expenses that includes:



Flexible and Disciplined Business Model.We have a flexible and disciplined business model designed to maximize our revenues
and reduce our costs. The components of our business model include:



Proven Acquisition Strategy.From 1994 to 1996, we grew from 97 stores to over 860 stores, primarily as a result of an
aggressive acquisition strategy. Beginning in 1999, we reinitiated our opportunistic acquisition strategy. From the beginning of fiscal 1999 through March 17, 2003, we acquired 780 stores in 54
separate transactions. Acquired stores are rapidly integrated into our operations with minimal disruption. Typically, we are able to increase revenue and cash flow in our acquired stores due to our
product purchasing practices and economies of scale. The average cost of converting an acquired store to the Movie Gallery format is minimal and consists primarily of expenditures related to new
signage, implementing our point of sale system and minor remodeling. We believe there are opportunities to continue to improve results in some of our recently acquired locations.

Proprietary Information Systems to Drive Revenue and Enhance Profitability.We compete with other home video specialty
retailers to provide our customers with a broad selection of movies and video games for rental at the lowest price. To help us manage our inventory in the most profitable manner, we have developed
proprietary management information systems and a point of sale system for our stores designed to enable us to optimize inventory levels, monitor customer purchase patterns and selection preferences,
as well as provide comparative revenue and profitability data on a daily basis. We believe these capabilities enable us to efficiently aggregate and manage our existing and new rental inventory as
well as reallocate rental inventory and adjust our merchandising selection to meet the specific product selection requirements of individual stores or markets.

Focus on Customer Service.We view the personal interaction of our employees with our customers as an integral part of our
organizational culture and point of differentiation from our competitors. We believe that our culture, together with our established training programs for our hourly employees, store managers and
field management, results in a superior customer experience and higher

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visit frequency. As part of our customer service initiatives, we maintain a database of over 5 million active customers that captures pertinent customer preferences and purchase history, and
enables our store associates to provide our customers with useful product rental guidance and offer suggestive selling reminders. We believe providing prompt, friendly and knowledgeable service helps
us ensure higher levels of customer satisfaction and customer loyalty.

Experienced Management Team.Our executive management team has demonstrated an ability to grow our business profitably
through both new store openings and acquisitions. We have a highly experienced executive management team with an average of 13 years in home video specialty retailing and an average of
10 years with us in an industry that is only approximately 20 years old. We believe this continuity has allowed us to deliver a consistent offering for our customers and in turn generate
high levels of customer loyalty.

Growth Strategy

The key objective of our growth strategy is to increase market share in our existing and new markets. The key elements of our growth strategy are:

Driving Same Store Revenues and Enhancing Operating Margins.We focus on continuous improvement of same store revenues and
profit growth through:



Developing New Stores in Attractive Markets.We believe that the transferability of our standardized retailing format, which
can be adapted easily for a variety of locations, and our record of successfully opening stores provide us with a strong foundation for expansion through new store development. Although developed
stores generally require approximately one year for revenues to reach the level of mature stores, they typically become profitable within the first six months of operation and produce a positive
return on investment within 24 to 30 months. We believe there are more than 4,000 markets available for further potential development that fit our typical market profile. We currently expect to
open between 175 and 200 new stores in 2003 and, subject to market and industry conditions, to continue to open new stores on a similar pace over the next several years.

Pursuing Opportunistic Acquisitions.We believe that growth through acquisitions is attractive because:



In
evaluating potential acquisition candidates, we consider a number of factors, including:



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We
believe that there is continued opportunity for growth through acquisitions given the existing industry fragmentation and because we believe that we are currently the most active
acquirer in a majority of our target markets.

The
following table is a historical summary showing store openings, acquisitions and store closings since the beginning of fiscal 1999:

|                              |  | Fiscal Year Ended |  |      
|----------------------------- |  | ----------------- |  | -----
|
|New store openings            |  | 53                |  | 110  
|Stores acquired               |  | 131               |  | 16   
|Stores closed                 |  | 58                |  | 69   
|                              |  |                   |  |      
|Total stores at end of period |  | 963               |  | 1,020
|                              |  |                   |  |      

Acquisition of Video Update.Effective December 21, 2001, we acquired 100% of the newly issued common
stock of the reorganized Video Update under its plan of reorganization which was confirmed by the United States Bankruptcy Court on December 20, 2001. Video Update had been operating under
Chapter 11 of the United States Bankruptcy Code since its voluntary bankruptcy filing on September 18, 2000. The acquisition of the newly issued common stock of Video Update was in satisfaction
of all amounts owed to us by Video Update under a $6.5 million debtor-in-possession financing agreement. In addition, we purchased senior secured debt of Video Update in
May 2001 for $8.5 million, funded amounts due to secured and unsecured creditors in accordance with confirmation of the plan of reorganization totaling approximately $6.3 million,
and assumed other post-bankruptcy filing liabilities of Video Update totaling approximately $20.4 million. During 2002 we converted all Video Update stores
to our point-of-sale system, implemented Movie Gallery operating procedures and began external sign conversions, which will be substantially completed as of the end of the
first quarter of fiscal 2003.

Products

We offer a wide selection of movies and video games for rent and sale. Our goal is to stock each store with a product assortment tailored to that store. In fiscal
2002, our revenues by product category were as follows:



In
each of fiscal 2000 and fiscal 2001, revenues from movie rentals represented 75% of our total revenue.

Depending
upon location, our stores offer from 4,000 to 20,000 movies and from 200 to 1,000 video games for use with most video game platforms. New release movies are displayed
alphabetically and older titles are displayed alphabetically by category, such as "Action," "Comedy," "Drama" and "Children." Video games are displayed alphabetically by platform.

From
2000 to 2002, we significantly increased our DVD inventory. Additionally, during the first quarter of 2003 we purchased approximately $7 million in DVD catalog titles to
supplement our existing VHS catalog inventory. Because of the ease of use and durability of DVDs, it is anticipated that eventually DVDs will replace videocassettes. The acquisition costs of DVD
hardware have reached

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levels competitive with the VCR and it is estimated that as of the end of 2002, approximately 36% of domestic television households had DVD hardware. In the near term, we believe we will be able to
continue to expand our DVD offerings at attractive pricing levels comparable to sell-through movies. For the fourth quarter of fiscal 2002, DVD rental revenue represented approximately 40%
of our total movie rental revenue, versus approximately 18% in the fourth quarter of fiscal 2001.

In
2001, we significantly increased our video game inventory by expanding our selection of available titles for the 32-bit and 64-bit platforms. In 2002 we have
continued to support these platforms while also purchasing video game inventory for the newer 128-bit platforms, Sony's PlayStation 2, Microsoft's Xbox and Nintendo's GAMECUBE. The Sony
PlayStation 2 was the leading platform within our stores and generated over 40% of our game revenue in 2002. We will continue to monitor the performance of the 128-bit platforms and intend
to make future inventory investments accordingly. In addition to video games, we offer basic video game hardware accessories in many of our stores and we rent and sell video game hardware in a select
base of stores.

We
review our store inventory on an ongoing basis for movies and games that have not rented for a period of time and offer these previously viewed products for sale.

Store Operations

As of March 17, 2003, we operated a total of 1,809 retail stores located in 43 states and seven Canadian provinces.

We
maintain a flexible store format, tailoring the size, inventory and look of each of our stores to local demographics. Our stores generally range from approximately 2,000 to 9,000
square feet, averaging approximately 4,600 square feet, with inventories generally ranging from approximately 4,000 to 20,000 movies and 200 to 1,000 video games.

Store
interiors are designed to create a visually appealing, up-beat ambiance using bright lighting, vibrant graphics and carpet and coordinating signage. The inviting
atmosphere is augmented by a background of television monitors displaying MGTV, a customized video program which plays movie previews and promotions of coming attractions, and by posters and
stand-up displays promoting specific movie titles. Movies are arranged in attractive display boxes organized into categories by topic, except for new releases, which are assembled
alphabetically in their own section for ease of selection by customers. Our stores are generally open seven days a week, from 10:00 a.m. to 11:00 p.m. on weekends and from
10:00 a.m. to 10:00 p.m. on weekdays.

Each
of our stores typically employs five to 14 hourly, part-time associates and one full-time store manager. Store Managers report to District Managers,
who supervise the operations of 10 to 15 stores. The District Managers report to one of 16 Regional Managers, who report directly to one of two Zone
Vice Presidents. The Zone Vice Presidents report directly to our Executive Vice President of Operations. We have increased the number of District Managers and Regional Managers over time as necessary
to support our growth. The support center staff has regular meetings with the Regional Managers and District Managers to review operations. Compliance with our policies, procedures and regulations is
monitored on a store-by-store basis through exception-based reporting systems and quarterly quality assurance audits performed by District Managers and members of our training
department. The performance and accuracy of the quarterly District Manager audits is monitored by our support operations team.

Site Selection

We continuously search for appropriate markets in which to develop new stores. In selecting sites for new stores, we use an evaluation process designed to enhance
our return on investment by focusing on lease terms, demographics, population density, traffic volume, store-front visibility and presence,

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ease of access and economic development in the market area. We also review the location of competitive stores and customer activity at those stores.

We
develop both freestanding stores and stores located in strip centers anchored by major grocery or discount drug store chains. Lease terms are a critical element in our site selection
process. In negotiating lease agreements and lease renewals, we attempt to obtain short lease terms and favorable options to extend terms. As a result, we have the flexibility necessary to react to
changing demographics, competition and other market conditions. To date, we have not experienced difficulty in obtaining favorable leases or renewals at market rates in suitable locations. The current
average remaining life of our leases is approximately 3 years with over 400 leases considered for renewal each year.

We
actively pursue relocation opportunities to adapt to changes in customer shopping patterns and retail market shifts. We regularly review the profitability and prospects of each of our
stores and evaluate whether any underperforming stores should be closed or relocated to more desirable locations. The cost of closing a unit is minimal and usable inventory, signage, fixtures and
equipment is transferred to existing or new locations.

Marketing and Advertising

We use market development funds, cooperative allowances from our suppliers and movie studios, and internal funds to purchase radio, direct mail and newspaper
advertising, in-store visual merchandising and in-store media. Through the use of market development funds, our trade name is promoted along with a video or game title.
Creative copy is prepared by us in conjunction with the movie studios and is placed by our in-house media buyers in the appropriate medium. We also prepare a monthly consumer
magazine, Video Buzz, and a customized video program, MGTV, both of which feature Movie Gallery programs, promotions and new releases. Along with these traditional forms of advertising, we have
developed and implemented a customer loyalty program,Reel Players.The program is based on a point system that provides customers the opportunity to
earn free rentals and other incentives.

From
time to time we conduct trivia games designed to drive customer visits. For example, in 2002 we entered into a promotional partnership with The Coca-Cola
Company®, the National Association for Stock Car Auto Racing, Inc. (NASCAR®) and the Richard Petty Driving Experience relating to a
scratch-and-win/collect-and-win movie trivia game.

To
date, our expenditures for advertising in excess of the allowances from our suppliers and movie studios have been less than 1% of annual revenues.

E-Commerce

In 1999, we developed a consumer-oriented web site,www.moviegallery.com,to sell new and used movies and used
video games. We designed our web site to serve our customers and complement our store operations by providing movie news and reviews and information on upcoming new rental releases, as well as general
information about our company, press releases and SEC filings of interest to stockholders and potential investors. Since inception, we have not invested significant amounts of capital in our
e-commerce business. In 2002, we decided to re-focus the retail sales functions of the web site back into our stores and continue to maintain the web site for customer service
and investor information use. We did not incur any costs associated with the modifications to this business.

Studio and Distribution Relationships

We negotiate the majority of our movie purchases directly with movie studios through revenue sharing and other direct purchase arrangements. The movies are
delivered directly to our stores by third-party distributors. These distributors function largely as fulfillment agents. We pay distributors a

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flat fulfillment fee for packing and shipping product directly to our stores. Because of our direct relationships with the studios, we believe that if one of our distributors were unable or unwilling
to satisfy their commitment to us, a viable alternative, such as self-distribution, could be implemented without materially adversely impacting our business.

Several
companies acquired by us prior to 1997 had pre-existing long-term contracts with Rentrak Corporation under which product would be provided under
pay-per-transaction revenue sharing arrangements. During late 1996, we consolidated existing contracts with Rentrak into one national
agreement. Under this agreement, which expires in September 2006, we have a minimum gross annual purchase commitment in revenue sharing, handling fees, sell-through fees and
end-of-term buyouts equal to less than 3% of our annual product requirements. We utilize Rentrak on a selective title-by-title basis and have exceeded
the minimum purchase requirements in each year since 1996.

We
currently source our video game inventory from third-party distributors.

Inventory Management and Distribution Facility

Inventory Management.We are committed to offering as many copies and the widest variety of new releases as is necessary to
be competitive within a market, while at the same time keeping our costs as low as possible. New videocassettes and DVDs offered for sale are primarily hit titles promoted by the studios for
sell-through, as well as special interest and children's titles and seasonal titles related to particular holidays. Videocassettes, DVDs and video games utilized as initial inventory in
our newly developed stores consist of excess copies of older titles and new release titles from existing stores, supplemented as necessary by purchases directly from suppliers.

New
release movie and game products are allocated to individual stores through a system that considers the revenue levels and customer demographic profiles of each store. Rental history
on movie titles is captured for each store and used as a comparison point for future titles of a similar genre.

Distribution Facility.Inventory for newly developed stores is assimilated at our processing and distribution facility
located in Dothan, Alabama. Excess inventory in existing stores is gathered and supplemented as needed with purchases, and the inventory is then shipped to our new store ready for use. Our
distribution facility is also used to ship store supplies, computer supplies and marketing materials to our stores, process returns to our suppliers and to stock balance inventory within our chain of
stores.

Management Information Systems

Our stores utilize a proprietary point of sale system. Our point of sale system provides detailed information on store operations, including the rental history of
titles and daily operations for each store, which is telecommunicated to our support center on a daily basis. Our point of sale system is installed in all developed stores prior to opening and in
acquired stores shortly after the closing of an acquisition.

Our
point of sale system records all rental and sale information upon customer checkout using scanned bar code information and updates the information when the movies and video games are
returned. Our point of sale system is linked to a management information system at our support center. Our point of sale system transmits store data nightly into the management information system
where all data is processed. The management information system then generates reports that allow management to effectively monitor store operations and inventory, to review rental history by title and
location and to assist in making purchasing decisions with respect to new releases. Our point of sale system enables us to perform our monthly physical inventory using bar code recognition, to process
human resource information and to provide system-based training modules.

We
also maintain a financial reporting system, relating to the general ledger, human resources/payroll, revenue and accounts payable functions, capable of handling our current needs and
anticipated growth. Additional proprietary systems which have been internally developed and implemented include a collections system, a processing/distribution center system and various other database
systems and auditing systems.

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Competition

The home video specialty retail industry is highly competitive. We compete with other home video specialty stores, including stores operated by regional chains
and by the other two largest national chains, Blockbuster and Hollywood Entertainment. From time to time, the two larger national chains have discussed the implementation of a rural strategy that is
focused more on the rural and secondary markets we predominately serve. Retail pricing strategies for videocassettes, DVDs and video games are a major competitive factor in the home video specialty
industry and we have fewer financial and marketing resources, lower market share and less name recognition than the two larger national chains. We also compete with other businesses offering
videocassettes, DVDs and video games such as mass merchants, supermarkets, pharmacies, convenience stores, bookstores, online stores, mail order operations (such as Netflix) and other retailers, as
well as noncommercial sources, such as libraries. We believe the principal competitive factors in the home video specialty retail industry are store location and visibility, title quality,
availability and selection, rental period, customer service and pricing.

In
addition to competing with other home video specialty retailers, we compete with all forms of entertainment, such as movie theaters, network and cable television, direct broadcast
satellite television, personal video recorders, Internet related activities, live theater, sporting events and family entertainment centers. We believe our most significant competition outside of the
home video specialty retail industry is cable and satellite television. The expanded number of channels and programming offered by these providers could result in the rental of fewer videocassettes
and DVDs by consumers.

We
also compete with pay-per-view in which cable or satellite subscribers pay a fee to view a movie. New and recently introduced technologies, such as VOD, enable
cable companies and other telecommunication companies to broadcast a large assortment of movies to homes at scheduled intervals throughout the day. Although VOD services previously offered a limited
number of channels and movies at scheduled intervals, developing technologies are enabling providers to transmit substantially more movies directly to homes at more frequently scheduled and convenient
intervals throughout the day. Pay-per-view purchases could significantly increase if VOD services were to become more convenient, widely available and accepted. Further
improvements in VOD and other technologies, including personal video recorders, could lead to the availability of a broad selection of movies on demand at a price that is competitive with the price of
movie rentals and with the functionality of VHS and DVD.

Studios
are also experimenting with limited play DVDs that would enable users to view a movie from a DVD any number of times within a certain time frame, such as one week, before
automatically erasing
its contents. These DVDs have not yet been fully developed or embraced by any movie studios. We believe movie studios have a significant interest in maintaining a viable movie rental business because
the sale of movies to video retail stores and other home video outlets currently represents the studios' largest source of domestic revenue. In addition, we believe VOD does not represent a
near-term threat to our business because:



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Seasonality

There is a distinct seasonal pattern to the home video business. Compared to other months during the year, we experience peak revenues during the months of
November, December and January due to the holidays in these months as well as inclement weather conditions. Additionally, revenues generally rise in the months of June, July and August when most
schools are out of session, providing people with additional discretionary time to spend on entertainment.

Intellectual Property

We own a number of U.S. and Canadian service mark registrations, including the marks MOVIE GALLERY and VIDEO UPDATE.

Foreign Operations

For disclosure of financial information by geographic area, refer to Note 10 to our consolidated financial statements included in Part II, Item 8 of
this Form 10-K.

Employees

As of March 17, 2003, we employed approximately 14,500 persons, referred to by us as "associates," including approximately 14,000 in retail stores and the
remainder in our support center, field management staff and distribution facility. Of our retail associates, approximately 2,000 were full-time and 12,000 were part-time. None
of our associates are represented by a labor union and we believe that our relations with our associates are good.

Throughout
the last year, we have developed internal hiring, training and retention programs designed to enhance consistent and thorough communication of our operating policies and
procedures as well as increase the rate of internal promotions.

We
have an incentive and discretionary bonus program under which retail management associates receive quarterly bonuses when stores meet or exceed criteria established under the program.
Additionally, we have periodic sales and marketing programs which provide our associates opportunities to earn incremental bonus compensation based on relative performance to
pre-established goals and to actual performance of some of our associates. We believe our bonus programs reward excellence in management, give associates an incentive to improve
operations, and result in an overall reduction in the cost of operations. In addition, certain associates are eligible to receive bonuses, based on individual and overall company performance, and
options to purchase shares of our common stock, generally exercisable at the fair market value on the date of grant, subject to service requirements.

Available Information

The address of our internet website iswww.moviegallery.com. Through links on the Investor Relations portion of
our website, we make available free of charge our annual report on Form 10-K, quarterly reports on Form 10-Q and current reports on Form 8-K,
and any amendments to those reports, filed or furnished pursuant to Section 13(a) or 15(d) of the Securities Exchange Act of 1934. Such material is made available through our website as soon as
reasonably practicable after we electronically file or furnish the material with the SEC.

Cautionary Statements

This annual report on Form 10-K contains forward-looking statements within the meaning of Section 27A of the Securities Act of 1933, as
amended, and Section 21E of the Securities Exchange Act of 1934, as amended, which represent our expectations or beliefs about future events and financial performance. Forward-looking
statements are identifiable by the fact that they do not relate strictly to

12

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historical information and may include words such as "believe," "anticipate," "expect," "intend," "plan," "will," "may," "estimate" or other similar expressions and variations thereof. In addition,
any statements that refer to expectations, projections or other characterizations of future events or circumstances are forward-looking statements. Our forward-looking statements are based on
management's current intent, belief, expectations, estimates and projections regarding our company and our industry. Forward-looking statements are subject to known and unknown risks and
uncertainties, including those described below. In light of these risks, uncertainties and assumptions, the forward-looking events discussed in this Form 10-K might not occur. In
addition, actual results could differ materially from those suggested by the forward-looking statements, and therefore you should not place undue reliance on the forward-looking statements. We
undertake no obligation to publicly update or revise any forward-looking statements, whether as a result of new information, future events or otherwise. We desire to take advantage of the "safe
harbor" provisions of the Private Securities Litigation Reform Act of 1995 and in that regard we caution the readers of this Form 10-K that the following important factors, among
others, could affect our actual results of operations and may cause changes in our strategy with the result that our operations and results may differ materially from those expressed in any
forward-looking statements made by us, or on our behalf.

We may be unable to successfully implement our growth strategy

Our long-term strategy is to grow through new store openings and acquisitions of existing stores. Successful implementation of this strategy is
contingent upon numerous conditions, and we cannot assure you that our business plan can be successfully executed. We require significant capital to acquire existing stores and to open new stores. To
date, our growth strategy has been funded primarily through proceeds from public offerings of common stock, bank borrowings, internally generated cash flow, use of our common stock as acquisition
consideration and seller financing. These and other sources of capital, including public or private sales of debt or equity securities, may not be available to us in the future on terms satisfactory
to us or at all.

New Store Openings.Our ability to open new stores as planned, and the profitability of these new stores, may be adversely
affected by a number of factors, including:



If
we do not grow as planned, our earnings could be negatively impacted.

Our
planned growth may result in increased pressure on our management and operations. We continuously review and modify our financial controls and management information systems. There
are no assurances that we will be able to anticipate and respond to, in a timely and sufficient manner, the potential changing demands this expansion could have on our operations and business.

In
addition, our growth strategy contemplates the opening of new stores in markets in which we do not currently operate. Accordingly, there are no assurances that these new stores will
realize revenue or profitability levels comparable to those of our current stores, or that such levels will be achieved within our estimated time frames.

Acquisitions.Our ability to acquire stores and operate them at the desired levels of sales and profitability may be
adversely affected by:

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Our business could be adversely affected by increased competition

From time to time, the two larger chains in our industry have discussed the implementation of a rural strategy that is focused more on the rural and secondary
markets we predominately serve. Therefore, we cannot assure you that the two larger chains in our industry will not become a more significant competitive force in our markets. Pricing strategies for
movies and video games are a major competitive factor in the video retail industry and we have fewer financial and marketing resources, lower market share and less name recognition than the two larger
chains.

In
addition, there is no guarantee that smaller regional chains, supermarkets, pharmacies, convenience stores, bookstores, online stores, mail order operations (such as Netflix), mass
merchants, franchisees, specialty retailers and other retailers, as well as noncommercial sources, such as libraries, will not develop an increased market share of the home video retail industry in
the markets we serve. Other types of entertainment, such as theaters, television, personal video recorders, Internet related activities, sporting events and family entertainment centers, also compete
with our video and video game businesses. If any of our competitors were to substantially increase their presence in the markets we serve, our revenues and/or profitability could decline, our
financial condition, liquidity and results of operations could be harmed and the continued success of our business would be challenged.

Our business could be adversely affected if we lost key members of our executive management team

We are highly dependent on the efforts and performance of our executive management team. If we were to lose any key members of this team, our business could be
adversely affected. You should read the information under "Directors and Executive Officers" for a detailed description of our executive management team.

Our business could be adversely affected by the failure of our management information systems to perform as expected

We depend on our management information systems for the efficient operation of our business. Our merchandise operations use our inventory utilization system to
track rental activity by individual VHS, DVD and video game to determine appropriate buying, distribution and disposition of our inventory. We also rely on a scalable client-server system to maintain
and update information relating to revenue, rental and sales activity, VHS, DVD and video game rental patterns, store membership demographics and individual customer history. These systems, together
with our point-of-sale and in-store systems, allow us to control our cash flow, keep our in-store inventories at optimum levels, move our inventory more
efficiently and track and record our performance. If our management

14

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information systems failed to perform as expected, our ability to manage our inventory and monitor our performance could be adversely affected, which, in turn, could harm our business and financial
condition.

Our financial results could be adversely affected if we are unable to manage our merchandise inventory effectively

The increase in our merchandise inventory has increased our risks associated with inventory management, obsolescence and theft. Our operating results could suffer
if we are unable to:



Our business could be negatively impacted if movie studios significantly alter the movie distribution windows

Studios distribute movies in a specific sequence in order to maximize studio revenues on each title they release. The order of distribution of movies is
currently: (1) movie theaters; (2) home video retailers; (3) pay-per-view; and (4) all other sources, including cable and syndicated television. Our
industry has an
early "window" that is exclusive of most other forms of non-theatrical movie distribution as noted above. The length of the movie rental window varies, but typically ranges between 30 and
60 days. We cannot be certain that movie studios will maintain this exclusive window in the future. We could be adversely affected if the movie studios shorten or eliminate these exclusive
windows, or if the movie rental windows were no longer among the first windows following the theatrical release, because newly released movies would be made available earlier through other forms of
non-theatrical movie distribution. As a result, consumers would no longer need to wait until after the home video distribution window to view these movies through other distribution
channels.

Our business may be negatively impacted by new and existing technologies

New Technologies.New technologies, including VOD, streaming movies over the internet and single-play DVDs,
represent a material risk to our company and the home video specialty retail industry. VOD is intended to afford subscribers the luxury of watching, at any time of the day, any movie included in a
list of titles maintained by the VOD provider. Consumers may prefer alternative movie delivery systems such as VOD over traditional video rentals or purchases if such alternative systems were to allow
the consumers to conveniently choose, watch and control movies at any time of the day, if the alternative systems were able to be provided at a reasonable price and if new releases were made available
simultaneously with, or prior to, their availability for rental at the video stores. Single-play DVDs are programmed to stop working after a limited time of use, such as one week, during
which time the movie can be viewed an unlimited number of times. Although this technology is still being developed, it has not been adopted by any studios and is as yet unproven. However, certain
studios have announced that they are exploring the use of this technology. We could see a significant negative impact to our financial position and survival if these technologies are widely accepted
by consumers.

Existing Technologies.Cable, satellite and pay-per-view television systems are expected to continue
to increase and expand offerings to consumers. The cable and satellite television systems offer movie channels, which require a subscription fee for access to movies selected by the provider at times
selected by the provider, and VOD services, which require a discrete fee to view a movie selected by the subscriber. VOD, cable and satellite services allow consumers to avoid trips to the video store
for movie rentals and returns, and remove the possibility of their incurring extended viewing fees. Although

15

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VOD services previously offered a limited number of channels and movies at scheduled intervals, developing technologies are enabling cable, satellite, internet service providers and others to
transmit substantially more movies directly to homes at more frequently scheduled and convenient intervals throughout the day. Pay-per-view purchases could significantly
increase if VOD services were to become more convenient, widely available and accepted, which could adversely affect our business. If consumers more widely accept satellite and digital cable and/or
VOD services, they may rent fewer movies from us in favor of the expanded number of channels and expanded programming offered through these existing technologies.

Our business could be adversely affected if studios initially price a significant number of new movie releases as sell-through products and
consumers decide to purchase rather than rent movies

Historically, studios have priced a number of movies they distribute at "rental" pricing, which is typically too high a price to generate significant consumer
demand to purchase these movies. At times, the studios determine that consumers are more likely to purchase certain titles, and therefore price these titles at a lower price. This pricing method is
known as sell-through pricing. While relatively few VHS titles have been historically released at sell-through prices, substantially all titles currently released on DVD are
priced at sell-through prices. As DVD continues to penetrate the market, the mix of rental versus sell-through priced movie product is shifting more to sell-through
pricing. Sell-through priced movies are purchased to rent by home video specialty retailers and to sell by both home video specialty retailers and mass merchants, among others.
Sell-through retail margins are generally lower than rental margins. Some of our competitors, such as online stores, mass merchants and warehouse clubs, may operate at margins lower than
ours and are able to distribute and sell movies at lower price points than us. These competitors may even be willing to sell movies below cost due to their broad inventory mix. Further decreases in
studio sell-through pricing and/or sustained or further depressed pricing by competitors could result in increased consumer desire to purchase rather than rent movies and could result in
increased competition. If we are not able to derive most of our revenues from our higher margin rental business, our profit levels would be adversely impacted and we may not be able to compete with
our competitors for the consumer's sell-through dollar.

Our business could be adversely impacted if movie studios negatively altered revenue sharing programs

Prior to studio revenue sharing programs and the advent of DVD, we would typically pay between $35 and $65 per videocassette for major theatrical releases not
priced as sell-through titles. Under studio revenue sharing programs we are able to pay a minimal up-front cost per videocassette and thereafter pay a percentage of each
revenue dollar earned for a specified period of time to the studios. We currently utilize these types of programs on a significant number of VHS and DVD movie releases. These programs have enabled us
to significantly increase the number of copies carried for each title, thereby enabling us to better meet consumer demand. After a specified period of time, we offer them for sale to our customers as
"previously viewed movies" at lower prices than new copies of the movie. We could be adversely affected if these programs are changed to give the movie studios a greater percentage of each revenue
dollar or if they are discontinued. Further, some of our agreements may be terminated on short notice.

Our expected gross margins may be adversely affected if the average sales price for our previously viewed product is not at or above an expected price

We earn rental revenues from video rentals and from the sale of previously viewed movies to the public. We need to sell previously viewed movies at an expected
price in order to reach our estimated gross margins. Our estimated gross margins may be adversely affected if the number of rents we expect to generate does not materialize or if the average sales
price for previously viewed movies is not at or above the expected price.

16

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A
consumer's desire to own a particular movie and the number of previously viewed movies available for sale to the public by our competitors are factors that affect our ability to sell
previously viewed movies at the expected price. Additionally, sales of previously viewed movies also compete with newly released videos that are priced for sell-through. As a result, there
are no assurances that we will be able to sell an appropriate quantity of previously viewed movies at or above the expected price.

The video store industry could be adversely affected by conditions impacting the motion picture industry

The availability of new movies produced by the movie studios is vital to our industry. The quality and quantity of new movies available in our stores could be
negatively impacted by factors that adversely affect the motion picture industry, such as financial difficulties, regulatory requirements and work disruptions involving key personnel such as writers
or actors. A decrease in the quality and quantity of new movies available in our stores could result in reduced consumer demand, which could negatively impact our revenues and harm our business and
financial position.

Our business could be adversely affected if video game software and hardware manufacturers do not introduce new products in a timely manner

The video game industry is characterized by the significant impact on consumer spending that accompanies the introduction of new game software and hardware
platforms. Retail spending in the video game industry typically grows rapidly with the introduction of new platforms but declines considerably prior to the release of new platforms. Consumer demand
for video games available in our stores could be adversely affected if manufacturers fail to introduce new games and systems in a timely manner. A decline in consumer demand for video games available
in our stores could negatively affect our revenues and harm our business and financial position.

Piracy of the products we offer may adversely affect our results of operations

The development of the Internet and related technologies increases the threat of piracy by making it easier to duplicate and widely distribute pirated content. We
cannot assure you that movie studios and others with rights in the product will take steps to enforce their rights against Internet piracy or that they will be successful in preventing the
distribution of pirated content. Technological developments and advances of products such as at-home DVD burners also may increase piracy of movies and games. Increased piracy could
negatively affect our revenues and results of operations.

The value of our securities may be affected by variances in our quarterly operating results that are unrelated to our long-term performance

Historically, our quarterly operating results have varied and we anticipate that they will vary in the future. Factors that may cause our quarterly operating
results to vary, many of which are not in our control, include:



17

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The market price for our common stock may fluctuate substantially

Future developments concerning our business, our competitors or the home video specialty retail industry, including fluctuations in our operating results, the
introduction of new products, the performance of other similar companies, changes in financial estimates by financial analysts or our failure to meet these estimates and other factors, could have a
significant impact on the market price of our common stock. In addition, in recent years the stock market has experienced a high level of price and volume volatility, and market prices for the stock
of many companies have experienced wide fluctuations that have not necessarily been related to the operating performance of these companies. Since our initial public offering our stock price has
experienced significant volatility. These broad market fluctuations could have a material adverse effect on the market price of our common stock, business, results of operations or financial
condition.

In
addition, historically, companies that have experienced market price volatility have been the target of securities class action litigation. We could incur significant costs and our
management's time and resources could be diverted from the operation of our business if we were the target of a securities class action litigation.

Terrorism, war or other acts of violence could have a negative impact on our stock price or our business

Terrorist attacks, such as the attacks that occurred in New York and Washington, D.C. on September 11, 2001, as well as the on-going war in
Iraq or other acts of violence and civil unrest in the nation and throughout the world could influence the financial markets and the economy. Consumers' television viewing habits may be altered as a
result of these events such that the demand for home video entertainment is reduced. These factors could have a negative impact on our results of operations or our stock price.

Directors and Executive Officers

The following table sets forth the name, age and position held by each of our executive officers and directors, as of March 17, 2003:

|Name                      |  | Age |  | Position(s) Held                                            
|------------------------- |  | --- |  | ------------------------------------------------------------
|J. T. Malugen(1)          |  | 51  |  | Chairman of the Board, President and Chief Executive Officer
|H. Harrison Parrish(1)    |  | 55  |  | Vice Chairman of the Board and Senior Vice President        
|J. Steven Roy             |  | 42  |  | Executive Vice President and Chief Financial Officer        
|Jeffrey S. Stubbs         |  | 40  |  | Executive Vice PresidentOperations                         
|S. Page Todd              |  | 41  |  | Senior Vice President, Secretary and General Counsel        
|Sanford C. Sigoloff(2)(3) |  | 72  |  | Director                                                    
|Philip B. Smith(2)(3)     |  | 67  |  | Director                                                    
|William B. Snow(1)(2)(3)  |  | 71  |  | Director                                                    

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Mr. Malugen
co-founded Movie Gallery in 1985 and has been our Chairman of the Board and Chief Executive Officer since that time. Mr. Malugen was appointed
President effective January 4, 2002. Prior to our initial public offering in August 1994, Mr. Malugen had been a practicing attorney in the states of Alabama and Missouri since
1978, but spent a majority of his time managing the operations of Movie Gallery beginning in early 1992. Mr. Malugen received a B.S. degree in Business Administration from the University of
Missouri-Columbia, his J.D. from Cumberland School of Law, Samford University and his LL.M. (in Taxation) from New York University School of Law.

Mr. Parrish
co-founded Movie Gallery in 1985 and has served as a Director since that time. He was elected Vice Chairman of the Board in June 2002.
Mr. Parrish served as President of Movie Gallery from 1985 until his resignation on January 4, 2002, at which time Mr. Parrish assumed the position of Senior Vice President. From
December 1988 until January 1992, Mr. Parrish was Vice President of Deltacom, Inc., a regional long distance telephone provider. Mr. Parrish received a B.A. degree
in Business Administration from the University of Alabama.

Mr. Roy
was elected Senior Vice PresidentFinance and Principal Accounting Officer in June 1995, was elected Chief Financial Officer in May 1996 and was
elected Executive Vice President in March 1998. Mr. Roy was an accountant with the firm of Ernst & Young LLP for the 11 years prior to joining Movie Gallery. Mr. Roy
was recently elected to serve as director and audit committee chairman of SunSouth Bank, a community bank based in southeast Alabama. Mr. Roy is a Certified Public Accountant and received a
B.S. degree in Business Administration from the University of Alabama.

Mr. Stubbs
was elected Executive Vice PresidentOperations in April 2001 after serving as Senior Vice PresidentOperations since
November 1997. He joined Movie Gallery in November 1995 and served as Regional Manager over Texas, Louisiana and Mississippi. Prior to joining Movie Gallery, Mr. Stubbs served as
Vice President and General Manager of A.W.C. Corporation, a video specialty and restaurant retailer in east Texas, from 1987 to 1995. He has an additional eight years experience in grocery and
convenience store management. Mr. Stubbs attended Texas A & M University and graduated from Southwest Texas State University, where he received a B.B.A. degree in Business Administration
and Marketing.

Mr. Todd
was elected Senior Vice President, Secretary and General Counsel in December 1994. Prior to joining Movie Gallery, he had been an attorney practicing tax and
corporate law in Dothan, Alabama. Mr. Todd received a B.S. degree in Business Administration from the University of Alabama, his J.D. from the University of Alabama School of Law and his LL.M.
(in Taxation) from New York University School of Law.

Mr. Sigoloff
became a director of Movie Gallery in September 1994. Since 1989, Mr. Sigoloff has been Chairman of the Board, President and Chief Executive Officer of
Sigoloff & Associates, Inc., a management consulting company. In August 1989, LJ Hooker Corporation, a client of Sigoloff & Associates, Inc., appointed
Mr. Sigoloff to act as its Chief Executive Officer during its reorganization under Chapter 11 of the United States Bankruptcy Code. From March 1982 until 1988, Mr. Sigoloff was
Chairman of the Board, President and Chief Executive Officer of Wickes Companies, Inc., one of the
largest retailers in the United States. In addition, Mr. Sigoloff is an adjunct full professor at the John E. Anderson Graduate School of Management at the University of California at Los
Angeles.

Mr. Smith
became a director of Movie Gallery in September 1994. Mr. Smith is serving as Vice Chairman of the Board of Laird & Co., LLC and IQ
Ventures, Inc., merchant banks. In addition, from 1991 until August 1998, Mr. Smith served as Vice Chairman of the Board of Spencer Trask Securities Incorporated, an investment
banking firm. Mr. Smith is a founding General Partner of Lawrence Venture Associates, a venture capital limited partnership headquartered in New York City. From 1981 to 1984, he served as
Executive Vice President and Group Executive of the worldwide corporations group at Irving Trust Company. Prior to joining Irving Trust Company, he was at Citibank for 15 years,

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where he founded Citicorp Venture Capital as President and Chief Executive Officer. Since 1988 he has also been the managing general partner of Private Equity Partnership, L.P. Mr. Smith is a
director of several private companies.

Mr. Snow
served as Vice Chairman of the Board from July 1994 until June 2002, and he served as Chief Financial Officer from July 1994 until May 1996.
Mr. Snow was the Executive Vice President and Chief Financial Officer and a Director of Consolidated Stores Corporation, a publicly held specialty retailer, from 1985 until he retired in
June 1994. Mr. Snow is a Certified Public Accountant, and he received his Masters in Business Administration from the Kellogg Graduate School of Management at Northwestern University and
his Masters in Taxation from DePaul University.

Directors
are elected to serve until our next annual meeting of stockholders or until their successors are elected and qualified. Officers serve at the discretion of our Board of
Directors, subject to any contracts of employment. Non-employee directors receive an annual fee of $20,000, a fee of $1,000 for each Board meeting attended and a fee of $500 for each
committee meeting attended. We have granted vested options to purchase shares of our common stock to each of the non-employee directors, in each case at or above the fair market value of
the common stock on the date of grant.

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ITEM 2.    PROPERTIES

Stores.Substantially all of our retail stores are leased. Our new store leases typically provide for an initial lease term
of three to seven years, with at least one renewal option for an additional one to three years. The following table provides information regarding the number of stores we operated in each state or
province as of March 17, 2003:

United States:Alabama

165Florida

124Texas

108Georgia

106Ohio

103Virginia

100Missouri

70S. Carolina

67Arkansas

66Indiana

64N. Carolina

64Tennessee

63Pennsylvania

59Kentucky

48Maine

48Mississippi

46Minnesota

44Oklahoma

39Wisconsin

32Illinois

25Iowa

21New York

19Washington

19Massachusetts

18Kansas

17Michigan

17New Hampshire

17Connecticut

15Louisiana

15Nebraska

12New Mexico

12W. Virginia

9Arizona

7Colorado

7Idaho

6South Dakota

6Alaska

5Nevada

4Vermont

3New Jersey

1Oregon

1Rhode Island

1Utah

1Total United States

1,674Canada:British Columbia

57Alberta

52Ontario

10Manitoba

8Saskatchewan

6Nova Scotia

1Yukon

1Total Canada

135TOTAL

1,809


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Headquarters and Distribution Facility.Our corporate headquarters and inventory distribution facility are located in an
approximately 90,000 square foot building in Dothan, Alabama which we own. We are also leasing approximately 30,000 square feet of off-site warehouse space for supply distribution and
record storage in Dothan.

ITEM 3.    LEGAL PROCEEDINGS

We were a defendant in one putative class action lawsuit in Alabama,Sable Denise Mack, et. al. v.
M.G.A., Inc.,filed on December 8, 2000 in the Circuit Court of Tuscaloosa County, Alabama; one putative class action lawsuit filed on August 17, 2001 in
the 71st Judicial District Court, Harrison County, Texas,Shannon Thompson, et. al. v. M.G.A., Inc.;and one putative class action
lawsuit filed on December 3, 2001, in the Chancery Court of Fayette County, Tennessee,Michael McCullar, et al. v. Movie Gallery, Inc., et
al.Each of these lawsuits alleged, on behalf of a nationwide class of all customers, that the extended viewing fees we charged our customers for keeping our rental products
beyond the initial rental period were penalties in violation of common law and equitable theories. The dollar amounts that plaintiffs sought in each of the foregoing three putative class action
lawsuits was not set forth in the complaints.

In
April 2002, we obtained a court order preliminarily approving a settlement agreement between us and the plaintiffs in the Tennessee case, by which we agreed to settle claims of
all of the members of the nationwide class of customers. Under the terms of the settlement agreement, we were required to give class members certificates with values ranging from $9 to $16, redeemable
between January 30, 2003 and June 30, 2003, for movie rentals, game rentals, and non-food purchases in our stores. We also agreed to pay the plaintiffs' attorneys up to
$850,000 in fees. A fairness hearing regarding this settlement was held on November 22, 2002. At this hearing, the court determined that the settlement was fair, and the court approved the
terms of the settlement. The settlement released all claims made by all class members in all the pending class actions, other than ade minimisnumber
of members who chose not to participate in the settlement. The court's order approving the settlement has become final and non-appealable. We are currently implementing the terms of the
settlement.

We
incurred a one-time charge to our earnings of approximately $4 million in the second quarter of 2002, as a result of the settlement agreement described above, which
amount includes $850,000 of plaintiffs' attorneys' fees.

In
addition, we are involved in litigation in the ordinary course of our business, none of which, if decided adversely to us, individually or in the aggregate, would be material to our
business or results of operations.

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

None.

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PART II

ITEM 5.    MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS

Our common stock is listed on the Nasdaq National Market under the symbol "MOVI." The prices shown below are the high and low closing prices for our common stock
as reported on the Nasdaq National Market for the fiscal periods indicated.

|               |  | High |       | Low
|-------------- |  | ---- | ----- | ---
|2002:          |  |      |       |    
|Fourth Quarter |  | $    | 18.56 |    
|Third Quarter  |  |      | 18.95 |    
|Second Quarter |  |      | 21.20 |    
|First Quarter  |  |      | 17.17 |    
|2001:          |  |      |       |    
|Fourth Quarter |  |      | 18.93 |    
|Third Quarter  |  |      | 14.82 |    
|Second Quarter |  |      | 8.04  |    
|First Quarter  |  |      | 3.26  |    

On
March 17, 2003, the last sale price of our common stock as reported on the Nasdaq National Market was $17.12 per share. As of March 17, 2003, we had approximately 9,100
stockholders, including 56 stockholders of record.

We
currently do not expect to pay any cash dividends on our common stock and plan to retain our earnings to finance operations, future growth and acquisitions. The payment of dividends
on our common stock will be at the discretion of our board of directors and must comply with applicable law. In addition, the terms of our senior credit facility prohibit us from paying dividends
without the prior written consent of our bank lender. Any decisions to pay dividends in the future will depend on a number of factors, including potential changes in tax laws related to dividends, our
financial condition, capital requirements, future business prospects, the terms of any documents governing our indebtedness and other factors that our board of directors deems relevant.

ITEM 6.    SELECTED FINANCIAL DATA

The following table sets forth our historical consolidated financial data. We prepared this information using our audited consolidated financial statements for
each of the five fiscal years ended January 5, 2003. In addition to the information provided below, you should read our consolidated financial statements and notes thereto and "Management's
Discussion and Analysis of Financial Condition and Results of Operations" included in Part II, Item 7 of this Form 10-K. The selected historical consolidated financial
data do not necessarily indicate the results to be expected in the future.

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|                                                                                                 |                                                                                    | Fiscal Year Ended(1) |        
|------------------------------------------------------------------------------------------------ | ---------------------------------------------------------------------------------- | -------------------- | -------
|
|
|Statements of Operations Data:                                                                   |                                                                                    |                      |        
|Revenues:                                                                                        |                                                                                    |                      |        
|                                                                                                 | Rentals                                                                            |                      | $      
|                                                                                                 | Product sales                                                                      |                      |        
|                                                                                                 |                                                                                    |                      |        
|Total revenues                                                                                   |                                                                                    |                      | 267,633
|Cost of sales:                                                                                   |                                                                                    |                      |        
|                                                                                                 | Cost of rental revenues                                                            |                      |        
|                                                                                                 | Cost of product sales                                                              |                      |        
|                                                                                                 |                                                                                    |                      |        
|Gross margin                                                                                     |                                                                                    |                      | 124,697
|Operating costs and expenses:                                                                    |                                                                                    |                      |        
|                                                                                                 | Store operating expenses                                                           |                      |        
|                                                                                                 | General and administrative                                                         |                      |        
|                                                                                                 | Amortization of intangibles                                                        |                      |        
|                                                                                                 | Stock option compensation(6)                                                       |                      |        
|                                                                                                 |                                                                                    |                      |        
|Operating income (loss)                                                                          |                                                                                    |                      | (30,840
|Interest expense, net                                                                            |                                                                                    |                      | (5,325 
|                                                                                                 |                                                                                    |                      |        
|Income (loss) before income taxes, extraordinary item and cumulative effect of accounting change |                                                                                    |                      | (36,165
|Income taxes                                                                                     |                                                                                    |                      | (13,089
|                                                                                                 |                                                                                    |                      |        
|Income (loss) before extraordinary item and cumulative effect of accounting change               |                                                                                    |                      | (23,076
|Extraordinary loss on early extinguishment of debt                                               |                                                                                    |                      |       
|Cumulative effect of accounting change                                                           |                                                                                    |                      |       
|                                                                                                 |                                                                                    |                      |        
|Net income (loss)                                                                                |                                                                                    | $                    | (23,076
|                                                                                                 |                                                                                    |                      |        
|Basic earnings (loss) per share:                                                                 |                                                                                    |                      |        
|                                                                                                 | Income (loss) before extraordinary item and cumulative effect of accounting change |                      | $      
|                                                                                                 | Extraordinary loss on early extinguishment of debt                                 |                      |        
|                                                                                                 | Cumulative effect of accounting change                                             |                      |        
|                                                                                                 |                                                                                    |                      |        
|Net income (loss) per sharebasic                                                                |                                                                                    | $                    | (0.77  
|                                                                                                 |                                                                                    |                      |        
|Diluted earnings (loss) per share:                                                               |                                                                                    |                      |        
|                                                                                                 | Income (loss) before extraordinary item and cumulative effect of accounting change |                      | $      
|                                                                                                 | Extraordinary loss on early extinguishment of debt                                 |                      |        
|                                                                                                 | Cumulative effect of accounting change                                             |                      |        
|                                                                                                 |                                                                                    |                      |        
|Net income (loss) per sharediluted                                                              |                                                                                    | $                    | (0.77  
|                                                                                                 |                                                                                    |                      |        
|Weighted average shares outstanding:                                                             |                                                                                    |                      |        
|                                                                                                 | Basic                                                                              |                      |        
|                                                                                                 |                                                                                    |                      |        
|                                                                                                 | Diluted                                                                            |                      |        
|                                                                                                 |                                                                                    |                      |        
|Balance Sheet Data (at end of period):                                                           |                                                                                    |                      |        
|Cash and cash equivalents                                                                        |                                                                                    | $                    | 6,983  
|Rental inventory, net                                                                            |                                                                                    |                      | 44,998 
|Total assets                                                                                     |                                                                                    |                      | 202,369
|Long-term debt, less current maturities                                                          |                                                                                    |                      | 46,212 
|Stockholders' equity                                                                             |                                                                                    |                      | 124,115
|Other Data:                                                                                      |                                                                                    |                      |        
|Number of stores at end of period                                                                |                                                                                    |                      | 837    
|Average revenues per store(7)                                                                    |                                                                                    | $                    | 317    
|Adjusted EBITDA(8)                                                                               |                                                                                    | $                    | 37,378 
|Increase in same store revenues(9)                                                               |                                                                                    |                      | 3.9    

---

24

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|                                                                         |  | Fiscal Year Ended |        
|------------------------------------------------------------------------ |  | ----------------- | -------
|
|Operating income (loss)                                                  |  | $                 | (30,840
|Rental inventory amortization and non-cash cost of rental inventory sold |  |                   | 113,314
|Depreciation and intangibles amortization                                |  |                   | 19,750 
|Stock option compensation                                                |  |                   |       
|Legal settlement                                                         |  |                   |       
|Supply contract amendment                                                |  |                   |       
|Purchases of rental inventory                                            |  |                   | (66,073
|New store rental inventory purchases                                     |  | $                 | 1,227  
|                                                                         |  |                   |        
|Adjusted EBITDA                                                          |  | $                 | 37,378 
|                                                                         |  |                   |        

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ITEM 7.    MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

Results of Operations

The following table sets forth, for the periods indicated, statements of income data and Adjusted EBITDA expressed as a percentage of total revenue. Results for
fiscal 2001 reflect a 53-week year.

Statements of Income Data:

|                              |                             | Fiscal Year Ended |     
|----------------------------- | --------------------------- | ----------------- | ----
|
|Revenues:                     |                             |                   |     
|                              | Rentals                     |                   | 92.3
|                              | Product sales               |                   | 7.7 
|                              |                             |                   |     
|Total revenues                |                             | 100.0             |     
|Cost of sales:                |                             |                   |     
|                              | Cost of rental revenues     |                   | 29.5
|                              | Cost of product sales       |                   | 6.0 
|                              |                             |                   |     
|Gross margin                  |                             | 64.5              |     
|Operating costs and expenses: |                             |                   |     
|                              | Store operating expenses    |                   | 48.2
|                              | General and administrative  |                   | 7.8 
|                              | Amortization of intangibles |                   | 2.3 
|                              | Stock option compensation   |                   |    
|                              |                             |                   |     
|Operating income              |                             | 6.2               |     
|Interest expense, net         |                             | (1.2              | )   
|                              |                             |                   |     
|Income before income taxes    |                             | 5.0               |     
|Income taxes                  |                             | 2.0               |     
|                              |                             |                   |     
|Net income                    |                             | 3.0               | %   
|                              |                             |                   |     
|Adjusted EBITDA               |                             | 12.5              | %   
|                              |                             |                   |     

Fiscal year ended January 5, 2003 (a 52-week year) compared to the fiscal year ended January 6, 2002 (a 53-week
year)

Revenue.For fiscal 2002, total revenues increased 43.3% to $529.0 million from
$369.1 million in fiscal 2001. The increase for the year was due primarily to a 3.2% increase in same store revenues and a 45.5% increase in the average number of stores operated during fiscal
2002 versus fiscal 2001. The increase in same store revenues was the result of: (i) continued growth of DVD rental and sales revenue; (ii) increases in the sales of previously viewed
movies and previously played games; (iii) higher video game rental revenues driven by growth in the video game industry and consumer acceptance of new platforms released late in 2001; and
(iv) a favorable new movie release schedule in fiscal 2002 versus fiscal 2001. The revenue increase was partially offset by (i) a significant decline in rental revenue from VHS product
due to the continued consumer transition to DVD; (ii) unfavorable weather during the first half of 2002 as compared to the first half of 2001; (iii) the broadcast of the Winter Olympics
during the first quarter of 2002; and, (iv) an extra week of revenues (totaling approximately $10.0 million) in fiscal 2001.

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In
the first quarter of 2002, we began reporting the sale of previously viewed rental inventory as rental revenue and the related cost as cost of rental revenue. The sales and costs
associated with previously viewed rental inventory were previously reported as product sales and cost of product sales, respectively. The sales and costs of previously viewed rental inventory in prior
periods have been reclassified to conform to the current year presentation for comparative purposes. The reclassifications had no impact on total revenues, gross margins or net income as previously
reported. Additionally, the non-cash cost (unamortized book value) of previously viewed rental inventory sold has been reclassified on the statement of cash flows to be reported with
rental inventory amortization. These costs were previously netted against purchases of rental inventory as investing activities in the statement of cash flows. The current presentation is more
consistent with the classification of these costs in the income statement and discloses the gross rental inventory purchases, before the write-off of previously viewed inventory sold, on
the face of the statement of cash flows. The amounts reclassified on the statements of cash flows for fiscal 2000 and 2001 are as follows (in thousands):

|               |  | 2000 |        | 2001
|-------------- |  | ---- | ------ | ----
|First Quarter  |  | $    | 2,605  |     
|Second Quarter |  |      | 2,392  |     
|Third Quarter  |  |      | 2,428  |     
|Four Quarter   |  |      | 4,193  |     
|               |  |      |        |     
|               |  | $    | 11,618 |     
|               |  |      |        |     

Cost of Sales.The gross margin on rental revenue for fiscal 2002 was 66.4%, versus 68.7% in fiscal 2001. The cost of rental
revenues includes the amortization of rental inventory, revenue sharing expenses incurred and the cost of previously viewed rental inventory sold. The decrease in the gross margin on rental revenue
was primarily due to a change in our amortization policy for rental inventory during the fourth quarter of fiscal 2002 (see Note 1 to our consolidated financial statements) and the initial
investment in our game expansion program that took place in order to provide significant copy depth of all game platforms in our stores. The decrease was partially offset by (i) the increasing
shift of movie rentals from VHS to DVD, which currently has a lower cost structure than VHS and (ii) the purchase price allocation of Video Update that produced lower than normal rental
inventory amortization in the first half of 2002.

Cost
of product sales includes the costs of new videocassettes and DVDs, concessions and other goods sold. The gross margin on product sales increased to 21.8% for fiscal 2002 from 18.2%
in fiscal 2001. The increase in profitability of product sales was due to the decreased level of lower margin, new movies available for sale in the first half of 2002 versus 2001, coupled with deep
discounts of certain new sales merchandise in the first quarter of 2001 to diminish levels of slow moving inventory. However, the gross margin on product sales for the fourth quarter of fiscal 2002
reflects an expected trend of reduced margins due to our increased commitment to offer more new movies for sale.

Operating Costs and Expenses.Store operating expenses, which include store-level expenses such as lease payments and
in-store payroll, increased to 48.0% of total revenue for fiscal 2002 from 46.4% in fiscal 2001. The increase in store operating expenses as a percentage of total revenue was primarily due
to a higher cost structure associated with the 324 Video Update stores acquired in December 2001 and the benefits in fiscal 2001 of an extra week of revenues. The increase was offset partially
by: (i) continued initiatives to reduce operating costs; (ii) strong performance of new stores; (iii) continued closure of under-performing units; and (iv) the same store
revenues increase of 3.2% in fiscal 2002.

General
and administrative expenses as a percentage of revenue decreased to 7.8% in fiscal 2002 from 7.9% in fiscal 2001. General and administrative expenses include a legal settlement
charge of $4.0 million in the second quarter of 2002 regarding our extended viewing fee policy and a charge of $1.6 million related to an amendment of our supply agreement with Rentrak
Corporation in the first

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quarter of 2001. These two items substantially offset the decrease in general and administrative expenses as a percentage of revenue which was achieved by leveraging general and administrative
expenses against the increased revenues associated with the growth in our store base.

Amortization
of intangibles as a percentage of total revenue for fiscal 2002 was 0.2%, a decrease from 1.8% in fiscal 2001. This decrease was due to goodwill no longer being amortized
pursuant to the adoption of FASB Statement No. 142,Goodwill and Other Intangible Assets,as of the beginning of fiscal 2002.

Stock
option compensation expense represents the non-cash charge associated with certain stock options that were repriced during the first quarter of fiscal 2001 and are
subsequently accounted for as variable stock options under FASB Interpretation No. 44,Accounting for Certain Transactions involving Stock Compensation, an
interpretation of APB Opinion No. 25(see Note 7 to our consolidated financial statements).We expect to continue
to record adjustments to income from stock option compensation in future periods.

Interest
expense includes fees for the unused borrowings available under our credit facility and amortization of the associated debt issue costs, as well as the costs of any outstanding
borrowings under our credit facility, net of interest income. Interest expense as a percentage of total revenue decreased to 0.2% in fiscal 2002 from 0.8% in fiscal 2001. The decrease was primarily
due to the repayment of all outstanding debt in May 2002.

As
a result of the impact of the above factors on revenues and expenses, operating income increased by 32.1% in fiscal 2002 to $35.9 million from $27.2 million in fiscal
2001. The increase includes the benefit of lower stock option compensation expense in fiscal 2002 and was partially offset by the legal settlement charge and the charge to amend a supply contract.

Pending
the completion of final closing tax returns for Video Update, we had net operating loss carryforwards for income taxes at January 6, 2002 resulting from the Video Update
acquisition (see Note 2 to our consolidated financial statements) of approximately $67.0 million, with an $18.4 million related valuation allowance. Based on the final 2001 tax
returns for Video Update, at January 5, 2003 the net operating loss carryforward for income taxes was adjusted to approximately $84.1 million in U.S. loss carryforwards and
$6.5 million in foreign loss carryforwards that expire in years 2007 through 2021. We have recorded a valuation allowance of $24.9 million related to our net deferred tax assets as we
are
uncertain as to whether sufficient taxable income will be generated to allow the net deferred tax assets to be fully realized.

Fiscal year ended January 6, 2002 (a 53-week year) compared to the fiscal year ended December 31, 2000 (a 52-week
year)

Revenue.For fiscal 2001, total revenues increased 15.7% to $369.1 million from $318.9 million in fiscal 2000.
The increase for the year was due primarily to a 2.7% increase in same store revenues and an 11.5% increase in the average number of stores open during fiscal 2001 versus fiscal 2000. The increase in
revenues was the result of: (i) significant increases in DVD rental revenue; (ii) an increase in the sales of previously viewed movies and previously played games;
(iii) successful, chain-wide internal marketing programs designed to generate more consumer excitement and traffic in our base of stores; (iv) a favorable new release
schedule in the last half of the year; (v) an extra week of revenues (totaling approximately $10.0 million) in fiscal 2001; and (vi) additional revenues from the Video Update
acquisition (totaling approximately $4.9 million) in fiscal 2001. The revenue increase was partially offset by (i) soft game rentals through the third quarter of fiscal 2001 due to
consumer anticipation of new game platforms being introduced late in the fourth quarter of fiscal 2001; and (ii) a decline in new movie sales as a result of the liquidation of older
sell-through titles in certain stores during fiscal 2000 and into the first quarter of fiscal 2001.

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Cost of Sales.The gross margin on rental revenue for fiscal 2001 was 68.7%, versus 68.0% in fiscal 2000. The cost of rental
revenues includes the amortization of rental inventory, revenue sharing expenses incurred and the cost of previously viewed rental inventory sold during the period. The improvement in the gross margin
on rental revenue is a result of the 2.7% increase in same store revenues and the benefit of stronger margins on DVD rentals versus VHS rentals due to the difference in purchasing models for these two
formats. The increase was achieved inclusive of a $2.1 million reserve against previously viewed VHS inventory in the fourth quarter of fiscal 2001 (see Note 1 to our consolidated
financial statements).

Cost
of product sales includes the costs of new videocassettes and DVDs, concessions and other goods sold. The gross margin on product sales decreased to 18.2% for fiscal 2001 from 22.6%
in fiscal 2000. The decrease in profitability of product sales was primarily a result of significant discounting associated with the continued liquidation of older sell-through titles and
other slow moving inventory in certain stores early in fiscal 2001.

Operating Costs and Expenses.Store operating expenses, which include store-level expenses such as lease payments and
in-store payroll, decreased to 46.4% of total revenue for fiscal 2001 from 48.2% in fiscal 2000. The decrease in store operating expenses as a percentage of total revenue was primarily due
to: (i) the same store revenues increase of 2.7% in fiscal 2001; (ii) continued initiatives to reduce operating costs; (iii) strong performance of new stores;
(iv) continued closure of under-performing units; and (v) the benefits of an extra week of revenues in fiscal 2001.

General
and administrative expenses represented 7.9% of total revenue in fiscal 2001 versus 7.8% in fiscal 2000. The increase was the result of a $1.6 million charge related to an
amendment of our supply agreement with Rentrak Corporation in fiscal 2001. The increase was substantially offset by the revenue growth (benefiting from an extra week of revenues in fiscal 2001)
achieved with only minimal increases to administrative staffing levels.

Amortization
of intangibles as a percentage of total revenue for fiscal 2001 was 1.8%, a decrease from 2.3% in fiscal 2000. This decrease was primarily due to the increase in revenue and
the expiration of significant levels of five-year non-compete agreements throughout fiscal 2000 as well as lower impairment charges in fiscal 2001 versus fiscal 2000.

Stock
option compensation expense represents the non-cash charge associated with certain stock options that were repriced during the first quarter of fiscal 2001 and are
subsequently accounted for as variable stock options under FASB Interpretation No. 44,Accounting for Certain Transactions involving Stock Compensation, an
interpretation of APB Opinion No. 25(see Note 7 to our consolidated financial statements). We expect to record adjustments to income from stock option
compensation in future periods.

As
a result of the impact of the above factors on revenues and expenses, operating income increased by 38.0% in fiscal 2001 to $27.2 million from $19.7 million in fiscal
2000. The increase was partially offset by the charge to amend a supply contract and stock option compensation expense.

General Economic Trends, Quarterly Results of Operations and Seasonality

Our business is subject to fluctuations in operating results due to a number of factors, many of which are outside of our control. These fluctuations may be
caused by, among other things:



29

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Liquidity and Capital Resources

Our primary capital needs are for opening and acquiring new stores and for purchasing inventory. Other capital needs include refurbishing, remodeling and
relocating existing stores and refreshing, rebranding and supplying new computer hardware for acquired stores. We fund inventory purchases, remodeling, rebranding and relocation programs, new store
opening costs and acquisitions primarily from cash flow from operations, proceeds from our recent common stock offering and, if necessary, loans under revolving credit facilities. At January 5,
2003, we had cash and cash equivalents of $39.5 million, no long-term debt and $64.5 million in available borrowings under our credit facility.

During
fiscal 2002 we generated approximately $82.3 million in Adjusted EBITDA, a 33.6% increase over the prior year. For fiscal 2001, our Adjusted EBITDA increased to
$61.6 million, a 54.9% increase over $39.7 million in fiscal 2000. These increases were primarily driven by the revenue increases during those periods while achieving economies of scale
within our expense structure. Adjusted EBITDA is defined as earnings before interest, taxes, depreciation and amortization, non-cash compensation and nonrecurring items, less our purchases
of rental inventory which excludes rental inventory purchases specifically for new store openings. Adjusted EBITDA is presented not as an alternative measure of operating results or cash flow from
operations (as determined in accordance with accounting principles generally accepted in the United States), but because, in the home video specialty retail industry, it is a widely accepted financial
indicator of a company's ability to incur and service debt assuming rental inventory is expensed upon purchase instead of being capitalized and amortized. Our calculation of Adjusted EBITDA is not
necessarily comparable to reported EBITDA and/or Adjusted EBITDA of other companies due to the lack of uniform definitions of EBITDA and Adjusted EBITDA. (See Selected Financial Data in
Part II, Item 6 of this Form 10-K for our calculation of Adjusted EBITDA.)

We
fund short-term working capital needs, including the purchase of rental inventory, primarily through cash flow from operations. Net cash provided by operating activities
was $186.7 million, $144.0 million and $110.8 million for fiscal 2002, 2001 and 2000, respectively. Net cash provided by operating activities continues to be sufficient to cover
rental inventory replenishment, capital resource and debt service needs.

Net
cash used in investing activities was $206.7 million, $125.2 million and $101.0 million for fiscal 2002, 2001 and 2000, respectively. The increase was due to
increased acquisition activity and increased rental inventory purchases to support a larger store base, as well as significant increases in property, furnishings and equipment resulting from increased
store activity for fiscal 2002.

Net
cash provided by financing activities was $43.4 million in fiscal 2002 resulting from the net proceeds of our stock offering, reduced by the repayment of amounts outstanding
under our credit facility. Net cash used in financing activities was $9.4 million and $9.7 million in fiscal 2001 and 2000, respectively, representing payments against our credit
facility offset by proceeds from stock option exercises in fiscal 2001 and increased by the purchase and retirement of outstanding common stock in fiscal 2000.

In
May 2002, we closed a public offering of our common stock priced at $18.25 per share. We sold 3,900,000 shares and received the proceeds from 350,000 stock options exercised in
conjunction with

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the offering for total proceeds, net of expenses of the offering, of approximately $67.6 million. A portion of the proceeds from the offering was used to repay outstanding borrowings under the
credit facility. We are currently using the balance of the proceeds from the offering for new store openings, selective acquisitions, working capital and other general corporate purposes.

On
June 27, 2001, we entered into a credit agreement with a syndicate of banks, led by SouthTrust Bank, with respect to a new revolving credit facility. Our credit facility is
unsecured and, as amended, currently provides for borrowings of up to $65 million through July 4, 2004. The interest rate on our credit facility is based on LIBOR plus an applicable
margin percentage, which depends on cash flow generation and borrowings outstanding. In December 2001, as required by the credit facility, we entered into an interest rate swap agreement in
order to hedge exposure to interest rate fluctuations on $10 million of outstanding debt at a fixed rate of 3.5% plus an applicable margin percentage. In May 2002, we repaid all amounts
outstanding under our credit facility with the proceeds from our stock offering and terminated the interest rate swap agreement. The costs to terminate the interest rate swap were expensed and were
immaterial to our results of operations.

We
grow our store base through internally developed and acquired stores. We opened 145 internally developed stores during fiscal 2002 and expect to open between 175 and 200 new stores in
2003. We acquired 265 stores during fiscal 2002. We will continue to evaluate acquisition opportunities in 2003 as they arise. To the extent available, new stores and future acquisitions may be
completed using funds available under our credit facility, financing provided by sellers, alternative financing arrangements such as funds raised in public or private debt or equity offerings or
shares of our stock issued to sellers. However, we cannot assure you that financing will be available to us on terms which will be acceptable, if at all.

Effective
December 21, 2001, we acquired 100% of the newly issued common stock of the reorganized Video Update, Inc. under its plan of reorganization which was confirmed by
the United States Bankruptcy Court on December 20, 2001. Video Update had been operating under Chapter 11 of the United States Bankruptcy Code since its voluntary bankruptcy filing on
September 18, 2000. The acquisition of the newly issued common stock of Video Update was in satisfaction of all amounts owed to us by Video Update under a $6.5 million
debtor-in-possession financing agreement. In addition, we purchased certain senior secured debt of Video Update in May 2001 for $8.5 million, funded amounts due
to secured and unsecured creditors in accordance with confirmation of the plan of reorganization totaling approximately $6.3 million, and assumed other post-bankruptcy filing
liabilities of Video Update totaling approximately $20.4 million. Video Update operated 324 video specialty stores in the United States and Canada as of the time of the acquisition. (see
Note 2 to our consolidated financial statements)

In
December 2002, our Board of Directors approved the expenditure of up to $25 million for repurchases of our common stock. We have not currently purchased any shares of
our stock under this authorization.

At
January 5, 2003, we had a working capital deficit of $33.6 million, due to the accounting treatment of rental inventory. Rental inventory is treated as a noncurrent
asset under accounting principles generally accepted in the United States because it is a depreciable asset and a portion of this asset is not reasonably expected to be completely realized in cash or
sold in the normal business cycle. Although the rental of this inventory generates the major portion of our revenue, the classification of this asset as noncurrent results in its exclusion from
working capital. The aggregate amount payable for this inventory, however, is reported as a current liability until paid and, accordingly, is included in working capital. Consequently, we believe that
working capital is not an appropriate measure of our liquidity and we anticipate that we will continue to operate with a working capital deficit.

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The
following table discloses our contractual obligations and commercial commitments as of January 5, 2003 (see Notes 5 and 8 to our consolidated financial statements):

|                                   |  | Payments Due by Period
(in thousands)
|---------------------------------- |  | -------------------------------------
|
|Credit facilityoutstanding(1)     |  | $                                    
|Operating leases                   |  |                                      
|Unconditional purchase obligations |  |                                      
|                                   |  |                                      
|Total contractual cash obligations |  | $                                    
|                                   |  |                                      

---

We
believe our projected cash flow from operations, cash on hand, borrowing capacity under our credit facility and trade credit will provide the necessary capital to fund our current
plan of operations, including our anticipated new store openings and acquisition program, through fiscal 2003. However, to fund a major acquisition, or to provide funds in the event that our need for
funds is greater than expected, or if the financing sources identified above are not available to the extent anticipated or if we increase our growth plan, we may need to seek additional or
alternative sources of financing. This financing may not be available on satisfactory terms. Failure to obtain financing to fund our expansion plans or for other purposes could have a material adverse
effect on our operating results.

Our
ability to fund our current plan of operations and our growth plan will depend upon our future performance, which is subject to general economic, financial, competitive and other
factors that are beyond our control. We cannot assure you that our business will continue to generate sufficient cash flow from operations in the future to fund capital resource needs, cover the
ongoing costs of operating the business and service any debt incurred in the future. If we are unable to satisfy these requirements with cash flow from operations and cash on hand, we may be required
to sell assets or to obtain additional financing. We cannot assure you that any such sales of assets or additional financing could be obtained.

Critical Accounting Policies

Our significant accounting policies are described in Note 1 to our consolidated financial statements. Our discussion and analysis of financial condition
and results of operations are based upon our consolidated financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States. The
preparation of the financial statements requires us to make estimates and judgments that affect the reported amounts of assets, liabilities, revenues, expenses, and related disclosure of contingent
assets and liabilities. On an on-going basis, we evaluate the estimates
that we have made. These estimates have been based upon historical experience and on various other assumptions that we believe to be reasonable under the circumstances. Actual results may differ from
these estimates under different conditions or using different assumptions. We believe our most critical accounting policies include our policies with respect to rental inventory amortization, the
recognition of extended viewing fee revenue, impairment of long-lived assets, purchase price allocation of acquired businesses and deferred income taxes.

A
major component of our cost structure is based upon the method by which we amortize our rental inventory. Rental inventory is amortized to an estimated salvage value over an estimated
useful life of up to two years. We amortize the cost of rental inventory using an accelerated method designed

32

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to approximate the rate of revenue recognition. This method is dependent upon the net realizable value of our inventory and the demand patterns of the rental products we provide. In the fourth
quarter of 2002, we made a strategic decision to make a portion of our base stock VHS rental inventory available for sale as previously viewed inventory during the holiday period. The sale of base
stock VHS rental inventory was designed to make room on our store shelves for a significant investment in base stock DVD rental inventory to arrive in stores in the first quarter of 2003. Our decision
to make this investment in base stock DVD was primarily driven by the continued growth in consumer acceptance of the DVD platform in our core markets throughout the last year. DVD rental revenue
represented approximately 50% of movie rental revenue as of the end of fiscal 2002 versus approximately 20% as of the end of fiscal 2001. As a result of the significant shift from VHS to DVD that will
occur in our rental inventory base as the new product arrives, we changed the estimates used to amortize rental inventory. The revised estimates reflect a reduction in the estimated useful lives of
the rental inventory and a reduced salvage value for both VHS and game inventory. We believe the revised estimated useful lives and salvage values are better matched to our current rental business and
are consistent with industry trends.

The
changes in our estimates for rental inventory amortization have been applied to all inventory held at October 7, 2002. The changes have been accounted for as a change in
accounting estimate during the fourth quarter ended January 5, 2003. The change in estimate decreased rental inventory and increased depreciation expense for the fiscal year ended
January 5, 2003 by approximately $27.9 million and reduced net income by $16.7 million, or $0.53 per diluted share. The impact of the change is net of a $2.1 million
reserve against rental inventory that was established in the fourth quarter of 2001 in order to reflect the impact of the consumer transition to DVD on the sale prices of previously viewed VHS
product.

We
recognize revenue from extended viewing fees that we charge our customers for keeping our rental products beyond the initial rental period on a cash basis when the extended viewing
fees are collected from the customer. If we recognized extended viewing fee revenue on an accrual basis, results of operations would reflect increased income for extended viewing fee revenue offset by
an accrual to reserve for uncollectible accounts.

We
assess the fair value and recoverability of our long-lived assets, including property, furnishings and equipment and intangible assets with finite lives, whenever events
and circumstances indicate the
carrying value of an asset may not be recoverable from estimated future cash flows expected to result from its use and eventual disposition. In doing so, we make assumptions and estimates regarding
future cash flows and other factors to make our determination. The fair value of our long-lived assets is dependent upon the forecasted performance of our business, changes in the video
retail industry, the market valuation of our common stock and the overall economic environment. When we determine that the carrying value of our long-lived assets may not be recoverable,
we measure any impairment based upon the excess of the carrying value that exceeds the estimated fair value of the assets. We have not recognized any impairment losses on long-lived assets
in fiscal 2000, 2001 or 2002. If we do not meet our operating forecasts or if the market value of our stock declines significantly, we may have to record impairment charges not previously recognized.

We
test goodwill for impairment on an annual basis. Additionally, goodwill is tested for impairment between annual tests if an event occurs or circumstances change that would more likely
than not reduce the fair value of an entity below its carrying value. These events or circumstances would include a significant change in the business climate, legal factors, operating performance
indicators, competition, sale or disposition of a significant portion of the business or other factors. We recorded impairment losses of $1,000,000, $700,000 and $0 in fiscal 2000, 2001 and 2002,
respectively. If we do not meet our operating forecasts or if the market value of our stock declines significantly, we may have to record additional impairment charges not previously recognized.

33

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We
estimate the fair value of assets and liabilities of acquired businesses based on historical experience and available information at the acquisition date. We engage independent
valuation specialists to assist when necessary. If information becomes available subsequent to the acquisition date that would materially impact the valuation of assets acquired or liabilities assumed
in business combinations, we may be required to adjust the purchase price allocation.

We
recognize deferred tax assets and liabilities based on the differences between the financial statement carrying amounts and the tax bases of assets and liabilities. We regularly
review our deferred tax assets for recoverability and establish a valuation allowance based upon historical losses, projected future taxable income and the expected timing of the reversals of existing
temporary differences. As a result of this review, we have established a valuation allowance against our deferred tax assets related to the estimated utilization of the net operating losses resulting
from the Video Update acquisition.

Related Party Transactions

We hold a one-third interest in ECHO, LLC, a supply sales and distribution company. We purchase office and store supplies and other business products
from ECHO. This relationship enables us to substantially reduce the retail mark-up that occurs between the wholesaler and the retailer. We paid ECHO approximately $422,000 and $6,422,000
during fiscal 2001 and 2002, respectively, and received distributions totaling $40,000 in fiscal 2002. We have a $125,000 outstanding line of credit due from
ECHO. We have received approximately $2,900 and $6,400 in interest on the line of credit during fiscal 2001 and 2002, respectively. We had outstanding accounts payable to ECHO of approximately $24,000
and $469,000 as of January 6, 2002 and January 5, 2003, respectively.

Air
Conditioning Associates, Inc. ("ACA") is owned by the father-in-law and brother-in-law of our Chairman of the Board, President,
and Chief Executive Officer. ACA administers the repair and maintenance function for our store base and corporate offices in addition to providing other HVAC materials and related services. We have
achieved overall cost savings under this management agreement and have improved our system for managing company-wide repair and maintenance needs. We paid ACA approximately $382,000,
$243,000 and $470,000 during fiscal 2000, 2001 and 2002, respectively. We had outstanding accounts payable to ACA of approximately $25,000 and $157,000 as of January 6, 2002 and
January 5, 2003, respectively.

J.
Todd, Inc. d/b/a Todd & Sons, is owned by the brother of our Senior Vice President, Secretary and General Counsel. Todd & Sons supplies us with certain clothing
and promotional items on an as needed basis. We have no minimum purchase requirements or contractual obligations with Todd & Sons. We paid Todd & Sons approximately $28,000, $127,000 and
$49,000 during fiscal 2000, 2001 and 2002, respectively. We had outstanding accounts payable to Todd & Sons of approximately $3,000 and $1,000 as of January 6, 2002 and January 5,
2003, respectively.

In
February 2003, we entered into a lease with MEL, LLC for approximately 3,500 square feet of retail space in an existing shopping center to relocate one of our stores in Dothan,
Alabama. Our Chairman of the Board, President and Chief Executive Officer holds a one-third interest in MEL, LLC. The initial lease term is five years with three, three-year
renewal options. The lease payments required under the initial five-year term of the lease total approximately $144,000. The terms of this lease are more favorable than the terms available
for the previous location.

Each
of these transactions is incurred in the normal course of business and purchases are pursuant to our established standard purchasing policies and practices. We believe that the
terms of all transactions described above are no less favorable than terms that could have been obtained from third parties.

34

---

Recently Issued Accounting Pronouncements

In October 2001, the FASB issued Statement No. 144,Accounting for the Impairment or Disposal of Long-Lived
Assets, which addresses financial accounting and reporting for the impairment or disposal of long-lived assets and supersedes Statement 121, Accounting for the Impairment of Long-Lived Assets and for
Long-Lived Assets to be Disposed Of, and the accounting and reporting
provisions of APB Opinion No. 30,Reporting the Results of Operations for the Effects of Disposal of a Segment of a Business.We
adopted Statement 144 as of January 7, 2002. The adoption did not have any impact on our financial position or results of operations.

In
July 2002, the FASB issued Statement No. 146,Accounting for Costs Associated with Exit or Disposal Activities. Statement
146 nullifies Emerging Issues Task Force ("EITF") Issue No. 94-3,Liability Recognition for Certain Employee Termination Benefits and Other Costs to Exit an
Activity (including Certain Costs Incurred in a Restructuring)and requires that a liability for a cost associated with an exit or disposal activity be recognized and measured
initially at fair value in the period in which the liability is incurred. Under EITF 94-3, a liability for an exit cost was recognized at the date of an entity's commitment to an exit
plan. The adoption of Statement 146 is expected to result in delayed recognition for certain types of costs as compared to the provisions of EITF 94-3. Statement 146 is effective for new
exit or disposal activities that are initiated after December 31, 2002, and does not affect amounts currently reported in our consolidated financial statements. Statement 146 will affect the
types and timing of costs included in future restructuring programs, if any, but is not expected to have a material impact on our financial position or results of operations.

In
December 2002, the FASB issued Statement No. 148,Accounting for Stock-Based CompensationTransition and
Disclosure. Statement 148 amends FASB Statement No. 123,Accounting for Stock-Based Compensation, to provide alternative
methods of transition to Statement 123's fair value method of accounting for stock-based employee compensation. Statement 148 also amends the disclosure provisions of Statement 123 and APB Opinion
No. 28,Interim Financial Reporting, to require disclosure in the summary of significant accounting policies of the effects of an entity's
accounting policy with respect to stock-based employee compensation on reported net income and earnings per share in annual and interim financial statements. We have adopted the amended disclosure
provisions of Statement 148 in fiscal 2002. We do not expect Statement 148 to have any impact on our operating results as we continue to account for stock-based compensation in accordance with APB
Opinion No. 25,Accounting for Stock Issued to Employees,and related Interpretations.

Forward-Looking Statements

With respect to forward-looking statements, please refer to the disclosures set forth under "Cautionary Statements" in Item 1 above.

ITEM 7A.    QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

The market risk inherent in our financial instruments represents the increased interest costs arising from adverse changes in interest rates (primarily LIBOR and
prime bank rates). We currently have no amounts outstanding under our credit facility and, thus, no exposure to adverse interest rate changes.

We
are exposed to foreign exchange risks associated with our Canadian operations acquired in fiscal 2001. Historically, the Canadian exchange rates have been stable and we believe the
impact of fluctuations in the currency exchange rates will be immaterial to our financial position and results of operations.

ITEM 8.    FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA

Reference is made to Part III, Item 15 of this Form 10-K for the information required by Item 8.

ITEM 9.    CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE

None.

35

---



PART III

ITEM 10.    DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT

The information required by this Item (other than the information regarding directors and executive officers set forth at the end of Part 1, Item 1 of this
Form 10-K) will be contained in our definitive Proxy Statement for our 2003 Annual Meeting of Stockholders, and is incorporated herein by reference.

ITEM 11.    EXECUTIVE COMPENSATION

The information required by this Item will be contained in our definitive Proxy Statement for our 2003 Annual Meeting of Stockholders, and is incorporated herein
by reference.

ITEM 12.    SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND RELATED STOCKHOLDER MATTERS

The information required by this Item will be contained in our definitive Proxy Statement for our 2003 Annual Meeting of Stockholders, and is incorporated herein
by reference.

ITEM 13.    CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS

The information required by this Item will be contained in our definitive Proxy Statement for our 2003 Annual Meeting of Stockholders, and is incorporated herein
by reference.

ITEM 14.    CONTROLS AND PROCEDURES

Within 90 days prior to the date of this annual report, we carried out an evaluation, under the supervision and with the participation of our management,
including our Chief Executive Officer and Chief Financial Officer, of the effectiveness of the design and operation of our disclosure controls and procedures pursuant to Exchange Act
Rule 13a-14. Based upon that evaluation, our Chief Executive Officer and Chief Financial Officer concluded that our disclosure controls and procedures effectively ensure that
material information required to be in this annual report is made known to them by others in a timely manner. We have not made any significant changes to our internal controls, and no other factors
have come to our attention that could significantly affect our internal controls, subsequent to the date of this most recent evaluation.

ITEM 15.    EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K

|       |                                                                                                                                   
|------ | ----------------------------------------------------------------------------------------------------------------------------------
|(a)(1) | Financial Statements:                                                                                                             
|       | Report of Ernst & Young LLP, Independent Auditors.                                                                                
|       | Consolidated Balance Sheets as of January 6, 2002 and January 5, 2003.                                                            
|       | Consolidated Statements of Income for the Fiscal Years Ended December 31, 2000, January 6, 2002 and January 5, 2003.              
|       | Consolidated Statements of Stockholders' Equity for the Fiscal Years Ended December 31, 2000, January 6, 2002 and January 5, 2003.
|       | Consolidated Statements of Cash Flows for the Fiscal Years Ended December 31, 2000, January 6, 2002 and January 5, 2003.          
|       | Notes to Consolidated Financial Statements.                                                                                       
|       |                                                                                                                                   

36

---

|(a)(2) | Schedules:                                    
|------ | ----------------------------------------------
|       | Schedule II. Valuation and Qualifying Accounts
|(a)(3) | Exhibits:                                     

The
following exhibits, which are furnished with this Annual Report or incorporated herein by reference, are filed as part of this Annual Report:

|Exhibit
No. |  | Exhibit Description                                                                                                       
|----------- |  | --------------------------------------------------------------------------------------------------------------------------
|3.1         |  | Certificate of Incorporation of the Company.(1)                                                                           
|3.1.1       |  | Certificate of Amendment of Certificate of Incorporation dated June 6, 1996.(5)                                           
|3.1.2       |  | Certificate of Amendment of Certificate of Incorporation dated July 1, 1999.(5)                                           
|3.1.3       |  | Certificate of Amendment of Certificate of Incorporation dated June 27, 2002. (filed herewith)                            
|3.2         |  | Amended and Restated Bylaws of the Movie Gallery, Inc. (filed herewith)                                                   
|4.1         |  | Specimen Common Stock Certificate.(2)                                                                                     
|10.1        |  | 1994 Stock Option Plan, as amended and form of Stock Option Agreement.(3)                                                 
|10.1.1      |  | Amendment to Movie Gallery, Inc. 1994 Stock Plan, as amended dated June 13, 2000. (filed herewith)                        
|10.1.2      |  | Amendment to Movie Gallery, Inc. 1994 Stock Plan, as amended dated September 12, 2002.(12)                                
|10.2        |  | Form of Indemnity Agreement.(1)                                                                                           
|10.3        |  | Employment Agreement between M.G.A., Inc. and Joe Thomas Malugen.(1)                                                      
|10.3.1      |  | First Amendment to Employment Contract between M.G.A., Inc. and J. T. Malugen dated April 3, 2000.(6)                     
|10.5        |  | Employment Agreement between M.G.A., Inc. and J. Steven Roy.(4)                                                           
|10.6        |  | Employment Agreement between M.G.A., Inc. and S. Page Todd.(4)                                                            
|10.7        |  | Employment Agreement between M.G.A., Inc. and Jeffrey S. Stubbs.(7)                                                       
|10.8        |  | Assignment Agreement between BNP Paribas and Movie Gallery, Inc. dated May 2, 2001.(8)                                    
|10.9        |  | Chapter 11 Financing Agreement between Video Update, Inc. and Movie Gallery, Inc. dated May 16, 2001.(8)                  
|10.9.1      |  | Amendment to Chapter 11 Financing Agreement between Movie Gallery, Inc. and Video Update, Inc. dated October 15, 2001.(10)
|10.10       |  | Credit Agreement between Movie Gallery, Inc. and SouthTrust Bank dated June 27, 2001.(8)                                  
|10.10.1     |  | Amendment to Credit Agreement between Movie Gallery, Inc. and SouthTrust Bank dated September 25, 2001. (filed herewith)  
|10.10.2     |  | Amendment to Credit Agreement between Movie Gallery, Inc. and SouthTrust Bank dated January 14, 2002. (filed herewith)    
|10.10.3     |  | Amendment to Credit Agreement between Movie Gallery, Inc. and SouthTrust Bank dated August 15, 2002.(11)                  
|            |  |                                                                                                                           

37

---

|10.11 |  | Plan of Reorganization of Video Update, Inc., et al., as amended on December 18, 2001.(9)                                               
|----- |  | ----------------------------------------------------------------------------------------------------------------------------------------
|21    |  | List of Subsidiaries. (filed herewith)                                                                                                  
|23    |  | Consent of Ernst & Young LLP, Independent Auditors. (filed herewith)                                                                    
|99.1  |  | Certification Pursuant to 18 U.S.C. Section 1350, as adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. (filed herewith)
|99.2  |  | Certification Pursuant to 18 U.S.C. Section 1350, as adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. (filed herewith)

---

(b)  Reports on Form 8-K:

None.

(c)  Exhibits:

See (a)(3) above.

ITEM 16.    PRINCIPAL ACCOUNTANT FEES AND SERVICES

The information required by this Item will be contained in our definitive Proxy Statement for our 2003 Annual Meeting of Stockholders, and is incorporated herein
by reference.

38

---



SIGNATURES

Pursuant
to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the
undersigned, thereunto duly authorized.

| |  | MOVIE GALLERY, INC.
| |  | -------------------
| |  | By:                

Date:
April 7, 2003

Pursuant
to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the registrant and in the capacities and on
the dates indicated.

|Signature                                 |  | Title                                                        |  | Date         
|----------------------------------------- |  | ------------------------------------------------------------ |  | -------------
|                                          |  |                                                              |  |              
|/s/J. T. MALUGENJ. T. Malugen             |  | Chairman of the Board, President and Chief Executive Officer |  | April 7, 2003
|/s/H. HARRISON PARRISHH. Harrison Parrish |  | Vice Chairman of the Board                                   |  | April 7, 2003
|/s/WILLIAM B. SNOWWilliam B. Snow         |  | Director                                                     |  | April 7, 2003
|/s/PHILIP B. SMITHPhilip B. Smith         |  | Director                                                     |  | April 7, 2003
|/s/J. STEVEN ROYJ. Steven Roy             |  | Executive Vice President and Chief Financial Officer         |  | April 7, 2003
|/s/IVY M. JERNIGANIvy M. Jernigan         |  | Vice PresidentController                                    |  | April 7, 2003

39

---



MOVIE GALLERY, INC.  CERTIFICATIONS PURSUANT TO SECTION 302 OF  THE SARBANES-OXLEY ACT OF 2002    CERTIFICATION

I, J. T. Malugen, certify that:





|Dated:  April 7, 2003                                                      | 
|-------------------------------------------------------------------------- | 
|/s/J. T. MALUGEN                                                           | 
|J. T. Malugen
Chairman of the Board, President and
Chief Executive Officer | 

40

---

CERTIFICATION

I, J. Steven Roy, certify that:





|Dated:  April 7, 2003                                              | 
|------------------------------------------------------------------ | 
|/s/J. STEVEN ROY                                                   | 
|J. Steven Roy
Executive Vice President and
Chief Financial Officer | 

41

---

Movie Gallery, Inc.

Consolidated Financial Statements

Fiscal years ended December 31, 2000, January 6, 2002 and January 5, 2003

CONTENTS

|Report of Ernst & Young LLP, Independent Auditors |  | F-2 
|------------------------------------------------- |  | ----
|Audited Financial Statements                      |  |     
|Consolidated Balance Sheets                       |  | F-3 
|Consolidated Statements of Income                 |  | F-4 
|Consolidated Statements of Stockholders' Equity   |  | F-5 
|Consolidated Statements of Cash Flows             |  | F-6 
|Notes to Consolidated Financial Statements        |  | F-7 
|Financial Statement Schedule                      |  | F-23

F-1

---



Report of Ernst & Young LLP, Independent Auditors

Board
of Directors and Stockholders
Movie Gallery, Inc.

We
have audited the accompanying consolidated balance sheets of Movie Gallery, Inc. as of January 6, 2002 and January 5, 2003, and the related consolidated
statements of income, stockholders' equity and cash flows for each of the three years in the period ended January 5, 2003. Our audits also include the financial statement schedule listed in the
Index at Item 15(a)2. These financial statements and schedule are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements and schedule
based on our audits.

We
conducted our audits in accordance with auditing standards generally accepted in the United States. Those standards require that we plan and perform the audit to obtain reasonable
assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial
statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe
that our audits provide a reasonable basis for our opinion.

In
our opinion, the financial statements referred to above present fairly, in all material respects, the consolidated financial position of Movie Gallery, Inc. at
January 6, 2002 and January 5, 2003, and the consolidated results of its operations and its cash flows for each of the three years in the period ended January 5, 2003, in
conformity with accounting principles generally accepted in the United States. Also, in our opinion, the related financial statement schedule, when considered in relation to the basic financial
statements taken as a whole, presents fairly in all material respects the information set forth therein.

As
discussed in Note 1 to the consolidated financial statements, in fiscal 2002 the Company changed its method of accounting for goodwill.

/s/
Ernst & Young LLP

Birmingham,
Alabama
February 13, 2003

F-2

---



Movie Gallery, Inc.    Consolidated Balance Sheets        (in thousands)

|                                           |                                                                                                                        | January 6,
2002 |         | January 5,
2003 |  
|------------------------------------------ | ---------------------------------------------------------------------------------------------------------------------- | --------------- | ------- | --------------- | -
|Assets                                     |                                                                                                                        |                 |         |                 |  
|Current assets:                            |                                                                                                                        |                 |         |                 |  
|                                           | Cash and cash equivalents                                                                                              |                 | $       | 16,349          |  
|                                           | Merchandise inventory                                                                                                  |                 |         | 6,739           |  
|                                           | Prepaid expenses                                                                                                       |                 |         | 2,085           |  
|                                           | Store supplies and other                                                                                               |                 |         | 5,582           |  
|                                           | Deferred income taxes                                                                                                  |                 |         | 1,159           |  
|                                           |                                                                                                                        |                 |         |                 |  
|Total current assets                       |                                                                                                                        |                 | 31,914  |                 |  
|Rental inventory, net                      |                                                                                                                        |                 | 88,424  |                 |  
|Property, furnishings and equipment, net   |                                                                                                                        |                 | 71,739  |                 |  
|Goodwill, net                              |                                                                                                                        |                 | 71,682  |                 |  
|Other intangibles, net                     |                                                                                                                        |                 | 4,156   |                 |  
|Deposits and other assets                  |                                                                                                                        |                 | 2,217   |                 |  
|                                           |                                                                                                                        |                 |         |                 |  
|Total assets                               |                                                                                                                        | $               | 270,132 |                 | $
|                                           |                                                                                                                        |                 |         |                 |  
|Liabilities and stockholders' equity       |                                                                                                                        |                 |         |                 |  
|Current liabilities:                       |                                                                                                                        |                 |         |                 |  
|                                           | Accounts payable                                                                                                       |                 | $       | 51,785          |  
|                                           | Accrued liabilities                                                                                                    |                 |         | 24,853          |  
|                                           | Deferred revenue                                                                                                       |                 |         | 4,082           |  
|                                           | Deferred income taxes                                                                                                  |                 |         |                |  
|                                           |                                                                                                                        |                 |         |                 |  
|Total current liabilities                  |                                                                                                                        |                 | 80,720  |                 |  
|Long-term debt                             |                                                                                                                        |                 | 26,000  |                 |  
|Other accrued liabilities                  |                                                                                                                        |                 | 606     |                 |  
|Deferred income taxes                      |                                                                                                                        |                 | 624     |                 |  
|Stockholders' equity:                      |                                                                                                                        |                 |         |                 |  
|                                           | Preferred stock, $.10 par value; 2,000 shares authorized, no shares issued or outstanding                              |                 |         |                |  
|                                           | Common stock, $.001 par value; 65,000 shares authorized, 27,215 and 32,062 shares issued and outstanding, respectively |                 |         | 27              |  
|                                           | Additional paid-in capital                                                                                             |                 |         | 140,475         |  
|                                           | Retained earnings                                                                                                      |                 |         | 21,713          |  
|                                           | Accumulated other comprehensive loss                                                                                   |                 |         | (33             | )
|                                           |                                                                                                                        |                 |         |                 |  
|Total stockholders' equity                 |                                                                                                                        |                 | 162,182 |                 |  
|                                           |                                                                                                                        |                 |         |                 |  
|Total liabilities and stockholders' equity |                                                                                                                        | $               | 270,132 |                 | $
|                                           |                                                                                                                        |                 |         |                 |  

See
accompanying notes.

F-3

---

Movie Gallery, Inc.    Consolidated Statements of Income        (in thousands, except per share data)

|                                     |                             | Fiscal Year Ended |        
|------------------------------------ | --------------------------- | ----------------- | -------
|
|Revenues:                            |                             |                   |        
|                                     | Rentals                     |                   | $      
|                                     | Product sales               |                   |        
|                                     |                             |                   |        
|Total revenues                       |                             |                   | 318,936
|Cost of sales:                       |                             |                   |        
|                                     | Cost of rental revenues     |                   |        
|                                     | Cost of product sales       |                   |        
|                                     |                             |                   |        
|Gross margin                         |                             |                   | 205,765
|Operating costs and expenses:        |                             |                   |        
|                                     | Store operating expenses    |                   |        
|                                     | General and administrative  |                   |        
|                                     | Amortization of intangibles |                   |        
|                                     | Stock option compensation   |                   |        
|                                     |                             |                   |        
|Operating income                     |                             |                   | 19,690 
|Interest expense, net                |                             |                   | (3,779 
|                                     |                             |                   |        
|Income before income taxes           |                             |                   | 15,911 
|Income taxes                         |                             |                   | 6,425  
|                                     |                             |                   |        
|Net income                           |                             | $                 | 9,486  
|                                     |                             |                   |        
|Earnings per share:                  |                             |                   |        
|                                     | Basic                       |                   | $      
|                                     |                             |                   |        
|                                     | Diluted                     |                   | $      
|                                     |                             |                   |        
|Weighted average shares outstanding: |                             |                   |        
|                                     | Basic                       |                   |        
|                                     | Diluted                     |                   |        

See
accompanying notes.

F-4

---



Movie Gallery, Inc.        Consolidated Statements of Stockholders' Equity        (in thousands)

|                                                                          |                                            | Common
Stock               |    | Additional
Paid-in
Capital |   | Retained
Earnings
(Deficit) |        | Accumulated
Other
Comprehensive
Loss |        | Total
Stockholders'
Equity |       
|------------------------------------------------------------------------- | ------------------------------------------ | -------------------------- | -- | -------------------------- | - | --------------------------- | ------ | ------------------------------------ | ------ | -------------------------- | ------
|Balance at January 2, 2000                                                |                                            | $                          | 28 |                            | $ | 127,522                     |        | $                                    | (2,129 | )                          | $     
|                                                                          | Net income                                 |                            |    |                           |   |                             |       |                                      |        | 9,486                      |       
|                                                                          | Repurchase and retirement of 3,180 shares  |                            |    | (3                         | ) |                             | (5,695 | )                                    |        |                           |       
|                                                                          |                                            |                            |    |                            |   |                             |        |                                      |        |                            |       
|Balance at December 31, 2000                                              |                                            |                            | 25 |                            |   | 121,827                     |        |                                      | 7,357  |                            |       
|Comprehensive Income:                                                     |                                            |                            |    |                            |   |                             |        |                                      |        |                            |       
|                                                                          | Net income                                 |                            |    |                            |   |                             |        |                                      |        | 14,356                     |       
|                                                                          | Foreign currency translation               |                            |    |                            |   |                             |        |                                      |        |                           |       
|                                                                          |                                            |                            |    |                            |   |                             |        |                                      |        |                            |       
|                                                                          |                                            | Total comprehensive income |    |                            |   |                             |        |                                      |        |                            | 14,356
|                                                                          | Exercise of stock options for 2,129 shares |                            |    | 2                          |   |                             | 5,214  |                                      |        |                           |       
|                                                                          | Tax benefit of stock options exercised     |                            |    |                           |   |                             | 5,273  |                                      |        |                           |       
|                                                                          | Stock option compensation                  |                            |    |                           |   |                             | 8,161  |                                      |        |                           |       
|                                                                          |                                            |                            |    |                            |   |                             |        |                                      |        |                            |       
|Balance at January 6, 2002                                                |                                            |                            | 27 |                            |   | 140,475                     |        |                                      | 21,713 |                            |       
|Comprehensive Income:                                                     |                                            |                            |    |                            |   |                             |        |                                      |        |                            |       
|                                                                          | Net income                                 |                            |    |                            |   |                             |        |                                      |        | 20,934                     |       
|                                                                          | Foreign currency translation               |                            |    |                            |   |                             |        |                                      |        |                           |       
|                                                                          |                                            |                            |    |                            |   |                             |        |                                      |        |                            |       
|                                                                          |                                            | Total comprehensive income |    |                            |   |                             |        |                                      |        |                            | 20,934
|Issuance of 3,900 shares of common stock, net of issuance cost, of $4,406 |                                            |                            | 4  |                            |   | 66,765                      |        |                                      |       |                            |       
|                                                                          | Exercise of stock options for 947 shares   |                            |    | 1                          |   |                             | 2,658  |                                      |        |                           |       
|                                                                          | Tax benefit of stock options exercised     |                            |    |                           |   |                             | 4,454  |                                      |        |                           |       
|                                                                          | Stock option compensation                  |                            |    |                           |   |                             | 2,279  |                                      |        |                           |       
|                                                                          |                                            |                            |    |                            |   |                             |        |                                      |        |                            |       
|Balance at January 5, 2003                                                |                                            | $                          | 32 |                            | $ | 216,631                     |        | $                                    | 42,647 |                            | $     
|                                                                          |                                            |                            |    |                            |   |                             |        |                                      |        |                            |       

See
accompanying notes.

F-5

---

Movie Gallery, Inc.        Consolidated Statements of Cash Flows        (in thousands)

|                                                                                  |                                          | Fiscal Year Ended |         
|--------------------------------------------------------------------------------- | ---------------------------------------- | ----------------- | --------
|
|Operating activities:                                                             |                                          |                   |         
|Net income                                                                        |                                          | $                 | 9,486   
|Adjustments to reconcile net income to net cash provided by operating activities: |                                          |                   |         
|Rental inventory amortization and non-cash cost of rental inventory sold          |                                          |                   | 66,078  
|Depreciation and intangibles amortization                                         |                                          |                   | 22,327  
|Stock option compensation                                                         |                                          |                   |        
|Tax benefit of stock options exercised                                            |                                          |                   |        
|Deferred income taxes                                                             |                                          |                   | 4,671   
|Changes in operating assets and liabilities:                                      |                                          |                   |         
|                                                                                  | Merchandise inventory                    |                   |         
|                                                                                  | Other current assets                     |                   |         
|                                                                                  | Deposits and other assets                |                   |         
|                                                                                  | Accounts payable                         |                   |         
|                                                                                  | Accrued liabilities and deferred revenue |                   |         
|                                                                                  |                                          |                   |         
|Net cash provided by operating activities                                         |                                          |                   | 110,797 
|Investing activities:                                                             |                                          |                   |         
|Business acquisitions                                                             |                                          |                   | (3,085  
|Purchases of rental inventory                                                     |                                          |                   | (74,829 
|Purchases of property, furnishings and equipment                                  |                                          |                   | (23,086 
|                                                                                  |                                          |                   |         
|Net cash used in investing activities                                             |                                          |                   | (101,000
|Financing activities:                                                             |                                          |                   |         
|Net proceeds from issuance of common stock                                        |                                          |                   |        
|Purchases and retirement of common stock                                          |                                          |                   | (5,698  
|Proceeds from exercise of stock options                                           |                                          |                   |        
|Net payments on long-term debt                                                    |                                          |                   | (4,040  
|                                                                                  |                                          |                   |         
|Net cash (used in) provided by financing activities                               |                                          |                   | (9,738  
|Effect of exchange rate changes on cash and cash equivalents                      |                                          |                   |        
|                                                                                  |                                          |                   |         
|Increase in cash and cash equivalents                                             |                                          |                   | 59      
|Cash and cash equivalents at beginning of fiscal year                             |                                          |                   | 6,970   
|                                                                                  |                                          |                   |         
|Cash and cash equivalents at end of fiscal year                                   |                                          | $                 | 7,029   
|                                                                                  |                                          |                   |         
|Supplemental disclosures of cash flow information:                                |                                          |                   |         
|Cash paid during the period for interest                                          |                                          | $                 | 3,817   
|Cash paid during the period for income taxes                                      |                                          |                   | 1,688   

See
accompanying notes.

F-6

---



Movie Gallery, Inc.        Notes to Consolidated Financial Statements

December 31, 2000, January 6, 2002 and January 5, 2003

1.    Accounting Policies

Principles of Consolidation and Description of Business

The accompanying financial statements present the consolidated financial position, results of operations and cash flows of Movie Gallery, Inc. and
subsidiaries. All material intercompany accounts and transactions have been eliminated.

We
own and operate video specialty stores located in 43 states and six Canadian provinces.

Use of Estimates

The preparation of financial statements in conformity with accounting principles generally accepted in the United States requires us to make estimates and
assumptions that affect the amounts reported in the consolidated financial statements and accompanying notes. The most significant estimates and assumptions relate to the amortization methods and
useful lives of rental inventory, fixed assets and
other intangibles, valuation allowances for deferred tax assets and the allocation of the purchase price of acquired businesses. These estimates and assumptions could change and actual results could
differ from these estimates.

Reclassifications

Certain reclassifications have been made to the prior year financial statements to conform to the current year presentation. These reclassifications had no impact
on stockholders' equity or net income.

In
the first quarter of 2002, we began reporting the sale of previously viewed rental inventory as rental revenue and the related cost as cost of rental revenue. The sales and costs
associated with previously viewed rental inventory were previously reported as product sales and cost of product sales, respectively. Additionally, the non-cash cost (unamortized book
value) of previously viewed rental inventory sold has been reclassified on the statement of cash flows to be reported with rental inventory amortization. These costs were previously netted against
purchases of rental inventory as investing activities in the statement of cash flows. The current presentation is more consistent with the classification of these costs in the income statement and
discloses the gross rental inventory purchases, before the write-off of previously viewed inventory sold, on the face of the statement of cash flows.

The
extraordinary loss on early extinguishment of debt reported in fiscal 2001 ($177,000, net of taxes of $113,000) has been reclassified to interest expense and income taxes. The item
is not material to our operating results.

Fiscal Year

Our fiscal year ends on the first Sunday following December 30, which periodically results in a fiscal year of 53 weeks. Results for the fiscal year ended
December 31, 2000 and January 5, 2003 reflect 52-week years. Results for the fiscal year ended January 6, 2002 reflect a 53-week year. Our fiscal year
includes revenues and certain operating expenses, such as salaries, wages and other miscellaneous expenses, on a daily basis. All other expenses, primarily depreciation, amortization, rent and
utilities, are calculated and recorded monthly, with twelve months included in each fiscal year.

F-7

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Cash Equivalents

We consider all highly liquid investments with a maturity of three months or less when purchased to be cash equivalents.

Merchandise Inventory

Merchandise inventory consists primarily of new videocassette tapes ("VHS"), DVD, video games, video accessories and concessions and is stated at the lower of
cost, on a first-in first-out basis, or market.

Rental Inventory

In the fourth quarter of 2002, we made a strategic decision to make a portion of our base stock VHS rental inventory available for sale as previously viewed
inventory during the holiday period. The sale of base stock VHS rental inventory was designed to make room on our store shelves for a significant investment in base stock DVD rental inventory to
arrive in stores in the first quarter of 2003. Our decision to make this investment in base stock DVD was primarily driven by the continued growth in consumer acceptance of the DVD platform in our
core markets throughout the last year. DVD rental revenue represented approximately 50% of movie rental revenue as of the end of fiscal 2002 versus approximately 20% as of the end of fiscal 2001. As a
result of the significant shift from VHS to DVD that will occur in our rental inventory base as the new product arrives, we changed the estimates used to amortize rental inventory. The revised
estimates reflect a reduction in the estimated useful lives of the rental inventory and a reduced salvage value for both VHS and game inventory. We believe the revised estimated useful lives and
salvage values are better matched to our current rental business and are consistent with industry trends.

Rental
inventory is stated at cost and amortized over its economic useful life. The up-front fees and minimum costs of rental product purchased under revenue-sharing
arrangements are capitalized and amortized in accordance with our rental inventory amortization policy. Revenue-sharing payments are expensed as incurred and are included in cost of rental revenues.
Effective October 7, 2002, the cost of base stock, or catalog, movie inventory is amortized on an accelerated basis over the first twelve months and then on a straight-line basis
over the next twelve months to its salvage value, $4 for DVD and $2 for VHS. The cost of non-base stock, or new release, movie inventory is amortized to its salvage value on an accelerated
basis over six months. Video games are amortized on a straight-line basis to a $5 salvage value over twelve months.

The
changes in our estimates for rental inventory amortization have been applied to all inventory held at October 7, 2002. The changes have been accounted for as a change in
accounting estimate during the fourth quarter ended January 5, 2003. The change in estimate decreased rental inventory and increased
depreciation expense for the fiscal year ended January 5, 2003 by approximately $27.9 million and reduced net income by $16.7 million, or $0.53 per diluted share. The impact of
the change is net of a $2.1 million reserve against rental inventory that was established in the fourth quarter of 2001 in order to reflect the impact of the consumer transition to DVD on the
sale prices of previously viewed VHS product.

Prior
to October 7, 2002, the cost of base stock movie inventory was amortized on an accelerated basis to a net book value of $8 over six months and to a $4 salvage value over the
next thirty months.

F-8

---

The cost of non-base stock movie inventory was amortized on an accelerated basis over six months to a net book value of $4, which was then amortized on a straight-line basis
over the next 30 months or until the movie was sold, at which time the unamortized book value was charged to cost of sales. Video games were amortized on a straight-line basis to a
$10 salvage value over eighteen months or until the game was sold, at which time the unamortized book value was charged to cost of sales.

Rental
inventory consists of the following (in thousands):

|                         |  | January 6,
2002 |         | January 5,
2003 |  
|------------------------ |  | --------------- | ------- | --------------- | -
|Rental inventory         |  | $               | 174,647 |                 | $
|Accumulated amortization |  |                 | (86,223 | )               |  
|                         |  |                 |         |                 |  
|                         |  | $               | 88,424  |                 | $
|                         |  |                 |         |                 |  

Property, Furnishings and Equipment

Property, furnishings and equipment are stated at cost and include costs incurred in the construction of new stores. Depreciation is provided on a
straight-line basis over the estimated lives of the related assets.

Business Combinations, Goodwill and Other Intangible Assets

In June 2001, the Financial Accounting Standards Board ("FASB") issued Statement of Accounting Standards ("Statement") No. 141, Business
Combinations, and Statement No. 142,Goodwill and Other Intangible Assets. Statement 141
requires that all business combinations be accounted for by the purchase method, and requires all intangible assets acquired in a business combination to be recognized as assets apart from goodwill if
they meet certain contractual-legal criterion or separability criterion. The provisions of Statement 141 apply to all business combinations with an acquisition date subsequent to June 30, 2001.
The application of Statement 141 did not affect any of the previously reported amounts included in goodwill or other intangible assets. Under Statement 142, goodwill and indefinite lived intangible
assets are no longer amortized but are reviewed for impairment annually, or more frequently if impairment indicators arise. Separable intangible assets that are not deemed to have an indefinite life
will continue to be amortized over their useful lives. We adopted Statement 142 as of January 7, 2002. The adoption of Statement 142 did not have any impact on the classification of intangible
assets. We completed the transitional impairment test and determined that none of the goodwill recorded was impaired as of January 7, 2002. Application of the nonamortization provisions of
Statement 142 as of January 3, 2000 would have increased net income by approximately $3,413,000 to $12,899,000, or $0.50 per diluted share, for fiscal 2000 and $3,418,000 to $17,774,000, or
$0.65 per diluted share, for fiscal 2001.

Amortization
of intangibles for fiscal 2000 and 2001 includes an impairment loss of $1,000,000 and $700,000, respectively, to write-off the net book value of goodwill in
excess of its estimated fair market value in accordance with the provisions of FASB Statement No. 121,Accounting for the Impairment of Long-Lived Assets and
for Long-Lived Assets to be Disposed Of.No impairment loss was recognized in fiscal 2002 under the provisions of Statement 142.

F-9

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Impairment of Long-Lived Assets

Long-lived assets, including property, furnishings and equipment and intangible assets with finite lives, are reviewed for impairment whenever events
or changes in circumstances indicate that the carrying amount may not be recoverable. We use the discounted cash flow method to estimate the fair value of our long-lived assets. We have
not recognized any impairment losses on long-lived assets in fiscal 2000, 2001 or 2002.

In
October 2001, the FASB issued Statement No. 144,Accounting for the Impairment or Disposal of Long-Lived
Assets, which addresses financial accounting and reporting for the impairment or disposal of long-lived assets and supersedes Statement 121, Accounting for the Impairment of Long-Lived Assets and for
Long-Lived Assets to be Disposed Of, and the accounting and reporting
provisions of APB Opinion
No. 30,Reporting the Results of Operations for the Effects of Disposal of a Segment of a Business.We adopted Statement 144 as of
January 7, 2002. The adoption did not have any impact on our financial position or results of operations.

Income Taxes

We account for income taxes under the provisions of FASB Statement No. 109,Accounting for Income Taxes.Under Statement 109, deferred tax assets and liabilities are determined based upon differences between financial reporting and tax bases of assets and liabilities and are measured at the enacted tax
rates and laws that will be in effect when the differences are expected to reverse.

Revenue Recognition

We recognize rental revenue when the movie or video game is rented by the customer. Revenue from extended viewing fees incurred on rentals when the customer
chooses to keep the product beyond the initial rental period is recognized when payment is received from the customer. We recognize product sales revenue at the time of sale.

We
periodically sell stored value cards in the form of electronic gift cards or discount rental cards. We record deferred revenue from the sale of stored value cards at the time of sale
to the customer. The liability is relieved and revenue is recognized when the cards are redeemed by the customers.

Advertising Costs

Advertising costs, exclusive of cooperative reimbursements from vendors, are expensed when incurred. Advertising expense for fiscal 2000, 2001 and 2002 totaled
$1,563,000, $2,219,000 and $2,703,000, respectively.

Store Opening and Start-up Costs

Store opening costs, which consist primarily of payroll and advertising, and start-up costs are expensed as incurred.

F-10

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Fair Value of Financial Instruments

At January 6, 2002 and January 5, 2003, the carrying value of financial instruments such as cash and cash equivalents, accounts payable and
long-term debt approximated their fair values, calculated using discounted cash flow analysis at our incremental borrowing rate.

Foreign Currency Translation

Our foreign subsidiary records transactions using the local currency as the functional currency. In accordance with FASB Statement No. 52, Foreign Currency
Translation,the assets and liabilities of the foreign subsidiary are translated into U. S. dollars using either the exchange rates in
effect at the balance sheet dates or historical exchange rates, depending upon the account translated. Income and expenses are translated at average weekly exchange rates each fiscal period. The
translation adjustments that result from translating the balance sheets at different rates than the income statements are included in accumulated other comprehensive loss, which is a separate
component of consolidated stockholders' equity.

Derivatives

We recognize all derivatives as either assets or liabilities in the consolidated balance sheets and measure those instruments at fair value in accordance with
FASB Statement No. 133,Accounting for Derivative Instruments and Hedging Activities, as amended by Statements No. 137 and 138.Gains and
losses resulting from changes in the fair values of those derivative instruments will be recorded to earnings or other comprehensive income depending on the use of the derivative instrument and
whether it qualifies for hedge accounting.

F-11

---



Stock Option Plan

At January 5, 2003, we have a stock-based employee compensation plan, which is described more fully in Note 7. We account for the plan under the
recognition and measurement principles of APB Opinion No. 25,Accounting for Stock Issued to Employees,and related Interpretations. Stock option
compensation is reflected in net income for variable options outstanding under the plan (see Note 7). No stock option compensation is reflected in net income for the remaining options
outstanding under the plan, as the exercise price was equal to the market value of the underlying common stock on the date of grant. The following table illustrates the effect on net income and
earnings per share if we had applied the fair value recognition provision of FASB Statement No. 123,Accounting for Stock-Based Compensation,to
stock-based employee compensation.

|                                        |                                    | Fiscal Year Ended |      
|--------------------------------------- | ---------------------------------- | ----------------- | -----
|
|Net income, as reported                 |                                    | $                 | 9,486
|Add: Stock option compensation included |                                    |                   |      
|                                        | in reported net income, net of tax |                   |      
|Deduct: Stock option compensation       |                                    |                   |      
|                                        | determined under fair value based  |                   |      
|                                        | methods for all awards, net of tax |                   |      
|                                        |                                    |                   |      
|Pro forma net income                    |                                    | $                 | 8,496
|                                        |                                    |                   |      
|Earnings per share:                     |                                    |                   |      
|                                        | Basic                              |                   | $    
|                                        |                                    |                   |      
|                                        | Diluted                            |                   | $    
|                                        |                                    |                   |      
|Pro forma earnings per share:           |                                    |                   |      
|                                        | Basic                              |                   | $    
|                                        |                                    |                   |      
|                                        | Diluted                            |                   | $    
|                                        |                                    |                   |      

Employee Benefits

We have a 401(k) savings plan available to all active employees who are over 21 years of age and have completed one year of service. We make discretionary
and matching contributions based on employee compensation. The matching contribution for fiscal 2000, 2001 and 2002 was immaterial to our operating results.

Recently Issued Accounting Pronouncements

In July 2002, the FASB issued Statement No. 146,Accounting for Costs Associated with Exit or Disposal
Activities. Statement 146 nullifies Emerging Issues Task Force ("EITF") Issue No. 94-3,Liability Recognition for Certain Employee
Termination Benefits and Other Costs to Exit an Activity (including Certain Costs Incurred in a Restructuring)and requires that a liability for a cost associated with an exit
or disposal activity be recognized and measured initially at fair value in the period in which

F-12

---

the liability is incurred. Under EITF 94-3, a liability for an exit cost was recognized at the date of an entity's commitment to an exit plan. The adoption of Statement 146 is expected to
result in delayed
recognition for certain types of costs as compared to the provisions of EITF 94-3. Statement 146 is effective for new exit or disposal activities that are initiated after
December 31, 2002, and does not affect amounts currently reported in our consolidated financial statements. Statement 146 will affect the types and timing of costs included in future
restructuring programs, if any, but is not expected to have a material impact on our financial position or results of operations.

In
December 2002, the FASB issued Statement No. 148,Accounting for Stock-Based CompensationTransition and
Disclosure. Statement 148 amends FASB Statement No. 123,Accounting for Stock-Based Compensation, to provide alternative
methods of transition to Statement 123's fair value method of accounting for stock-based employee compensation. Statement 148 also amends the disclosure provisions of Statement 123 and APB Opinion
No. 28,Interim Financial Reporting, to require disclosure in the summary of significant accounting policies of the effects of an entity's
accounting policy with respect to stock-based employee compensation on reported net income and earnings per share in annual and interim financial statements. We have adopted the amended disclosure
provisions of Statement 148 in fiscal 2002. We do not expect Statement 148 to have any impact on our operating results as we continue to account for stock-based compensation in accordance with APB
Opinion No. 25,Accounting for Stock Issued to Employees,and related Interpretations.

2.    Acquisitions

During fiscal 2002, we purchased 265 stores in 34 separate transactions for approximately $60.7 million and recorded approximately $44.0 million in
goodwill, $3.3 million for customer lists and $1.0 million for non-compete agreements related to these transactions.

Effective
December 21, 2001, we acquired 100% of the newly issued common stock of the reorganized Video Update, Inc. under its plan of reorganization which was confirmed by
the United States Bankruptcy Court on December 20, 2001. Video Update had been operating under Chapter 11 of the United States Bankruptcy Code since its voluntary filing on September 18,
2000. The acquisition of the newly issued common stock of Video Update was in satisfaction of all amounts owed to us by Video Update under a $6.5 million
debtor-in-possession financing agreement. In addition, we purchased certain senior secured debt of Video Update in May 2001 for $8.5 million, funded amounts due
to secured and unsecured creditors in accordance with confirmation of the plan totaling approximately $6.3 million, and assumed other post-bankruptcy filing liabilities of Video
Update as disclosed in the following table. At the time of acquisition, Video Update operated 324 video specialty stores in the United States and Canada. Our acquisition of Video Update was made as a
strategic expansion of our geographic markets in accordance with our growth plan.

Due
to the Video Update acquisition occurring near the end of fiscal 2001, the closing of the final books and records of Video Update had not been completed as of the time our fiscal
2001 consolidated financial statements were prepared. As a result, we posted adjustments to the purchase price allocation during fiscal 2002 to reduce the liabilities by $4.3 million. This
includes an adjustment of $0.1 million to the $1.3 million accrual for costs incurred during fiscal 2002 to transition the corporate functions of Video Update to our corporate office.
The following table summarizes the preliminary estimated fair values of the assets acquired and liabilities assumed at the date of acquisition, the purchase price

F-13

---

allocation adjustments made in fiscal 2002 and the final resulting purchase price allocation. Any future adjustments to the purchase price allocation will be reflected as a component of net income.

Video Update, Inc.
Condensed Balance Sheet
As of December 21, 2001
(in thousands)

|                                                             |  | Preliminary |        | Adjustments |   | Final 
|------------------------------------------------------------ |  | ----------- | ------ | ----------- | - | ------
|Current assets                                               |  | $           | 3,017  |             | $ | 10    
|Rental inventory, net                                        |  |             | 21,801 |             |   | (2,801
|Property, furnishings and equipment, net                     |  |             | 12,596 |             |   | (1,514
|Deferred income taxes                                        |  |             | 8,468  |             |   |      
|                                                             |  |             |        |             |   |       
|Total assets acquired                                        |  |             | 45,882 |             |   | (4,305
|Accruals for settlement of liabilities subject to compromise |  |             | 6,253  |             |   |      
|Current liabilities and accrued expenses                     |  |             | 24,669 |             |   | (4,305
|Notes payable to parent                                      |  |             | 8,460  |             |   |      
|                                                             |  |             |        |             |   |       
|Total liabilities assumed                                    |  |             | 39,382 |             |   | (4,305
|                                                             |  |             |        |             |   |       
|Net investment in common stock                               |  | $           | 6,500  |             | $ |      
|                                                             |  |             |        |             |   |       

The
results of operations of Video Update have been included in our consolidated statements of income since December 21, 2001. The following unaudited pro forma information
presents our consolidated results of operations as though the acquisition of Video Update had occurred as of the beginning of fiscal 2000. The pro forma information is not indicative of the results of
operations that actually would have been obtained if the transaction had occurred at the beginning of fiscal 2000. Additionally, the pro forma information is not intended to be a projection of future
results.

|                      |         | Fiscal Year Ended
|--------------------- | ------- | -----------------
|
|
|Revenue               |         | $                
|Net income            |         |                  
|Net income per share: |         |                  
|                      | Basic   |                  
|                      | Diluted |                  

In
addition to the Video Update acquisition, we purchased 31 stores in five separate transactions for approximately $6.6 million during fiscal 2001 and recorded approximately
$3.5 million in goodwill and $1.0 million in other intangibles related to these transactions.

F-14

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3.    Property, Furnishings and Equipment

Property, furnishings and equipment consists of the following (in thousands):

|                                 |  | Useful Life |  | January 6,
2002 |         | January 5,
2003 |  
|-------------------------------- |  | ----------- |  | --------------- | ------- | --------------- | -
|Land                             |  |            |  | $               | 1,819   |                 | $
|Buildings                        |  | 40 years    |  |                 | 4,916   |                 | $
|Furniture and fixtures           |  | 7 years     |  |                 | 45,395  |                 |  
|Equipment                        |  | 5 years     |  |                 | 44,364  |                 |  
|Leasehold improvements and signs |  | 7 years     |  |                 | 48,342  |                 |  
|                                 |  |             |  |                 |         |                 |  
|                                 |  |             |  |                 | 144,836 |                 |  
|Accumulated depreciation         |  |             |  |                 | (73,097 | )               |  
|                                 |  |             |  |                 |         |                 |  
|                                 |  |             |  | $               | 71,739  |                 | $
|                                 |  |             |  |                 |         |                 |  

4.    Intangible Assets

The components of goodwill and other intangibles are as follows (in thousands):

|                        |  |         |  | January 6, 2002 |         | January 5, 2003 |  
|----------------------- |  | ------- |  | --------------- | ------- | --------------- | -
|
|Goodwill                |  |        |  | $               | 103,093 |                 | $
|                        |  |         |  |                 |         |                 |  
|Non-compete agreements  |  | 9 years |  | $               | 8,688   |                 | $
|Customer lists          |  | 7 years |  |                 | 1,130   |                 |  
|                        |  |         |  |                 |         |                 |  
|Total other intangibles |  |         |  | $               | 9,818   |                 | $
|                        |  |         |  |                 |         |                 |  

Estimated
amortization expense for other intangible assets for the five succeeding fiscal years is as follows (in thousands):

2003

$
1,6012004


1,5462005


1,0732006


8112007


705


The
changes in the carrying amounts of goodwill for the year ended January 5, 2003, are as follows (in thousands):

Balance as of January 6, 2002

$
71,682Goodwill acquired


44,437Balance as of January 5, 2003

$
116,119


5.    Financing Obligations

On June 27, 2001, we entered into a credit agreement with a syndicate of banks, led by SouthTrust Bank, with respect to a revolving credit facility. Our
credit facility is unsecured and, as amended, provides for borrowings of up to $65 million through final maturity on July 4, 2004. The interest rate

F-15

---

on our credit facility is based on LIBOR plus an applicable margin percentage, which depends on cash flow generation and borrowings outstanding. In December 2001, as required by the credit
facility, we entered into an interest rate swap agreement in order to hedge exposure to interest rate fluctuations on $10 million of outstanding debt at a fixed rate of 3.5% plus an applicable
margin percentage. In May 2002, we repaid all amounts outstanding under our credit facility with the proceeds from our stock offering (see Note 7) and terminated the interest rate swap
agreement. The costs to terminate the interest rate swap were expensed and were immaterial to our results of operations. As of January 5, 2003, there were standby letters of credit outstanding
under our credit facility of $537,000, of which $325,000 expires on March 14, 2003 and $212,000 expires on June 27, 2003.

6.    Income Taxes

The following reflects actual income tax expense (in thousands):

|                 |         | Fiscal Year Ended |      
|---------------- | ------- | ----------------- | -----
|
|Current payable: |         |                   |      
|                 | Federal |                   | $    
|                 | State   |                   |      
|                 |         |                   |      
|Total current    |         |                   | 1,754
|Deferred:        |         |                   |      
|                 | Federal |                   |      
|                 | State   |                   |      
|                 |         |                   |      
|Total deferred   |         |                   | 4,671
|                 |         |                   |      
|                 |         | $                 | 6,425
|                 |         |                   |      

A
reconciliation of income tax expense at the federal income tax rate to our effective income tax provision is as follows (in thousands):

|                                                            |  | Fiscal Year Ended
|----------------------------------------------------------- |  | -----------------
|
|Income tax expense at statutory rate                        |  | $                
|State income tax expense, net of
federal income tax benefit |  |                  
|Other, net                                                  |  |                  
|                                                            |  |                  
|                                                            |  | $                
|                                                            |  |                  

We
had net operating loss carryforwards at January 6, 2002 resulting from the Video Update acquisition (see Note 2) of approximately $84.1 million U.S. and
$6.5 million foreign for income taxes that expire in years 2007 through 2021. We have recorded a valuation allowance of $24.9 million related to its net deferred tax assets as management
is uncertain as to whether sufficient taxable income will be generated to allow the net deferred tax assets to be realized.

F-16

---

Deferred
income taxes reflect the net tax effects of temporary differences between the carrying amounts of assets and liabilities for financial reporting purposes and the amounts used
for income taxes. Components of our deferred tax assets and liabilities are as follows (in thousands):

|                                      |                                             | January 6,
2002 |         | January 5,
2003 |  
|------------------------------------- | ------------------------------------------- | --------------- | ------- | --------------- | -
|Deferred tax assets:                  |                                             |                 |         |                 |  
|                                      | Non-compete agreements                      |                 | $       | 4,573           |  
|                                      | Alternative minimum tax credit carryforward |                 |         | 4,169           |  
|                                      | Net operating loss carryforwards            |                 |         | 25,490          |  
|                                      | Accrued liabilities                         |                 |         | 770             |  
|                                      | Other tax credit carryforwards              |                 |         |                |  
|                                      | Other                                       |                 |         | 1,357           |  
|                                      |                                             |                 |         |                 |  
|Total deferred tax assets             |                                             |                 | 36,359  |                 |  
|Valuation allowance                   |                                             |                 | (18,412 | )               |  
|                                      |                                             |                 |         |                 |  
|Net deferred tax assets               |                                             |                 | 17,947  |                 |  
|Deferred tax liabilities:             |                                             |                 |         |                 |  
|                                      | Furnishings and equipment                   |                 |         | (6,494          | )
|                                      | Rental inventory                            |                 |         | (6,473          | )
|                                      | Goodwill                                    |                 |         | (1,986          | )
|                                      | Other                                       |                 |         | (2,459          | )
|                                      |                                             |                 |         |                 |  
|Total deferred tax liabilities        |                                             |                 | (17,412 | )               |  
|                                      |                                             |                 |         |                 |  
|Net deferred tax assets (liabilities) |                                             | $               | 535     |                 | $
|                                      |                                             |                 |         |                 |  

7.    Stockholders' Equity

Common Stock

Our Board of Directors approved two three-for-two stock splits, which were effected on August 31, 2001 and January 3, 2002
in the form of stock dividends. The stock splits increased the number of shares of common stock outstanding by a total of 14,894,399 shares.

Earnings Per Share

Basic earnings per share and basic pro forma earnings per share are computed based on the weighted average number of shares of common stock outstanding during the
periods presented. Diluted earnings per share and diluted pro forma earnings per share are computed based on the weighted average number of shares of common stock outstanding during the periods
presented, increased solely by the effects of shares to be issued from the exercise of dilutive common stock options (67,000, 1,383,000 and
1,163,000 for fiscal 2000, 2001 and 2002, respectively). No adjustments were made to net income in the computation of basic or diluted earnings per share.

Stock Offering

In May 2002, we closed a public offering of our common stock priced at $18.25 per share. We sold 3,900,000 shares and received the proceeds from 350,000
stock options exercised in conjunction with

F-17

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the offering for total proceeds, net of expenses of the offering, of approximately $67.6 million. A portion of the proceeds from the offering were used to repay outstanding borrowings under
our credit facility. We are currently using the balance of the proceeds from the offering for new store openings, selective acquisitions, working capital and other general corporate purposes.

Stock Option Plan

In July 1994, our Board of Directors adopted, and our stockholders approved, the 1994 Stock Option Plan. The plan provides for the award of incentive stock
options, stock appreciation rights, bonus rights and other incentive grants to employees, independent contractors and consultants. Currently 6,750,000 shares are reserved for issuance under the plan,
3,500,393 of which have been exercised as of January 5, 2003. Options granted under the plan have a ten-year term and generally vest over four years.

In
accordance with the provisions of FASB Statement No. 123,Accounting for Stock-Based Compensation, we apply Accounting
Principles Board Opinion No. 25 and related Interpretations in accounting for the plan and, accordingly, have not recognized compensation cost in connection with the plan, except for the
variable options described below. If we had elected to recognize compensation cost based on the fair value of the options granted at grant date as prescribed by Statement 123, net income and earnings
per share would have been adjusted to the pro forma amounts indicated in Note 1. The effect on net income and earnings per share is not expected to be indicative of the effects on net income
and earnings per share in future years.

The
fair value of each option grant was estimated at the date of grant using the Black-Scholes option pricing model with the following weighted-average assumptions:

|                                 |  | Fiscal Year Ended |  
|-------------------------------- |  | ----------------- | -
|
|Expected volatility              |  | 0.703             |  
|Risk-free interest rate          |  | 5.15              | %
|Expected life of option in years |  | 5.7               |  
|Expected dividend yield          |  | 0.0               | %

The
Black-Scholes option valuation model was developed for use in estimating the fair value of traded options which have no vesting restrictions and are fully transferable. In addition,
option valuation models require the input of highly subjective assumptions including the expected stock price volatility. Because our employee stock options have characteristics significantly
different from those of traded options, and because changes in the subjective input assumptions can materially affect the fair value estimate, in our opinion, the existing models do not necessarily
provide a reliable single measure of the fair value of our employee stock options.

In
March 2000, the FASB issued Interpretation No. 44,Accounting for Certain Transactions involving Stock Compensation, an interpretation of APB
Opinion No. 25. The Interpretation requires that stock options that have been modified to reduce the exercise price be accounted for as variable. We repriced 864,000
stock options in March 2001, and reduced the exercise price to $1.78 per share. Assuming all repriced stock options are exercised, we will receive $.6 million less than if no repricing
had occurred. Under Interpretation 44, the repriced stock options are accounted for as variable until the stock options are exercised, forfeited or expire unexercised.

F-18

---

A summary of our stock option activity and related information is as follows:

Outstanding
Options

Weighted-
Average Exercise
Price Per ShareOutstanding at January 2, 2000


5,123,221

$
4.25Granted


911,250


1.42Exercised





Cancelled


(313,830
)

2.28Outstanding at December 31, 2000


5,720,641


3.91Granted





Exercised


(2,128,927
)

2.26Cancelled


(146,205
)

4.99Outstanding at January 6, 2002


3,445,509


4.71Granted


456,250


14.61Exercised


(946,935
)

2.81Cancelled


(43,531
)

3.25Outstanding at January 5, 2003


2,911,293


6.90Exercisable at December 31, 2000


3,755,941


5.02Exercisable at January 6, 2002


2,236,021


6.39Exercisable at January 5, 2003


1,873,068


6.92Weighted-average fair value of options granted:Fiscal year ended December 3, 2000

$
2.10Fiscal year ended January 6, 2002


Fiscal year ended January 5, 2003


7.62


Options
outstanding as of January 5, 2003 had a weighted-average remaining contractual life of 5.8 years and exercise prices ranging from $1.00 to $18.00 as follows:

|                                                       |  | Exercise price of
|------------------------------------------------------ |  | -----------------
|
|Options outstanding                                    |  | 1,484,293        
|Weighted-average exercise price                        |  | $1.62            
|Weighted-average remaining contractual life            |  | 6.9 years        
|Options exercisable                                    |  | 866,818          
|Weighted-average exercise price of exercisable options |  | $1.66            

8.    Commitments and Contingencies

Rent expense for fiscal 2000, 2001 and 2002 totaled $45,132,000, $50,985,000 and $82,597,000, respectively. Future minimum payments under noncancellable operating
leases which contain renewal

F-19

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options and escalation clauses with remaining terms in excess of one year consisted of the following at January 5, 2003 (in thousands):

2003

$
65,6432004


57,7252005


39,1732006


22,3702007


12,904Thereafter


12,092$
209,907


We
have a supply contract with Rentrak Corporation which requires us to order rental inventory under lease sufficient to require an aggregate minimum payment of $4 million per
year in revenue sharing, handling fees, sell through fees and end-of-term buyout fees. The agreement expires in 2006. In March 2001, we amended the terms of our existing
supply contract with Rentrak. We paid Rentrak $1.6 million in connection with the amendment to the contract. Additionally, we prepaid approximately $.9 million to be applied over a
three-year period against future amounts due under the contract.

In
the second quarter of fiscal 2002, we obtained a preliminary court order approving a settlement agreement in certain putative class action lawsuits filed against us alleging that the
extended viewing fees charged to our customers for keeping rental products beyond the initial rental period were penalties in violation of certain common law and equitable principles. Under the terms
of the settlement agreement, we were required to give class members certificates with values ranging from $9 to $16, redeemable between January 30, 2003 and June 30, 2003, for movie
rentals, game rentals, and non-food purchases in our stores. We also agreed to pay the plaintiffs' attorneys up to $850,000 in fees. The terms of the settlement were approved in a fairness
hearing on November 22, 2002. The settlement released all claims made by all class members in all the pending class actions, other than ade
minimisnumber of members who chose not to participate in the settlement. The court's order approving the settlement has become final and non-appealable. We
incurred a one-time charge to our earnings of approximately $4 million in the second quarter of 2002 as a result of the settlement, which amount includes $850,000 of plaintiffs'
attorneys' fees.

We
are occasionally involved in litigation in the ordinary course of business, none of which, individually or in the aggregate, is material to our business or results of operations.

9.    Related Party Transactions

We hold a one-third interest in ECHO, LLC, a supply sales and distribution company. We purchase office and store supplies and other business products
from ECHO. This relationship enables us to substantially reduce the retail mark-up that occurs between the wholesaler and the retailer. We paid ECHO approximately $422,000 and $6,422,000
during fiscal 2001 and 2002, respectively, and received distributions totaling $40,000 in fiscal 2002. We have a $125,000 outstanding line of credit due from ECHO. We have received approximately
$2,900 and $6,400 in interest on the line of credit during fiscal 2001 and 2002, respectively. We had outstanding accounts payable to ECHO of approximately $24,000 and $469,000 as of January 6,
2002 and January 5, 2003, respectively.

F-20

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Air
Conditioning Associates, Inc. ("ACA") is owned by the father-in-law and brother-in-law of our Chairman of the Board, President,
and Chief Executive Officer. ACA administers the repair and maintenance function for our store base and corporate offices in addition to providing other HVAC materials and related services. We have
achieved overall cost savings under this management agreement and have improved our system for managing company-wide repair and maintenance needs. We paid ACA approximately $382,000,
$243,000 and $470,000 during fiscal 2000, 2001 and 2002, respectively. We had outstanding accounts payable to ACA of approximately $25,000 and $157,000 as of January 6, 2002 and
January 5, 2003, respectively.

J.
Todd, Inc. d/b/a Todd & Sons, is owned by the brother of our Senior Vice President, Secretary and General Counsel. Todd & Sons supplies us with certain clothing
and promotional items on an as needed
basis. We have no minimum purchase requirements or contractual obligations with Todd & Sons. We paid Todd & Sons approximately $28,000, $127,000 and $49,000 during fiscal 2000, 2001 and
2002, respectively. We had outstanding accounts payable to Todd & Sons of approximately $3,000 and $1,000 as of January 6, 2002 and January 5, 2003, respectively.

10.    Foreign Operations

Beginning in fiscal 2001, we operated in both the United States and Canada. The following table sets forth our consolidated revenues, operating income and assets
by geographic area. All intercompany balances and transactions have been eliminated.

|                                |               | Fiscal Year Ended |        
|------------------------------- | ------------- | ----------------- | -------
|
|
|Revenues:                       |               |                   |        
|                                | United States |                   | $      
|                                | Canada        |                   |        
|                                |               |                   |        
|Total revenues                  |               | $                 | 369,131
|                                |               |                   |        
|Operating income:               |               |                   |        
|                                | United States |                   | $      
|                                | Canada        |                   |        
|                                |               |                   |        
|Total operating income          |               | $                 | 27,170 
|                                |               |                   |        
|Assets (at end of fiscal year): |               |                   |        
|                                | United States |                   | $      
|                                | Canada        |                   |        
|                                |               |                   |        
|Total assets                    |               | $                 | 270,132
|                                |               |                   |        

F-21

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11.    Summary of Quarterly Results of Operations (Unaudited)

The following is a summary of our unaudited quarterly results of operations (in thousands, except per share data):

|                           |  | Thirteen Weeks Ended |        | Fourteen
Weeks Ended
|-------------------------- |  | -------------------- | ------ | --------------------
|
|Revenues                   |  | $                    | 91,571 |                     
|Operating income           |  | $                    | 7,413  |                     
|Net income                 |  | $                    | 4,019  |                     
|Basic earnings per share   |  | $                    | 0.16   |                     
|Diluted earnings per share |  | $                    | 0.16   |                     

|                                  |  | Thirteen Weeks Ended |        
|--------------------------------- |  | -------------------- | -------
|
|Revenue                           |  | $                    | 123,130
|Operating income (loss)           |  | $                    | 16,869 
|Net income (loss)                 |  | $                    | 9,874  
|Basic earnings (loss) per share   |  | $                    | 0.36   
|Diluted earnings (loss) per share |  | $                    | 0.35   

F-22

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Movie Gallery, Inc.        Schedule IIValuation and Qualifying Accounts        (in thousands)

|Description                 |  | Balance at
December 31,
2002 |   | Additions
Charged to
Costs and
Expenses |   | Deductions |  | Balance at
January 6,
2002 |     | Deductions |   | Balance at
January 5,
2003
|--------------------------- |  | ---------------------------- | - | --------------------------------------- | - | ---------- |  | -------------------------- | --- | ---------- | - | --------------------------
|Rental inventory reserve(1) |  | $                            |  |                                         | $ | 2,100      |  | $                          |    |            | $ | 2,100                     
|Exit cost reserve(2)        |  | $                            |  |                                         | $ | 1,257      |  | $                          | (23 | )          | $ | 1,234                     

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F-23

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Index to Exhibits

|Exhibit No. |  | Description                                                                                                           
|----------- |  | ----------------------------------------------------------------------------------------------------------------------
|            |  |                                                                                                                       
|3.1.3       |  | Certificate of Amendment of Certificate of Incorporation                                                              
|3.2         |  | Amended and Restated Bylaws of Movie Gallery, Inc.                                                                    
|10.1.1      |  | Amendment to Movie Gallery, Inc. 1994 Stock Plan, as amended                                                          
|10.10.1     |  | Amendment to Credit Agreement between Movie Gallery, Inc. and SouthTrust Bank dated September 25, 2001                
|10.10.2     |  | Amendment to Credit Agreement between Movie Gallery, Inc. and SouthTrust Bank dated January 14, 2002                  
|21          |  | List of Subsidiaries                                                                                                  
|23          |  | Consent of Ernst & Young LLP, Independent Auditors                                                                    
|99.1        |  | Certification Pursuant to 18 U.S.C. Section 1350, as adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002
|99.2        |  | Certification Pursuant to 18 U.S.C. Section 1350, as adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002

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