**UNITED STATESSECURITIES AND EXCHANGE COMMISSION**

**Washington,D.C. 20549**

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FORM 10-Q

**(Mark One)**

**x**                              QUARTERLYREPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACTOF 1934

**FORTHE QUARTER ENDED JUNE 25, 2005**

**OR**

**o**                                 TRANSITIONREPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACTOF 1934

**Commissionfile number 0-22480**

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The J. Jill Group, Inc.

(Exact Name of Registrantas Specified in its Charter)

| **Delaware**                                                     | **04-2973769**                        |
|------------------------------------------------------------------|---------------------------------------|
| (State or Other  Jurisdiction of  Incorporation or Organization) | (I.R.S. Employer  Identification No.) |
| **4 Batterymarch Park, Quincy, MA**                              | **02169**                             |
| (Address of  Principal Executive Offices)                        | (Zip Code)                            |

 

**Registrant’s telephone number, includingarea code:  **(617) 376-4300

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

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

Shares outstanding of theregistrant’s common stock (par value $0.01) at July 28, 2005: 20,311,839

 

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**THE J. JILL GROUP, INC.INDEX TO QUARTERLY REPORT ON FORM 10-QFOR THE QUARTER ENDED JUNE 25, 2005**
|                                               |                                                                                                                                           | **Page** | ** ** |
|-----------------------------------------------|-------------------------------------------------------------------------------------------------------------------------------------------|----------|------------|
| **PART I  — FINANCIAL INFORMATION** |                                                                                                                                      |     |
| Item 1.                                       | Condensed  Consolidated Financial Statements                                                                                              |     |       |
|                                          | Condensed  Consolidated Balance Sheets at June 25, 2005, June 26, 2004 and  December 25, 2004                              | 3        |       |
|                                          | Condensed  Consolidated Statements of Operations for the three months and the six months  ended June 25, 2005 and June 26, 2004 | 4        |       |
|                                          | Condensed  Consolidated Statements of Cash Flows for the six months ended June 25,  2005 and June 26, 2004                      | 5        |       |
|                                          | Notes to Condensed  Consolidated Financial Statements                                                                                     | 6        |       |
| Item 2.                                       | Management’s  Discussion and Analysis of Financial Condition and Results of Operations                                               | 17       |       |
| Item 3.                                       | Quantitative  and Qualitative Disclosures about Market Risk                                                                               | 29       |       |
| Item 4.                                       | Controls  and Procedures                                                                                                                  | 29       |       |
| **PART II — OTHER INFORMATION**     |                                                                                                                                      |     |
| Item 1.                                       | Legal  Proceedings                                                                                                                        | 30       |       |
| Item 4.                                       | Submission  of Matters to a Vote of Security Holders                                                                                      | 30       |       |
| Item 5.                                       | Other  Information                                                                                                                        | 30       |       |
| Item 6.                                       | Exhibits  and Reports on Form 8-K                                                                                                    | 30       |       |
| **SIGNATURES**                                | 32                                                                                                                                        |     |
|                                               |                                                                                                                                           |          |            |  |  |

 

2

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**PART I—FINANCIAL INFORMATION**

**Item1. Condensed Consolidated Financial Statements**

**THE J. JILL GROUP,INC.**

**CONDENSED CONSOLIDATED BALANCE SHEETS**

**(in thousands,except share and per share amounts)**

**(unaudited)**
| ** **                                                                                                                                                                                                                | ** ** | **June 25,  2005** | ** ** | **June 26,  2004** | ** ** | **December 25,  2004** | ** ** |
|---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|------------|-------------------------|------------|-------------------------|------------|-----------------------------|------------|
| ** **                                                                                                                                                                                                                | ** ** | ** **              | ** ** | **(Restated)**          | ** ** | ** **                  | ** ** |
| **ASSETS**                                                                                                                                                                                                                |       |                    |       |                    |       |                        |       |   |   |
| Current assets:                                                                                                                                                                                                           |       |                    |       |                    |       |                        |       |   |   |
| Cash and cash  equivalents                                                                                                                                                                                                |       | $                       | 24,891     |                    | $          | 81,986                      |       |   | $ | 31,966 |   |   |
| Cash held in escrow                                                                                                                                                                                                       |       | 1,207                   |       | 1,173                   |       |                        | 872        |   |   |
| Marketable securities                                                                                                                                                                                                     |       | 44,668                  |       | —                  |       |                        | 34,062     |   |   |
| Accounts receivable, net                                                                                                                                                                                                  |       | 6,699                   |       | 16,359                  |       |                        | 18,579     |   |   |
| Inventory                                                                                                                                                                                                                 |       | 39,202                  |       | 27,034                  |       |                        | 36,212     |   |   |
| Prepaid catalog expenses                                                                                                                                                                                                  |       | 5,139                   |       | 4,049                   |       |                        | 3,894      |   |   |
| Deferred income taxes                                                                                                                                                                                                     |       | 10,594                  |       | 6,878                   |       |                        | 9,761      |   |   |
| Other current assets                                                                                                                                                                                                      |       | 8,281                   |       | 6,608                   |       |                        | 8,237      |   |   |
| Total current assets                                                                                                                                                                                                      |       | 140,681                 |       | 144,087                 |       |                        | 143,583    |   |   |
| Property and equipment,  net                                                                                                                                                                                              |       | 136,477                 |       | 126,145                 |       |                        | 133,972    |   |   |
| Other non-current assets                                                                                                                                                                                                  |       | 6,324                   |       | 4,665                   |       |                        | 5,141      |   |   |
| Total assets                                                                                                                                                                                                              |       | $                       | 283,482    |                    | $          | 274,897                     |       |   | $ | 282,696 |   |   |
| **LIABILITIES AND STOCKHOLDERS’ EQUITY**                                                                                                                                                                             |       |                    |       |                    |       |                        |       |   |   |
| Current liabilities:                                                                                                                                                                                                      |       |                    |       |                    |       |                        |       |   |   |
| Accounts payable                                                                                                                                                                                                          |       | $                       | 17,796     |                    | $          | 17,962                      |       |   | $ | 17,523 |   |   |
| Accrued expenses                                                                                                                                                                                                          |       | 26,160                  |       | 26,026                  |       |                        | 27,158     |   |   |
| Accrued customer returns                                                                                                                                                                                                  |       | 6,538                   |       | 7,530                   |       |                        | 7,494      |   |   |
| Current portion of  long-term debt                                                                                                                                                                                        |       | 1,732                   |       | 1,755                   |       |                        | 1,805      |   |   |
| Total current  liabilities                                                                                                                                                                                                |       | 52,226                  |       | 53,273                  |       |                        | 53,980     |   |   |
| Long-term debt, less  current portion                                                                                                                                                                                     |       | 9,613                   |       | 11,345                  |       |                        | 10,431     |   |   |
| Deferred credits from  landlords and other                                                                                                                                                                                |       | 48,474                  |       | 42,595                  |       |                        | 47,387     |   |   |
| Deferred income taxes                                                                                                                                                                                                     |       | 5,969                   |       | 3,600                   |       |                        | 6,841      |   |   |
| Commitments and  contingencies                                                                                                                                                                                            |       |                    |       |                    |       |                        |       |   |   |
| Stockholders’ equity:                                                                                                                                                                                                |       |                    |       |                    |       |                        |       |   |   |
| Special preferred stock  (par value $0.01) 1,000,000 shares authorized                                                                                                                                                    |       | —                  |       | —                  |       |                        | —     |   |   |
| Common stock (par value  $0.01) 30,000,000 shares authorized, 20,311,839, 20,103,123 and 20,109,789  shares issued and outstanding as of June 25, 2005, June 26, 2004  and December 25, 2004, respectively |       | 203                     |       | 201                     |       |                        | 201        |   |   |
| Additional paid-in  capital                                                                                                                                                                                               |       | 114,522                 |       | 112,386                 |       |                        | 112,508    |   |   |
| Accumulated other  comprehensive loss                                                                                                                                                                                     |       | (124                    | )          | —                  |       |                        | (89        | ) |   |
| Retained earnings                                                                                                                                                                                                         |       | 52,599                  |       | 51,497                  |       |                        | 51,437     |   |   |
| Total stockholders’  equity                                                                                                                                                                                          |       | 167,200                 |       | 164,084                 |       |                        | 164,057    |   |   |
| Total liabilities and stockholders’ equity                                                                                                                                                                           |       | $                       | 283,482    |                    | $          | 274,897                     |       |   | $ | 282,696 |   |   |

 

The accompanying notes are an integral part of the condensedconsolidated financial statements.

3

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**THE J. JILL GROUP, INC.CONDENSED CONSOLIDATEDSTATEMENTS OF OPERATIONS(in thousands, except per share data)(unaudited)**
| ** **                                    | ** ** | **Three Months Ended** | ** ** | **Six Months Ended** | ** ** |
|-----------------------------------------------|------------|----------------------------------|------------|--------------------------------|------------|
| ** **                                    | ** ** | **June 25,  2005**          | ** ** | **June 26,  2004**        | ** ** | **June 25,  2005** | ** ** | **June 26,  2004** | ** ** |
| ** **                                    | ** ** | ** **                       | ** ** | **(Restated)**                 | ** ** | ** ** | ** ** | **(Restated)** | ** ** |
| Net sales                                     |       | $                                | 117,417    |                           | $          | 120,561 |   | $ | 215,786 |   | $ | 220,490 |   |
| Cost of products  and merchandising           |       | 75,587                           |       | 73,413                         |       | 145,229 |   | 138,260 |   |
| Gross margin                                  |       | 41,830                           |       | 47,148                         |       | 70,557 |   | 82,230 |   |
| Selling, general  and administrative expenses |       | 34,880                           |       | 35,799                         |       | 68,398 |   | 66,947 |   |
| Operating income                              |       | 6,950                            |       | 11,349                         |       | 2,159 |   | 15,283 |   |
| Interest income                               |       | 272                              |       | 171                            |       | 473 |   | 309 |   |
| Interest expense                              |       | 231                              |       | 267                            |       | 482 |   | 547 |   |
| Interest (income) expense, net                |       | (41                              | )          | 96                             |       | 9 |   | 238 |   |
| Income before  taxes                          |       | 6,991                            |       | 11,253                         |       | 2,150 |   | 15,045 |   |
| Income tax  provision                         |       | 3,121                            |       | 4,724                          |       | 988 |   | 6,279 |   |
| Net income                                    |       | $                                | 3,870      |                           | $          | 6,529 |   | $ | 1,162 |   | $ | 8,766 |   |
| **Earnings  per share:**                      |       |                             |       |                           |       |   |   |   |   |
| *Basic*                                       |       | $                                | 0.19       |                           | $          | 0.33 |   | $ | 0.06 |   | $ | 0.44 |   |
| *Diluted*                                     |       | $                                | 0.19       |                           | $          | 0.32 |   | $ | 0.06 |   | $ | 0.43 |   |
| **Weighted  average shares outstanding:**     |       |                             |       |                           |       |   |   |   |   |
| *Basic*                                       |       | 20,170                           |       | 20,044                         |       | 20,157 |   | 19,933 |   |
| *Diluted*                                     |       | 20,416                           |       | 20,705                         |       | 20,419 |   | 20,509 |   |

 

The accompanying notes are an integral part of the condensedconsolidated financial statements.

4

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**THE J. JILL GROUP, INC.CONDENSED CONSOLIDATEDSTATEMENTS OF CASH FLOWS(in thousands)(unaudited)**
| ** **                                                                         | ** ** | **Six Months Ended** | ** ** |
|------------------------------------------------------------------------------------|------------|--------------------------------|------------|
| ** **                                                                         | ** ** | **June 25,**              | ** ** | **June 26,** | ** ** |
| ** **                                                                         | ** ** | **2005**                       | ** ** | **2004** | ** ** |
| ** **                                                                         | ** ** | ** **                     | ** ** | **(Restated)** | ** ** |
| Cash flows provided by  operating activities:                                      |       |                           |       |   |   |
| Net income                                                                         |       | $                              | 1,162      |   | $ | 8,766 |   |
| Adjustments to  reconcile net income to net cash provided by operating activities: |       |                           |       |   |   |
| Depreciation and amortization                                                      |       | 10,648                         |       | 8,915 |   |
| Loss (gain) on trust assets                                                        |       | 14                             |       | (53 | ) |
| Loss on disposal of property and equipment                                         |       | 542                            |       | — |   |
| Deferred income taxes                                                              |       | (1,639                         | )          | 1,038 |   |
| Changes in assets  and liabilities:                                                |       |                           |       |   |   |
| Decrease in accounts receivable, net                                               |       | 11,880                         |       | 2,275 |   |
| (Increase) decrease in inventory                                                   |       | (2,990                         | )          | 1,097 |   |
| (Increase) decrease in prepaid catalog expenses                                    |       | (1,245                         | )          | 57 |   |
| (Increase) decrease in other assets                                                |       | (149                           | )          | 268 |   |
| Increase in accounts payable                                                       |       | 526                            |       | 3,013 |   |
| (Decrease) increase in accrued expenses                                            |       | (1,089                         | )          | 4,322 |   |
| (Decrease) increase in accrued customer returns                                    |       | (956                           | )          | 241 |   |
| Increase in deferred credits from landlords and  other                             |       | 1,087                          |       | 1,473 |   |
| Net cash provided  by operating activities                                         |       | 17,791                         |       | 31,412 |   |
| Cash flows used  in investing activities:                                          |       |                           |       |   |   |
| Additions to property and equipment                                                |       | (13,268                        | )          | (9,745 | ) |
| Maturities of marketable securities                                                |       | 6,105                          |       | — |   |
| Sales of marketable securities                                                     |       | 2,000                          |       | — |   |
| Purchases of marketable securities                                                 |       | (19,000                        | )          | — |   |
| Investment in trust assets                                                         |       | (1,108                         | )          | (816 | ) |
| Increase in cash held in escrow                                                    |       | (335                           | )          | (390 | ) |
| Net cash used in  investing activities                                             |       | (25,606                        | )          | (10,951 | ) |
| Cash flows  provided by financing activities:                                      |       |                           |       |   |   |
| Payments of debt borrowings                                                        |       | (891                           | )          | (842 | ) |
| Proceeds from stock transactions                                                   |       | 1,631                          |       | 3,080 |   |
| Net cash provided  by financing activities                                         |       | 740                            |       | 2,238 |   |
| Net (decrease) increase in cash and cash equivalents                               |       | (7,075                         | )          | 22,699 |   |
| Cash and cash  equivalents at:                                                     |       |                           |       |   |   |
| Beginning of period                                                                |       | 31,966                         |       | 59,287 |   |
| End of period                                                                      |       | $                              | 24,891     |   | $ | 81,986 |   |
| **Supplemental  information:**                                                     |       |                           |       |   |   |
| Non-cash investing  activities:                                                    |       |                           |       |   |   |
| Construction  costs accrued, not paid                                              |       | $                              | 1,140      |   | $ | 1,032 |   |

 

The accompanying notes are an integral part of the condensedconsolidated financial statements.

5

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**THE J. JILL GROUP, INC. NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (unaudited)**

The condensed consolidated financial statementsincluded herein have been prepared by The J. Jill Group, Inc.(together with its wholly owned consolidated subsidiaries, the “Company”),without audit, pursuant to the rules and regulations of the Securities andExchange Commission (the “SEC”), and in the opinion of management contain alladjustments (consisting of normal recurring adjustments) necessary to presentfairly the financial position, results of operations and cash flows for theinterim periods presented. Certain information and footnote disclosuresnormally included in financial statements prepared in accordance with generallyaccepted accounting principles (“GAAP”) have been omitted pursuant to such rules andregulations. Accordingly, although the Company believes that the disclosuresare adequate to make the information presented not misleading, these condensedconsolidated financial statements should be read in conjunction with theconsolidated financial statements and the notes thereto included in the Company’sAnnual Report on Form 10-K for the fiscal year ended December 25,2004 (“fiscal 2004”). As a retailer, the Company is subject to seasonalfluctuations in net sales. The results of operations for interim periods arenot necessarily indicative of the results to be expected for the full year.

**A.   Nature of business:**

The Company is amulti-channel specialty retailer of women’s apparel, including accessories andfootwear, that markets its products through its retail stores, catalogs andwebsite *jjill.com*.

**B.   Restatementof prior financial information:**

The Company restated its condensed consolidatedbalance sheet at June 26, 2004, its condensed consolidated statements ofoperations for the three and six months ended June 26, 2004 and itscondensed consolidated statement of cash flows for the six months ended June 26,2004. The restatement also affects periods prior to fiscal 2004. Therestatement corrects the Company’s historical accounting for operating leases.For information with respect to the restatement, see “Note B” to theconsolidated financial statements contained in the Company’s Annual Report on Form 10-Kfor fiscal 2004. The Company did not amend its Quarterly Reports on Form 10-Qfor the periods before the end of fiscal 2004 to reflect the restatement,therefore the financial statements and related financial information containedin such reports should no longer be relied upon. Throughout this Form 10-Q,all referenced amounts for affected prior periods and prior period comparisonsreflect the balances and amounts on a restated basis.

As aresult of this restatement, the Company’s financial results have been adjustedas follows (in thousands, except per share data):
| ** **                                 | ** ** | **As Previously**  | ** ** | ** **      | ** ** | ** **              | ** ** |
|--------------------------------------------|------------|-------------------------|------------|-----------------|------------|-------------------------|------------|
| ** **                                 | ** ** | **Reported**            | ** ** | ** **      | ** ** | **As Restated**    | ** ** |
| ** **                                 | ** ** | **June 26,  2004** | ** ** | **Adjustments** | ** ** | **June 26,  2004** | ** ** |
| Deferred credits  from landlords and other |       |                    | $          | 39,040          |       |                    |       | $ | 3,555 |   |   |   | $ | 42,595 |   |   |
| Deferred income  taxes                     |       |                    | 5,032      |            |       |                    | (1,432     | ) |   |   | 3,600 |   |   |
| Retained earnings                          |       |                    | 53,620     |            |       |                    | (2,123     | ) |   |   | 51,497 |   |   |
| Total stockholders’  equity           |       |                    | $          | 166,207         |       |                    |       | $ | (2,123 | ) |   |   | $ | 164,084 |   |   |

 

6

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**THE J. JILL GROUP, INC. NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued) (unaudited)**

 
| ** **                                    | ** ** | **Three Months Ended** | ** ** |
|-----------------------------------------------|------------|----------------------------------|------------|
| ** **                                    | ** ** | **As Previously**           | ** ** | ** ** | ** ** | ** ** | ** ** |
| ** **                                    | ** ** | **Reported**                     | ** ** | ** ** | ** ** | **As Restated** | ** ** |
| ** **                                    | ** ** | **June 26,  2004**          | ** ** | **Adjustments** | ** ** | **June 26,  2004** | ** ** |
| Net sales                                     |       |                             | $          | 120,561 |   |   |   | $ | — |   |   |   | $ | 120,561 |   |   |
| Cost of products  and merchandising           |       |                             | 73,396     |   |   |   | 17 |   |   |   | 73,413 |   |   |
| Gross margin                                  |       |                             | 47,165     |   |   |   | (17 | ) |   |   | 47,148 |   |   |
| Selling, general  and administrative expenses |       |                             | 35,822     |   |   |   | (23 | ) |   |   | 35,799 |   |   |
| Operating income                              |       |                             | 11,343     |   |   |   | 6 |   |   |   | 11,349 |   |   |
| Interest income                               |       |                             | 171        |   |   |   | — |   |   |   | 171 |   |   |
| Interest expense                              |       |                             | 267        |   |   |   | — |   |   |   | 267 |   |   |
| Interest expense, net                         |       |                             | 96         |   |   |   | — |   |   |   | 96 |   |   |
| Income before  taxes                          |       |                             | 11,247     |   |   |   | 6 |   |   |   | 11,253 |   |   |
| Income tax  provision                         |       |                             | 4,722      |   |   |   | 2 |   |   |   | 4,724 |   |   |
| Net income                                    |       |                             | $          | 6,525 |   |   |   | $ | 4 |   |   |   | $ | 6,529 |   |   |
| **Earnings  per share**                       |       |                             |       |   |   |   |   |   |   |   |   |   |   |
| *Basic*                                       |       |                             | $          | 0.33 |   |   |   | $ | 0.00 |   |   |   | $ | 0.33 |   |   |
| *Diluted*                                     |       |                             | $          | 0.32 |   |   |   | $ | 0.00 |   |   |   | $ | 0.32 |   |   |

 
| ** **                                    | ** ** | **Six Months Ended** | ** ** |
|-----------------------------------------------|------------|--------------------------------|------------|
| ** **                                    | ** ** | **As Previously**         | ** ** | ** ** | ** ** | ** ** | ** ** |
| ** **                                    | ** ** | **Reported**                   | ** ** | ** ** | ** ** | **As Restated** | ** ** |
| ** **                                    | ** ** | **June 26,  2004**        | ** ** | **Adjustments** | ** ** | **June 26,  2004** | ** ** |
| Net sales                                     |       |                           | $          | 220,490 |   |   |   | $ | — |   |   |   | $ | 220,490 |   |   |
| Cost of products  and merchandising           |       |                           | 138,241    |   |   |   | 19 |   |   |   | 138,260 |   |   |
| Gross margin                                  |       |                           | 82,249     |   |   |   | (19 | ) |   |   | 82,230 |   |   |
| Selling, general  and administrative expenses |       |                           | 66,993     |   |   |   | (46 | ) |   |   | 66,947 |   |   |
| Operating income                              |       |                           | 15,256     |   |   |   | 27 |   |   |   | 15,283 |   |   |
| Interest income                               |       |                           | 309        |   |   |   | — |   |   |   | 309 |   |   |
| Interest expense                              |       |                           | 547        |   |   |   | — |   |   |   | 547 |   |   |
| Interest expense, net                         |       |                           | 238        |   |   |   | — |   |   |   | 238 |   |   |
| Income before  taxes                          |       |                           | 15,018     |   |   |   | 27 |   |   |   | 15,045 |   |   |
| Income tax  provision                         |       |                           | 6,268      |   |   |   | 11 |   |   |   | 6,279 |   |   |
| Net income                                    |       |                           | $          | 8,750 |   |   |   | $ | 16 |   |   |   | $ | 8,766 |   |   |
| **Earnings  per share**                       |       |                           |       |   |   |   |   |   |   |   |   |   |   |
| *Basic*                                       |       |                           | $          | 0.44 |   |   |   | $ | 0.00 |   |   |   | $ | 0.44 |   |   |
| *Diluted*                                     |       |                           | $          | 0.43 |   |   |   | $ | 0.00 |   |   |   | $ | 0.43 |   |   |

 

**C.   Accountingfor stock-based compensation:**

At June 25, 2005, the Company had threestock-based plans, which are described in “Note B” and “Note G” to theconsolidated financial statements contained in the Company’s Annual Report on Form 10-Kfor fiscal 2004. The Company discloses stock-based compensation information inaccordance with Financial Accounting Standards Board (“FASB”) issued Statement No. 148(“SFAS 148”), *“Accounting for Stock-BasedCompensation—Transition and Disclosure—an amendment of FASB Statement*

7

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**THE J. JILL GROUP, INC. NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued) (unaudited)**

*No. 123”*and FASB issued Statement No. 123 (“SFAS 123”), *“Accounting for Stock-Based Compensation.”* The Company haselected to continue to account for its stock-based plans under AccountingPrinciples Board (“APB”) Opinion No. 25, *“Accountingfor Stock Issued to Employees,”* as well as to provide disclosure ofstock-based compensation as outlined in SFAS 123, as amended by SFAS 148. Nocompensation expense has been recognized related to the Company’s stock-basedplans.

In December 2004, the FASB issued Statement No. 123R(“SFAS 123R”), *“Share-Based Payment*,*”* a revision of SFAS 123. As aresult, the pro forma disclosures previously permitted under SFAS 123 willno longer be an alternative to financial statement recognition. See “Note B” tothe consolidated financial statements contained in the Company’s Annual Reporton Form 10-K for fiscal 2004. In April 2005, the SEC announced theadoption of a new rule that amended the compliance date for SFAS 123R. TheSEC’s rule requires companies to implement SFAS 123R by the beginning ofthe first fiscal year beginning after June 15, 2005. Accordingly, theCompany intends to adopt SFAS 123R in the first quarter of 2006. The Company iscurrently evaluating the provisions of SFAS 123R. The adoption of this standardis expected to have a material effect on the Company’s consolidated financialstatements; however, based on the Company’s current projections, the Companyexpects the future compensation expense to be recognized as a result of theadoption of SFAS 123R to be significantly less than the pro forma amountshistorically disclosed in the notes to its consolidated financial statements. Manyof the stock options that will be outstanding as of the first quarter of 2006will be fully vested at that time and accordingly, will not result incompensation expense going forward.

TheCompany currently uses the Black-Scholes option pricing model to estimate thefair value at the date of grant of stock options granted under the Company’sstock option plans and stock purchase rights associated with the Company’semployee stock purchase plan. A summary of the assumptions used for stockoption grants and stock purchase right grants follows:
| ** **                         | ** ** | **Three Months Ended** | ** ** | **Six Months Ended** | ** ** |
|------------------------------------|------------|----------------------------------|------------|--------------------------------|------------|
| ** **                         | ** ** | **June 25,**                | ** ** | **June 26,**              | ** ** | **June 25,** | ** ** | **June 26,** | ** ** |
| ** **                         | ** ** | **2005**                         | ** ** | **2004**                       | ** ** | **2005** | ** ** | **2004** | ** ** |
| **Stock option plans:**            |       |                             |       |                           |       |   |   |   |   |
| Dividend yield                     |       | 0.0%                             |       | 0.0%                           |       | 0.0% |   | 0.0% |   |
| Expected volatility                |       | 50.3%                            |       | 70.0%                          |       | 50.9% |   | 70.0% |   |
| Risk free interest rate            |       | 3.6%                             |       | 3.7%                           |       | 3.7% |   | 2.9% |   |
| Expected lives                     |       | 2.4 years                        |       | 4.0 years                      |       | 2.5 years |   | 4.0 years |   |
| **Employee  stock purchase plan:** |       |                             |       |                           |       |   |   |   |   |
| Dividend yield                     |       | n/a (1)                          |       | n/a (1)                        |       | 0.0% |   | 0.0% |   |
| Expected volatility                |       | n/a (1)                          |       | n/a (1)                        |       | 49.0% |   | 50.0% |   |
| Risk free interest rate            |       | n/a (1)                          |       | n/a (1)                        |       | 2.8% |   | 1.0% |   |
| Expected lives                     |       | n/a (1)                          |       | n/a (1)                        |       | 1.0 year |   | 1.0 year |   |

 

(1)          No stock purchase rightswere granted during the three months ended June 25, 2005 or June 26,2004.

8

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**THE J. JILL GROUP, INC. NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued) (unaudited)**

Areconciliation of net income, as reported in the condensed consolidatedstatements of operations, to pro forma net income (loss) including compensationexpense for the Company’s stock-based plans as calculated in accordance withthe provisions of SFAS 123, as amended by SFAS 148, and a comparison of asreported and pro forma basic and diluted earnings (loss) per share (“EPS”)follows (in thousands, except per share data):
| ** **                                           | ** ** | **Three Months Ended** | ** ** | **Six Months Ended** | ** ** |
|------------------------------------------------------|------------|----------------------------------|------------|--------------------------------|------------|
| ** **                                           | ** ** | **June 25,**                | ** ** | **June 26,**              | ** ** | **June 25,** | ** ** | **June 26,** | ** ** |
| ** **                                           | ** ** | **2005**                         | ** ** | **2004**                       | ** ** | **2005** | ** ** | **2004** | ** ** |
| ** **                                           | ** ** | ** **                       | ** ** | **(Restated)**                 | ** ** | ** ** | ** ** | **(Restated)** | ** ** |
| **Net income (loss):**                               |       |                             |       |                           |       |   |   |   |   |   |   |   |   |
| As reported                                          |       | $                                | 3,870      |                           |       | $ | 6,529 |   |   | $ | 1,162 |   |   | $ | 8,766 |   |   |
| Compensation expense, net of related tax benefit (1) |       | (1,388                           | )          |                           | (1,709     | ) |   | (2,480 | ) |   | (2,944 | ) |   |
| Pro forma                                            |       | $                                | 2,482      |                           |       | $ | 4,820 |   |   | $ | (1,318 | ) |   | $ | 5,822 |   |   |
| **Earnings  (loss) per share:**                      |       |                             |       |                           |       |   |   |   |   |   |   |   |   |
| *Basic*                                              |       |                             |       |                           |       |   |   |   |   |   |   |   |   |
| As reported                                          |       | $                                | 0.19       |                           |       | $ | 0.33 |   |   | $ | 0.06 |   |   | $ | 0.44 |   |   |
| Pro forma                                            |       | 0.12                             |       |                           | 0.24       |   |   | (0.07 | ) |   | 0.29 |   |   |
| *Diluted*                                            |       |                             |       |                           |       |   |   |   |   |   |   |   |   |
| As reported                                          |       | 0.19                             |       |                           | 0.32       |   |   | 0.06 |   |   | 0.43 |   |   |
| Pro forma                                            |       | $                                | 0.12       |                           |       | $ | 0.23 |   |   | $ | (0.06 | ) |   | $ | 0.28 |   |   |

 

(1)          Compensation expense isnet of a related tax benefit of $585,000 and $1,010,000 for the three monthsended June 25, 2005 and June 26, 2004, respectively, and $1,141,000and $1,634,000 for the six months ended June 25, 2005 and June 26,2004, respectively.

The effects on pro forma net income (loss) and proforma EPS of the estimated stock-based compensation expense, net of tax,calculated using the fair value of stock options and stock purchase rights inaccordance with the Black-Scholes option pricing model for the three months andsix months ended June 25, 2005 and June 26, 2004 are not necessarilyrepresentative of the effects on the Company’s results of operations in thefuture. In addition, the compensation expense estimates utilize an optionpricing model developed for traded options with relatively short lives. TheCompany’s stock option grants typically have a life of up to ten years and arenot transferable. Therefore, the actual fair value of a stock option grant maybe different from the Company’s estimates. The Company believes that itsestimates incorporate all relevant information and represent a reasonableapproximation in light of the difficulties involved in valuing non-traded stockoptions.

9

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**THE J. JILL GROUP, INC. NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued) (unaudited)**

**D.   Earningsper share:**

Areconciliation of the numerators and denominators of the basic and diluted EPScomputations follows (in thousands, except per share data):
| ** **                                                                            | ** ** | **Three Months Ended** | ** ** | **Six Months Ended** | ** ** |
|---------------------------------------------------------------------------------------|------------|----------------------------------|------------|--------------------------------|------------|
| ** **                                                                            | ** ** | **June 25,**                | ** ** | **June 26,**              | ** ** | **June 25,** | ** ** | **June 26,** | ** ** |
| ** **                                                                            | ** ** | **2005**                         | ** ** | **2004**                       | ** ** | **2005** | ** ** | **2004** | ** ** |
| ** **                                                                            | ** ** | ** **                       | ** ** | ** (Restated) **     | ** ** | ** ** | ** ** | ** (Restated) ** | ** ** |
| **Numerator:**                                                                        |       |                             |       |                           |       |   |   |   |   |   |   |   |   |
| Net income                                                                            |       | $                                | 3,870      |                           |       | $ | 6,529 |   |   | $ | 1,162 |   |   | $ | 8,766 |   |   |
| **Denominator  (shares):**                                                            |       |                             |       |                           |       |   |   |   |   |   |   |   |   |
| Basic weighted average shares outstanding                                             |       | 20,170                           |       |                           | 20,044     |   |   | 20,157 |   |   | 19,933 |   |   |
| Assumed issuance of shares under stock option plans and  employee stock purchase plan |       | 246                              |       |                           | 661        |   |   | 262 |   |   | 576 |   |   |
| Diluted weighted average shares outstanding                                           |       | 20,416                           |       |                           | 20,705     |   |   | 20,419 |   |   | 20,509 |   |   |
| **Earnings  per share:**                                                              |       |                             |       |                           |       |   |   |   |   |   |   |   |   |
| *Basic*                                                                               |       | $                                | 0.19       |                           |       | $ | 0.33 |   |   | $ | 0.06 |   |   | $ | 0.44 |   |   |
| *Diluted*                                                                             |       | $                                | 0.19       |                           |       | $ | 0.32 |   |   | $ | 0.06 |   |   | $ | 0.43 |   |   |

 

For the three months and six months ended June 25,2005, of the options then outstanding, options to purchase 2,458,350 and2,457,350 shares of common stock, respectively, were excluded from the computationof diluted EPS on the basis that such options were antidilutive. For the threemonths and six months ended June 26, 2004, of the options thenoutstanding, options to purchase 552,000 and 1,077,000 shares of common stock,respectively, were excluded from the computation of diluted EPS on the basisthat such options were antidilutive.

During the three months ended June 25, 2005,options to purchase 265,000 shares of the Company’s common stock were grantedpursuant to the Company’s stock option plans, options to purchase 165,000shares of common stock were exercised and options to purchase 272,000 shares ofcommon stock were canceled. The Company received $1,229,000 in cash from theexercise of stock options and recorded a related tax benefit of $385,000. Duringthe three months ended June 26, 2004, options to purchase 99,500 shares ofthe Company’s common stock were granted pursuant to the Company’s stock optionplans, options to purchase 111,650 shares of common stock were exercised andoptions to purchase 19,500 shares of common stock were canceled. The Companyreceived $952,000 in cash from the exercise of stock options and recorded arelated tax benefit of $450,000 during the three months ended June 26,2004.

During the six monthsended June 25, 2005, options to purchase 286,000 shares of the Company’scommon stock were granted pursuant to the Company’s stock option plans, optionsto purchase 165,000 shares of common stock were exercised and options topurchase 273,000 shares of common stock were canceled. The Company received$1,229,000 in cash from the exercise of stock options and recorded a relatedtax benefit of $385,000. During the six months ended June 26, 2004,options to purchase 355,500 shares of the Company’s common stock were grantedpursuant to the Company’s stock option plans, options to purchase 408,558shares of common stock were exercised and options to purchase 33,000 shares ofcommon stock were canceled. The Company received $2,689,000 in cash from theexercise of stock options and recorded a related tax benefit of $1,159,000during the six months ended June 26, 2004.

10

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**THE J. JILL GROUP, INC. NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued) (unaudited)**

**E.   Marketable securities:**

The Company’s marketable securities consist primarilyof investments in municipal debt securities. The Company intends to maintain aliquid portfolio and accordingly all marketable securities are classified asavailable-for-sale and reported at fair value in accordance with FASB issuedStatement No. 115 (“SFAS 115”), *“Accountingfor Certain Investments in Debt and Equity Securities.”*Unrealizedgains and losses are included in accumulated other comprehensive income, aseparate component of stockholders’ equity. Unrealized gains and losses areadded to or deducted from net income, respectively, in arriving atcomprehensive income for financial reporting purposes. During the three and sixmonths ended June 25, 2005, the Company’s comprehensive income was$3,874,000 and $1,127,000, respectively. During the three and six months ended June 26,2004, the Company’s comprehensive income equaled its net income. The Companyheld no marketable securities during the three and six months ended June 26,2004. There were no realized gains or losses on marketable securities duringthe three and six months ended June 25, 2005.

Asummary of the contractual maturities of available-for-sale securities follows(in thousands):
| ** **                        | ** ** | **Fair Market Value** | ** ** |
|-----------------------------------|------------|---------------------------------|------------|
| ** **                        | ** ** | **June 25,**               | ** ** | **December 25,** | ** ** |
| ** **                        | ** ** | **2005**                        | ** ** | **2004** | ** ** |
| Due within one  year              |       | $                               | 28,059     |   |   | $ | 18,259 |   |   |
| Due between one  and three years  |       | 10,903                          |       |   | 13,803 |   |   |
| Due between three  and five years |       | 702                             |       |   | — |   |   |
| Due after ten  years (1)          |       | 5,004                           |       |   | 2,000 |   |   |
| Total                             |       | $                               | 44,668     |   |   | $ | 34,062 |   |   |

 

(1)          Marketablesecurities within this category contain put or call provisions that allow thesecurity to be put or called within one year.

**F.   Debt:**

The Company’s credit facilities at June 25, 2005consisted of (i) a $60,000,000 revolving credit facility (the “RevolvingCredit Facility”); (ii) a real estate loan (the “Tilton Facility Loan”);and (iii) an equipment loan (the “Equipment Loan”).

A summaryof outstanding long-term debt follows (in thousands):
| ** **                            | ** ** | **June 25,** | ** ** | **June 26,** | ** ** | **December 25,** | ** ** |
|---------------------------------------|------------|-------------------|------------|-------------------|------------|-----------------------|------------|
| ** **                            | ** ** | **2005**          | ** ** | **2004**          | ** ** | **2004**              | ** ** |
| Tilton Facility  Loan                 |       | $                 | 10,027     |              | $          | 10,411                |       |   | $ | 10,224 |   |   |
| Equipment Loan                        |       | 1,318             |       | 2,689             |       |                  | 2,012      |   |   |
| Total long-term debt                  |       | 11,345            |       | 13,100            |       |                  | 12,236     |   |   |
| Less current  maturities              |       | (1,732            | )          | (1,755            | )          |                  | (1,805     | ) |   |
| Long-term debt,  less current portion |       | $                 | 9,613      |              | $          | 11,345                |       |   | $ | 10,431 |   |   |

 

At June 25, 2005, the Company estimated the fairvalue of its outstanding borrowings, including current maturities, to be$11,954,000.

The maturity date of the Revolving Credit Facility is June 1,2006. The Company is currently negotiating with its banks to, among otherthings, extend the maturity date of the Revolving Credit Facility 

11

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**THE J. JILL GROUP, INC. NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued) (unaudited)**

to June 1, 2007. Thetotal amount available under the Revolving Credit Facility is $60,000,000 andis reduced by outstanding borrowings and outstanding letters of credit. Outstandingborrowings may not exceed $20,000,000. Letters of credit are primarily used toprocure inventory from foreign vendors. The Revolving Credit Facility iscollateralized by substantially all of the personal property, both tangible andintangible, of the Company. Outstanding borrowings bear interest at an annualrate equal to the prime lending rate announced by one of the participatingbanks or the LIBOR lending rate plus 1.75% per annum. At June 25, 2005,the Revolving Credit Facility bore interest at 6.00% per annum. There were nooutstanding borrowings on the Revolving Credit Facility at June 25, 2005, June 26,2004 or December 25, 2004. Outstanding letters of credit totaled$27,626,000, $28,198,000 and $40,647,000 at June 25, 2005, June 26,2004 and December 25, 2004, respectively. Availability under the RevolvingCredit Facility at June 25, 2005, June 26, 2004 and December 25,2004 was $32,374,000, $31,802,000 and $19,353,000, respectively, subject ineach case to the borrowing cap. Outstanding letters of credit do not bearinterest. The Company is required to pay a commitment fee of 1⁄4 of 1% per annumon the unused portion of the Revolving Credit Facility.

The Tilton Facility Loan is collateralized by amortgage lien on the Company’s operations, fulfillment and distribution centerin Tilton, New Hampshire (the “Tilton facility”). The Tilton facility is ownedby Birch Pond Realty Corporation, a wholly owned subsidiary of The J. JillGroup, Inc., and leased to The J. Jill Group, Inc. Payments ofprincipal and interest on the Tilton Facility Loan, a 10-year loan, are duemonthly, based on a 20-year amortization, with a balloon payment of theremaining balance payable on April 1, 2009. The interest rate on theTilton Facility Loan is fixed at 7.30% per annum.

The Equipment Loan is collateralized by substantiallyall of the Company’s materials handling equipment. The maturity date of theEquipment Loan is May 1, 2006 and payments of principal and interest aredue monthly. The interest rate on the Equipment Loan is fixed at 5.00% perannum.

The Company’s creditfacilities contain various lending conditions and covenants includingrestrictions on permitted liens. In the case of the Revolving Credit Facility,these conditions and covenants include certain financial coverage calculationsand ratios, including (i) indebtedness and outstanding letter of creditbalance to tangible net worth; (ii) hard current assets to currentliabilities; (iii) debt service coverage; (iv) indebtedness,outstanding letter of credit balance and net present value of operating leasesto tangible net worth; and (v) minimum annual net profit. The manner ofmaking these calculations and computing these ratios is defined by theprovisions of the Fifth Amended and Restated Loan Agreement, as amended, whichis part of the Revolving Credit Facility. On June 17, 2005, the RevolvingCredit Facility was amended to modify the debt service coverage covenant tomake the covenant less restrictive for the second and third quarters of 2005. TheCompany was in compliance with the covenants associated with its creditfacilities as of and for the six months ended June 25, 2005 and June 26,2004 and as of and for the twelve months ended December 25, 2004.

**G.   Income taxes:**

The Company’s effectivetax rate is dependent upon, among other things, the level of the Company’staxable income for the full fiscal year and the taxability of that income incertain states given the Company’s organizational structure. The Company’sability to predict its taxable income for the full fiscal year is subject to anumber of uncertainties and the Company’s estimate can change materially as aresult of changing business trends. Should taxable income levels differ frommanagement’s estimate, the 

12

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**THE J. JILL GROUP, INC. NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued) (unaudited)**

Company’seffective tax rate may be materially affected which may significantly impactthe Company’s operating results in future periods.

**H.   Commitments and contingencies:**

***Lease commitments***

The Company leases certain of its facilities undernon-cancelable operating leases having initial or remaining terms of more thanone year. Many of the Company’s leases contain scheduled increases in annualrent payments and the majority of the Company’s leases also require the Companyto pay maintenance, insurance and real estate taxes. Additionally, certain ofthe Company’s leases include provisions for the payment of additional rentbased on a percentage of sales over an established minimum.

During the six monthsended June 25, 2005, the Company entered into operating leases for 28****retail stores and 3 outlet stores, eachhaving initial lease termination dates between 2010 and 2017. At June 25,2005, the future minimum lease payments, excluding maintenance, insurance andreal estate taxes, for operating leases having a remaining term in excess ofone year at such date, including the 31 operating leases entered into duringthe six months ended June 25, 2005, were as follows (in thousands):
| ** **                        | ** ** | **Lease**       | ** ** |
|-----------------------------------|------------|-----------------|------------|
| ** **                        | ** ** | **Commitments** | ** ** |
| For the remainder  of fiscal 2005 |       |            | $          | 13,138 |   |   |
| Fiscal 2006                       |       |            | 32,661     |   |   |
| Fiscal 2007                       |       |            | 33,262     |   |   |
| Fiscal 2008                       |       |            | 33,829     |   |   |
| Fiscal 2009                       |       |            | 34,061     |   |   |
| Thereafter                        |       |            | 102,053    |   |   |
| Total                             |       |            | $          | 249,004 |   |   |

 

Most of the Company’sretail store leases contain provisions that allow for early termination of thelease by either party if certain predetermined annual sales levels are not met.Generally, these provisions allow the lease to be terminated between the thirdand fifth year of the lease term. Should the lease be terminated under theseprovisions, the unamortized portion of any landlord allowances related to thatproperty would be payable to the landlord. The liability for unamortizedlandlord allowances, including current portion, was $40,183,000, $34,895,000and $39,507,000 at June 25, 2005, June 26, 2004 and December 25,2004, respectively.

***Legal proceedings and other contingencies***

In August 2003, a Complaint was served on TheBirch Pond Group, Inc. (a subsidiary of The J. Jill Group, Inc.) in acivil action filed in the California Superior Court, Riverside County, againstThe Birch Pond Group, Inc. and certain fictitiously named and unknowndefendants who allegedly are or were operating J. Jill stores within the Stateof California. This action, allegedly on behalf of a class of salaried andnon-salaried store workers, alleges, among other things, violations of variousprovisions of the California Labor Code and related regulations regarding mealperiods, rest periods and coerced patronage, and unfair competition. During thethird quarter of fiscal 2004, in accordance with FASB issued Statement No. 5,*“Accounting for Contingencies,”*the Company recorded an accrual related to this 

13

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**THE J. JILL GROUP, INC. NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued) (unaudited)**

proceeding as a result ofsettlement discussions. In April 2005, the parties executed a settlementagreement and the Court certified a class (for settlement purposes only) andpreliminarily approved the settlement agreement. No additional accrual wasrecorded as a result of the execution of the settlement agreement. The Companyconsiders the amount accrued to be immaterial to the financial statements takenas a whole. Various procedural steps must be taken before the settlement can befinalized. The Company expects this process to be completed by the end of 2005.

In March 2004, the Company received a letter froma third party informing the Company of the third party’s ownership of a numberof patents and alleging that various aspects of the Company’s website werecovered by those patents. The letter offered to grant a patent license to theCompany on commercially reasonable terms. The Company is currently in theprocess of analyzing the validity of the patents and their applicability to theCompany’s website. At this time the Company cannot predict whether or not itwill be required to license these patents nor can the Company reasonablyestimate a range of potential costs should it be required to do so.

From time to time, theCompany is party to various legal proceedings primarily arising in the ordinarycourse of business. Further, additional claims may be asserted in the futurerelative to events currently unknown to management.

**I.   Segment information:**

The Company currently has two reportable businesssegments, retail and direct. Each segment is separately managed and utilizesdistinct distribution, marketing and inventory management strategies. Theretail segment markets merchandise through the Company’s retail stores. Thedirect segment markets merchandise through the Company’s catalogs and website. Segmentreporting is intended to give financial statement users a view of the Company “throughthe eyes of management.” The Company’s internal management reporting is thebasis for the information disclosed for its business segments. In accordancewith GAAP, the Company’s internally defined measure of segment profit or loss,segment contribution, is required to be disclosed, but it is not a GAAPmeasure. Information related to segment contribution should be read inconjunction with the reconciliation to “Operating income” as determined byGAAP.

At the beginning of 2005, the Company changed itssegment reporting as a result of changes in the way management views thebusiness. Inventory control costs, previously included in other, have beenreclassified to the retail and direct segments. Additionally, certain orderfulfillment costs previously recorded in the direct segment have beenreclassified to inventory distribution costs and allocated to the retailsegment. Segment information for the three months and six months ended June 26,2004 has been reclassified to conform to current period presentation.

The Company evaluates segment profitability based onthe contribution of each segment. Segment contribution represents each segment’snet sales less direct costs related to the segment’s operations. Direct costsfor the retail and direct segments include merchandise acquisition andinventory control costs, and inventory markdowns. Direct costs also includeretail store selling, occupancy, depreciation, inventory distribution andadministrative costs for the retail segment and catalog costs, certain orderprocessing and fulfillment costs and internet selling costs for the directsegment. Segment contribution less other and general and administrativeexpenses is equal to operating income. Other represents unallocatedshared-service costs such as merchandising, product development, sourcing anddistribution facility costs, as well as outlet store revenues and expenses. Generaland administrative expenses include corporate executive 

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**THE J. JILL GROUP, INC. NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued) (unaudited)**

management costs, supportservice costs (e.g., shared information systems, finance and human resources)and corporate headquarters occupancy costs.

Segment assets are those that are directly used in oridentified with segment operations, including inventory, fixed assets primarilyrelated to store construction, accounts receivable and other operating assets. Unallocatedassets include corporate cash and cash equivalents, marketable securities, theCompany’s corporate headquarters and distribution facility, corporateinformation systems, deferred tax amounts and other corporate assets.

The accounting policies of the Company’s segments arethe same as those described in “Note B” to the consolidated financialstatements contained in the Company’s Annual Report on Form 10-K forfiscal 2004. Inter-segment balances and transactions have been eliminated.

Thefollowing tables summarize financial information by segment and provide areconciliation of segment contribution to operating income (in thousands):
| ** **                               | ** ** | **Three Months Ended** | ** ** | **Six Months Ended** | ** ** |
|------------------------------------------|------------|----------------------------------|------------|--------------------------------|------------|
| ** **                               | ** ** | **June 25,**                | ** ** | **June 26,**              | ** ** | **June 25,** | ** ** | **June 26,** | ** ** |
| ** **                               | ** ** | **2005**                         | ** ** | **2004**                       | ** ** | **2005** | ** ** | **2004** | ** ** |
| ** **                               | ** ** | ** **                       | ** ** | **(Restated)**                 | ** ** | ** ** | ** ** | **(Restated)** | ** ** |
| **Net sales:**                           |       |                             |       |                           |       |   |   |   |   |
| Retail                                   |       | $                                | 75,054     |                           | $          | 65,134 |   | $ | 131,640 |   | $115,357 |   |
| Direct                                   |       | 40,618                           |       | 54,257                         |       | 81,443 |   | 103,012 |   |
| Other (1)                                |       | 1,745                            |       | 1,170                          |       | 2,703 |   | 2,121 |   |
| Total net sales                          |       | $                                | 117,417    |                           | $          | 120,561 |   | $ | 215,786 |   | $ | 220,490 |   |
| **Reconciliation  to operating income:** |       |                             |       |                           |       |   |   |   |   |
| Retail segment contribution              |       | $                                | 8,134      |                           | $          | 9,287 |   | $ | 6,019 |   | $ | 11,733 |   |
| Direct segment contribution              |       | 9,970                            |       | 14,849                         |       | 19,908 |   | 27,610 |   |
| Other (2)                                |       | (3,904                           | )          | (4,368                         | )          | (8,527 | ) | (8,495 | ) |
| General and administrative expenses      |       | (7,250                           | )          | (8,419                         | )          | (15,241 | ) | (15,565 | ) |
| Operating income                         |       | $                                | 6,950      |                           | $          | 11,349 |   | $ | 2,159 |   | $ | 15,283 |   |

 

(1)          Representsoutlet store net sales.

(2)          Representsunallocated shared-service costs and outlet store revenues and expenses.
| ** **               | ** ** | ** ** | ** ** | ** ** | ** ** | ** Unallocated ** | ** ** | ** ** | ** ** |
|--------------------------|------------|------------|------------|------------|------------|-----------------------------|------------|------------|------------|
| ** **               | ** ** | **Retail** | ** ** | **Direct** | ** ** | **Assets**                  | ** ** | **Total**  | ** ** |
| **Identifiable assets:** |       |       |       |       |       |                        |       |       |       |   |   |
| June 25, 2005       |       | $          | 133,006    |       | $          | 21,074                      |       |       | $          | 129,402 |   |   | $ | 283,482 |   |
| June 26, 2004       |       | $          | 115,394    |       | $          | 24,308                      |       |       | $          | 135,195 |   |   | $ | 274,897 |   |
| December 25,  2004  |       | $          | 132,539    |       | $          | 26,811                      |       |       | $          | 123,346 |   |   | $ | 282,696 |   |

 

**J.   Reclassifications:**

Certain segmentinformation for the three months and six months ended June 26, 2004 hasbeen reclassified to conform to current period presentation and management’scurrent internal reporting structure.

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**THE J. JILL GROUP, INC. NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued) (unaudited)**

**K.   Recentaccounting pronouncements:**

In May 2005, the FASB issued Statement No. 154(“SFAS 154”), “*Accounting Changes and ErrorCorrections*,” a replacement of APB Opinion No. 20 (“APB 20”), “*Accounting Changes,*” and FASB issuedStatement No. 3 (“SFAS 3”), “*ReportingAccounting Changes in Interim Financial Statements.”* SFAS 154requires retrospective application to prior periods’ financial statements ofchanges in accounting principle, unless it is impracticable to determine eitherthe period-specific effects or the cumulative effect of the change. Thisstatement requires that retrospective application of a change in accountingprinciple be limited to the direct effects of a change. SFAS 154 is effectivefor accounting changes and corrections of errors made in fiscal years beginningafter December 15, 2005.

In March 2005, the FASB issued Interpretation No. 47(“FIN 47”), *“Accounting for ConditionalAsset Retirement Obligations,”* an interpretation of FASB issuedStatement No. 143 (“SFAS 143”), *“Accountingfor Asset Retirement Obligations.”*FIN 47 clarifies that the term “conditionalasset retirement obligation” as used in SFAS 143 refers to a legal obligationto perform an asset retirement activity in which the timing and (or) method ofsettlement are conditional on a future event that may or may not be within thecontrol of the entity. The obligation to perform the asset retirement activityis unconditional even though uncertainty exists about the timing and (or)method of settlement. FIN 47 also clarifies when an entity would have sufficientinformation to reasonably estimate the fair value of an asset retirementobligation. FIN 47 is effective no later than the end of fiscal years endingafter December 15, 2005. Retrospective application for interim financialinformation is permitted but is not required. The Company is currently in theprocess of evaluating FIN 47, however the adoption of this statement is notexpected to have a material impact on the Company’s consolidated financialstatements.

In December 2004, the FASB issued Statement No. 153(“SFAS 153”), “*Exchanges of NonmonetaryAssets*,” an amendment of APB Opinion No. 29 (“APB 29”), “*Accounting for Nonmonetary Transactions*.”SFAS 153 amends APB 29 to eliminate the exception for nonmonetary exchanges ofsimilar productive assets and replaces it with a general exception forexchanges of nonmonetary assets that do not have commercial substance. Anonmonetary asset exchange has commercial substance if the future cash flows ofthe entity are expected to change significantly as a result of the exchange. SFAS153 is effective for nonmonetary asset exchanges occurring in fiscal periodsbeginning after June 15, 2005. The Company is currently in the process ofevaluating SFAS 153, however the adoption of this statement is not expected tohave a material impact on the Company’s consolidated financial statements.

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**Item2. Management’s Discussion and Analysis of Financial Condition and Results ofOperations**

*This Quarterly Report on Form 10-Q, including thefollowing discussion, contains forward-looking statements within the meaning ofthe Private Securities Litigation Reform Act of 1995 that involve substantialrisks and uncertainties. For this purpose, any statements contained herein thatare not statements of historical fact may be deemed to be forward-lookingstatements. Without limiting the generality of the foregoing, the words “projected,”“anticipated,” “planned,” “expected” and similar expressions are intended toidentify forward-looking statements. In particular, statements regardingfuture financial targets or trends are forward-looking statements. Forward-lookingstatements are not guarantees of our future financial performance, and unduereliance should not be placed on them. Our actual results, performance orachievements may differ significantly from the results, performance orachievements discussed in or implied by the forward-looking statements. Factorsthat could cause such a difference include material changes to our business orprospects, in consumer spending, fashion trends or consumer preferences, or ingeneral political, economic, business or capital market conditions and otherrisks and uncertainties, including, but not limited to, the following: ourability to respond to changes in customer demands and fashion trends in atimely manner which could affect both total sales and the mix of sales betweenfull price and liquidation merchandise; the success of our product developmentand merchandising initiatives; our success with sourcing merchandise outside ofChina in response to the imposition of international or domestic sanctions,embargoes or quota restrictions; our ability to effectively build brandawareness; our ability to successfully redefine our direct segment businessstrategy; the success of our retail segment growth strategy; changes incompetition in the apparel industry; the customary risks of purchasingmerchandise abroad, including longer lead times, higher initial purchasecommitments and timeliness of receipts of inventory; our ability to continue tohave access to relevant lists of prospective customers from third parties andto effectively manage and utilize our multi-channel customer database; thepossible adverse effect of a determination by us or our registered independentaccounting firm that we have a material weakness in our internal controls overfinancial reporting; changes in, or failure to comply with, federal and statetax and other government regulations; our ability to respond to interruptionsor delays in the delivery of products or services provided by our vendors andservice providers; our ability to attract and retain qualified personnel;possible future increases in expense and labor and employee benefit costs;business abilities and the judgment of management; our ability to respond to amajor failure of our information systems; and other factors that are detailedin “Item 1A. Risk Factors” in our Annual Report on Form 10-K for thefiscal year ended December 25, 2004 (“fiscal 2004”). We disclaim anyintent or obligation to update any forward-looking statements.*

***Restatement of Prior Financial Information***

Wehave restated the condensed consolidated balance sheet at June 26,2004, the condensed consolidated statements of operations for the three and sixmonths ended June 26, 2004 and the condensed consolidated statement ofcash flows for the six months ended June 26, 2004 in this Quarterly Reporton Form 10-Q. The restatement also affects periods prior to fiscal 2004. Therestatement corrects our historical accounting for operating leases. The restatement adjustments were non-cash andhad no impact on revenues, comparable store sales or operating cash flows. Forinformation with respect to the restatement, see “Note B” to the consolidatedfinancial statements contained in our Annual Report on Form 10-K forfiscal 2004. We did not amend our Quarterly Reports on Form 10-Q for theperiods before the end of fiscal 2004 to reflect the restatement, therefore thefinancial statements and related financial information contained in suchreports should no longer be relied upon. Throughout “Management’s Discussionand Analysis of Financial Condition and Results of Operations,” all referencedamounts for affected prior periods and prior period comparisons reflect thebalances and amounts on a restated basis.

***Overview***

We are a multi-channel specialty retailer of women’sapparel, including accessories and footwear. We market our products through ourretail stores, catalogs and website *jjill.com*.We currently have two 

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reportable businesssegments, retail and direct. Each segment is separately managed and utilizesdistinct distribution, marketing and inventory management strategies. Theretail segment markets merchandise through our retail stores. The directsegment markets merchandise through our catalogs and website. For moreinformation about our reportable business segments, please see “Note I” to theaccompanying condensed consolidated financial statements.

Net sales during the three months ended June 25,2005 (“second quarter fiscal 2005”) decreased by 2.6% to $117.4 million from$120.6 million during the three months ended June 26, 2004 (“secondquarter fiscal 2004”). Operating income during second quarter fiscal 2005 was$7.0 million, or 5.9% of net sales, compared to $11.3 million, or 9.4% of netsales, during second quarter fiscal 2004. Net income during second quarterfiscal 2005 was $3.9 million, or $0.19 per diluted share, compared to netincome of $6.5 million, or $0.32 per diluted share, during second quarterfiscal 2004.

Net sales during the six months ended June 25,2005 decreased by 2.1% to $215.8 million from $220.5 million during thesix months ended June 26, 2004. Operating income during the six monthsended June 25, 2005 was $2.2 million, or 1.0% of net sales, compared to$15.3 million, or 6.9% of net sales, during the six months ended June 26,2004. Net income during the six months ended June 25, 2005 was $1.2 million,or $0.06 per diluted share, compared to net income of $8.8 million, or $0.43per diluted share, during the six months ended June 26, 2004.

Second quarter fiscal 2005 was disappointing ascompared to second quarter fiscal 2004 as our results continued to be impactedby our ongoing merchandising transition. Our results were different by segment,with net sales continuing to grow in retail as we opened more stores anddeclining significantly in direct as we cut back on circulation in an attemptto appropriately scale the business. Our direct business continues to beaffected by cannibalization from our retail stores as well as delayed customerunderstanding and acceptance of the merchandising changes we have undertaken.We believe the most significant areas of opportunity for the direct businessinclude increasing the amount of catalog-only product offerings and the densityof offerings per catalog page. We are currently taking steps to address both ofthese areas.  

We remain focused on two key objectives, namelyimproving our retail sales productivity and stabilizing our direct business.The single most important factor in attaining these goals is delivering animproved merchandise assortment tailored to each business. Accordingly, we planto continue to focus significant attention on merchandising initiatives. Whilewe are pleased with the initial response in our retail segment to our newlyintroduced silhouettes, fits and color palette, we are still in the earlystages of enhancing the boldness and depth of our embellished novelty and signatureproduct.

Current business trends are mixed between segments.Our retail business had a solid July largely as a result of strong clearanceselling and positive retail customer response to our July “wear now” delivery,which included our new athletically inspired sportswear collection.Unfortunately, our direct business performed poorly in July. In retrospect, webelieve our July performance in direct may have been affected not just byretail cannibalization and delayed customer understanding and acceptance of ourmerchandising changes, but also by our having inadvertently alienated orconfused our traditional direct segment customer by too prominently featuringour new athletically inspired sportswear collection in our first fall catalog.Fortunately, our remaining fall catalogs will be focused more on ourestablished product categories.

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***Results of Operations***

Thefollowing table presents our condensed consolidated statements of operationsexpressed as a percentage of net sales:
| ** **                                    | ** ** | **Three Months Ended** | ** ** | **Six Months Ended** | ** ** |
|-----------------------------------------------|------------|----------------------------------|------------|--------------------------------|------------|
| ** **                                    | ** ** | **June 25,**                | ** ** | **June 26,**              | ** ** | **June 25,** | ** ** | **June 26,** | ** ** |
| ** **                                    | ** ** | **2005**                         | ** ** | **2004**                       | ** ** | **2005** | ** ** | **2004** | ** ** |
| ** **                                    | ** ** | ** **                       | ** ** | **(Restated)**                 | ** ** | ** ** | ** ** | **(Restated)** | ** ** |
| Net sales                                     |       |                             | 100.0      | %                              |       |   | 100.0 | % |   |   | 100.0 | % |   |   | 100.0 | % |   |
| Cost of products  and merchandising           |       |                             | 64.4       |                           |       |   | 60.9 |   |   |   | 67.3 |   |   |   | 62.7 |   |   |
| Gross margin                                  |       |                             | 35.6       |                           |       |   | 39.1 |   |   |   | 32.7 |   |   |   | 37.3 |   |   |
| Selling, general  and administrative expenses |       |                             | 29.7       |                           |       |   | 29.7 |   |   |   | 31.7 |   |   |   | 30.4 |   |   |
| Operating income                              |       |                             | 5.9        |                           |       |   | 9.4 |   |   |   | 1.0 |   |   |   | 6.9 |   |   |
| Interest income                               |       |                             | 0.3        |                           |       |   | 0.1 |   |   |   | 0.2 |   |   |   | 0.1 |   |   |
| Interest expense                              |       |                             | 0.2        |                           |       |   | 0.2 |   |   |   | 0.2 |   |   |   | 0.2 |   |   |
| Interest (income) expense, net                |       |                             | (0.1       | )                              |       |   | 0.1 |   |   |   | 0.0 |   |   |   | 0.1 |   |   |
| Income before  taxes                          |       |                             | 6.0        |                           |       |   | 9.3 |   |   |   | 1.0 |   |   |   | 6.8 |   |   |
| Income tax  provision                         |       |                             | 2.7        |                           |       |   | 3.9 |   |   |   | 0.5 |   |   |   | 2.8 |   |   |
| Net income                                    |       |                             | 3.3        | %                              |       |   | 5.4 | % |   |   | 0.5 | % |   |   | 4.0 | % |   |

 

Thefollowing table presents certain selected operating data:
| ** **                           | ** ** | **Three Months Ended** | ** ** | **Six Months Ended** | ** ** |
|--------------------------------------|------------|----------------------------------|------------|--------------------------------|------------|
| ** **                           | ** ** | **June 25,**                | ** ** | **June 26,**              | ** ** | **June 25,** | ** ** | **June 26,** | ** ** |
| ** **                           | ** ** | **2005**                         | ** ** | **2004**                       | ** ** | **2005** | ** ** | **2004** | ** ** |
| ***Retail:***(1)                     |       |                             |       |                           |       |   |   |   |   |
| Stores open:                         |       |                             |       |                           |       |   |   |   |   |
| Beginning of period                  |       | 152                              |       | 123                            |       | 150 |   | 122 |   |
| End of period                        |       | 160                              |       | 130                            |       | 160 |   | 130 |   |
| Weighted average  stores open (2)    |       | 155                              |       | 127                            |       | 153 |   | 124 |   |
| Weighted average  square footage (3) |       | 679,200                          |       | 576,800                        |       | 671,200 |   | 568,100 |   |
| Comparable store  sales (4)          |       | 0.1                              | %          | 17.8                           | %          | (2.6) | % | 20.2 | % |
| ***Direct:***                        |       |                             |       |                           |       |   |   |   |   |
| Circulation: (5)                     |       |                             |       |                           |       |   |   |   |   |
| Catalogs (in thousands)              |       | 13,400                           |       | 19,200                         |       | 28,500 |   | 35,400 |   |
| Square inches (in millions)          |       | 88,600                           |       | 111,300                        |       | 178,300 |   | 222,900 |   |
| ***Other:***                         |       |                             |       |                           |       |   |   |   |   |
| 12-month buyers (6)                  |       | 1,806,000                        |       | 1,630,000                      |       | 1,806,000 |   | 1,630,000 |   |
| J. Jill credit card holders          |       | 781,000                          |       | 642,000                        |       | 781,000 |   | 642,000 |   |
| E-mail addresses                     |       | 1,191,000                        |       | 1,073,000                      |       | 1,191,000 |   | 1,073,000 |   |

 

(1)          Retail informationrelates to our retail stores only and does not include data for our outletstores.

(2)          Weighted average storesopen refers to the number of retail stores open during the period weighted forthe number of days that each store was open during the period.

(3)          Weighted average squarefootage refers to the square footage of retail stores open during the periodweighted for the number of days that each store was open during the period.

(4)          Comparable store sales,a retail operating statistic, is calculated for retail stores that have beenopen for at least one full fiscal year. Retail stores that have been materiallyexpanded or renovated are not considered in the comparable store salescalculation until they have been in operation as an expanded 

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or renovated store for atleast one full fiscal year. The calculation of comparable store sales excludescertain amounts included in the calculation of net sales, such as accruals forreturns allowances and certain other items.

(5)          In order to more closelymatch net sales to circulation, we calculate circulation on a percentage ofcompletion basis. Catalog circulation takes into account the total number ofcatalogs mailed during all periods and our estimate of the expected sales lifeof each catalog edition. Square inches circulated also takes into account the page countand page size of the catalogs circulated during the period. Catalogcirculation and square inches circulated statistics do not include catalogsmailed to retail-only customers.

(6)          The term “Total 12-monthbuyers” represents customers identified by our multi-channel database as havingplaced a catalog, internet or intranet order with us or made a retail storepurchase from us within the previous 12 months. We currently capture customerinformation on roughly 75% of our retail store customers and, accordingly, webelieve this buyer count is somewhat understated.

Thefollowing table summarizes net sales by segment (in thousands):
| ** **      | ** ** | **Three Months Ended** | ** ** | **Six Months Ended** | ** ** |
|-----------------|------------|----------------------------------|------------|--------------------------------|------------|
| ** **      | ** ** | **June 25,**                | ** ** | **June 26,**              | ** ** | **June 25,** | ** ** | **June 26,** | ** ** |
| ** **      | ** ** | **2005**                         | ** ** | **2004**                       | ** ** | **2005** | ** ** | **2004** | ** ** |
| Retail          |       | $                                | 75,054     |                           | $          | 65,134 |   | $ | 131,640 |   | $ | 115,357 |   |
| Direct          |       | 40,618                           |       | 54,257                         |       | 81,443 |   | 103,012 |   |
| Other (1)       |       | 1,745                            |       | 1,170                          |       | 2,703 |   | 2,121 |   |
| Total net sales |       | $                                | 117,417    |                           | $          | 120,561 |   | $ | 215,786 |   | $ | 220,490 |   |

 

(1)          Representsoutlet store net sales.

***Comparison of Second Quarter Fiscal 2005 to SecondQuarter Fiscal 2004***

Net sales decreased by $3.1 million, or 2.6%, to$117.4 million during second quarter fiscal 2005 from $120.6 million duringsecond quarter fiscal 2004. Retail segment net sales increased by $9.9 million,or 15.2%, during second quarter fiscal 2005. This increase is attributable to a17.8% increase in the weighted average square footage of retail stores openduring the quarter, partially offset by a 2.1% decrease in retail segment salesproductivity, as measured by net sales per weighted average square foot. Duringsecond quarter fiscal 2005, we opened eight retail stores and ended the quarterwith 160 retail stores compared to 130 at the end of second quarter fiscal2004. Comparable store sales for stores open at least one full fiscal yearincreased by 0.1% during second quarter fiscal 2005. Direct segment net salesdecreased by $13.6 million, or 25.1%, during second quarter fiscal 2005 ascompared to second quarter fiscal 2004, as square inches circulated decreasedby 20.4% and direct segment sales productivity, as measured by net sales per1,000 square inches circulated, decreased by 6.0%. Direct segment salesproductivity decreased largely as a result of lower than expected customerresponse given the significant decrease in circulation as well as higher returnrates and lower order fulfillment rates. Internet net sales represented 54.5%of total direct segment net sales during second quarter fiscal 2005 compared to40.7% during second quarter fiscal 2004. We expect internet net sales torepresent an increasing portion of our total direct business over time. Weexpect our future growth to come from our retail segment.

Gross margin represents net sales less cost ofproducts and merchandising. Cost of products and merchandising consistsprimarily of product costs (e.g., product development, sourcing, merchandising,inventory control and inventory acquisition costs and inventory markdowns) andoperating costs (e.g., occupancy and depreciation costs for our retail stores,order processing costs and distribution facility costs). During second quarterfiscal 2005, gross margin decreased by $5.3 million, or 11.3%, to $41.8 millionfrom $47.1 million during second quarter fiscal 2004. As a percentage of netsales, gross 

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margin decreased to 35.6%during second quarter fiscal 2005 from 39.1% during second quarter fiscal 2004.The 3.5 percentage point decrease in gross margin as a percentage of net saleswas attributable to a 2.2 percentage point increase in product costs and a 1.3percentage point increase in operating costs, both as a percentage of net sales.Product costs as a percentage of net sales increased primarily as a result ofhigher inventory markdowns, increased promotional activity and a shift in themix of the business toward off price. These factors were partially offset byhigher initial mark-ups. The increase in operating costs as a percentage of netsales was primarily attributable to a 20.6% increase in retail segmentoperating costs associated with the growth of the retail business, partiallyoffset by a 19.8% decrease in direct segment operating costs, and thede-leveraging effect of the resulting net operating cost increase as comparedto a decrease in quarter-over-quarter net sales levels. Additionally, the shiftin the mix of our business toward retail and the fact that retail segment grossmargin is currently lower as a percentage of net sales than direct segmentgross margin, also contributed to the decrease in gross margin as a percentageof net sales. We expect the differences between our retail and direct segmentcost structures to continue until we are able to increase the overallproductivity and profitability of our retail stores.

Selling, general and administrative expenses consistprimarily of retail store selling costs, costs to produce, print and distributecatalogs, and website and corporate administrative costs. During second quarterfiscal 2005, selling, general and administrative expenses decreased by $0.9million, or 2.6%, to $34.9 million from $35.8 million during second quarterfiscal 2004. As a percentage of net sales, selling, general and administrativeexpenses remained flat at 29.7% during second quarter fiscal 2005 compared to secondquarter fiscal 2004. Selling expenses increased by 0.8 percentage points andgeneral and administrative expenses decreased by 0.8 percentage points, both asa percentage of net sales. The increase in selling expenses as a percentage ofnet sales was primarily attributable to a 18.5% increase in retail segmentselling expenses associated with the growth in the retail business, partiallyoffset by a 25.6% decrease in direct segment selling expenses, and thede-leveraging effect of the resulting net selling expense increase as comparedto a decrease in quarter-over-quarter net sales levels. In addition, sellingexpenses as a percentage of net sales was negatively affected by the shift inthe mix of our business toward retail and the fact that retail segment sellingexpenses are currently higher as a percentage of net sales than direct segmentselling expenses. We expect the differences between our retail and directsegment cost structures to continue until we are able to increase the overallproductivity and profitability of our retail stores. General and administrativeexpenses as a percentage of net sales decreased as lower spending onprofessional fees and spring season performance bonuses, together representinga $2.0 million decrease in expenses, more than offset a $0.8 million increasein employee related expenses and other overhead costs.

Interest income increasedto $0.3 million during second quarter fiscal 2005 from $0.2 million duringsecond quarter fiscal 2004. Interest expense decreased to $0.2 million duringsecond quarter fiscal 2005 from $0.3 million during second quarter fiscal 2004.

***Comparison of the Six Months Ended June 25, 2005to the Six Months Ended June 26, 2004***

Net sales decreased by $4.7 million, or 2.1%, to$215.8 million during the six months ended June 25, 2005 from $220.5million during the six months ended June 26, 2004. Retail segment netsales increased by $16.3 million, or 14.1%, during the six months ended June 25,2005. This increase is attributable to an 18.1% increase in the weightedaverage square footage of retail stores open during the six-month period,partially offset by a 3.4% decrease in retail segment sales productivity. Duringthe six months ended June 25, 2005, we opened 10 retail stores. Comparablestore sales decreased by 2.6% during the six months ended June 25, 2005. Directsegment net sales decreased by $21.6 million, or 20.9%, during the six monthsended June 25, 2005 as compared to the six months ended June 26,2004, as square inches circulated decreased by 20.0% and direct segment salesproductivity decreased by 1.2%. Direct segment sales productivity decreasedlargely as a result of lower than expected customer response given thesignificant decrease in circulation as well as higher return rates and lowerorder fulfillment rates. Internet net sales 

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represented 53.6% of totaldirect segment net sales during the six months ended June 25, 2005compared to 40.0% during the six months ended June 26, 2004.

During the six months ended June 25, 2005, grossmargin decreased by $11.7 million, or 14.2%, to $70.6 million from $82.2 millionduring the six months ended June 26, 2004. As a percentage of net sales,gross margin decreased to 32.7% during the six months ended June 25, 2005from 37.3% during the six months ended June 26, 2004. The 4.6 percentagepoint decrease in gross margin as a percentage of net sales was attributable toa 3.0 percentage point increase in product costs and a 1.6 percentage pointincrease in operating costs, both as a percentage of net sales. Product costsas a percentage of net sales increased primarily as a result of higherinventory markdowns, increased promotional activity and a shift in the mix ofthe business toward off price. These factors were partially offset by higherinitial mark-ups. The increase in operating costs as a percentage of net saleswas primarily attributable to a 20.3% increase in retail segment operatingcosts associated with the growth of the retail business, partially offset by a15.5% decrease in direct segment operating costs, and the de-leveraging effectof the resulting net operating cost increase as compared to a decrease inperiod-over-period net sales levels. Additionally, the shift in the mix of ourbusiness toward retail and the fact that retail segment gross margin iscurrently lower as a percentage of net sales than direct segment gross marginalso contributed to the decrease in gross margin as a percentage of net sales.

During the six months ended June 25, 2005,selling, general and administrative expenses increased by $1.5 million, or2.2%, to $68.4 million from $66.9 million during the six months ended June 26,2004. As a percentage of net sales, selling, general and administrativeexpenses increased to 31.7% during the six months ended June 25, 2005 from30.4% during the six months ended June 26, 2004. The 1.3 percentage pointincrease in selling, general and administrative expenses as a percentage of netsales was entirely attributable to selling expenses. General and administrativeexpenses as a percentage of net sales remained flat. The increase in sellingexpenses as a percentage of net sales was primarily attributable to a 20.5%increase in retail segment selling expenses associated with the growth in theretail business, partially offset by a 21.0% decrease in direct segment sellingexpenses, and the de-leveraging effect of the resulting net selling expenseincrease as compared to a decrease in period-over-period net sales levels. Inaddition, selling expenses as a percentage of net sales was negatively affectedby the shift in the mix of our business toward retail and the fact that retailsegment selling expenses are currently higher as a percentage of net sales thandirect segment selling expenses. General and administrative expenses as apercentage of net sales remained flat as increased spending on employee relatedexpenses and other overhead costs, together representing a $1.8 millionincrease in expenses, were offset by decreased spending on professional feesand spring season performance bonuses.

Interest income increasedto $0.5 million during the six months ended June 25, 2005 from $0.3million during the six months ended June 26, 2004. Interest expenseremained relatively flat at $0.5 million during the six months ended June 25,2005 and June 26, 2004.

***Income Taxes***

We provide for incometaxes at an effective tax rate that includes the full federal and statestatutory tax rates. Our effective tax rate was 44.6% during second quarterfiscal 2005 and 46.0%****during thesix months ended June 25, 2005 compared to 42.0% during second quarterfiscal 2004 and 41.7% during the six months ended June 26, 2004. Oureffective tax rate is dependent upon, among other things, the level of ourtaxable income for the full fiscal year and the taxability of that income incertain states given our organizational structure. Our ability to predict ourtaxable income for the full fiscal year is subject to a number of uncertaintiesand our estimate can change materially as a result of changing business trends.Should taxable income levels differ from management’s estimate, our effectivetax rate may be materially affected which may significantly impact ouroperating results in future periods.

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***Segment Analysis***

We currently have two reportable business segments,retail and direct. Segment reporting is intended to give financial statementusers a view of our business “through the eyes of management.” Our internalmanagement reporting is the basis for the information disclosed for ourbusiness segments. In accordance with generally accepted accounting principles(“GAAP”), our internally defined measure of segment profit, segmentcontribution, is required to be disclosed, but it is not a GAAP measure. Informationrelated to segment contribution should be read in conjunction with thereconciliation to “Operating income” as determined by GAAP.

At the beginning of 2005, we changed our segmentreporting as a result of changes in the way management views the business. Inventorycontrol costs, previously included in other, have been reclassified to theretail and direct segments. Additionally, certain order fulfillment costspreviously recorded in the direct segment have been reclassified to inventorydistribution costs and allocated to the retail segment. Segment information forthe three months and six months ended June 26, 2004 has been reclassifiedto conform to current period presentation.

We evaluate segment profitability based on thecontribution of each segment. Segment contribution represents each segment’snet sales less direct costs related to the segment’s operations. Direct costsfor the retail and direct segments include merchandise acquisition andinventory control costs, and inventory markdowns. Direct costs also includeretail store selling, occupancy, depreciation, inventory distribution andadministrative costs for the retail segment and catalog costs, certain orderprocessing and fulfillment costs and internet selling costs for the directsegment. Segment contribution less other and general and administrativeexpenses is equal to operating income. Other represents unallocatedshared-service costs such as merchandising, product development, sourcing anddistribution facility costs, as well as outlet store revenues and expenses. Generaland administrative expenses include corporate executive management costs,support service costs (e.g., shared information systems, finance and humanresources) and corporate headquarters occupancy costs.

The accounting policies of our segments are the sameas those described in “Note B” to the consolidated financial statementscontained in our Annual Report on Form 10-K for fiscal 2004. Inter-segmentbalances and transactions have been eliminated.

Thefollowing table provides a reconciliation of segment contribution to operatingincome (in thousands):
| ** **                           | ** ** | **Three Months Ended**          | ** ** | **Six Months Ended**         | ** ** |
|--------------------------------------|------------|-------------------------------------------|------------|----------------------------------------|------------|
| ** **                           | ** ** | **  June 25,  ** | ** ** | **June 26,**                      | ** ** | **June 25,** | ** ** | **June 26,** | ** ** |
| ** **                           | ** ** | **2005**                                  | ** ** | **2004**                               | ** ** | **2005** | ** ** | **2004** | ** ** |
| ** **                           | ** ** | ** **                                | ** ** | **  (Restated)  ** | ** ** | ** ** | ** ** | **  (Restated)  ** | ** ** |
| Retail segment  contribution         |       |                                      | $          | 8,134                                  |       |   |   | $ | 9,287 |   |   | $ | 6,019 |   |   | $ | 11,733 |   |   |
| Direct segment  contribution         |       |                                      | 9,970      |                                   |       |   | 14,849 |   |   | 19,908 |   |   | 27,610 |   |   |
| Other (1)                            |       |                                      | (3,904     | )                                      |       |   | (4,368 | ) |   | (8,527 | ) |   | (8,495 | ) |   |
| General and  administrative expenses |       |                                      | (7,250     | )                                      |       |   | (8,419 | ) |   | (15,241 | ) |   | (15,565 | ) |   |
| Operating income                     |       |                                      | $          | 6,950                                  |       |   |   | $ | 11,349 |   |   | $ | 2,159 |   |   | $ | 15,283 |   |   |

 

(1)          Represents unallocatedshared-service costs and outlet store revenues and expenses.

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***Segment Comparison of Second Quarter Fiscal 2005 toSecond Quarter Fiscal 2004***

*Retail segmentcontribution*

The retail segment’ssecond quarter fiscal 2005 contribution decreased by $1.2 million, or 12.4%, to$8.1 million from $9.3 million during second quarter fiscal 2004. As apercentage of segment net sales, segment contribution decreased to 10.8% duringsecond quarter fiscal 2005 from 14.3% during second quarter fiscal 2004. The3.4 percentage point decrease in segment contribution as a percentage of netsales was attributable to a 1.8 percentage point increase in product costs, a0.9 percentage point increase in operating costs and a 0.7 percentage pointincrease in selling expenses, all as a percentage of net sales. Segment productcosts as a percentage of net sales increased primarily as a result of higherinventory markdowns. Although there was a shift in the mix of the businesstoward off price and an increase in promotional activity during the quarter,these factors were offset by higher initial mark-ups. Segment operating costsas a percentage of net sales increased primarily as a result of thede-leveraging of occupancy and depreciation costs over lower sales per squarefoot. Segment selling expenses as a percentage of net sales increased primarilyas a result of higher advertising and in-store visual presentation costs.

*Direct segmentcontribution*

The direct segment'ssecond quarter fiscal 2005 contribution decreased by $4.9 million, or 32.9%, to$10.0 million from $14.8 million during second quarter fiscal 2004. Directsegment contribution decreased  largelyas a result of lower than expected customer response given the significantdecrease in circulation as well as higher return rates and lower order fulfillmentrates. As a percentage of segment net sales, segment contribution decreased to24.5% during second quarter fiscal 2005 from 27.4% during second quarter fiscal2004. The 2.8 percentage point decrease in segment contribution as a percentageof net sales was attributable to a 1.7 percentage point increase in productcosts and a 1.2 percentage point increase in operating costs, partially offsetby a 0.1 percentage point decrease in selling expenses, all as a percentage ofnet sales. Segment product costs as a percentage of net sales increased primarilyas a result of higher inventory markdowns. Although there was a shift in themix of the business toward off price and an increase in promotional activityduring the quarter, these factors were offset by higher initial mark-ups.Segment operating costs as a percentage of net sales increased primarily as aresult of the de-leveraging of order taking and fulfillment costs over lowernet sales productivity partially offset by a decrease in shipping expenseassociated with fewer backorder shipments as compared to second quarter fiscal2004.

*Other*

Other net expensesdecreased by $0.5 million, or 10.6%, to $3.9 million during second quarterfiscal 2005 from $4.4 million during second quarter fiscal 2004 primarily as aresult of decreased spending on professional fees and spring season performancebonuses, together representing a $0.5 million decrease in expenses.

*General andadministrative expenses*

General and administrativeexpenses decreased by $1.2 million, or 13.9%, to $7.3 million during secondquarter fiscal 2005 from $8.4 million during second quarter fiscal 2004. Pleasesee our discussion of general and administrative expenses under the heading *“Comparison of Second Quarter Fiscal 2005 to SecondQuarter Fiscal 2004”* above.

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***Segment Comparison of the Six Months Ended June 25,2005 to the Six Months Ended June 26, 2004***

*Retail segmentcontribution*

The retail segment’scontribution during the six months ended June 25, 2005 decreased by$5.7 million, or 48.7%, to $6.0 million from $11.7 million during the sixmonths ended June 26, 2004. As a percentage of segment net sales, segmentcontribution decreased to 4.6% during the six month ended June 25, 2005from 10.2% during the six months ended June 26, 2004. The 5.6 percentagepoint decrease in segment contribution as a percentage of net sales wasattributable to a 3.0 percentage point increase in product costs, a 1.1percentage point increase in operating costs and a 1.5 percentage pointincrease in selling expenses, all as a percentage of net sales. Segment productcosts as a percentage of net sales increased primarily as a result of higherinventory markdowns. Although there was a shift in the mix of the businesstoward off price and an increase in promotional activity during the six-monthperiod, these factors were offset by higher initial mark-ups. Segment operatingcosts as a percentage of net sales increased primarily as a result of thede-leveraging of occupancy and depreciation costs over lower sales per squarefoot. Segment selling expenses as a percentage of net sales increased primarilyas a result of higher advertising and in-store visual presentation costs.

*Direct segmentcontribution*

The direct segment'scontribution during the six months ended June 25, 2005 decreased by $7.7 million,or 27.9%, to $19.9 million from $27.6 million during the six months ended June 26,2004. Direct segment contribution decreased largely as a result of lower thanexpected customer response given the significant decrease in circulation aswell as higher return rates and lower order fulfillment rates. As a percentageof segment net sales, segment contribution decreased to 24.4% during the sixmonths ended June 25, 2005 from 26.8% during the six months ended June 26,2004. The 2.4 percentage point decrease in segment contribution as a percentageof net sales was attributable to a 1.2 percentage point increase in productcosts and a 1.2 percentage point increase in operating costs, each as apercentage of net sales.  Segment productcosts as a percentage of net sales increased primarily as a result of higherinventory markdowns. Although there was a shift in the mix of the businesstoward off price and an increase in promotional activity during the period,these factors were offset by higher initial mark-ups. Segment operating costsas a percentage of net sales increased primarily as a result of thede-leveraging of order taking and fulfillment costs over lower net salesproductivity partially offset by a decrease in shipping expense.

*Other*

Other net expensesremained flat at $8.5 million during the six months ended June 25, 2005and the six months ended June 26, 2004, as increased spending on productdevelopment and merchandising salaries and benefits, outlet store operatingexpenses and distribution facility costs, together representing a $0.8 millionincrease in expenses, were offset by decreased spending on spring seasonperformance bonuses and professional fees. 

*General andadministrative expenses*

General and administrativeexpenses decreased by $0.3 million, or 2.1%, to $15.2 million during the sixmonths ended June 25, 2005 from $15.6 million during the six months ended June26, 2004. Please see our discussion of general and administrative expensesunder the heading *“Comparison of the SixMonths Ended June 25, 2005 to the Six Months Ended June 26, 2004”*above.

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***Seasonality and Quarterly Fluctuations***

We expect there to befluctuations in our net sales from quarter to quarter, with the highest netsales generally coming in the second and fourth quarters of our fiscal year andthe lowest in the first and third quarters. As our retail store sales become agreater portion of our overall business, our business is becoming more seasonal.Our retail store rollout plan is expected to materially impact year-over-yearcomparisons of our net sales. Also, January is included in our firstfiscal quarter, but is included in the fourth fiscal quarter for many otherretailers. Because January is a month that traditionally involvessignificant promotional pricing, this difference needs to be taken into accountwhen making comparisons of our financial performance for interim periods withthat of other retailers.

***Liquidity and Capital Resources***

Our principal working capital needs arise from theneed to support costs incurred in advance of revenue generation, primarilyinventory acquisition, catalog development, production and mailing costs. Wehave two selling seasons that correspond to the fashion seasons. The springseason begins in January and ends in July. The fall season begins in July andends in January. Our capital investment needs arise from initiatives intendedto support our growth, including our retail store rollout and improvements toour physical and operating infrastructure. During the six months ended June 25,2005, we funded our working capital and capital investment needs with cashgenerated from operations and cash on hand.

Cash and cash equivalents (“cash”) decreased by $7.1million during the six months ended June 25, 2005. We increased ourinvestments in marketable securities by $10.9 million, invested $13.3 millionin property and equipment, primarily related to our retail store rollout, andgenerated $17.8 million from operating activities. During the six months ended June 25,2005, net income before depreciation and amortization and collections onaccounts receivable were the primary sources of cash from operations. Theprimary use of cash from operations related to increases in inventory.

Cash increased by $22.7 million during the six monthsended June 26, 2004. Approximately $31.4 million was generated fromoperations, $9.7 million was invested in property and equipment, primarilyrelated to our retail store rollout, and $3.1 million was generated from stocktransactions, primarily from the exercise of stock options. During the sixmonths ended June 26, 2004, net income before depreciation andamortization, higher amounts accrued and payable and collections on accountsreceivable were the primary sources of cash from operations.

At June 25, 2005 and December 25, 2004, theaggregate fair value of our marketable securities was $44.7 million and $34.1million, respectively. We did not have any marketable securities during the sixmonths ended June 26, 2004. Our marketable securities consist primarily ofinvestments in municipal debt securities. We intend to maintain a liquidportfolio consisting primarily of fixed-income securities.

Accounts receivable balances at June 25, 2005were 59.1%, or $9.7 million, lower than June 26, 2004 primarily as a resultof a decrease in receivables associated with our deferred billing program andlower amounts due from landlords, partially offset by an increase in creditcard receivables. Accounts receivable balances at June 25, 2005 were63.9%, or $11.9 million, lower than at December 25, 2004 primarily as aresult of a decrease in receivables associated with our deferred billingprogram and lower amounts due from landlords. At June 25, 2005, June 26,2004 and December 25, 2004, there were $0.1 million, $10.0 million and$8.8 million, respectively, of trade receivables outstanding related to ourdeferred billing program.

Inventory at June 25, 2005 was 45.0%, or $12.2million, higher than at June 26, 2004 primarily as a result of highercurrent season inventory levels and inventory associated with 30 new retailstores opened since June 26, 2004. Retail segment annualized inventoryturns decreased by 19.1% to 3.8 times per year during the six months ended June25, 2005 from 4.7 times per year during the six months ended June 26, 

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2004. Inventory per store inour retail segment was 11.3% higher at June 25, 2005 than at June 26,2004. Some of the increase in inventory is attributable to the fact that lastyear’s inventory levels were lower than normal primarily as a result of the20.2% comparable store sales increase we experienced during last year’s springseason. We plan to liquidate incremental overstocks through future clearanceactivity, outlet store sales and sales to third party inventory liquidators.

Inventory at June 25, 2005 was 8.3%, or $3.0million, higher than at December 25, 2004 mainly due to higher futureseason inventory levels and inventory associated with 10 new retail storesopened since December 25, 2004. Inventory per store in our retail segmentwas 3.1% lower at June 25, 2005 than at December 25, 2004.

A summary of our inventory balances follows (inthousands):
| ** ** | ** ** | **June 25,** | ** ** | **June 26,** | ** ** | **December 25,** | ** ** |
|------------|------------|-------------------|------------|-------------------|------------|-----------------------|------------|
| ** ** | ** ** | **2005**          | ** ** | **2004**          | ** ** | **2004**              | ** ** |
| Retail     |       | $                 | 22,619     |              | $          | 16,519                |       |   | $ | 21,892 |   |   |
| Direct     |       | 15,100            |       | 10,136            |       |                  | 13,759     |   |   |
| Other (1)  |       | 1,483             |       | 379               |       |                  | 561        |   |   |
| Total      |       | $                 | 39,202     |              | $          | 27,034                |       |   | $ | 36,212 |   |   |

 

(1)          Includesinventory related to outlet stores.

Deferred credits from landlords and other at June 25,2005 were 13.8%, or $5.9 million, higher than at June 26, 2004 and 2.3%,or $1.1 million, higher than at December 25, 2004 primarily as a result ofopening additional retail stores. Most of our retail store leases containprovisions that allow for early termination of the lease by either party ifcertain predetermined annual sales levels are not met. Generally, theseprovisions allow the lease to be terminated between the third and fifth year ofthe lease term. Should the lease be terminated under these provisions, theunamortized portion of any landlord allowances related to that property wouldbe payable to the landlord. The liability for unamortized landlord allowances, includingcurrent portion, was $40.2 million, $34.9 million and $39.5 million at June 25,2005, June 26, 2004 and December 25, 2004, respectively.

At June 25, 2005, we had 160 retail stores and sixoutlet stores open. We currently expect to open an additional 32 retail storesduring the remainder of 2005 bringing our total 2005 retail store openings to42. The initial net cash requirements related to our retail store rollout aresignificant and are primarily comprised of leasehold improvements, net oflandlord allowances, and initial inventory acquisition costs. Constructioncommitments are typically made one to six months in advance of a new retailstore opening and actual construction typically begins two to three monthsbefore the store opens. The initial net cash requirements for opening a newretail store are currently estimated at an average of approximately $0.4million per store.

Thefollowing table summarizes the cash requirements related to our outstandingfuture minimum lease payments for operating leases having a remaining term inexcess of one year and our outstanding long-term debt at June 25, 2005 (inthousands):
| ** **                           | ** ** | **Payments Due By Period (1)** | ** ** |
|--------------------------------------|------------|----------------------------------------------------|------------|
| ** **                           | ** ** | **Total**                                          | ** ** | ** Less than  1 Year** | ** ** | **1-3 Years** | ** ** | **3-5 Years** | ** ** | **More than  5 Years** | ** ** |
| Operating lease  obligations (2)     |       | $                                                  | 249,004    |   |   | $ | 13,138 |   |   | $ | 65,923 |   | $ | 67,890 |   | $ | 102,053 |   |
| Long-term debt  obligations (3)      |       | 11,345                                             |       |   | 914 |   |   | 1,499 |   | 8,932 |   | — |   |
| Fixed interest  payments on debt (4) |       | 2,640                                              |       |   | 391 |   |   | 1,397 |   | 852 |   | — |   |
| Total                                |       | $                                                  | 262,989    |   |   | $ | 14,443 |   |   | $ | 68,819 |   | $ | 77,674 |   | $ | 102,053 |   |

 

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(1)          All payment periods aremeasured from the end of our last fiscal year. The amount set forth in the “Lessthan 1 Year” column represents amounts to be paid for the remainder of 2005,the “1-3 Years” column represents amounts to be paid in 2006 and 2007,the “3-5 Years” column represents amounts to be paid in 2008 and 2009 andthe “More than 5 Years” column represents amounts to be paid after 2009.

(2)          See “Note H” to theaccompanying condensed consolidated financial statements.

(3)          Does not includeinterest payments. See “Note F” to the accompanying condensed consolidatedfinancial statements for a summary of our long-term debt at June 25, 2005,June 26, 2004 and December 25, 2004. The weighted average interestrate for amounts outstanding under our credit facilities was 7.01% per annumfor second quarter fiscal 2005 and 6.98% per annum for the six months ended June 25,2005. Cash paid for interest during the three and six months ended June 25,2005 was $0.2 million and $0.4 million, respectively.

(4)          Represents future fixedinterest payments under our real estate and equipment loans.

For a summary of our credit facilities at June 25,2005 see “Note F” to the accompanying condensed consolidated financialstatements.

We expect to spend approximately $3.0 million on threekey systems initiatives in 2005 including the implementation of a productlife-cycle management system, an inventory management and planning system and acorporate data warehouse. The total cost for these multi-year projects iscurrently estimated at approximately $7.0 million. We believe that thesesystems are necessary to support our planned future growth.

Our sources of cashinclude cash on hand, our investments in marketable securities, availableborrowing capacity under our Revolving Credit Facility of $20.0 million as of June 25,2005 and anticipated cash flow from operations. Our principal uses of cashinclude cash required to support current operations as well as investments ininfrastructure and our retail store rollout. Based on current operating conditions,we believe we have sufficient sources of cash to execute our operating plansand fund our planned operating and systems infrastructure investments, capitalexpenditures and commitments for the foreseeable future. Should currentoperating conditions deteriorate, we believe we have some flexibility to adjustour mid-to-long-term operating plans, including our retail store rollout and catalogcirculation strategies.

***Critical Accounting Policies***

Management has determinedthat our most critical accounting policies relate to inventory markdowns, merchandisereturns from customers, catalog costs and the impairment of long-lived assets. Wecontinually monitor our accounting policies to ensure proper application. Therehave been no material changes in our critical accounting policies since theywere discussed in our Annual Report on Form 10-K for fiscal 2004.

***Recent accounting pronouncements***

In May 2005, the Financial Accounting StandardsBoard (“FASB”) issued Statement No. 154 (“SFAS 154”), “*Accounting Changes and Error Corrections*,”a replacement of Accounting Principles Board (“APB”) Opinion No. 20 (“APB20”), “*Accounting Changes,*” andFASB issued Statement No. 3 (“SFAS 3”), “*Reporting Accounting Changes in Interim Financial Statements.”*SFAS 154 requires retrospective application to prior periods’ financialstatements of changes in accounting principle, unless it is impracticable todetermine either the period-specific effects or the cumulative effect of thechange. This statement requires that retrospective application of a change inaccounting principle be limited to the 

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direct effects of a change.SFAS 154 is effective for accounting changes and corrections of errors made infiscal years beginning after December 15, 2005.

In March 2005, the FASB issued Interpretation No. 47(“FIN 47”), *“Accounting for ConditionalAsset Retirement Obligations,”* an interpretation of FASB Statement No. 143(“SFAS 143”), *“Accounting for AssetRetirement Obligations.”*FIN 47 clarifies that the term “conditionalasset retirement obligation” as used in SFAS 143 refers to a legal obligationto perform an asset retirement activity in which the timing and (or) method ofsettlement are conditional on a future event that may or may not be within thecontrol of the entity. The obligation to perform the asset retirement activityis unconditional even though uncertainty exists about the timing and (or)method of settlement. FIN 47 also clarifies when an entity would havesufficient information to reasonably estimate the fair value of an assetretirement obligation. FIN 47 is effective no later than the end of fiscalyears ending after December 15, 2005. Retrospective application forinterim financial information is permitted but is not required. We arecurrently in the process of evaluating FIN 47, however the adoption of thisstatement is not expected to have a material impact on our consolidatedfinancial statements.

In December 2004, theFASB issued Statement No. 153 (“SFAS 153”), “*Exchanges of Nonmonetary Assets*,” an amendment of APBOpinion No. 29 (“APB 29”), “*Accountingfor Nonmonetary Transactions*.” SFAS 153 amends APB 29 to eliminatethe exception for nonmonetary exchanges of similar productive assets andreplaces it with a general exception for exchanges of nonmonetary assets thatdo not have commercial substance. A nonmonetary asset exchange has commercialsubstance if the future cash flows of the entity are expected to change significantlyas a result of the exchange. SFAS 153 is effective for nonmonetary assetexchanges occurring in fiscal periods beginning after June 15, 2005. Weare currently in the process of evaluating SFAS 153, however the adoption ofthis statement is not expected to have a material impact on our consolidatedfinancial statements.

**Item3. Quantitative and Qualitative Disclosures about Market Risk**

Our exposure to marketrisk at June 25, 2005 was not materially different than at December 25,2004. Information about our exposure to market risk at December 25, 2004is contained in our Annual Report of Form 10-K for fiscal 2004.

**Item 4. Controls and Procedures**

We carried out an evaluation, with the participationof our principal executive officer and principal financial officer, of theeffectiveness of our disclosure controls and procedures as of June 25,2005. Based on this evaluation, our principal executive officer and principalfinancial officer concluded that as of June 25, 2005 our disclosurecontrols and procedures, as defined in Rule 13a-15(e), wereeffective to ensure that information required to be disclosed by us in thereports we file or submit under the Securities Exchange Act of 1934 arerecorded, processed, summarized and reported within the time periods specifiedin the Securities Exchange Commission’s rules and forms. No change in ourinternal control over financial reporting occurred during second quarter fiscal2005 that has materially affected, or is reasonably likely to materiallyaffect, our internal control over financial reporting.

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**PART II—OTHER INFORMATION**

**Item 1. Legal Proceedings**

In August 2003, aComplaint was served on The Birch Pond Group, Inc. (a subsidiary of The J.Jill Group, Inc.) in a civil action filed in the California SuperiorCourt, Riverside County, against The Birch Pond Group, Inc. and certainfictitiously named and unknown defendants who allegedly are or were operatingJ. Jill stores within the State of California. This action, allegedly on behalfof a class of salaried and non-salaried store workers, alleges, among otherthings, violations of various provisions of the California Labor Code andrelated regulations regarding meal periods, rest periods and coerced patronage,and unfair competition.  In April 2005,the parties executed a settlement agreement and the Court certified a class(for settlement purposes only) and preliminarily approved the settlementagreement. Various procedural steps must be taken before the settlement can befinalized. We expect this process to be completed by the end of 2005.

**Item4. Submission of Matters to a Vote of Security Holders**

We held an AnnualMeeting of Stockholders on June 2, 2005. At the Annual Meeting, ourStockholders voted to approve the following actions by the following votes:

Electionof one Class A Director and three Class C Directors:
| ** **                 | ** ** | **Number of Shares** | ** ** |
|----------------------------|------------|--------------------------------|------------|
| ** **                 | ** ** | ** **                     | ** ** | ** Withholding ** | ** ** |
| ** **                 | ** ** | **For**                        | ** ** | **Authority** | ** ** |
| *Class A Director:*   |       |                           |       |   |   |   |   |
| Michael P.  Sherman        |       | 17,909,962                     |       |   | 1,409,792 |   |   |
| *Class C  Directors:* |       |                           |       |   |   |   |   |
| Gordon R. Cooke            |       | 17,716,501                     |       |   | 1,603,253 |   |   |
| James G. Held              |       | 17,207,031                     |       |   | 2,112,723 |   |   |
| Thomas J. Litle            |       | 17,931,214                     |       |   | 1,388,540 |   |   |

 

**Item 5. OtherInformation**

On June 2, 2005,  Olga L. Conley,  who formerly held the title of Executive VicePresident/Chief Financial Officer and Treasurer, assumed the title of ExecutiveVice President/Chief Financial Officer and Chief Administrative Officer, andher base salary was increased to the rate of $425,000 per annum, effective asof the beginning of the third quarter of fiscal 2005.

**Item6. Exhibits and Reports on Form 8-K**
| **(a)** | **Exhibits**                                                                                                                                        |
|---------|-----------------------------------------------------------------------------------------------------------------------------------------------------|
| 10.1    | Form of  incentive stock option under the 2001 Incentive and Non-Statutory Stock  Option Plan, fully vested                                    |
| 10.2    | Form of  non-statutory stock option under the 2001 Incentive and Non-Statutory Stock  Option Plan, fully vested, for employees                 |
| 10.3    | Form of  non-statutory stock option under the 2001 Incentive and Non-Statutory Stock  Option Plan, fully vested, for directors                 |
| 10.4    | Form of  incentive stock option under the 2001 Incentive and Non-Statutory Stock  Option Plan, subject to vesting, for Chief Executive Officer |

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| 10.5 | Form of  non-statutory stock option under the 2001 Incentive and Non-Statutory Stock  Option Plan, subject to vesting, for Chief Executive Officer                                                   |
|------|-----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
| 10.6 | Form of incentive stock option under the 2001  Incentive and Non-Statutory Stock Option Plan, subject to vesting, for  Operating Vice Presidents, Vice Presidents and Executive Vice Presidents      |
| 10.7 | Form of  non-statutory stock option under the 2001 Incentive and Non-Statutory Stock  Option Plan, subject to vesting, for Operating Vice Presidents, Vice  Presidents and Executive Vice Presidents |
| 10.8 | Form of  incentive stock option under the 2001 Incentive and Non-Statutory Stock  Option Plan, subject to vesting, for employees below the rank of Operating  Vice President                         |
| 10.9 | Form of  non-statutory stock option under the 2001 Incentive and Non-Statutory Stock  Option Plan, subject to vesting, for employees below the rank of Operating  Vice President                     |

 
|         | **Certifications**                                                                                                                |
|---------|-----------------------------------------------------------------------------------------------------------------------------------|
| 31.1    | Certification of  Principal Executive Officer of Periodic Report Pursuant to Rule 13a-14(a) or  Rule 15d-14(a)     |
| 31.2    | Certification of  Principal Financial Officer of Periodic Report Pursuant to Rule 13a-14(a) or  Rule 15d-14(a)     |
| 32.1    | Certification by  Chief Executive Officer and Chief Financial Officer of Periodic Report  Pursuant to 18 U.S.C. Section 1350 |
| **(b)** | **Reports on Form 8-K**                                                                                                      |
|         |                                                                                                                                   |  |

 

On April 18, 2005, wefiled a Report on Form 8-K to report our entry into a letter agreementwith John J. Hayes relating to the termination of his employment with us.

On April 28, 2005, wefiled a Report on Form 8-K to report the issuance of a press releasecommenting on our financial results for the fiscal quarter ended March 26,2005.

On June 7, 2005, wefiled a Report on Form 8-K to report that the Compensation Committeeof the Board of Directors amended and restated The J. Jill Group, Inc.2005 Incentive Compensation Plan and adopted The J. Jill Group, Inc. 2005Fall Season Supplemental Executive Bonus Plan.

On June 21, 2005, wefiled a Report on Form 8-K to report our entry into an amendment ofthe Fifth Amended and Restated Loan Agreement dated as of June 29, 2001,as amended, with Citizens Bank of Massachusetts and other lenders for thepurpose of modifying our debt service coverage covenant.

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**SIGNATURES**

Pursuantto the requirements of the Securities Exchange Act of 1934, the registrant hasduly caused this report to be signed on its behalf by the undersigned,thereunto duly authorized.
|                             |  THE J. JILL GROUP, INC. |
|-----------------------------|-------------------------------|
| Dated: August 4,  2005 | By:                           | /s/ OLGA L. CONLEY |
|                        |                          | Olga L. Conley |
|                        |                          | Authorized  Officer |
|                        |                          | Executive Vice  President / |
|                        |                          | Chief Financial  Officer and |
|                        |                          | Chief  Administrative Officer |
| * *                    | * *                      | *(Principal  Financial Officer)* |
| Dated:  August 4, 2005 | By:                           | /s/ LINDA L. TRUDEL |
|                        |                          | Linda L. Trudel |
|                        |                          | Authorized  Officer |
|                        |                          | Senior Vice  President / Corporate Controller and |
|                        |                          | Treasurer |
| * *                    | * *                      | *(Principal  Accounting Officer)* |

 

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**THE J. JILLGROUP, INC.FORM 10-QFOR THE QUARTER ENDED JUNE 25, 2005EXHIBIT INDEX**
| **Exhibits**       |
|--------------------|
| 10.1               | Form of incentive  stock option under the 2001 Incentive and Non-Statutory Stock Option Plan,  fully vested |
| 10.2               | Form of  non-statutory stock option under the 2001 Incentive and Non-Statutory Stock  Option Plan, fully vested, for employees |
| 10.3               | Form of  non-statutory stock option under the 2001 Incentive and Non-Statutory Stock  Option Plan, fully vested, for directors |
| 10.4               | Form of incentive  stock option under the 2001 Incentive and Non-Statutory Stock Option Plan,  subject to vesting, for Chief Executive Officer |
| 10.5               | Form of  non-statutory stock option under the 2001 Incentive and Non-Statutory Stock  Option Plan, subject to vesting, for Chief Executive Officer |
| 10.6               | Form of incentive  stock option under the 2001 Incentive and Non-Statutory Stock Option Plan,  subject to vesting, for Operating Vice Presidents, Vice Presidents and  Executive Vice Presidents |
| 10.7               | Form of  non-statutory stock option under the 2001 Incentive and Non-Statutory Stock  Option Plan, subject to vesting, for Operating Vice Presidents, Vice  Presidents and Executive Vice Presidents |
| 10.8               | Form of incentive  stock option under the 2001 Incentive and Non-Statutory Stock Option Plan,  subject to vesting, for employees below the rank of Operating Vice President |
| 10.9               | Form of  non-statutory stock option under the 2001 Incentive and Non-Statutory Stock  Option Plan, subject to vesting, for employees below the rank of Operating  Vice President |
| **Certifications** |
| 31.1               | Certification of  Principal Executive Officer of Periodic Report Pursuant to Rule 13a-14(a) or  Rule 15d-14(a)  |
| 31.2               | Certification of  Principal Financial Officer of Periodic Report Pursuant to Rule 13a-14(a) or  Rule 15d-14(a) |
| 32.1               | Certification by Chief  Executive Officer and Chief Financial Officer of Periodic Report Pursuant to  18 U.S.C. Section 1350 |

 

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