##### Table of Contents



UNITED STATES SECURITIES AND EXCHANGE COMMISSION
 Washington, D. C. 20549
 FORM 10-Q
 þ
    
    QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
 for the quarterly period ended September 30, 2005
 or
 o
    
    TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
 for the transition period from  to
 Commission File Number 0-22982
 NAVARRE CORPORATION
  Minnesota
(State or other jurisdiction of
incorporation or organization)
    
    41-1704319
(IRS Employer
Identification No.)
 7400 49th Avenue North, New Hope, MN 55428
 (763) 535-8333
  Title of Each Class
Common Stock, No Par Value
    
    Name of Each Exchange of Which Registered
Nasdaq National Market
 
 þ o
 þ o
 o þ




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NAVARRE CORPORATION
 Index
 PART I. FINANCIAL INFORMATIONItem 1. Consolidated Financial Statements. (Unaudited)Consolidated Balance Sheets  September 30, 2005 and March 31, 2005 (Restated)Consolidated Statements of Operations  Three months and six months ended September 30, 2005 and 2004 (Restated)Consolidated Statements of Cash Flows  Six months ended September 30, 2005 and 2004 (Restated)Notes to Consolidated Financial StatementsItem 2. Managements Discussion and Analysis of Financial Condition and Results of Operations.Item 3. Quantitative and Qualitative Disclosures about Market Risk.Item 4. Controls and Procedures.PART II. OTHER INFORMATIONItem 1. Legal Proceedings.Item 2. Unregistered Sales of Equity Securities and Use of Proceeds.Item 3. Defaults Upon Senior Securities.Item 4. Submission of Matters to a Vote of Securities Holders.Item 5. Other InformationItem 6. ExhibitsSIGNATURESForm of Addendum to Licensing and Distribution Agreement
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PART I. FINANCIAL INFORMATION
 
 Item 1. Consolidated Financial Statements.
 NAVARRE CORPORATION
 
 Consolidated Balance Sheets
(In thousands, except share amounts)
 September 30,
    
    
    March 31, 20052005
    
    
    (Note)(Unaudited)
    
    
    (Restated)Assets:Current assets:Cash and cash equivalents
    
    $
    35,635
    
    
    $
    15,571Note receivable, related parties
    
    
    200
    
    
    
    200Accounts receivable, less allowances of $24,833 and $13,815, respectively
    
    
    96,771
    
    
    
    93,982Inventories
    
    
    53,687
    
    
    
    40,759Prepaid expenses and other current assets
    
    
    6,968
    
    
    
    10,053Income tax receivable
    
    
    1,037
    
    
    
    Deferred tax assets
    
    
    7,966
    
    
    
    7,398Total current assets
    
    
    202,264
    
    
    
    167,963Property and equipment, net of accumulated depreciation of $8,515 and $7,259,
respectively
    
    
    10,021
    
    
    
    8,152Other assets:Notes receivable, related parties
    
    
    100
    
    
    
    200Goodwill
    
    
    55,051
    
    
    
    9,832Intangible assets, net of amortization of $6,232 and $2,369, respectively
    
    
    42,306
    
    
    
    5,198License fees, net of amortization of $2,530
    
    
    21,352
    
    
    
    Other assets
    
    
    15,298
    
    
    
    4,547Total assets
    
    $
    346,392
    
    
    $
    195,892Liabilities and shareholders equity:Current liabilities:Note payable
 short term
    
    $
    6,100
    
    
    $
    250Capital
lease obligation  short term
    
    
    104
    
    
    
    84Accounts payable
    
    
    112,079
    
    
    
    96,387Income taxes payable
    
    
    
    
    
    
    8Accrued expenses
    
    
    14,056
    
    
    
    15,067Total current liabilities
    
    
    132,339
    
    
    
    111,796Long-term liabilities:Note payable  long-term
    
    
    113,750
    
    
    
    Capital lease obligation  long-term
    
    
    214
    
    
    
    237Interest rate swap
    
    
    1,498
    
    
    
    Deferred compensation
    
    
    5,128
    
    
    
    4,984Deferred tax liabilities
    
    
    276
    
    
    
    1,591Total liabilities
    
    
    253,205
    
    
    
    118,608Commitments and contingencies (Note 22)Shareholders equity:Common stock, no par value:Authorized
shares  100,000,000Issued and outstanding shares 
29,889,066 and 27,896,080, respectively
    
    
    138,336
    
    
    
    123,481Accumulated
other comprehensive income (loss)
    
    
    (929
    )
    
    
    Accumulated deficit
    
    
    (44,220
    )
    
    
    (46,197
    )Total shareholders equity
    
    
    93,113
    
    
    
    77,284Total liabilities and shareholders equity
    
    $
    346,392
    
    
    $
    195,892
 Note: The balance sheet at March 31, 2005 has been derived from the audited consolidated financial
statements at that date but does not include all of the information and footnotes required by
accounting principles generally accepted in the United States of America for complete consolidated
financial statements.
 See accompanying notes to consolidated financial statements.
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NAVARRE CORPORATION
 
 Consolidated Statements of Operations
 (In thousands, except per share amounts)
 (Unaudited)
 Three Months Ended
    
    
    Six Months EndedSeptember 30,
    
    
    September 30,2005
    
    
    2004
    
    
    2005
    
    
    2004(Restated)
    
    
    
    
    
    
    (Restated)Net sales
    
    $
    157,823
    
    
    $
    144,401
    
    
    $
    298,764
    
    
    $
    271,707Cost of sales (exclusive of depreciation and amortization)
    
    
    129,379
    
    
    
    123,392
    
    
    
    245,531
    
    
    
    231,820Gross profit
    
    
    28,444
    
    
    
    21,009
    
    
    
    53,233
    
    
    
    39,887Operating expenses:Selling and marketing
    
    
    7,630
    
    
    
    4,386
    
    
    
    14,221
    
    
    
    9,118Distribution and warehousing
    
    
    2,242
    
    
    
    2,221
    
    
    
    4,432
    
    
    
    3,754General and administrative
    
    
    11,215
    
    
    
    9,249
    
    
    
    21,265
    
    
    
    19,757Depreciation and amortization
    
    
    4,147
    
    
    
    843
    
    
    
    5,171
    
    
    
    1,547Total operating expenses
    
    
    25,234
    
    
    
    16,699
    
    
    
    45,089
    
    
    
    34,176Income from operations
    
    
    3,210
    
    
    
    4,310
    
    
    
    8,144
    
    
    
    5,711Other income (expense):Interest expense
    
    
    (3,055
    )
    
    
    (60
    )
    
    
    (5,210
    )
    
    
    (101
    )Interest income
    
    
    249
    
    
    
    127
    
    
    
    615
    
    
    
    256Other income (expense), net
    
    
    69
    
    
    
    2
    
    
    
    415
    
    
    
    (6
    )Net income before income tax
    
    
    473
    
    
    
    4,379
    
    
    
    3,964
    
    
    
    5,860Income tax (expense) benefit
    
    
    (365
    )
    
    
    3
    
    
    
    (1,950
    )
    
    
    162Net income
    
    $
    108
    
    
    $
    4,382
    
    
    $
    2,014
    
    
    $
    6,022Earnings per common share:Basic
    
    $
    .00
    
    
    $
    .16
    
    
    $
    .07
    
    
    $
    .23Diluted
    
    $
    .00
    
    
    $
    .15
    
    
    $
    .07
    
    
    $
    .22Weighted average shares outstanding:Basic
    
    
    29,841
    
    
    
    26,753
    
    
    
    29,397
    
    
    
    26,465Diluted
    
    
    30,767
    
    
    
    28,884
    
    
    
    30,404
    
    
    
    28,671
 See accompanying notes to consolidated financial statements.
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NAVARRE CORPORATION
 
 Consolidated Statements of Cash Flows
 (In thousands)
 (Unaudited)
 Six Months Ended September 30,2005
    
    
    2004(Restated)Operating activities:Net income
    
    $
    2,014
    
    
    $
    6,022Adjustments to reconcile net income to net cash (used in) provided by operating activities:Depreciation and amortization
    
    
    5,232
    
    
    
    1,580Amortization and write-off of deferred financing costs
    
    
    477
    
    
    
    96Deferred compensation expense
    
    
    144
    
    
    
    2,187Write-off of notes receivable
    
    
    100
    
    
    
    100Amortization of license fees
    
    
    2,529
    
    
    
    Amortization of production costs
    
    
    866
    
    
    
    Change in deferred revenue
    
    
    (320
    )
    
    
    Tax benefit from employee stock option plans
    
    
    237
    
    
    
    Gain on disposal of fixed assets
    
    
    (3
    )
    
    
    Deferred income taxes
    
    
    (1,314
    )
    
    
    (1,655
    )Changes in operating assets and liabilities, net of effects of acquisitions:Accounts receivable
    
    
    5,164
    
    
    
    (25,063
    )Inventories
    
    
    (9,386
    )
    
    
    (30,123
    )Prepaid expenses
    
    
    (3,180
    )
    
    
    (921
    )Income taxes receivable
    
    
    (1,037
    )
    
    
    Other assets
    
    
    145
    
    
    
    (1,574
    )Production costs
    
    
    (928
    )
    
    
    License fees
    
    
    (3,299
    )
    
    
    Accounts payable
    
    
    12,528
    
    
    
    37,751Income taxes payable
    
    
    (8
    )
    
    
    718Accrued expenses
    
    
    (7,184
    )
    
    
    2,895Net cash provided by (used in) operating activities
    
    
    2,777
    
    
    
    (7,987
    )Investing activities:Acquisitions, net of cash acquired
    
    
    (98,147
    )
    
    
    Purchases of property and equipment
    
    
    (1,084
    )
    
    
    (6,499
    )Net proceeds from sale leaseback
    
    
    
    
    
    
    6,401Purchases of intangible assets
    
    
    (206
    )
    
    
    (398
    )Payment of earn-out related to an acquisition
    
    
    (350
    )
    
    
    (88
    )Net cash used in investing activities
    
    
    (99,787
    )
    
    
    (584
    )Financing activities:Proceeds from note payable, line of credit
    
    
    
    
    
    
    27,394Payments on note payable, line of credit
    
    
    
    
    
    
    (27,394
    )Payments on note payable
    
    
    (21,250
    )
    
    
    (651
    )Proceeds from note payable
    
    
    140,850
    
    
    
    Debt acquisition costs
    
    
    (2,921
    )
    
    
    (350
    )Repayments of capital lease obligations
    
    
    (42
    )
    
    
    Proceeds from exercise of common stock options and warrants
    
    
    437
    
    
    
    3,885Net cash provided by financing activities
    
    
    117,074
    
    
    
    2,884Net increase (decrease) in cash
    
    
    20,064
    
    
    
    (5,687
    )Cash at beginning of period
    
    
    15,571
    
    
    
    14,495Cash at end of period
    
    $
    35,635
    
    
    $
    8,808Supplemental cash flow information:Cash paid for:Interest
    
    $
    3,584
    
    
    $
    95Income taxes
    
    
    4,076
    
    
    
    647Supplemental schedule of non-cash investing and financing activities:Reclassification of acquisition costs from other assets to goodwill
    
    
    1,656
    
    
    
    Capital lease obligations incurred for the purchase of computer equipment
    
    
    39
    
    
    
    Reclassification of prepaid royalties to other assets
    
    
    6,317
    
    
    
    Acquisition:Fair value of assets acquired
    
    $
    126,113
    
    
    $
    Less: Liabilities assumed
    
    
    9,683
    
    
    
    Fair value of stock issued
    
    
    14,144
    
    
    
    Cash acquired
    
    
    4,139
    
    
    
    Acquisition net of cash acquired
    
    $
    98,147
    
    
    $
    
 See accompanying notes to consolidated financial statements.
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NAVARRE CORPORATION
 
 Notes to Consolidated Financial Statements
 (Unaudited)
 Note 1  Organization and Basis of Presentation
     Restatement of Financial Statements
 Consolidation
of Variable Interest Entities
 Segment Reporting
 Disclosure about
Segments of an Enterprise and Related Information
 Revenue Recognition
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Accounting by
Producers or Distributors of Films.
 Royalties Payable
   Advertising
  Research and Development  Mix & Burn
  Note 2
 Restatements
 Mix & Burn
  Post Retirement Payments
  7




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Restatements
 Previously Reported
    Previously
Reported Restatements
   Year Ended March 31,2005Second
    
    SecondQuarter
    
    Quarter(Reported)
    
    (Restated)Balance Sheet Data:Deferred compensation
    
    $
    
    
    
    $
    3,637Total liabilities
    
    
    137,588
    
    
    
    141,225Total shareholders equity
    
    
    69,675
    
    
    
    66,038Total liabilities and shareholders equity
    
    $
    207,263
    
    
    $
    207,263Statements of Operations Data:General and administrative
    
    $
    8,697
    
    
    $
    8,697Income from operations
    
    
    4,834
    
    
    
    4,834Net income before tax
    
    
    4,902
    
    
    
    4,902Net income
    
    $
    4,906
    
    
    $
    4,906Earnings per common share:Basic
    
    $
    .18
    
    
    $
    .18Diluted
    
    $
    .17
    
    
    $
    .17Statements of Cash Flow DataNet income
    
    $
    9,303
    
    
    $
    7,116Deferred compensation expense
    
    
    
    
    
    
    2,187
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Note 3
 Acquisitions
 FUNimation
  Employment Agreement
      Purchase Price
 Business Combinations
  9




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Accounts receivable
    
    $
    7,953Inventories
    
    
    3,542Prepaid expenses and other current assets
    
    
    52Property and equipment
    
    
    2,064License fees
    
    
    20,582Production costs
    
    
    3,810Goodwill
    
    
    44,869Other intangibles
    
    
    40,758Current liabilities
    
    
    (9,683
    )Total purchase price, less cash acquired
    
    $
    113,947
   Three Months Ended
    
    
    Three Months EndedSeptember 30, 2005
    
    
    September 30, 2004As reported
    
    
    Pro forma
    
    
    As reported
    
    
    Pro forma(Restated)Net sales
    
    $
    157,823
    
    
    $
    157,823
    
    
    $
    144,401
    
    
    $
    157,149Net income
    
    
    108
    
    
    
    108
    
    
    
    4,382
    
    
    
    3,917Earnings per common share:Basic
    
    $
    .00
    
    
    $
    .00
    
    
    $
    .16
    
    
    $
    .15Diluted
    
    $
    .00
    
    
    $
    .00
    
    
    $
    .15
    
    
    $
    .14
 Six Months Ended
    
    
    Six Months EndedSeptember 30, 2005
    
    
    September 30, 2004As reported
    
    
    Pro forma
    
    
    As reported
    
    
    Pro forma(Restated)Net sales
    
    $
    298,764
    
    
    $
    304,486
    
    
    $
    271,707
    
    
    $
    301,800Net income
    
    
    2,014
    
    
    
    2,260
    
    
    
    6,022
    
    
    
    5,963Earnings per common share:Basic
    
    $
    .07
    
    
    $
    .08
    
    
    $
    .23
    
    
    $
    .23Diluted
    
    $
    .07
    
    
    $
    .07
    
    
    $
    .21
    
    
    $
    .21
 Note 4
 Variable Interest Entity
 Consolidated of Variable Interest Entities Consolidated Financial Statements
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Note 5
 Stock-Based Compensation
 Accounting for Stock Issued to Employees Accounting for Stock-Based Compensation
 11




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Three Months Ended
    
    
    Six Months EndedSeptember 30,
    
    
    September 30,2005
    
    
    2004
    
    
    2005
    
    
    2004(Restated)
    
    
    
    
    
    (Restated)Net income, as reported
    
    $
    108
    
    
    $
    4,382
    
    
    $
    2,014
    
    
    $
    6,022Deduct: Stock-based
compensation expense
determined under fair value
method for all awards, net of
tax
    
    
    (403
    )
    
    
    (209
    )
    
    
    (762
    )
    
    
    (346
    )Net income (loss), pro forma
    
    $
    (295
    )
    
    $
    4,173
    
    
    $
    1,252
    
    
    $
    5,676Income (loss) per share:Basic  as reported
    
    $
    .00
    
    
    $
    .16
    
    
    $
    .07
    
    
    $
    .23Basic  pro forma
    
    $
    (.01
    )
    
    $
    .16
    
    
    $
    .04
    
    
    $
    .21Diluted  as reported
    
    $
    .00
    
    
    $
    .15
    
    
    $
    .07
    
    
    $
    .21Diluted  pro forma
    
    $
    (.01
    )
    
    $
    .14
    
    
    $
    .04
    
    
    $
    .20
  Note 6  Earnings Per Share
   Three Months Ended
    
    
    Six Months EndedSeptember 30,
    
    
    September 30,2005
    
    
    2004
    
    
    2005
    
    
    2004(Restated)
    
    
    
    
    
    (Restated)Numerator:Net income
    
    $
    108
    
    
    $
    4,382
    
    
    $
    2,014
    
    
    $
    6,022Denominator:Denominator for
basic earnings per
shareweighted-average shares
    
    
    29,841
    
    
    
    26,753
    
    
    
    29,397
    
    
    
    26,465Dilutive
securities: Employee stock
options and
warrants
    
    
    926
    
    
    
    2,131
    
    
    
    1,007
    
    
    
    2,206Denominator for
diluted earnings
per share
-adjusted
weighted-average
shares
    
    
    30,767
    
    
    
    28,884
    
    
    
    30,404
    
    
    
    28,671Basic income per share
    
    $
    .00
    
    
    $
    .16
    
    
    $
    .07
    
    
    $
    .23Dilutive income per share
    
    $
    .00
    
    
    $
    .15
    
    
    $
    .07
    
    
    $
    .21
  Note 7
 Comprehensive Income (Loss)
   Three Months Ended
    
    
    Six Months EndedSeptember 30,
    
    
    September 30,2005
    
    
    2004
    
    
    2005
    
    
    2004(Restated)
    
    
    
    
    
    (Restated)Net income
    
    $
    108
    
    
    $
    4,382
    
    
    $
    2,014
    
    
    $
    6,022Net unrealized loss on hedge derivatives
    
    
    (929
    )
    
    
    
    
    
    
    (929
    )
    
    
    Comprehensive income (loss)
    
    $
    (821
    )
    
    $
    4,382
    
    
    $
    1,085
    
    
    $
    6,022
 12




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September 30,
    
    
    March 31,2005
    
    
    2005(Restated)Unrealized gain (loss) from:Hedge derivatives
    
    $
    (929
    )
    
    $
    Accumulated
other comprehensive income (loss)
    
    $
    (929
    )
    
    $
    
 Note 8
 Shareholders Equity
  Note 9  Accounts Receivable
  September 30,
    
    
    March 31,2005
    
    
    2005(Restated)Trade receivables
    
    $
    101,808
    
    
    $
    88,196Vendor advance receivables
    
    
    18,716
    
    
    
    16,857Other receivables
    
    
    1,080
    
    
    
    2,744$
    121,604
    
    
    $
    107,797Less: allowance for doubtful accounts, vendor
advances and sales discounts
    
    
    11,450
    
    
    
    9,625Less: allowance for sales returns, net margin impact
    
    
    13,383
    
    
    
    4,190Total
    
    $
    96,771
    
    
    $
    93,982
 Note
10  Inventories
  September 30,
    
    
    March 31,2005
    
    
    2005(Restated)Finished
goods
    
    $
    47,867
    
    
    $
    36,222Raw materials
    
    
    5,820
    
    
    
    4,537$
    53,687
    
    
    $
    40,759
 Note
11  License Fees
  September 30,
    
    
    March 31,2005
    
    
    2005(Restated)License fees
    
    $
    23,882
    
    
    $
    Less: accumulated amortization
    
    
    2,530
    
    
    
    $
    21,352
    
    
    
    
  SOP 00-2
 13




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Note
12  Production Costs
  September 30,
    
    
    March 31,2005
    
    
    2005(Restated)Production costs
    
    $
    4,739
    
    
    $
    Less: accumulated amortization
    
    
    867
    
    
    
    $
    3,872
    
    
    
    
  SOP 00-2
  Note 13  Property and Equipment
  September 30,
    
    
    March 31,2005
    
    
    2005(Restated)Land and buildings
    
    $
    1,623
    
    
    $
    Furniture and fixtures
    
    
    1,182
    
    
    
    1,092Computer and office equipment
    
    
    5,305
    
    
    
    4,483Warehouse equipment
    
    
    6,920
    
    
    
    6,868Leasehold improvements
    
    
    3,028
    
    
    
    2,894Production equipment
    
    
    233
    
    
    
    Construction in progress
    
    
    245
    
    
    
    74Total
    
    $
    18,536
    
    
    $
    15,411Less: accumulated depreciation and
amortization
    
    
    8,515
    
    
    
    7,259Net property and equipment
    
    $
    10,021
    
    
    $
    8,152
 Note 14  Goodwill and Intangible Assets
 Goodwill
   Distribution
    
    
    Publishing
    
    
    ConsolidatedBalances as of March 31, 2005 (Restated)
    
    $
    
    
    
    $
    9,832
    
    
    $
    9,832Goodwill resulting from an acquisition
    
    
    
    
    
    
    44,869
    
    
    
    44,869Earn-out related to an acquisition
    
    
    
    
    
    
    350
    
    
    
    350Balances as of September 30, 2005
    
    $
    
    
    
    $
    55,051
    
    
    $
    55,051
 14




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##### Table of Contents



Intangible assets
  As of September 30, 2005Gross carrying
    
    
    Accumulatedamount
    
    
    amortization
    
    
    NetMasters
    
    $
    7,044
    
    
    $
    2,438
    
    
    $
    4,606License relationships
    
    
    39,100
    
    
    
    3,089
    
    
    
    36,011Trademark (not amortized)
    
    
    1,658
    
    
    
    
    
    
    
    1,658Other
    
    
    736
    
    
    
    705
    
    
    
    31$
    48,538
    
    
    $
    6,232
    
    
    $
    42,306
 As of March 31, 2005 (Restated)Gross carrying
    
    
    Accumulatedamount
    
    
    amortization
    
    
    NetMasters
    
    $
    6,838
    
    
    $
    1,687
    
    
    $
    5,151Other
    
    
    729
    
    
    
    682
    
    
    
    47$
    7,567
    
    
    $
    2,369
    
    
    $
    5,198
   2006
    
    $
    4,9192007
    
    
    12,3732008
    
    
    10,4312009
    
    
    7,2622010
    
    
    3,501
 Debt issuance costs
  Note 15  Accrued Expenses
  September 30,
    
    
    March 31,2005
    
    
    2005(Restated)Compensation and benefits
    
    $
    3,851
    
    
    $
    9,067Royalties
    
    
    4,525
    
    
    
    2,491Accrued interest
    
    
    1,541
    
    
    
    31Deferred revenue
    
    
    1,152
    
    
    
    10Rebates
    
    
    1,015
    
    
    
    1,023Other
    
    
    1,972
    
    
    
    2,445Total
    
    $
    14,056
    
    
    $
    15,067
 Note 16  Bank Financing and Debt
  15




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##### Table of Contents



September 30,
    
    
    March 31,2005
    
    
    2005(Restated)Term Loan B sub-facility
    
    $
    93,750
    
    
    $
    Term Loan C sub-facility
    
    
    25,000
    
    
    
    Other (see Mix & Burn above)
    
    
    1,100
    
    
    
    250Total debt
    
    
    119,850
    
    
    
    250Less: current portion
    
    
    6,100
    
    
    
    250Total long-term debt
    
    $
    113,750
    
    
    $
    
 16




---



##### Table of Contents



2006
    
    $
    6,1002007
    
    
    5,0002008
    
    
    5,0002009
    
    
    5,0002010
    
    
    5,0002011 and thereafter
    
    
    93,750Total
    
    $
    119,850
 Letters of Credit
  Note
17  Derivative Instruments
   Note 18  Income Taxes
    Note 19  Sale/Leaseback of Warehouse Facility
   17




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##### Table of Contents



Note 20  License and Distribution Agreement
   Note 21  Business Segments
  Three months ended September 30, 2005
    
    Distribution
    
    
    Publishing
    
    
    Other
    
    
    Eliminations
    
    
    ConsolidatedNet sales
    
    $
    140,773
    
    
    $
    31,801
    
    
    $
    147
    
    
    $
    (14,898
    )
    
    $
    157,823Income (loss) from operations
    
    
    1,465
    
    
    
    2,361
    
    
    
    (616
    )
    
    
    
    
    
    
    3,210Net income (loss) before income tax
    
    
    (1,129
    )
    
    
    2,285
    
    
    
    (683
    )
    
    
    
    
    
    
    473Total assets
    
    $
    308,316
    
    
    $
    175,659
    
    
    $
    647
    
    
    $
    (138,230
    )
    
    $
    346,392
 Three months ended September 30, 2004 (Restated)
    
    Distribution
    
    
    Publishing
    
    
    Other
    
    
    Eliminations
    
    
    ConsolidatedNet sales
    
    $
    134,152
    
    
    $
    22,567
    
    
    $
    113
    
    
    $
    (12,431
    )
    
    $
    144,401Income (loss) from operations
    
    
    1,999
    
    
    
    2,835
    
    
    
    (524
    )
    
    
    
    
    
    
    4,310Net income (loss) before income tax
    
    
    2,143
    
    
    
    2,760
    
    
    
    (524
    )
    
    
    
    
    
    
    4,379Total assets
    
    $
    189,823
    
    
    $
    50,127
    
    
    $
    599
    
    
    $
    (33,163
    )
    
    $
    207,386
 Six months ended September 30, 2005
    
    Distribution
    
    
    Publishing
    
    
    Other
    
    
    Eliminations
    
    
    ConsolidatedNet sales
    
    $
    270,526
    
    
    $
    57,909
    
    
    $
    255
    
    
    $
    (29,926
    )
    
    $
    298,764Income (loss) from operations
    
    
    2,579
    
    
    
    6,668
    
    
    
    (1,103
    )
    
    
    
    
    
    
    8,144Net income (loss) before income tax
    
    
    (1,338
    )
    
    
    6,522
    
    
    
    (1,220
    )
    
    
    
    
    
    
    3,964Total assets
    
    $
    308,316
    
    
    $
    175,659
    
    
    $
    647
    
    
    $
    (138,230
    )
    
    $
    346,392
 Six months ended September 30, 2004 (Restated)
    
    Distribution
    
    
    Publishing
    
    
    Other
    
    
    Eliminations
    
    
    ConsolidatedNet sales
    
    $
    244,412
    
    
    $
    52,616
    
    
    $
    113
    
    
    $
    (25,434
    )
    
    $
    271,707Income (loss) from operations
    
    
    167
    
    
    
    6,398
    
    
    
    (854
    )
    
    
    
    
    
    
    5,711Net income (loss) before income tax
    
    
    452
    
    
    
    6,262
    
    
    
    (854
    )
    
    
    
    
    
    
    5,860Total assets
    
    $
    189,823
    
    
    $
    50,127
    
    
    $
    599
    
    
    $
    (33,163
    )
    
    $
    207,386
 Note 22  Commitments and Contingencies
 Litigation
  18




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##### Table of Contents



ValueVision Media, Inc. v. Navarre Corporation
        Sybersound Records, Inc. v. BCI Eclipse, LLC, et al.
   19




---



##### Table of Contents



Sybersound Records, Inc. v. Navarre Corporation, BCI Eclipse, LLC, et al.
      Faulconer Productions Music Corp. v. FUNimation Productions, Inc. et al
   20




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##### Table of Contents



Securities Litigation Lawsuits
   AVIVA Partners, Ltd. v. Navarre Corp., et al.
 Vivian Oh v. Navarre Corp., et al.
 Matthew Grabler v. Navarre Corp., et al.
    Shareholder Derivative Lawsuits
   Shannon Binns v. Charles Cheney, et al.
 Karel Filip v. Charles Cheney, et al.
 Jeffrey Evans v. Charles Cheney, et al.
 21




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##### Table of Contents



Joan Brewster v. Charles Cheney, et al.
 William Block v. Charles Cheney, et al.
      Note 23  Related Party Transactions
 Employment/Severance Agreements
     Chief
Executive Officer Investment in Mix & Burn
  22




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##### Table of Contents



Note 24  Recently Issued Accounting Pronouncements
 ,
Inventory Costs, an amendment of ARB No. 43, Chapter 4
 Share-Based Payment Accounting
for Stock-Based Compensation Accounting for Stock Issued to
Employees
 , Accounting for Conditional Asset
Retirement Obligations Accounting for Asset Retirement Obligations
 Accounting Changes and Error Corrections Accounting Changes Reporting Accounting
Changes in Interim Financial Statements
 
 Item 2. Managements Discussion and Analysis of Financial Condition and Results of Operations.
 Note:
Comparisons to fiscal year 2005 results refer to restated numbers as discussed in Note 2 of
the consolidated financial statements.
 Note In connection with the identification of the VIE Mix & Burn, the Company undertook a project
to evaluate whether other relationships it has with other entities should be considered under FIN
46 (R) and, therefore, subject to consolidation with the consolidated financial statements of the
Company. The Company has not completed its review and is unable to come to any conclusions as of
the date of this report. This review may result in changes to prior period consolidated financial
statements
 Executive Summary
  23




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##### Table of Contents



Overview
    anime
  Forward-Looking Statements / Important Risk Factors
   24




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##### Table of Contents



Restatements
 Consolidation
of Variable Interest Entities
  25




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##### Table of Contents



Critical Accounting Policies
  Reconciliation
of GAAP Net Sales to Net Sales Before Inter-Company Eliminations
  Three Months Ended September 30,
    
    
    Six Months Ended September 30,(Unaudited)
    
    
    (Unaudited)2005
    
    
    2004
    
    
    2005
    
    
    2004(In thousands)
    
    
    
    
    
    (Restated)
    
    
    
    
    
    
    (Restated)Net sales:Distribution
    
    $
    140,773
    
    
    $
    134,152
    
    
    $
    270,526
    
    
    $
    244,412Publishing
    
    
    31,801
    
    
    
    22,567
    
    
    
    57,909
    
    
    
    52,616Other
    
    
    147
    
    
    
    113
    
    
    
    255
    
    
    
    113Net sales before inter-company eliminations
    
    
    172,721
    
    
    
    158,832
    
    
    
    328,690
    
    
    
    297,141Inter-company eliminations
    
    
    (14,898
    )
    
    
    (12,431
    )
    
    
    (29,926
    )
    
    
    (25,434
    )Net sales as reported
    
    $
    157,823
    
    
    $
    144,401
    
    
    $
    298,764
    
    
    $
    271,707
 Results of Operations
  Three Months Ended September 30,
    
    
    Six Months Ended September 30,(Unaudited)
    
    
    (Unaudited)2005
    
    
    2004
    
    
    2005
    
    
    2004(Restated)
    
    
    
    
    
    
    (Restated)Net sales:Distribution
    
    
    89.2
    %
    
    
    92.9
    %
    
    
    90.5
    %
    
    
    90.0
    %Publishing
    
    
    20.2
    
    
    
    15.6
    
    
    
    19.4
    
    
    
    19.4Other
    
    
    0.1
    
    
    
    0.1
    
    
    
    0.1
    
    
    
    Inter-company sales
    
    
    (9.5
    )
    
    
    (8.6
    )
    
    
    (10.0
    )
    
    
    (9.4
    )Total net sales
    
    
    100.0
    
    
    
    100.0
    
    
    
    100.0
    
    
    
    100.0Cost of sales, exclusive of
amortization and
depreciation
    
    
    82.0
    
    
    
    85.5
    
    
    
    82.2
    
    
    
    85.3Gross profit
    
    
    18.0
    
    
    
    14.5
    
    
    
    17.8
    
    
    
    14.7Selling and marketing
    
    
    4.9
    
    
    
    3.1
    
    
    
    4.8
    
    
    
    3.3Distribution and warehousing
    
    
    1.4
    
    
    
    1.5
    
    
    
    1.5
    
    
    
    1.4General and administrative
    
    
    7.1
    
    
    
    6.4
    
    
    
    7.1
    
    
    
    7.3Depreciation and amortization
    
    
    2.6
    
    
    
    0.6
    
    
    
    1.7
    
    
    
    0.6Total operating expenses
    
    
    16.0
    
    
    
    11.6
    
    
    
    15.1
    
    
    
    12.6Income from operations
    
    
    
    
    
    
    2.9
    
    
    
    2.7
    
    
    
    2.1Interest expense
    
    
    (1.9
    )
    
    
    
    
    
    
    (1.7
    )
    
    
    Other income (expense), net
    
    
    0.2
    
    
    
    0.1
    
    
    
    0.3
    
    
    
    0.1Income tax (expense) benefit
    
    
    (0.3
    )
    
    
    
    
    
    
    (0.7
    )
    
    
    Net income
    
    
    0.0
    %
    
    
    3.0
    %
    
    
    0.6
    %
    
    
    2.2
    %
 26




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Distribution Segment




Fiscal 2006 Second Quarter Results Compared With Fiscal 2005 (Restated) Second Quarter


Net Sales




Gross Profit




Operating Expenses








27



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##### Table of Contents



Fiscal 2006 First Six Months Results Compared With Fiscal 2005 (Restated) Six Months
 Net Sales
  Gross Profit
  Operating Expenses
     28




---



##### Table of Contents



Publishing Segment
  Fiscal 2006 Second Quarter Results Compared With Fiscal 2005 (Restated) Second Quarter
 Net Sales
 He-Man and the Masters of the Universe
 Gross Profit
  Operating Expenses
    Fiscal 2006 First Six Months Results Compared With Fiscal 2005 (Restated) Six Months
 Net Sales
 He-Man and the Masters
of the Universe
 Gross Profit
  29




---



##### Table of Contents



Operating Expenses
    Other Segment
  Fiscal 2006 Second Quarter Results Compared With Fiscal 2005 (Restated) Second Quarter
  Fiscal 2006 First Six Months Results Compared With Fiscal 2005 (Restated) Six Months
  Consolidated Other Income and Expense
  Consolidated Income Tax (Expense) Benefit
  Market Risk
  30




---



##### Table of Contents



Seasonality and Inflation
  Liquidity and Capital Resources
 Cash Flow Analysis
 Operating Activities
    Investing Activities
    Financing Activities
   31




---



##### Table of Contents



Capital Resources
    Liquidity
      32




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##### Table of Contents



Contractual Obligations
  Less
    
    
    
    
    
    
    
    
    
    
    Morethan 1
    
    
    1  3
    
    
    4  5
    
    
    than 5Total
    
    
    Year
    
    
    Years
    
    
    Years
    
    
    YearsOperating leases
    
    $
    24,916
    
    
    $
    2,553
    
    
    $
    6,956
    
    
    $
    3,709
    
    
    $
    11,698Capital leases
    
    
    430
    
    
    
    129
    
    
    
    273
    
    
    
    28
    
    
    
    Note payable
    
    
    126,000
    
    
    
    6,100
    
    
    
    15,000
    
    
    
    10,000
    
    
    
    95,000License and distribution agreement
    
    
    7,287
    
    
    
    7,287
    
    
    
    
    
    
    
    
    
    
    
    Total
    
    $
    158,733
    
    
    $
    16,069
    
    
    $
    22,229
    
    
    $
    13,737
    
    
    $
    106,698
 
 Item 3. Quantitative and Qualitative Disclosures about Market Risk
  
 Item 4. Controls and Procedures
     Internal Control-Integrated Framework
 
    
    The Company did not maintain effective controls over the identification and
determination of appropriate accounting treatment for certain business relationships it
has with entities that are VIEs under FIN 46 (R) and, therefore, potentially subject to
consolidation with the consolidated financial statements of the Company. Specifically,
the Company had a deficiency in the design of controls to identify the proper accounting
treatment for investments and loans to a third party that is a VIE. In connection with the
identification of this VIE, the Company undertook a project to evaluate whether other
relationships it has with other entities should be considered under FIN 46 (R) and, therefore,
subject to consolidation with the consolidated financial statements of the Company.
The Company has not completed its review and is unable to come to any conclusions as of the date of this report.
Adjustments related to
the consolidation of this VIE will be included in the restatement of the Companys
consolidated financial statements for the periods ending March 31, 2004 and 2005 and
unaudited quarterly financial data as of and for the periods ending June 30, 2004,
September 30, 2004, December 31, 2004 and June 30, 2005.
 33




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##### Table of Contents




    
    The Company strengthened its controls and procedures as it relates to the
identification and determination of appropriate accounting treatment for certain
business relationships it has with other entities that could be VIEs through a
comprehensive review of its existing and all new business arrangements with other
entities in order to determine the appropriate accounting treatment under U.S. GAAP.
   
 PART II. OTHER INFORMATION
 
 Item 1. Legal Proceedings
  
 Item 2. Unregistered Sales of Equity Securities and Use of Proceeds.
  
 Item 3. Defaults Upon Senior Securities
  
 Item 4. Submission of Matters to a Vote of Securities Holders
   Names
    
    Votes For
    
    
    Votes WithheldEric H. Paulson
    
    
    25,290,826
    
    
    
    617,288James G. Sippl
    
    
    25,367,276
    
    
    
    540,838
  Names
    
    Votes For
    
    
    Votes WithheldRichard Gary St. Marie
    
    
    25,362,469
    
    
    
    545,645
    
 Item 5. Other Information
   34




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##### Table of Contents



Consolidation
of Variable Interest Entities
     
 Item 6. Exhibits
  10.1
    
    Form of Addendum #6 to Licensing
and Distribution Agreements (2004-2005 and 2005-2007) between
Riverdeep, Inc. and Encore Software, Inc., dated as of
October 6, 2005.
 35




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##### Table of Contents



SIGNATURES
  Navarre Corporation
(Registrant)Date: November 14, 2005
    
    /s/ Eric H. PaulsonEric H. PaulsonChairman of the Board andChief Executive OfficerDate: November 14, 2005
    
    /s/ Diane D. LappDiane D. LappInterim Chief Financial Officer