##### Table of Contents



UNITED STATES SECURITIES AND EXCHANGE COMMISSION
 Washington, D. C. 20549
 FORM 10-Q
 þ
    
    QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934
 for the quarterly period ended September 30, 2006
 or
 o
    
    TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934
 for
the transition period
fromto
 Commission File Number 0-22982
 NAVARRE CORPORATION
  Minnesota
    
    41-1704319(State or other jurisdiction of
    
    (IRS Employerincorporation or organization)
    
    Identification No.)
 7400 49th Avenue North, New Hope, MN 55428
 (763) 535-8333
 þ o
  o þ o
 o þ
  Class
    
    Outstanding at November 3, 2006Common Stock, No Par Value
    

35,866,495 shares




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##### 



NAVARRE CORPORATION
  
 Index
 PART I. FINANCIAL INFORMATIONItem 1. Consolidated Financial Statements. (Unaudited)Consolidated Balance Sheets  September 30, 2006 and March 31, 2006Consolidated Statements of Operations  Three and Six Months ended September 30, 2006 and 2005Consolidated Statements of Cash Flows  Three and Six Months ended September 30, 2006 and 2005Notes to Consolidated Financial StatementsItem 2. Managements Discussion and Analysis of Financial Condition and Results of OperationsItem 3. Quantitative and Qualitative Disclosures About Market RiskItem 4. Controls and ProceduresPART II. OTHER INFORMATIONItem 1. Legal ProceedingsItem 1A. Risk FactorsItem 2. Unregistered Sales of Equity Securities and Use of ProceedsItem 3. Defaults Upon Senior SecuritiesItem 4. Submission of Matters to a Vote of Security HoldersItem 5. Other InformationItem 6. ExhibitsSIGNATURESForm of Limited WaiverCertification of CEO Pursuant to Section 302Certification of CFO Pursuant to Section 302Certification of CEO Pursuant to Section 906Certification of CFO Pursuant to Section 906
  2




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##### Table of Contents



PART I. FINANCIAL INFORMATION
 
 Item 1. Consolidated Financial Statements.
 NAVARRE CORPORATION
 
 Consolidated Balance Sheets
(In thousands, except share amounts)
 September 30,
    
    
    March 31,2006
    
    
    2006(Unaudited)
    
    
    (Note)Assets:Current assets:Cash and cash equivalents
    
    $
    8,406
    
    
    $
    14,296Note receivable, related parties
    
    
    100
    
    
    
    200Accounts receivable, less allowances of $19,711 and $19,345, respectively
    
    
    109,606
    
    
    
    87,653Inventories
    
    
    61,210
    
    
    
    43,624Prepaid expenses and other current assets
    
    
    17,633
    
    
    
    11,273Income tax receivable
    
    
    
    
    
    
    4,408Deferred tax assets  current
    
    
    9,588
    
    
    
    8,830Total current assets
    
    
    206,543
    
    
    
    170,284Property and equipment, net of accumulated depreciation of $9,755 and $8,349, respectively
    
    
    11,256
    
    
    
    10,298Other assets:Goodwill
    
    
    81,697
    
    
    
    81,202Intangible assets, net of amortization of $12,132 and $8,258, respectively
    
    
    17,775
    
    
    
    20,863License fees, net of amortization of $8,669 and $5,334, respectively
    
    
    14,191
    
    
    
    13,347Interest rate swap
    
    
    98
    
    
    
    37Other assets
    
    
    13,119
    
    
    
    13,583Total assets
    
    $
    344,679
    
    
    $
    309,614Liabilities and shareholders equity:Current liabilities:Note payable  short term
    
    $
    5,000
    
    
    $
    5,000Capital lease obligation  short term
    
    
    109
    
    
    
    115Accounts payable
    
    
    134,702
    
    
    
    97,923Warrant liability
    
    
    
    
    
    
    2,236Income taxes payable
    
    
    337
    
    
    
    Accrued expenses
    
    
    13,852
    
    
    
    16,646Total current liabilities
    
    
    154,000
    
    
    
    121,920Long-term liabilities:Note payable  long-term
    
    
    72,630
    
    
    
    75,130Capital lease obligation  long-term
    
    
    172
    
    
    
    222Deferred compensation
    
    
    5,654
    
    
    
    5,272Deferred tax liabilities  non-current
    
    
    464
    
    
    
    770Other long-term liabilities
    
    
    760
    
    
    
    760Total liabilities
    
    
    233,680
    
    
    
    204,074Commitments and contingencies (Note 21)Temporary equity  unregistered common stock, no par value; 5,699,998 issued and
outstanding (Note 18)
    
    
    
    
    
    
    16,634Shareholders equity:Common stock, no par value:Authorized shares  100,000,000Issued and outstanding shares  35,849,295 and 29,911,097, respectively
    
    
    158,104
    
    
    
    138,292Accumulated other comprehensive income (loss)
    
    
    59
    
    
    
    23Accumulated deficit
    
    
    (47,164
    )
    
    
    (49,409
    )Total shareholders equity
    
    
    110,999
    
    
    
    88,906Total liabilities and shareholders equity
    
    $
    344,679
    
    
    $
    309,614
 Note: The balance sheet at March 31, 2006 has been derived from the audited consolidated financial
statements at that date but does not include all of the information and footnotes required by
accounting principles generally accepted in the United States of America for complete consolidated
financial statements.
 See accompanying notes to consolidated financial statements.
 3




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NAVARRE CORPORATION
 
 Consolidated Statements of Operations
(In thousands, except per share amounts)
(Unaudited)
 Three Months Ended
    
    
    Six Months EndedSeptember 30,
    
    
    September 30,2006
    
    
    2005
    
    
    2006
    
    
    2005Net sales
    
    $
    173,149
    
    
    $
    158,130
    
    
    $
    319,488
    
    
    $
    299,418Cost of sales (exclusive of depreciation and amortization)
    
    
    142,434
    
    
    
    129,691
    
    
    
    263,493
    
    
    
    246,148Gross profit
    
    
    30,715
    
    
    
    28,439
    
    
    
    55,995
    
    
    
    53,270Operating expenses:Selling and marketing
    
    
    7,897
    
    
    
    7,630
    
    
    
    14,667
    
    
    
    14,221Distribution and warehousing
    
    
    2,924
    
    
    
    2,242
    
    
    
    5,384
    
    
    
    4,432General and administrative
    
    
    10,398
    
    
    
    11,474
    
    
    
    20,154
    
    
    
    21,516Bad debt expense
    
    
    2,362
    
    
    
    40
    
    
    
    2,819
    
    
    
    49Depreciation and amortization
    
    
    2,683
    
    
    
    4,147
    
    
    
    5,307
    
    
    
    5,171Total operating expenses
    
    
    26,264
    
    
    
    25,533
    
    
    
    48,331
    
    
    
    45,389Income from operations
    
    
    4,451
    
    
    
    2,906
    
    
    
    7,664
    
    
    
    7,881Other income (expense):Interest expense
    
    
    (2,007
    )
    
    
    (3,055
    )
    
    
    (3,927
    )
    
    
    (5,210
    )Interest income
    
    
    90
    
    
    
    249
    
    
    
    209
    
    
    
    615Warrant income (expense)
    
    
    172
    
    
    
    
    
    
    
    (251
    )
    
    
    Other income (expense), net
    
    
    (19
    )
    
    
    73
    
    
    
    56
    
    
    
    378Net income before income tax
    
    
    2,687
    
    
    
    173
    
    
    
    3,751
    
    
    
    3,664Income tax expense
    
    
    (1,075
    )
    
    
    (248
    )
    
    
    (1,506
    )
    
    
    (1,833
    )Net income (loss)
    
    $
    1,612
    
    
    $
    (75
    )
    
    $
    2,245
    
    
    $
    1,831Earnings
(loss) per common share:Basic
    
    $
    .05
    
    
    $
    .00
    
    
    $
    .06
    
    
    $
    .06Diluted
    
    $
    .04
    
    
    $
    .00
    
    
    $
    .06
    
    
    $
    .06Weighted average shares outstanding:Basic
    
    
    35,735
    
    
    
    29,841
    
    
    
    35,691
    
    
    
    29,397Diluted
    
    
    36,201
    
    
    
    29,841
    
    
    
    36,184
    
    
    
    30,404
 See accompanying notes to consolidated financial statements.
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NAVARRE CORPORATION
 
 Consolidated Statements of Cash Flows
(In thousands)
(Unaudited)
 Six Months EndedSeptember 30,2006
    
    
    2005Operating activities:Net income
    
    $
    2,245
    
    
    $
    1,831Adjustments to reconcile net income to net cash provided by operating activities:Depreciation and amortization
    
    
    5,364
    
    
    
    5,232Amortization and write-off of deferred financing costs
    
    
    298
    
    
    
    477Deferred compensation expense
    
    
    382
    
    
    
    144Write-off of notes receivable
    
    
    100
    
    
    
    100Amortization of license fees
    
    
    3,334
    
    
    
    2,529Amortization of production costs
    
    
    1,082
    
    
    
    866Share-based compensation expense
    
    
    300
    
    
    
    Tax benefit from employee stock option plans
    
    
    151
    
    
    
    237Loss (gain) on disposal of fixed assets
    
    
    36
    
    
    
    (3
    )Deferred income taxes
    
    
    (1,091
    )
    
    
    (1,314
    )Loss on derivative instruments
    
    
    1
    
    
    
    Change in fair market value of warrants
    
    
    251
    
    
    
    Changes in operating assets and liabilities, net of effects of acquisitions:Accounts receivable
    
    
    (22,097
    )
    
    
    4,076Inventories
    
    
    (17,586
    )
    
    
    (9,386
    )Prepaid expenses
    
    
    (6,360
    )
    
    
    (3,180
    )Income taxes receivable
    
    
    4,408
    
    
    
    (1,154
    )Other assets
    
    
    972
    
    
    
    145Production costs
    
    
    (1,815
    )
    
    
    (928
    )License fees
    
    
    (4,178
    )
    
    
    (3,299
    )Accounts payable
    
    
    36,779
    
    
    
    12,528Income taxes payable
    
    
    337
    
    
    
    (8
    )Accrued expenses
    
    
    (2,794
    )
    
    
    (6,109
    )Net cash provided by operating activities
    
    
    119
    
    
    
    2,784Investing activities:Acquisitions, net of cash acquired
    
    
    
    
    
    
    (98,147
    )Purchases of property and equipment
    
    
    (2,486
    )
    
    
    (1,084
    )Purchases of intangible assets
    
    
    (857
    )
    
    
    (213
    )Payment of earn-out related to an acquisition
    
    
    (350
    )
    
    
    (350
    )Net cash used in investing activities
    
    
    (3,693
    )
    
    
    (99,794
    )Financing activities:Proceeds from note payable, line of credit
    
    
    9,282
    
    
    
    Payments on note payable, line of credit
    
    
    (9,282
    )
    
    
    Payments on note payable
    
    
    (2,500
    )
    
    
    (21,250
    )Proceeds from note payable
    
    
    
    
    
    
    140,850Debt acquisition costs
    
    
    
    
    
    
    (2,921
    )Registration statement costs
    
    
    (102
    )
    
    
    Repayments of capital lease obligations
    
    
    (56
    )
    
    
    (42
    )Proceeds from exercise of common stock options and warrants
    
    
    342
    
    
    
    437Net cash (used in) provided by financing activities
    
    
    (2,316
    )
    
    
    117,074Net increase (decrease) in cash
    
    
    (5,890
    )
    
    
    20,064Cash at beginning of period
    
    
    14,296
    
    
    
    15,571Cash at end of period
    
    $
    8,406
    
    
    $
    35,635Supplemental cash flow information:Cash paid for:Interest
    
    $
    5,247
    
    
    $
    3,584Income
taxes, net of refunds
    
    
    (2,300
    )
    
    
    4,076Supplemental schedule of non-cash investing and financing activities:Reclassification of acquisition costs from other assets to goodwill
    
    
    
    
    
    
    1,656Capital lease obligations incurred for the purchase of computer equipment
    
    
    
    
    
    
    39Reclassification of prepaid royalties to other assets
    
    
    
    
    
    
    6,317Purchase price adjustments affecting: accounts receivable and goodwill
    
    
    145
    
    
    
    Acquisition:Fair value of assets acquired
    
    $
    
    
    
    $
    126,113Less: Liabilities assumed
    
    
    
    
    
    
    9,683Fair value of stock issued
    
    
    
    
    
    
    14,144Cash acquired
    
    
    
    
    
    
    4,139Acquisition net of cash acquired
    
    $
    
    
    
    $
    98,147
 See accompanying notes to consolidated financial statements.
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NAVARRE CORPORATION
 
 Notes to Consolidated Financial Statements
(Unaudited)
 Note 1  Organization and Basis of Presentation
     Segment Reporting
 Disclosure about Segments of an Enterprise and Related
Information
 Revenue Recognition
   6




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Accounting by Producers or Distributors of Films.
 Recently Issued Accounting Pronouncements
 Share-Based Payment Accounting for Stock-Based
Compensation Accounting for Stock Issued to Employees
 Accounting for Uncertainty
in Income Taxes  an Interpretation of FASB Statement 109
 Fair Value Measurements
 7




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##### Table of Contents



Accounting for
Planned Major Maintenance Activities
 Considering the
Effects of Prior Year Misstatements when Quantifying Misstatements in Current Year Financial
Statements
 Note 2  Acquisitions
 FUNimation
 anime
 Purchase Price
 Business Combinations
   Accounts receivable
    
    $
    7,052Inventories
    
    
    315Prepaid expenses and other current assets
    
    
    53Property and equipment
    
    
    2,037License fees
    
    
    7,125Production costs
    
    
    2,608Goodwill
    
    
    71,165License arrangements and other intangibles
    
    
    21,646Current liabilities
    
    
    (9,116
    )Total purchase price, less cash acquired
    
    $
    102,885
  8




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##### Table of Contents



Six Months EndedSeptember 30, 2005As reported
    
    
    Pro formaNet sales
    
    $
    299,418
    
    
    $
    305,140Net income
    
    
    1,831
    
    
    
    2,077Earnings per common share:Basic
    
    $
    .06
    
    
    $
    .07Diluted
    
    $
    .06
    
    
    $
    .07
 Note 3  Mix & Burn
 Variable Interest Entity
 Consolidation of Variable Interest Entities Consolidated
Financial Statements
   Investment
  Note 4  Share-Based Compensation
 Statement of Cash Flows Accounting for Stock-Based Compensation
 9




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Accounting for Stock-Based Compensation  Transitional
Disclosure
  Transition Election
Related to Accounting for Tax Effects of Share-Based Payment Awards
 Equity Compensation Plans
    1 3
  10




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##### Table of Contents



Stock Options
  WeightedWeighted
    
    
    averageaverage
    
    
    remaining
    
    
    AggregateNumber of
    
    
    exercises
    
    
    contractual
    
    
    intrinsicoptions
    
    
    price
    
    
    term
    
    
    valueOptions outstanding, March 31, 2006:
    
    
    3,341,100
    
    
    $
    7.17Granted
    
    
    132,000
    
    
    $
    4.20Exercised
    
    
    (232,200
    )
    
    $
    1.47Canceled
    
    
    (150,200
    )
    
    $
    8.69Options outstanding, September 30, 2006
    
    
    3,090,700
    
    
    $
    7.40
    
    
    
    5.3
    
    
    $
    1,684Options exercisable at September 30, 2006
    
    
    2,690,500
    
    
    $
    8.12
    
    
    
    5.4
    
    
    $
    1,078Shares available for future grant
    
    
    1,175,000
    Restricted Stock
  11




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##### Table of Contents



WeightedWeighted
    
    
    averageaverage
    
    
    remaininggrant date
    
    
    contractualShares
    
    
    fair value
    
    
    termUnvested, March 31, 2006:
    
    
    
    
    
    
    
    
    
    
    Granted
    
    
    81,000
    
    
    $
    4.29
    
    
    
    .50Vested
    
    
    (6,000
    )
    
    $
    4.29
    
    
    
    Forfeited
    
    
    
    
    
    
    
    
    
    
    Unvested, September 30, 2006
    
    
    75,000
    
    
    $
    4.29
    
    
    
    .50
   Restricted Stock Units
   Valuation and Expense Information Under SFAS 123R
  Three Months
    
    Six MonthsEnded
    
    EndedSeptember 30,
    
    September 30,2006
    
    2006Expected life (in years)
    
    
    5.0
    
    
    
    5.0Expected volatility
    
    
    70
    %
    
    
    70
    %Risk-free interest rate
    
    
    4.90
    %
    
    
    4.88
    %Expected dividend yield
    
    
    0.0
    %
    
    
    0.0
    %Weighted-average fair value of grants
    
    $
    2.62
    
    
    $
    2.59
   12




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Three Months
    
    
    Six MonthsEnded
    
    
    EndedSeptember 30,
    
    
    September 30,2006
    
    
    2006General and administrative expenses
    
    $
    (156
    )
    
    $
    (300
    )Share-based compensation expense before income taxes
    
    
    (156
    )
    
    
    (300
    )Tax benefit
    
    
    62
    
    
    
    120Share-based compensation after income taxes
    
    
    (94
    )
    
    
    (180
    )Effect on earnings (loss) per share:Basic
    
    $
    .00
    
    
    $
    (.01
    )Diluted
    
    $
    .00
    
    
    $
    .00
 Pro Forma Information Under SFAS 123 for Periods Prior to Fiscal 2007
   Three Months
    
    
    Six MonthsEnded
    
    
    EndedSeptember 30,
    
    
    September 30,2005
    
    
    2005Net income (loss), as reported
    
    $
    (75
    )
    
    $
    1,831Deduct: Share-based compensation
expense determined under fair
value based method for all awards,
net of related taxes
    
    
    (403
    )
    
    
    (762
    )Pro forma net income (loss)
    
    $
    (478
    )
    
    $
    1,069Basic income (loss) per share:As reported
    
    $
    .00
    
    
    $
    .06Pro forma
    
    $
    (.02
    )
    
    $
    .04Diluted income (loss) per share:As reported
    
    $
    .00
    
    
    $
    .06Pro forma
    
    $
    (.02
    )
    
    $
    .04
  Three MonthsEndedSeptember 30,2005Expected life (in years)
    
    
    5.0Expected volatility
    
    
    65
    %Risk-free interest rate
    
    
    4.08
    %Expected dividend yield
    
    
    0.0
    %Weighted-average fair value of grants
    
    $
    4.31
 13




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##### Table of Contents



Note 5  Earnings Per Share
   Three Months Ended
    
    
    Six Months EndedSeptember 30,
    
    
    September 30,2006
    
    
    2005
    
    
    2006
    
    
    2005Numerator:Net income (loss)
    
    $
    1,612
    
    
    $
    (75
    )
    
    $
    2,245
    
    
    $
    1,831Denominator:Denominator for basic earnings per shareweighted-average shares
    
    
    35,735
    
    
    
    29,841
    
    
    
    35,691
    
    
    
    29,397Equivalent shares from share-based compensation plans
    
    
    466
    
    
    
    
    
    
    
    493
    
    
    
    1,007Denominator for diluted earnings per shareadjusted
weighted-average shares
    
    
    36,201
    
    
    
    29,841
    
    
    
    36,184
    
    
    
    30,404Basic income (loss) per share
    
    $
    .05
    
    
    $
    .00
    
    
    $
    .06
    
    
    $
    .06Dilutive income (loss) per share
    
    $
    .04
    
    
    $
    .00
    
    
    $
    .06
    
    
    $
    .06
   Note 6  Comprehensive Income (Loss)
   Three Months Ended
    
    
    Six Months EndedSeptember 30,
    
    
    September 30,2006
    
    
    2005
    
    
    2006
    
    
    2005Net income (loss)
    
    $
    1,612
    
    
    $
    (75
    )
    
    $
    2,245
    
    
    $
    1,831Net unrealized gain (loss) on hedge derivatives, net of tax
    
    
    (74
    )
    
    
    (929
    )
    
    
    36
    
    
    
    (929
    )Comprehensive income (loss)
    
    $
    1,538
    
    
    $
    (1,004
    )
    
    $
    2,281
    
    
    $
    902
   September 30,
    
    
    March 31,2006
    
    
    2006Unrealized gain (loss) from:Hedge derivatives
    
    $
    59
    
    
    $
    23Accumulated other comprehensive income (loss)
    
    $
    59
    
    
    $
    23
 Note 7  Shareholders Equity
  14




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Note 8  Accounts Receivable
  September 30,
    
    
    March 31,2006
    
    
    2006Trade receivables
    
    $
    124,650
    
    
    $
    102,722Vendor receivables
    
    
    3,121
    
    
    
    2,623Other receivables
    
    
    1,546
    
    
    
    1,653$
    129,317
    
    
    $
    106,998Less: allowance for doubtful accounts, vendor receivables and sales discounts
    
    
    8,130
    
    
    
    6,544Less: allowance for sales returns, net margin impact
    
    
    11,581
    
    
    
    12,801Total
    
    $
    109,606
    
    
    $
    87,653
 Note 9  Prepaid Expenses and Other Current Assets
  September 30,
    
    
    March 31,2006
    
    
    2006Prepaid royalties
    
    $
    16,217
    
    
    $
    10,060Other
    
    
    1,416
    
    
    
    1,213Total
    
    $
    17,633
    
    
    $
    11,273
 Note 10  Inventories
  September 30,
    
    
    March 31,2006
    
    
    2006Finished products
    
    $
    49,834
    
    
    $
    34,154Consigned inventory
    
    
    4,688
    
    
    
    4,119Raw materials
    
    
    6,688
    
    
    
    5,351Total
    
    $
    61,210
    
    
    $
    43,624
  Note 11  License Fees
  September 30,
    
    
    March 31,2006
    
    
    2006License fees
    
    $
    22,860
    
    
    $
    18,681Less: accumulated amortization
    
    
    8,669
    
    
    
    5,334$
    14,191
    
    
    $
    13,347
  SOP 00-2
 15




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##### Table of Contents



Note 12  Production Costs
  September 30,
    
    
    March 31,2006
    
    
    2006Production costs
    
    $
    7,469
    
    
    $
    5,653Less: accumulated amortization
    
    
    2,959
    
    
    
    1,877$
    4,510
    
    
    
    3,776
  SOP 00-2
 Note 13  Property and Equipment
  September 30,
    
    
    March 31,2006
    
    
    2006Land and buildings
    
    $
    1,623
    
    
    $
    1,623Furniture and fixtures
    
    
    1,101
    
    
    
    1,052Computer and office equipment
    
    
    5,722
    
    
    
    5,541Warehouse equipment
    
    
    8,018
    
    
    
    7,062Leasehold improvements
    
    
    1,872
    
    
    
    1,843Production equipment
    
    
    358
    
    
    
    257Construction in progress
    
    
    2,317
    
    
    
    1,269Total
    
    $
    21,011
    
    
    $
    18,647Less: accumulated depreciation and amortization
    
    
    9,755
    
    
    
    8,349Net property and equipment
    
    $
    11,256
    
    
    $
    10,298
 Note 14  Goodwill and Intangible Assets
 Goodwill
   Distribution
    
    
    Publishing
    
    
    ConsolidatedBalances as of March 31, 2006
    
    $
    
    
    
    $
    81,202
    
    
    $
    81,202Goodwill adjustment related to an acquisition
    
    
    
    
    
    
    145
    
    
    
    145Earn-out related to an acquisition
    
    
    
    
    
    
    350
    
    
    
    350Balances as of September 30, 2006
    
    $
    
    
    
    $
    81,697
    
    
    $
    81,697
 16




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##### Table of Contents



Intangible assets
  As of September 30, 2006Gross carrying
    
    
    Accumulatedamount
    
    
    amortization
    
    
    NetMasters
    
    $
    8,261
    
    
    $
    4,090
    
    
    $
    4,171License relationships
    
    
    20,078
    
    
    
    8,042
    
    
    
    12,036Other (not amortized)
    
    
    1,568
    
    
    
    
    
    
    
    1,568$
    29,907
    
    
    $
    12,132
    
    
    $
    17,775
 As of March 31, 2006Gross carrying
    
    
    Accumulatedamount
    
    
    amortization
    
    
    NetMasters
    
    $
    7,475
    
    
    $
    3,213
    
    
    $
    4,262License relationships
    
    
    20,078
    
    
    
    5,045
    
    
    
    15,033Other (not amortized)
    
    
    1,568
    
    
    
    
    
    
    
    1,568$
    29,121
    
    
    $
    8,258
    
    
    $
    20,863
   Remainder of 2007
    
    $
    3,7942008
    
    
    5,0282009
    
    
    4,0252010
    
    
    1,9792011
    
    
    440
 Debt issuance costs
  Note 15  Accrued Expenses
  September 30,
    
    
    March 31,2006
    
    
    2006Compensation and benefits
    
    $
    3,501
    
    
    $
    3,067Royalties
    
    
    4,590
    
    
    
    6,134Interest
    
    
    431
    
    
    
    1,751Rebates
    
    
    1,828
    
    
    
    1,354Other
    
    
    3,502
    
    
    
    4,340Total
    
    $
    13,852
    
    
    $
    16,646
 Note 16  Bank Financing and Debt
  17




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##### Table of Contents



September 30,
    
    
    March 31,2006
    
    
    2006Term Loan B sub-facility
    
    $
    77,630
    
    
    $
    80,130Less: current portion
    
    
    5,000
    
    
    
    5,000Total long-term debt
    
    $
    72,630
    
    
    $
    75,130
 Letters of Credit
  Note 17  Derivative Instruments
  18




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##### Table of Contents



Note 18  Private Placement
   Accounting for Derivative Financial Instruments Indexed to, and Potentially
Settled in, a Companys Own Stock
  Note 19  Income Taxes
  19




---



##### Table of Contents



Note 20  License and Distribution Agreement
  Note 21  Commitments and Contingencies
 Commitments  Other
  Litigation
  Sybersound Records, Inc. v. BCI Eclipse, LLC, et al.
   20




---



##### Table of Contents



Sybersound Records, Inc. v. Navarre Corporation, BCI Eclipse, LLC, et al.
    Securities Litigation Lawsuits
   AVIVA Partners, Ltd. v. Navarre Corp., et al.   Vivian Oh v. Navarre Corp., et al.   Matthew Grabler v. Navarre Corp., et al.
  In re Navarre Corporation Securities
Litigation
 21




---



##### Table of Contents



Shareholder Derivative Lawsuits
   Shannon Binns v. Charles Cheney, et al.   Karel Filip v. Charles Cheney, et al.   Jeffrey Evans v. Charles Cheney, et al.   Joan Brewster v. Charles Cheney, et al.   William Block v. Charles Cheney, et al.
     22




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##### Table of Contents



Note 22  Related Party Transactions
 Employment/Severance Agreements
     Employment Agreement  FUNimation
  23




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##### Table of Contents



Chief Executive Officer Investment in Mix & Burn
  Note 23  Business Segments
   Three months ended September 30, 2006
    
    Distribution
    
    Publishing
    
    Other
    
    Eliminations
    
    ConsolidatedNet sales
    
    $
    156,894
    
    
    $
    34,705
    
    
    $
    
    
    
    $
    (18,450
    )
    
    $
    173,149Income (loss) from operations
    
    
    88
    
    
    
    4,363
    
    
    
    
    
    
    
    
    
    
    
    4,451Net income (loss) before income tax
    
    
    (1,722
    )
    
    
    4,409
    
    
    
    
    
    
    
    
    
    
    
    2,687Total assets
    
    $
    293,244
    
    
    $
    168,436
    
    
    $
    
    
    
    $
    (117,001
    )
    
    $
    344,679
 Three months ended September 30, 2005
    
    Distribution
    
    Publishing
    
    Other
    
    Eliminations
    
    ConsolidatedNet sales
    
    $
    139,903
    
    
    $
    31,801
    
    
    $
    147
    
    
    $
    (13,721
    )
    
    $
    158,130Income (loss) from operations
    
    
    1,161
    
    
    
    2,361
    
    
    
    (616
    )
    
    
    
    
    
    
    2,906Net income (loss) before income tax
    
    
    (1,429
    )
    
    
    2,285
    
    
    
    (683
    )
    
    
    
    
    
    
    173Total assets
    
    $
    311,107
    
    
    $
    175,659
    
    
    $
    647
    
    
    $
    (140,904
    )
    
    $
    346,509
 Six months ended September 30, 2006
    
    Distribution
    
    Publishing
    
    Other
    
    Eliminations
    
    ConsolidatedNet sales
    
    $
    289,645
    
    
    $
    60,743
    
    
    $
    
    
    
    $
    (30,900
    )
    
    $
    319,488Income (loss) from operations
    
    
    1,293
    
    
    
    6,371
    
    
    
    
    
    
    
    
    
    
    
    7,664Net income (loss) before income tax
    
    
    (2,725
    )
    
    
    6,476
    
    
    
    
    
    
    
    
    
    
    
    3,751Total assets
    
    $
    293,244
    
    
    $
    168,436
    
    
    $
    
    
    
    $
    (117,001
    )
    
    $
    344,679
 Six months ended September 30, 2005
    
    Distribution
    
    Publishing
    
    Other
    
    Eliminations
    
    ConsolidatedNet sales
    
    $
    269,062
    
    
    $
    57,909
    
    
    $
    255
    
    
    $
    (27,808
    )
    
    $
    299,418Income (loss) from operations
    
    
    2,316
    
    
    
    6,668
    
    
    
    (1,103
    )
    
    
    
    
    
    
    7,881Net income (loss) before income tax
    
    
    (1,638
    )
    
    
    6,522
    
    
    
    (1,220
    )
    
    
    
    
    
    
    3,664Total assets
    
    $
    311,107
    
    
    $
    175,659
    
    
    $
    647
    
    
    $
    (140,904
    )
    
    $
    346,509
 24




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##### Table of Contents



Item 2. Managements Discussion and Analysis of Financial Condition and Results of Operations.
 Executive Summary
    Overview
    anime
 25




---



##### Table of Contents



Forward-Looking Statements / Important Risk Factors
   anime
 26




---



##### Table of Contents



Critical Accounting Policies
  Share-based Compensation
   27




---



##### Table of Contents



Reconciliation of GAAP Net Sales to Net Sales Before Inter-Company Eliminations
  Three Months Ended
    
    
    Six Months EndedSeptember 30,
    
    
    September 30,(Unaudited)
    
    
    (Unaudited)(In thousands)
    
    2006
    
    
    2005
    
    
    2006
    
    
    2005Net sales:Distribution
    
    $
    156,894
    
    
    $
    139,903
    
    
    $
    289,645
    
    
    $
    269,062Publishing
    
    
    34,705
    
    
    
    31,801
    
    
    
    60,743
    
    
    
    57,909Other
    
    
    
    
    
    
    147
    
    
    
    
    
    
    
    255Net sales before inter-company eliminations
    
    
    191,599
    
    
    
    171,851
    
    
    
    350,388
    
    
    
    327,226Inter-company eliminations
    
    
    (18,450
    )
    
    
    (13,721
    )
    
    
    (30,900
    )
    
    
    (27,808
    )Net sales as reported
    
    $
    173,149
    
    
    $
    158,130
    
    
    $
    319,488
    
    
    $
    299,418
 Results of Operations
  Three Months Ended September 30,
    
    Six Months Ended September 30,(Unaudited)
    
    (Unaudited)2006
    
    2005
    
    2006
    
    2005Net sales:Distribution
    
    
    90.6
    %
    
    
    88.5
    %
    
    
    90.7
    %
    
    
    89.9
    %Publishing
    
    
    20.0
    
    
    
    20.1
    
    
    
    19.0
    
    
    
    19.3Other
    
    
    0.0
    
    
    
    0.1
    
    
    
    0.0
    
    
    
    0.1Inter-company sales
    
    
    (10.6
    )
    
    
    (8.7
    )
    
    
    (9.7
    )
    
    
    (9.3
    )Total net sales
    
    
    100.0
    
    
    
    100.0
    
    
    
    100.0
    
    
    
    100.0Cost of sales, exclusive of amortization and depreciation
    
    
    82.3
    
    
    
    82.0
    
    
    
    82.4
    
    
    
    82.2Gross profit
    
    
    17.7
    
    
    
    18.0
    
    
    
    17.6
    
    
    
    17.8Selling and marketing
    
    
    4.6
    
    
    
    4.8
    
    
    
    4.6
    
    
    
    4.8Distribution and warehousing
    
    
    1.7
    
    
    
    1.4
    
    
    
    1.7
    
    
    
    1.5General and administrative
    
    
    6.0
    
    
    
    7.3
    
    
    
    6.3
    
    
    
    7.2Bad debt
    
    
    1.4
    
    
    
    0.0
    
    
    
    0.9
    
    
    
    0.0Depreciation and amortization
    
    
    1.5
    
    
    
    2.6
    
    
    
    1.7
    
    
    
    1.7Total operating expenses
    
    
    15.2
    
    
    
    16.1
    
    
    
    15.2
    
    
    
    15.2Income from operations
    
    
    2.5
    
    
    
    1.9
    
    
    
    2.4
    
    
    
    2.6Interest expense
    
    
    (1.2
    )
    
    
    (1.9
    )
    
    
    (1.2
    )
    
    
    (1.7
    )Interest income
    
    
    0.1
    
    
    
    0.2
    
    
    
    0.1
    
    
    
    0.2Warrant income (expense)
    
    
    0.1
    
    
    
    0.0
    
    
    
    (0.1
    )
    
    
    0.0Other income (expense), net
    
    
    0.0
    
    
    
    0.0
    
    
    
    0.0
    
    
    
    0.1Income tax expense
    
    
    (0.6
    )
    
    
    (0.2
    )
    
    
    (0.5
    )
    
    
    (0.6
    )Net income (loss)
    
    
    0.9
    %
    
    
    0.0
    %
    
    
    0.7
    %
    
    
    0.6
    %
 28




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##### Table of Contents



Distribution Segment
  Fiscal 2007 Second Quarter Results Compared With Fiscal 2006 Second Quarter
 Net Sales
  Gross Profit
  Operating Expenses
       29




---



##### Table of Contents



Fiscal 2007 Six Months Results Compared With Fiscal 2006 Six Months
 Net Sales
  Gross Profit
  Operating Expenses
  
  
     30




---



##### Table of Contents



Publishing Segment
  Fiscal 2007 Second Quarter Results Compared With Fiscal 2006 Second Quarter
 Net Sales
 Wrath of the Dragon Conqueror of Shamballa
 Gross Profit
  Operating Expenses
   Fiscal
2007 Six Months Results Compared With Fiscal 2006 Six Months
 Net Sales
 Wrath of the
Dragon Conqueror of Shamballa
 Gross Profit
  Operating Expenses
  31




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##### Table of Contents



Other Segment
  Fiscal 2007 Second Quarter Results Compared With Fiscal 2006 Second Quarter
  Fiscal 2007 Six Months Results Compared With Fiscal 2006 Six Months
  Consolidated Other Income and Expense
  Consolidated
Income Tax Expense
  Market Risk
  Seasonality and Inflation
  32




---



##### Table of Contents



Liquidity and Capital Resources
 Operating Activities
   Investing Activities
  Financing Activities
   33




---



##### Table of Contents



Contractual Obligations
  Less
    
    
    
    
    
    
    
    
    
    
    Morethan 1
    
    
    2  3
    
    
    4  5
    
    
    than 5Total
    
    
    Year
    
    
    Years
    
    
    Years
    
    
    YearsOperating leases
    
    $
    26,717
    
    
    $
    1,485
    
    
    $
    6,003
    
    
    $
    4,481
    
    
    $
    14,748Capital leases
    
    
    358
    
    
    
    81
    
    
    
    209
    
    
    
    68
    
    
    
    Note payable
    
    
    77,630
    
    
    
    2,500
    
    
    
    10,000
    
    
    
    10,000
    
    
    
    55,130License and distribution agreement
    
    
    27,836
    
    
    
    9,856
    
    
    
    17,855
    
    
    
    125
    
    
    
    Total
    
    $
    132,541
    
    
    $
    13,922
    
    
    $
    34,067
    
    
    $
    14,674
    
    
    $
    69,878
 
 Item 3. Quantitative and Qualitative Disclosures about Market Risk
  
 Item 4. Controls and Procedures
     34




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##### Table of Contents



PART II. OTHER INFORMATION
 
 Item 1. Legal Proceedings
  
 Item 1A. Risk Factors
  Any material weakness or significant deficiency in our internal controls may adversely affect our
ability to report our financial results on a timely and accurate basis.
 Consolidation of Variable Interest Entities
 
 Item 2. Unregistered Sales of Equity Securities and Use of Proceeds.
  
 Item 3. Defaults Upon Senior Securities
  35




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##### Table of Contents



Item 4. Submission of Matters to a Vote of Securities Holders
   Names
    
    Votes For
    
    Votes WithheldDeborah L. Hopp
    
    
    26,359,400
    
    
    
    1,835,864Richard Gary St. Marie
    
    
    26,354,990
    
    
    
    1,840,274Michael L. Snow
    
    
    26,149,399
    
    
    
    2,045,865
  
 Item 5. Other Information
  
 Item 6. Exhibits
  10.1
    
    Form of Limited Waiver with Respect to Third Amended and Restated Credit Agreement by and among Navarre
Corporation, General Electric Capital Corporation and the Lenders thereto, dated November 2, 200631.1
    
    Certification of the Chief Executive Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002
(Rules 13a-14 and 15d-14 of the Exchange Act)31.2
    
    Certification of the Chief Financial Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002
(Rules 13a-14 and 15d-14 of the Exchange Act)32.1
    
    Certification of the Chief Executive Officer pursuant Section 906 of the Sarbanes-Oxley Act of 2002
(18 U.S.C. Section 1350)32.2
    
    Certification of the Chief Financial Officer pursuant Section 906 of the Sarbanes-Oxley Act of 2002
(18 U.S.C. Section 1350)
 36




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##### Table of Contents



SIGNATURES
  Navarre Corporation
(Registrant)Date: November 9, 2006
    /s/ Eric H. PaulsonEric H. PaulsonChairman of the Board and Chief Executive Officer
(Principal Executive Officer)Date: November 9, 2006
    /s/ J. Reid PorterJ. Reid PorterChief Financial Officer (Principal Financial and
Accounting Officer) 37