Tableof Contents

 

 

 

**UNITEDSTATES**

**SECURITIESAND EXCHANGE**

**COMMISSION**

**Washington,D.C. 20549**

 

**FORM 10-Q**

 

| **x** | **QUARTERLY  REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE  ACT OF 1934** |
|-------|---------------------------------------------------------------------------------------------------------|

 

**Forthe quarterly period ended January 3, 2009**

 

**OR**

 

| **o** | **TRANSITION  REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE  ACT OF 1934** |
|-------|----------------------------------------------------------------------------------------------------------|

 

**CommissionFile Number 0-24395**

 

**bebestores, inc.**

(Exact name ofregistrant as specified in its charter)

 

| **California**                  | ** ** | **94-2450490**          |
|---------------------------------|------------|-------------------------|
| (State or  Jurisdiction of      |       | (IRS Employer           |
| Incorporation or  Organization) |       | Identification  Number) |

 

**400Valley Drive****Brisbane, California 94005**

(Address ofprincipal executive offices)

 

Telephone:**(415) 715-3900**

 

Indicate by check markwhether the 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.        x   Yes        o   No

 

Indicate by check markwhether the registrant is a large accelerated filer, an accelerated filer, anon-accelerated filer, or a smaller reporting company. See definitions of “largeaccelerated filer,” “accelerated filer,” and “smaller reporting company” in Rule 12b-2of the Exchange Act. (Check one):

 

| Large  accelerated filer  o          |   | Accelerated  filer  x         |
|------------------------------------------------|--------|-----------------------------------------|
|                                           |   |                                    |
| Non-accelerated  filer  o            |   | Smaller  reporting company  o |
| (Do not check if  a smaller reporting company) |   |                                    |

 

Indicate by check markwhether the registrant is a shell company (as defined in Rule 12b — 2 ofthe Exchange Act).   o Yes   x No

 

The number of shares ofthe registrant’s common stock, par value $0.001 per share, outstanding as of January 30,2009 was 88,479,315.

 

 

 

----

Table of Contents

 

**bebestores, inc.**

 

**TABLE OF CONTENTS**

 
| ** **        | ** **                                                                                                                     | **Page No.** |
|-------------------|--------------------------------------------------------------------------------------------------------------------------------|-------------------|
|              |                                                                                                                           |              |
| **PART I.**  | **FINANCIAL  INFORMATION**                                                                                                     |              |
|              |                                                                                                                           |              |
| ITEM 1.           | Condensed Consolidated  Financial Statements                                                                                   |              |
|              |                                                                                                                           |              |
|              | Condensed  Consolidated Balance Sheets as of January 3, 2009, July 5, 2008 and  January 5, 2008                 | 3                 |
|              |                                                                                                                           |              |
|              | Condensed  Consolidated Statements of Income for the three and six months ended  January 3, 2009 and January 5, 2008 | 4                 |
|              |                                                                                                                           |              |
|              | Condensed  Consolidated Statements of Cash Flows for the six months ended  January 3, 2009 and January 5, 2008       | 5                 |
|              |                                                                                                                           |              |
|              | Notes to Condensed Consolidated Financial Statements                                                                           | 6                 |
|              |                                                                                                                           |              |
| ITEM 2.           | Management’s  Discussion and Analysis of Financial Condition and Results of Operations                                    | 10                |
|              |                                                                                                                           |              |
| ITEM 3.           | Quantitative  and Qualitative Disclosures about Market Risk                                                                    | 15                |
|              |                                                                                                                           |              |
| ITEM 4.           | Controls and  Procedures                                                                                                       | 16                |
|              |                                                                                                                           |              |
| **PART II.** | **OTHER INFORMATION**                                                                                                          |              |
|              |                                                                                                                           |              |
| ITEM 1.           | Legal Proceedings                                                                                                              | 17                |
|              |                                                                                                                           |              |
| ITEM 1A.          | Risk Factors                                                                                                                   | 17                |
|              |                                                                                                                           |              |
| ITEM 2.           | Unregistered  Sales of Equity Securities and Use of Proceeds                                                                   | 21                |
|              |                                                                                                                           |              |
| ITEM 3.           | Defaults Upon  Senior Securities                                                                                               | 21                |
|              |                                                                                                                           |              |
| ITEM 4.           | Submission of  Matters to a Vote of Security Holders                                                                           | 21                |
|              |                                                                                                                           |              |
| ITEM 5.           | Other Information                                                                                                              | 21                |
|              |                                                                                                                           |              |
| ITEM 6.           | Exhibits                                                                                                                       | 21                |
|              |                                                                                                                           |              |
| **SIGNATURE**     | 22                                                                                                                             |
|              |                                                                                                                           |
| **EXHIBIT INDEX** | 23                                                                                                                             |

 

2

----

Tableof Contents

 

**PART I.        FINANCIALINFORMATION**

 

ITEM 1.**        **CondensedConsolidated Financial Statements

 

**bebestores, inc.**

**CONDENSED CONSOLIDATED BALANCE SHEETS**

**(Inthousands, except share data)**

**(unaudited)**

 
| ** **                                                                                                                                      | ** ** | **As of  January 3,  2009** | ** ** | **As of  July 5,  2008** | ** ** | **As of  January 5,  2008** | ** ** |
|-------------------------------------------------------------------------------------------------------------------------------------------------|------------|---------------------------------------|------------|------------------------------------|------------|---------------------------------------|------------|
| ** **                                                                                                                                      | ** ** | ** **                            | ** ** | ** **                         | ** ** | ** **                            | ** ** |
| **Assets:**                                                                                                                                     | ** ** | ** **                            | ** ** | ** **                         | ** ** | ** **                            | ** ** |
| Current assets:                                                                                                                                 |       |                                  |       |                               |       |                                  |       |
| Cash and  equivalents                                                                                                                           |       | $                                     | 143,975    |                               | $          | 123,344                               |       | $ | 69,395 |   |
| Short term  marketable securities                                                                                                               |       | —                                |       | —                             |       | 296,050                               |       |
| Receivables (net  of allowance of $1,252, $1,197 and $1,171)                                                                                    |       | 6,979                                 |       | 7,953                              |       | 8,435                                 |       |
| Inventories                                                                                                                                     |       | 37,499                                |       | 42,827                             |       | 46,242                                |       |
| Deferred income  taxes, net                                                                                                                     |       | 9,273                                 |       | 9,290                              |       | 9,070                                 |       |
| Prepaid and  other                                                                                                                              |       | 27,615                                |       | 16,215                             |       | 10,631                                |       |
| Total current  assets                                                                                                                           |       | 225,341                               |       | 199,629                            |       | 439,823                               |       |
| Trading securities                                                                                                                              |       | 72,375                                |       | —                             |       | —                                |       |
| Available for  sale securities                                                                                                                  |       | 125,245                               |       | 235,751                            |       | —                                |       |
| Auction rate securities  written put right                                                                                                      |       | 11,586                                |       | —                             |       | —                                |       |
| Property and  equipment, net                                                                                                                    |       | 136,563                               |       | 133,128                            |       | 123,611                               |       |
| Deferred income  taxes, net                                                                                                                     |       | 24,827                                |       | 24,686                             |       | 25,258                                |       |
| Other assets                                                                                                                                    |       | 5,013                                 |       | 4,569                              |       | 4,194                                 |       |
| Total assets                                                                                                                                    |       | $                                     | 600,950    |                               | $          | 597,763                               |       | $ | 592,886 |   |
|                                                                                                                                            |       |                                  |       |                               |       |                                  |       |
| **Liabilities  and Shareholders’ Equity:**                                                                                                 | ** ** | ** **                            | ** ** | ** **                         | ** ** | ** **                            | ** ** |
| Current  liabilities:                                                                                                                           |       |                                  |       |                               |       |                                  |       |
| Accounts payable                                                                                                                                |       | $                                     | 30,068     |                               | $          | 23,252                                |       | $ | 24,609 |   |
| Accrued  liabilities                                                                                                                            |       | 35,130                                |       | 38,958                             |       | 39,573                                |       |
| Income taxes  payable                                                                                                                           |       | —                                |       | —                             |       | 2,154                                 |       |
| Current portion  of capital leases                                                                                                              |       | —                                |       | 38                                 |       | 150                                   |       |
| Total current  liabilities                                                                                                                      |       | 65,198                                |       | 62,248                             |       | 66,486                                |       |
| Deferred rent  and other lease incentives                                                                                                       |       | 46,790                                |       | 46,229                             |       | 43,484                                |       |
| Uncertain tax  positions                                                                                                                        |       | 3,401                                 |       | 3,401                              |       | 5,353                                 |       |
| Total  liabilities                                                                                                                              |       | 115,389                               |       | 111,878                            |       | 115,323                               |       |
|                                                                                                                                            |       |                                  |       |                               |       |                                  |       |
| Commitments and  contingencies                                                                                                                  |       |                                  |       |                               |       |                                  |       |
|                                                                                                                                            |       |                                  |       |                               |       |                                  |       |
| Shareholders’  equity:                                                                                                                     |       |                                  |       |                               |       |                                  |       |
| Preferred  stock-authorized 1,000,000 shares at $0.001 par value per share; no shares  issued and outstanding                                   |       | —                                |       | —                             |       | —                                |       |
| Common  stock-authorized 135,000,000 shares at $0.001 par value per share; issued and  outstanding 88,478,634, 88,939,720 and 88,815,825 shares |       | 88                                    |       | 89                                 |       | 89                                    |       |
| Additional  paid-in capital                                                                                                                     |       | 142,652                               |       | 139,795                            |       | 135,393                               |       |
| Accumulated  other comprehensive income (loss)                                                                                                  |       | (10,588                               | )          | (261                               | )          | 11,482                                |       |
| Retained  earnings                                                                                                                              |       | 353,409                               |       | 346,262                            |       | 330,599                               |       |
| Total  shareholders’ equity                                                                                                                |       | 485,561                               |       | 485,885                            |       | 477,563                               |       |
| Total  liabilities and shareholders’ equity                                                                                                |       | $                                     | 600,950    |                               | $          | 597,763                               |       | $ | 592,886 |   |

 

See accompanyingnotes to condensed consolidated financial statements.

 

3

----

Table of Contents

 

**bebestores, inc.**

**CONDENSED CONSOLIDATED STATEMENTS OFINCOME**

**(Inthousands, except per share data)**

**(unaudited)**

 
| ** **                                         | ** ** | **Three Months Ended** | ** ** | **Six Months Ended** | ** ** |
|----------------------------------------------------|------------|----------------------------------|------------|--------------------------------|------------|
| ** **                                         | ** ** | **January 3,**              | ** ** | **January 5,**            | ** ** | **January 3,** | ** ** | **January 5,** | ** ** |
| ** **                                         | ** ** | **2009**                         | ** ** | **2008**                       | ** ** | **2009** | ** ** | **2008** | ** ** |
| ** **                                         | ** ** | ** **                       | ** ** | ** **                     | ** ** | ** ** | ** ** | ** ** | ** ** |
| Net sales                                          |       | $                                | 181,902    |                           | $          | 203,329 |   | $ | 345,162 |   | $ | 364,411 |   |
| Cost of sales,  including production and occupancy |       | 111,775                          |       | 109,328                        |       | 201,734 |   | 193,896 |   |
|                                               |       |                             |       |                           |       |   |   |   |   |
| Gross margin                                       |       | 70,127                           |       | 94,001                         |       | 143,428 |   | 170,515 |   |
| Selling, general  and administrative expenses      |       | 61,463                           |       | 62,755                         |       | 120,618 |   | 118,935 |   |
|                                               |       |                             |       |                           |       |   |   |   |   |
| Operating income                                   |       | 8,664                            |       | 31,246                         |       | 22,810 |   | 51,580 |   |
| Interest and  other income, net                    |       | 1,861                            |       | 4,058                          |       | 4,891 |   | 7,753 |   |
|                                               |       |                             |       |                           |       |   |   |   |   |
| Income before  income taxes                        |       | 10,525                           |       | 35,304                         |       | 27,701 |   | 59,333 |   |
| Income tax  provision                              |       | 3,727                            |       | 11,936                         |       | 9,699 |   | 20,587 |   |
|                                               |       |                             |       |                           |       |   |   |   |   |
| Net income                                         |       | $                                | 6,798      |                           | $          | 23,368 |   | $ | 18,002 |   | $ | 38,746 |   |
|                                               |       |                             |       |                           |       |   |   |   |   |
| Basic earnings  per share                          |       | $                                | 0.08       |                           | $          | 0.26 |   | $ | 0.20 |   | $ | 0.43 |   |
| Diluted earnings  per share                        |       | $                                | 0.08       |                           | $          | 0.26 |   | $ | 0.20 |   | $ | 0.42 |   |
|                                               |       |                             |       |                           |       |   |   |   |   |
| Basic weighted  average shares outstanding         |       | 88,881                           |       | 88,712                         |       | 88,857 |   | 90,697 |   |
| Diluted weighted  average shares outstanding       |       | 89,052                           |       | 90,167                         |       | 89,161 |   | 92,173 |   |

 

See accompanyingnotes to condensed consolidated financial statements.

 

4

----

Table of Contents

 

**bebestores, inc.**

**CONDENSED CONSOLIDATED STATEMENTS OFCASH FLOWS**

**(Inthousands)**

**(unaudited)**

 
| ** **                                                                    | ** ** | **Six Months Ended** | ** ** |
|-------------------------------------------------------------------------------|------------|--------------------------------|------------|
| ** **                                                                    | ** ** | **January 3,  2009**      | ** ** | **January 5,  2008** | ** ** |
|                                                                          |       |                           |       |   |   |
| Cash flows from  operating income:                                            |       |                           |       |   |   |
| Net income                                                                    |       | $                              | 18,002     |   | $ | 38,746 |   |
| Adjustments to  reconcile net income to cash provided by operating activities |       |                           |       |   |   |
| Non-cash  compensation expense                                                |       | 3,238                          |       | 6,238 |   |
| Depreciation and  amortization                                                |       | 12,803                         |       | 10,947 |   |
| Net loss on  disposal of property                                             |       | 1,392                          |       | 42 |   |
| Loss on trading  securities                                                   |       | 12,050                         |       | — |   |
| Gain on auction  rate securities written put right                            |       | (11,586                        | )          | — |   |
| Deferred rent  and other lease incentives                                     |       | 777                            |       | 3,280 |   |
| Deferred income  taxes                                                        |       | (676                           | )          | (1,860 | ) |
| Changes in  operating assets and liabilities:                                 |       |                           |       |   |   |
| Receivables                                                                   |       | 95                             |       | (2,855 | ) |
| Inventories                                                                   |       | 5,080                          |       | (2,106 | ) |
| Prepaid expenses  and other                                                   |       | (12,591                        | )          | 4,452 |   |
| Accounts payable                                                              |       | 6,815                          |       | (3,821 | ) |
| Accrued  liabilities                                                          |       | (2,978                         | )          | 12,245 |   |
| Net cash  provided by operating activities                                    |       | 32,421                         |       | 65,308 |   |
|                                                                          |       |                           |       |   |   |
| Cash flows from  investing activities:                                        |       |                           |       |   |   |
| Purchase of  property and equipment                                           |       | (17,713                        | )          | (18,563 | ) |
| Purchase of  marketable securities                                            |       | —                         |       | (245,775 | ) |
| Proceeds from  sales of investment securities                                 |       | 21,200                         |       | 276,825 |   |
| Net cash  provided (used) by investing activities                             |       | 3,487                          |       | 12,487 |   |
|                                                                          |       |                           |       |   |   |
| Cash flows from  financing activities:                                        |       |                           |       |   |   |
| Net proceeds  from issuance of common stock                                   |       | 399                            |       | 1,979 |   |
| Purchase of  common stock                                                     |       | (3,201                         | )          | (66,950 | ) |
| Excess of tax  benefit from options exercised                                 |       | 76                             |       | 594 |   |
| Cash dividends  paid                                                          |       | (13,074                        | )          | (13,795 | ) |
| Other                                                                         |       | (38                            | )          | (111 | ) |
| Net cash used by  financing activities                                        |       | (15,838                        | )          | (78,283 | ) |
|                                                                          |       |                           |       |   |   |
| Net  increase/(decrease) in cash and cash equivalents                         |       | 20,070                         |       | (488 | ) |
| Effect of  exchange rate changes on cash                                      |       | 561                            |       | 4,280 |   |
| Cash and equivalents:                                                         |       |                           |       |   |   |
| Beginning of  period                                                          |       | 123,344                        |       | 65,603 |   |
| End of period                                                                 |       | $                              | 143,975    |   | $ | 69,395 |   |

 

See accompanyingnotes to condensed consolidated financial statements.

 

5

----

Table of Contents

** **

**bebestores, inc.**

 

**NOTESTO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS**

 

**INTERIMFINANCIAL STATEMENTS**

 

The accompanyingcondensed consolidated balance sheets of bebe stores, inc. (the “Company”) asof January 3, 2009, July 5, 2008 and January 5, 2008, thecondensed consolidated statements of income for the three and six months ended January 3,2009 and January 5, 2008 and the condensed consolidated statements of cashflows for the six months ended January 3, 2009 and January 5, 2008have been prepared in accordance with accounting principles generally acceptedin the United States of America for interim financial information and with theinstructions to Form 10-Q and Article 10 of Regulation S-X, withoutaudit. Accordingly, they do not include all of the information required byaccounting principles generally accepted in the United States of America forannual financial statements. Therefore, these condensed consolidated financialstatements should be read in conjunction with the Company’s Annual Report on Form 10-Kfor the fiscal year ended July 5, 2008.

 

In the opinion ofmanagement, all adjustments (consisting of normal recurring accruals)considered necessary to present fairly the financial position at the balancesheet dates and the results of operations for the periods presented have beenincluded. The condensed consolidated balance sheet at July 5, 2008,presented herein, was derived from the audited balance sheet included in theCompany’s Annual Report on Form 10-K for the fiscal year ended July 5,2008.

 

The Company’s business isaffected by the pattern of seasonality common to most retail apparelbusinesses. The results for the periods presented are not necessarilyindicative of future financial results.

 

**FISCALYEAR**

 

The Company’s fiscal yearis a 52 or 53 week period, each period ending on the first Saturday after June 30. Fiscal years 2009 and 2008 each include 52 weeks.

 

The three month periodsended January 3, 2009 and January 5, 2008 each include 13 weeks.  The six month periods ended January 3,2009 and January 5, 2008 both include 26 weeks.

 

**INVENTORIES**

 

As of the specifieddates, the Company’s inventories consisted of:

 
| ** **                      | ** ** | **As of**            | ** ** |
|---------------------------------|------------|---------------------------|------------|
| ** **                      | ** ** | **January 3,  2009** | ** ** | **July 5,  2008** | ** ** | **January 5,  2008** | ** ** |
| ** **                      | ** ** | **(In thousands)**   | ** ** |
| Raw materials                   |       | $                         | 3,897      |   | $ | 5,340 |   | $ | 7,558 |   |
| Merchandise  available for sale |       | 33,602                    |       | 37,487 |   | 38,684 |   |
| Inventories                     |       | $                         | 37,499     |   | $ | 42,827 |   | $ | 46,242 |   |

 

**EARNINGSPER SHARE**

 

Basic earnings per shareis computed as net earnings divided by the weighted average number of commonshares outstanding for the period. Diluted earnings per share reflects thepotential dilution that could occur from common shares issuable through theexercise of dilutive stock options.

 

The following is areconciliation of the number of shares used in the basic and diluted earningsper share computations:

 
| ** **                                                     | ** ** | **Three Months Ended** | ** ** | **Six Months Ended** | ** ** |
|----------------------------------------------------------------|------------|----------------------------------|------------|--------------------------------|------------|
| ** **                                                     | ** ** | **January 3,  2009**        | ** ** | **January 5,  2008**      | ** ** | **January 3,  2009** | ** ** | **January 5,  2008** | ** ** |
| ** **                                                     | ** ** | **(In thousands)**          | ** ** | **(In thousands)**        | ** ** |
| Basic weighted  average number of shares outstanding           |       | 88,881                           |       | 88,712                         |       | 88,857 |   | 90,697 |   |
| Incremental  shares from the assumed issuance of stock options |       | 171                              |       | 1,455                          |       | 304 |   | 1,476 |   |
|                                                           |       |                             |       |                           |       |   |   |   |   |
| Diluted weighted  average number of shares outstanding         |       | 89,052                           |       | 90,167                         |       | 89,161 |   | 92,173 |   |

 

The number of incrementalshares from the assumed issuance of stock options is calculated applying thetreasury stock method.

 

Excluded from thecomputation of the number of diluted weighted average shares outstanding wereoptions of 7,072,000 and 2,989,000 for the three months ended January 3,2009 and January 5, 2008, respectively, and 6,303,000 and 2,657,000 forthe six months ended January 3, 2009 and January 5, 2008,respectively, which in each case would have been anti-dilutive.

 

6

----

Table of Contents

 

**COMMONSTOCK PURCHASES**

 

Share repurchases were asfollows:

 
| ** **                                    | ** ** | **Three Months Ended**                                   | ** ** | **Six Months Ended**                                     | ** ** |
|-----------------------------------------------|------------|--------------------------------------------------------------------|------------|--------------------------------------------------------------------|------------|
| ** **                                    | ** ** | **January 3,  2009**                                          | ** ** | **January 5,  2008**                                          | ** ** | **January 3,  2009** | ** ** | **January 5,  2008** | ** ** |
| ** **                                    | ** ** | **(In thousands, except per share data)** | ** ** | **(In thousands, except per share data)** | ** ** |
| Number of shares  repurchased                 |       | 537                                                                |       | —                                                             |       | 537 |   | 5,000 |   |
| Total cost                                    |       | $                                                                  | 3,201      |                                                               | —     |   | $ | 3,201 |   | $ | 66,950 |   |
| Average per  share cost including commissions |       | $                                                                  | 5.96       |                                                               | —     |   | $ | 5.96 |   | $ | 13.39 |   |

 

In October 2008, theboard of directors authorized a program to repurchase up to $30 million of theCompany’s common stock.  The Companyintends, from time to time, as business conditions warrant, to purchase stockin the open market or through private transactions.  Purchases may be increased, decreased ordiscontinued at any time without prior notice. The plan does not obligate the Company to repurchase any specific numberof shares and may be suspended at any time at management’s discretion.

 

On September 13,2007, the Company entered into an agreement with the Company’s former ViceChairperson Neda Mashouf to purchase 5 million shares of the Company’s outstandingcommon stock beneficially owned by Ms. Mashouf at a price per share of$13.39, an aggregate purchase price of $66,950,000. The Company completedthe purchase and retired the shares during the first quarter of fiscal 2008.

 

**COMPREHENSIVEINCOME (LOSS)**

 

Comprehensive income(loss) consists of net income and other comprehensive income (income, expenses,gains and losses that bypass the income statement and are reported directly asa separate component of equity).  The Company’s comprehensive income (loss)consists of net income, gains (loss) on available for sale securities andforeign currency translation adjustments for all periods presented.

 
| ** **                                    | ** ** | **Three Months Ended** | ** ** | **Six Months Ended** | ** ** |
|-----------------------------------------------|------------|----------------------------------|------------|--------------------------------|------------|
| ** **                                    | ** ** | **January 3,  2009**        | ** ** | **January 5,  2008**      | ** ** | **January 3,  2009** | ** ** | **January 5,  2008** | ** ** |
| ** **                                    | ** ** | **(In thousands)**          | ** ** |
| Net income                                    |       | $                                | 6,798      |                           | $          | 23,368 |   | $ | 18,002 |   | $ | 38,746 |   |
| Gain (loss) on available  for sale securities |       | 516                              |       | —                         |       | (4,881 | ) | — |   |
| Accumulated  translation adjustments          |       | (3,364                           | )          | (699                           | )          | (5,446 | ) | 2,343 |   |
|                                          |       |                             |       |                           |       |   |   |   |   |
| Total  comprehensive income                   |       | $                                | 3,950      |                           | $          | 22,669 |   | $ | 7,675 |   | $ | 41,089 |   |

 

**INVESTMENTS**

 

The Company holds avariety of interest bearing auction rate securities (“ARS”) comprised offederally insured student loan backed securities and insured municipalauthority bonds. As of January 3, 2009, the Company’s ARS portfoliototaled approximately $197.5 million, $72.3 million, net of an impairmentcharge of $12.1 million, classified as trading securities and $125.2 million,net of temporary impairment charge of $12.7 million, classified as availablefor sale securities. The Company’s ARS portfolio includes approximately 98%federally insured student loan backed securities and 2% municipal authoritybonds. The Company’s ARS portfolio is comprised of approximately 57% AAA ratedinvestments, 30% AA rated investments and 13% A rated investments.  TheseARS investments are intended to provide liquidity via an auction process thatresets the applicable interest rate at predetermined calendar intervals,allowing investors to either roll over their holdings or gain immediateliquidity by selling such interests at par. The uncertainties in the creditmarkets that began in February 2008 have affected our holdings in ARSinvestments and auctions for the majority of the Company’s investments in thesesecurities have failed to settle on their respective settlement dates.Consequently, the investments are not currently liquid, and the Company willnot be able to access these funds until a future auction of these investmentsis successful. Maturity dates for these ARS investments range from 2010 to 2044with principal distributions occurring on certain securities prior to maturity.The Company currently has the ability to hold these ARS investments until arecovery of the auction process or until maturity.

 

Typically the fair valueof ARS investments approximates par value due to the frequent resets throughthe auction process. While the Company continues to earn interest on our ARSinvestments at the maximum contractual rate, these investments are not currentlytrading and therefore do not currently have a readily determinable marketvalue. Accordingly, the estimated fair value of ARS no longer approximates parvalue.

 

In November 2008,the Company entered into a settlement agreement related to our ARS held withUBS Financial Services, Inc. (“UBS”) that grants the Company certainrights related to these ARS (the “Right”). Beginning June 30, 2010, at the Company’s request, UBS has agreedto purchase all of the Company’s ARS currently held with them at par value.  Conversely, UBS has the right, in itsdiscretion, to purchase or sell the Company’s ARS at ay time until July 2,2012, so long as the Company receives payment at par value upon any sale ordisposition.  By entering into theagreement the Company elected to designate approximately $84.4 million in ARSas trading securities and record a loss on investments of approximately $12.1million with an offsetting ARS written put  right of $11.6 million directly to netincome.  Prior to accepting the UBSoffer, the Company recorded our ARS held with UBS as investments available forsale, with an associated unrealized loss included in other comprehensiveincome.

 

The remainder of theCompany’s ARS investment portfolio of $125.2 million, net of a temporaryimpairment charge of $12.7 million, remains available for sale on our balancesheet.  The related temporary impairmentcharge remains as a loss in other comprehensive income.

 

The Company reviews itsimpairments in accordance with SFAS No. 115,*Accounting for Certain Investments in Debt and Equity Securities*, and related guidance issued by the FASB and SEC in order to determine theclassification of the impairment as “temporary” or “other-than-temporary”. Atemporary impairment charge results in an unrealized loss being recorded in theother comprehensive income component of shareholders’ equity. Such anunrealized loss does not affect net income for the applicable accountingperiod. An other-than-temporary impairment charge is recorded as a loss in thecondensed consolidated statement of income and reduces net income for theapplicable accounting period. The differentiating factors between temporary andother-than-temporary impairment are primarily the length of the time and theextent to which the market value has been less than cost, the financialcondition and near-term prospects of the issuer and our current intent andability to retain our investment in the issuer for a period of time sufficientto allow for any anticipated recovery in market value.

 

7

----

Table of Contents

 

The valuation of theCompany’s investment portfolio is subject to uncertainties that are difficultto predict. Factors that may impact its valuation include changes to creditratings of the securities as well as to the underlying assets supporting thosesecurities, rates of default of the underlying assets, underlying collateralvalue, discount rates and ongoing strength and quality of market credit andliquidity.

 

**CREDITFACILITIES**

 

The Company has anunsecured commercial line of credit agreement with Bank of America, whichprovides for borrowings and issuance of letters of credit up to a combinedtotal of $25 million and expires on March 31, 2009. The outstandingbalance bears interest at either the bank’s reference rate (which was 3.25% asof January 3, 2009) or the LIBOR rate plus 1.75 percentage points. As of January 3,2009, there were no outstanding borrowings, and there was $2.0 millionoutstanding in letters of credit.

 

This credit facilityrequires the Company to comply with certain financial covenants, includingamounts for minimum tangible net worth, unencumbered liquid assets andprofitability, and certain restrictions on making loans and investments.

 

**STOCKBASED COMPENSATION**

 

The following tablesummarizes the stock based compensation expense recognized under the Company’sstock plan during the three months and the six months ended January 3,2009 and January 5, 2008:

 
| ** **                              | ** ** | **Three Months Ended** | ** ** | **Six Months Ended** | ** ** |
|-----------------------------------------|------------|----------------------------------|------------|--------------------------------|------------|
| ** **                              | ** ** | **January 3,  2009**        | ** ** | **January 5,  2008**      | ** ** | **January 3,  2009** | ** ** | **January 5,  2008** | ** ** |
| ** **                              | ** ** | **(In thousands)**          | ** ** |
| Stock Options                           |       | $                                | 1,384      |                           | $          | 3,195 |   | $ | 2,979 |   | $ | 6,150 |   |
| Nonvested stock  awards/units           |       | 115                              |       | 69                             |       | 259 |   | 88 |   |
| Total stock based  compensation expense |       | $                                | 1,499      |                           | $          | 3,264 |   | $ | 3,238 |   | $ | 6,238 |   |

 

Unrecognized compensationcost related to nonvested stock options and nonvested stock awards/unitstotaled approximately $7.3 million and $0.4 million, respectively, as of January 3,2009.  This cost is expected to be recognized over a weighted averageperiod of 3.1 years.  The weighted average fair values of stock options attheir grant date during the three months ended January 3, 2009 and January 5,2008 were $3.06 and $5.18, respectively. For the six month period ended January 3, 2009 and January 5,2008, the weighted average fair values of stock options at their grand datewere $3.79 and $5.29, respectively.

 

**FAIRVALUE MEASUREMENTS**

 

In September 2006,the FASB issued SFAS No. 157, “Fair Value Measurements*”*.  SFAS No. 157 defines fairvalue, establishes a framework for measuring fair value in accordance withgenerally accepted accounting principles and expands disclosures about fairvalue measurements.  In February 2008, the FASB issued FASB StaffPosition No. FAS 157-2, “Effective Date of FASB Statement No. 157,”which delayed the effective date of SFAS 157 for non-financial assets andliabilities, except for certain items that are recognized or disclosed at fairvalue at least annually.  The Company elected to partially adopt theprovisions of SFAS No. 157 as of July 6, 2008 for financialinstruments, as permitted by FSP 157-2. Although the partial adoption of SFAS No. 157did not materially impact the Company’s financial condition, results ofoperations or cash flow, the Company is now required to provide additionaldisclosures as part of its financial statements.  The Company does notexpect the adoption of the remaining provisions of SFAS 157 (delayed by FSP157-2) to have a material impact on the Company’s consolidated financialposition, income statement or cash flows.

 

In February 2007,the FASB issued SFAS No. 159,  “The Fair Value Option for FinancialAssets and Financial Liabilities-Including an amendment of FASB Statement No. 115”. SFAS No. 159 permits entities to choose to measure eligible items at fairvalue at specified election dates and report unrealized gains and losses onitems for which the fair value option has been elected in earnings at eachsubsequent reporting date. The Company adopted SFAS No. 159 as of July 6,2008.  Since the adoption of SFAS No. 159,the Company elected the fair value option for our ARS written put right relatedto our ARS held with UBS. The Company will recognize any change in the ARSwritten put right related to our ARS investments held with UBS as a gain orloss in the statement of income.

 

SFAS No. 157establishes a three-tier fair value hierarchy, which prioritizes the inputsused in measuring fair value. These tiers include: Level 1, defined asobservable inputs such as quoted prices in active markets; Level 2, defined asinputs other than quoted prices in active markets that are either directly orindirectly observable; and Level 3, defined as observable inputs in whichlittle or no market data exists, therefore requiring an entity to develop itsown assumptions.

 

As of January 3,2009, the Company held financial instruments that have been elected to bemeasured at fair value on a recurring basis. These included cash equivalents, tradingsecurities and available for sale securities. Cash equivalents consist of moneymarket funds.  Trading securities consistof auction rate securities (“ARS”) held with UBS.  Available for sale securities consist of ARSheld with another broker.  Thesesecurities consist of federally insured student loan backed securities andinsured municipal authority bonds.

 

8

----

Table of Contents

 

In November 2008,the Company entered into a settlement agreement related to its ARS held withUBS that grants the Company certain rights related to these ARS.  Beginning June 30, 2010, at the Company’srequest, UBS has agreed to purchase all of our ARS currently held with them atpar value.  Conversely, UBS has theright, in its discretion, to purchase or sell the Company’s ARS at any timeuntil July 2, 2012, so long as the Company receives payment at par value uponany sale or disposition.  By enteringinto the agreement the Company elected to designate approximately $84.4 millionin ARS as trading securities and record a loss on investments of approximately$12.1 million with an offsetting ARS written put right of $11.6 milliondirectly to net income.  Prior to acceptingthe UBS offer, the Company recorded its ARS held with UBS as investmentsavailable for sale, with an associated loss included in other comprehensiveincome.

 

The Company determinedthe estimated fair value of its investment in ARS as of January 3, 2009using a discounted cash flow model to estimate the fair value of itsinvestments in ARS. The assumptions used in preparing the discounted cash flowmodel include estimates for interest rates, timing and amount of cash flows andexpected holding periods of the ARS. The ARS written put right is a freestanding asset separate from the ARS, and represents the Company’s contractualright to require UBS to purchase its ARS at par value during the two yearperiod beginning June 20, 2010.  Inorder to value the ARS written put right, the Company considered intrinsicvalue, time value of money, and its assessment of the credit worthiness of UBS.

 

The remainder of theCompany’s ARS in its investment portfolio of $125.2 million, net of a temporaryimpairment charge of $12.7 million, remains available for sale on the Company’sbalance sheet.  The related temporaryimpairment charge remains as a loss in other comprehensive income.

 

The following items aremeasured at fair value on a recurring basis subject to the disclosurerequirements of SFAS No. 157 at January 3, 2009:

 
| **Description**                | ** ** | **January 3, 2009** | ** ** | **Using Quoted Prices  in Active Markets for  Identical Assets** | ** ** | **Significant  Other  Observable  Inputs** | ** ** | **Significant  Unobservable Inputs** | ** ** |
|--------------------------------|------------|-------------------------------|------------|------------------------------------------------------------------------------------------------|------------|--------------------------------------------|------------|-------------------------------------------|------------|
| ** **                     | ** ** | ** **                    | ** ** | **(Level 1)**                                                                             | ** ** | **(Level 2)**                         | ** ** | **(Level 3)**                        | ** ** |
| ** **                     | ** ** | ** **                    | ** ** | **Fair value measurements at reporting date**                         | ** ** | ** **                                 | ** ** |
| ** **                     | ** ** | ** **                    | ** ** | **(In thousands)**                                                                        | ** ** | ** **                                 | ** ** |
| Cash equivalents               |       | $                             | 115,057    |                                                                                           | $          | 115,057                                    |       | $                                         | —     |   | $ | — |   |
| Trading  securities            |       |                          | 72,375     |                                                                                           |       | —                                     |       |                                      | —     |   |   | 72,375 |   |
| Available for  sale securities |       | 125,245                       |       |                                                                                           |       |                                       |       | 125,245                                   |       |
| ARS written put  right         |       | 11,586                        |       | —                                                                                         |       | —                                     |       | 11,586                                    |       |
| Total                          |       | $                             | 324,263    |                                                                                           | $          | 115,057                                    |       | $                                         | —     |   | $ | 209,206 |   |
|                                |            |                               |            |                                                                                                |            |                                            |            |                                           |            |  |  |  |  |  |  |  |  |

 

The following tablepresents the Company’s activity for assets measured at fair value on arecurring basis using significant unobservable inputs (Level 3) as defined inSFAS No. 157 for the six months ended January 3, 2009:

 
| ** **                                        | ** ** | **Long Term  Investments** | ** ** |
|---------------------------------------------------|------------|---------------------------------|------------|
| ** **                                        | ** ** | **(In thousands)**         | ** ** |
| Balance at  July 5, 2008                     |       | $                               | 235,751    |   |
| Total gains or  (losses) (realized or unrealized) |       |                            |       |
| Included in  earnings                             |       | (464                            | )          |
| Included in  other comprehensive income           |       | (4,881                          | )          |
| Settlements                                       |       | (21,200                         | )          |
| Total                                             |       | $                               | 209,206    |   |
|                                                   |            |                                 |            |  |  |

 

**SUBSEQUENTEVENTS**

 

On January 9, 2009,Gregory Scott departed as Chief Executive Officer and member of the Company’sBoard of Directors (the “Board”).  On thesame date Manny Mashouf, the Company’s founder and Chairman of the Board,assumed the responsibilities of Chief Executive Officer and Cynthia Cohen wasappointed as the Board’s lead independent director.  Pursuant to the separation agreement, theCompany will pay Mr. Scott: (i) all accrued but unpaid salary and allaccrued but unused vacation time earned through his termination date; and (ii) aseverance payment of $600,000, equal to one year of his annual base salary,paid in equal installments over the twelve month period following his terminationdate.  Pursuant to the separationagreement, Mr. Scott will also become fully vested as of the termination datewith respect to any previously unvested portion of the option to purchase100,000 shares of the Company’s common stock which was previously granted to Mr. Scotton September 8, 2008, and the option will remain exerciseable until thedate one year from his termination date.

 

On January 27, 2009,the Company and Bank of America N.A. (the “Bank”) executed the FourthAmendment  to the Business Loan Agreementdated March 28, 2003 between the Registrant and the Bank to amend theexpiration date of the Business Loan Agreement from March 31, 2009 to March 30,2010.  All other terms of the BusinessLoan Agreement remain the same.

 

9

----

Table of Contents

 

**LEGALMATTERS**

 

As of the date of thisfiling, the Company was involved in ongoing legal proceedings as describedbelow.

 

A former employee suedbebe in a complaint filed on April 28, 2005 in the United States DistrictCourt for the Northern District of California (case No. C050177) allegingviolations under the Fair Labor Standards Act, specifically that it obligatedher to buy and wear its brand clothing as a uniform, without reimbursement orcredit, and the net effect of deducting the value of such required purchasesfrom her wages would often result in her not being paid minimum wages. Theplaintiff purports to bring the action also on behalf of a class of hourly,non-managerial employees who are similarly situated. The lawsuit seekscompensatory, statutory and injunctive relief. The Company has negotiated aconfidential settlement in this case which remains subject to court approval.Plaintiff recently requested a status conference be held in February onthe matter and the parties await the Court’s response. The Company has accruedan amount that it believes reasonably estimates the potential liability, whichdid not have a material impact on our financial position or results ofoperations.

 

A former employee suedbebe in a complaint filed July 27, 2006 in the Superior Court ofCalifornia, San Mateo County (case No. CIV 456550) alleging a failure topay all wages, failure to pay overtime wages, failure to pay minimum wages,failure to provide meal periods, violation of Labor Code §450, violationof Labor Code §2802 and California Code of Regulations §11040(9)(A),statutory wage violations (late payment of wages), unlawful business practicesunder Business and Professions Code §16720 and §17200, conversion of wagesand violation of Civil Code §52.1. The plaintiff purports to bring theaction also on behalf of current and former California bebe employees who aresimilarly situated. The lawsuit seeks compensatory, statutory, punitive,restitution and injunctive relief. In September 2008, the court rejectedPlaintiff’s motion to certify a class relating to Plaintiff’s claim that itrequired employees to purchase and wear its product.

 

A former employee suedbebe in a complaint filed September 20, 2007 in the United States DistrictCourt for the District of New Jersey (case no. 07-cv-4514 (D.N.J.))alleging various state and federal statutory breaches based on a failure to payall wages, including overtime wages and bonus, failure to provide and/or payfor meal and rest break periods, failure to credit vacation time and otherbenefits and retaliation, wrongful termination, breach of contract, breach ofcovenant of good faith and fair dealing, and unjust enrichment. Plaintiffpurports to bring the action on behalf of current and former store managementemployees who are or were similarly situated. The complaint seeks compensatory,statutory and punitive damages and equitable relief. In April 2008, the Companyfiled both a Motion to Dismiss and an objection to Plaintiff’s Motion forConditional Class Certification regarding Plaintiffs’ claims of violationsunder the Fair Labor Standard Act (“FLSA claims”). The Court dismissed a numberof Plaintiffs claims, left in tact certain others (including state wage claims,individual federal wage claims and the retaliation claim) and separately deniedPlaintiff’s certification motion pertaining to purported FLSA class claims.

 

The Company is alsoinvolved in various other legal proceedings arising in the normal course ofbusiness. None of these matters nor the matters listed above are expected,individually or in the aggregate, to have a material adverse effect on itsbusiness, financial condition or results of operations.

 

The Company intends todefend ourselves vigorously against each of these claims. However, the resultsof any litigation are inherently uncertain. The Company cannot assure you thatit will be able to successfully defend itself in these lawsuits. Whererequired, and/or otherwise appropriate, the Company has recorded an estimate ofpotential liabilities that it believes is reasonable. Any estimates are revisedas further information becomes available.

 

**ITEM2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OFOPERATIONS**

 

The following Management’sDiscussion and Analysis of Financial Condition and Results of Operationscontains forward-looking statements, which involve risks and uncertainties. Ouractual results may differ materially from those anticipated in theseforward-looking statements.  Statements that are predictive in nature,that depend upon or refer to future events or conditions or that include wordssuch as “expects,” “anticipates,” “intends,” “plans,” “believes,” “estimates,” “thinks,”and similar expressions are forward-looking statements.  Forward-looking statements include statements about our expectedresults of operations, capital expenditures and store openings.  Althoughwe believe that these statements are based upon reasonable assumptions, wecannot assure you that our goals will be achieved. These forward-lookingstatements are made as of the date of this Form 10-Q, and we assume noobligation to update or revise them or provide reasons why actual results maydiffer. Factors that might cause such a difference include, but are not limitedto, our ability to respond to changing fashion trends, miscalculation of thedemand for our products, effective management of our growth, decline incomparable store sales performance, ongoing competitive pressures in theapparel industry, changes in the level of consumer spending or preferences inapparel, our ability to attract and retain key management personnel and/orother factors discussed in “Risk Factors” and elsewhere in this Form 10-Q.

 

10

----

Table of Contents

 

**OVERVIEW**

 

We design, develop andproduce a distinctive line of contemporary women’s apparel and accessories.While we attract a broad audience, our target customer is a 18 to 34-year-oldwoman who seeks current fashion trends to suit her lifestyle. The “bebe look”appeals to a hip, sexy, sophisticated, body-conscious woman who takes pride in herappearance. The bebe customer expects value in the form of current fashion andhigh quality at a competitive price.

 

Our distinctive productoffering includes a full range of separates, tops, sweaters, dresses, activewear and accessories in the following lifestyle categories:  career,evening, casual and active. We design and develop the majority of ourmerchandise in-house, which is manufactured to our specifications. Theremainder of our merchandise is sourced directly from third-party manufacturers.

 

We market our productsunder the bebe, BEBE SPORT, bbsp and 2b bebe brand names through our 312 retailstores, of which 215 are bebe stores, 64 are BEBE SPORT stores, 13 are 2b bebestores, 19 are bebe outlet stores and 1 is a bebe accessories store as of January 3,2009. These stores are located in 35 states, the District of Columbia, PuertoRico, the U.S. Virgin Islands and Canada. In addition, we have an on-line storeat www.bebe.com and our licensees operate 28 international stores as of January 3,2009. During the six months ended January 3, 2009, we opened 11 stores,including 6 bebe stores, 1 BEBE SPORT store and 4 2b bebe stores and closed 2bebe stores.  We expect to open approximately 14 stores, includingapproximately 7 bebe stores, 1 BEBE SPORT store, 6 2b bebe stores and convertall of our existing bebe outlet stores to 2b bebe stores during our fiscal2009. We also plan to renovate 3 existing stores and relocate or expand 4existing stores, resulting in square footage growth of approximately 2.5%.

 

*bebestores.*  Wewere founded by Manny Mashouf, our Chief Executive Officer and Chairman of theBoard. We opened our first store in San Francisco, California in 1976, whichwas also the year we incorporated. We also operate one bebe accessory store thatfeatures a limited assortment of bebe merchandise, including outerwear, shoesand accessories.

 

*BEBESPORT.* Welaunched BEBE SPORT during fiscal 2003 to address the performance and activelifestyle needs of the bebe customer.  We offer a selection of sportswearand footwear under the BEBE SPORT and bbsp brand names.

 

*bebeoutlets.*  Weutilize the outlets as a clearance vehicle for merchandise from our retailstores. In addition, the inventory includes a strong presentation of bebe logomerchandise and special cuts produced under the 2b bebe label exclusively forthe outlet stores.  In fiscal 2009, we plan to convert all our existingbebe outlet stores to 2b bebe stores.

 

*2b bebestores*. During fiscal 2009, we plan to open 6 new 2b bebe stores in outlet centerswhich offer a strong presentation of bebe logo merchandise similar to ouroutlet stores and special cuts produced under the 2b bebe label.  We willalso use these stores as a clearance vehicle for retail but on a much smallerscale.

 

*On-line.* bebe.com is an extension of the bebestore experience and provides a complete assortment of bebe and BEBE SPORTmerchandise. It is also used as an advertising vehicle to communicate with ourcustomers.  We are currently able to ship to customers in the United States,Canada, Puerto Rico and U.S. Protectorates.

 

**CriticalAccounting Policies**

 

Management’s Discussionand Analysis of Financial Condition and Results of Operations are based uponour consolidated financial statements, which have been prepared in conformitywith accounting principles generally accepted in the United States of America.

 

The preparation of thesefinancial statements requires the appropriate application of certain accountingpolicies, many of which require us to make estimates and assumptions aboutfuture events and their impact on amounts reported in our financial statementsand related notes. Since future events and their impact cannot be determinedwith certainty, the actual results will inevitably differ from our estimates.Such differences could be material to the financial statements. We believe ourapplication of accounting policies, and the estimates inherently requiredtherein, are reasonable. Our most critical accounting policies are thoserelated to revenue recognition, stock based compensation, inventories,marketable securities, impairment of long lived assets, uncertain taxpositions, and liabilities for self-insurance. We continually evaluate theseaccounting policies and estimates and we make adjustments when facts and circumstancesdictate a change. Our accounting policies are described in Note 1 to theconsolidated financial statements in our annual report on Form 10-K forthe fiscal year ended July 5, 2008. This discussion and analysis should beread in conjunction with such discussion and with our condensed consolidatedfinancials statements and related notes included in Part 1, Item 1 ofthis quarterly report.

 

11

----

Table of Contents

 

**RESULTS OF OPERATIONS**

 

Our fiscal year is a 52or 53 week period, each period ending on the first Saturday after June 30. Fiscal years 2009 and 2008 each include 52 weeks.  The three months ended January 3,2009 and January 5, 2008 each included 13 weeks.  The six months ended January 3, 2009 andJanuary 5, 2008 both included 26 weeks.

 

The following table setsforth certain financial data as a percentage of net sales for the periodsindicated:

 
| ** **                                             | ** ** | **Three Months Ended** | ** ** | **Six Months Ended** | ** ** |
|--------------------------------------------------------|------------|----------------------------------|------------|--------------------------------|------------|
| ** **                                             | ** ** | **January 3,**              | ** ** | **January 5,**            | ** ** | **January 3,** | ** ** | **January 5,** | ** ** |
| ** **                                             | ** ** | **2009**                         | ** ** | **2008**                       | ** ** | **2009** | ** ** | **2006** | ** ** |
|                                                   |       |                             |       |                           |       |   |   |   |   |
| Net sales                                              |       | 100.0                            | %          | 100.0                          | %          | 100.0 | % | 100.0 | % |
| Cost of sales,  including production and occupancy (1) |       | 61.4                             |       | 53.8                           |       | 58.4 |   | 53.2 |   |
|                                                   |       |                             |       |                           |       |   |   |   |   |
| Gross margin                                           |       | 38.6                             |       | 46.2                           |       | 41.6 |   | 46.8 |   |
| Selling, general  and administrative expenses (2)      |       | 33.8                             |       | 30.9                           |       | 34.9 |   | 32.6 |   |
|                                                   |       |                             |       |                           |       |   |   |   |   |
| Operating income                                       |       | 4.8                              |       | 15.3                           |       | 6.7 |   | 14.2 |   |
| Interest and  other income, net                        |       | 1.0                              |       | 2.0                            |       | 1.4 |   | 2.1 |   |
|                                                   |       |                             |       |                           |       |   |   |   |   |
| Income before  income taxes                            |       | 5.8                              |       | 17.3                           |       | 8.1 |   | 16.3 |   |
| Provision for  income taxes                            |       | 2.0                              |       | 5.9                            |       | 2.8 |   | 5.6 |   |
|                                                   |       |                             |       |                           |       |   |   |   |   |
| Net income                                             |       | 3.8                              | %          | 11.4                           | %          | 5.3 | % | 10.7 | % |

 

----

(1)           Cost of sales includes the cost ofmerchandise, occupancy costs, distribution center and production costs.

 

(2)           Selling, general and administrativeexpenses primarily consist of non-occupancy store costs, corporate overhead andadvertising costs.

 

*NetSales.* Net salesdecreased to $181.9 million during the three months ended January 3, 2009from $203.3 million for the comparable period of the prior year, a decrease of$21.4 million, or 10.5%. The decrease in sales is primarily due to a 20.1%decrease in comparable store sales and a 4.5% decrease in our on-linesales.  These decreases were partiallyoffset by an increase in stores not included in the comparable store sales andan increase in wholesale sales to international licensees.  Contributing to our performance were merchandisingopportunities in bebe and BEBE SPORT as well as a difficult macro economicenvironment which negatively impacted mall traffic and forced us to drive saleswith increased promotions.

 

For the six months ended January 3,2009, net sales decreased to $345.2 million from $364.4 million for thecomparable period of the prior year, a decrease of $19.2 million, or 5.3%.  The decrease in sales was primarily due to a16.0% decrease in comparable store sales. This decrease was partially offset by an increase in stores not includedin the comparable store sales, an, increase in wholesale sales to internationallicensees and other revenue increases including royalty revenue and changes indeferred revenue related to our loyalty program.  Contributing to our performance were merchandisingopportunities in bebe and BEBE SPORT as well as a difficult macro economicenvironment which negatively impacted mall traffic and forced us to drive saleswith increased promotions.

 
| ** **                                             | ** ** | **Three Months Ended** | ** ** | **Six Months Ended** | ** ** |
|--------------------------------------------------------|------------|----------------------------------|------------|--------------------------------|------------|
| ** **                                             | ** ** | **January 3,**              | ** ** | **January 5,**            | ** ** | **January 3,** | ** ** | **January 5,** | ** ** |
| ** **                                             | ** ** | **2009**                         | ** ** | **2008**                       | ** ** | **2009** | ** ** | **2008** | ** ** |
|                                                   |       |                             |       |                           |       |   |   |   |   |
| Net sales (In  thousands)                              |       | $                                | 181,902    |                           | $          | 203,329 |   | $ | 345,162 |   | $ | 364,411 |   |
|                                                   |       |                             |       |                           |       |   |   |   |   |
| Total net sales  increase (decrease) percentage        |       | (10.5                            | )%         | 3.3                            | %          | (5.3 | )% | 3.0 | % |
|                                                   |       |                             |       |                           |       |   |   |   |   |
| Comparable store  sales increase (decrease) percentage |       | (20.1                            | )%         | (7.9                           | )%         | (16.0 | )% | (8.5 | )% |
|                                                   |       |                             |       |                           |       |   |   |   |   |
| Net sales per  average square foot (1)                 |       | $                                | 152        |                           | $          | 195 |   | $ | 291 |   | $ | 353 |   |
|                                                   |       |                             |       |                           |       |   |   |   |   |
| Square footage  at end of period (In thousands)        |       | 1,164                            |       | 1,051                          |       | 1,164 |   | 1,051 |   |
|                                                   |       |                             |       |                           |       |   |   |   |   |
| Number of store  locations:                            |       |                             |       |                           |       |   |   |   |   |
| Beginning of  period                                   |       | 307                              |       | 279                            |       | 303 |   | 273 |   |
| New store  locations                                   |       | 6                                |       | 11                             |       | 11 |   | 17 |   |
| Closed store  locations                                |       | 1                                |       | —                         |       | 2 |   | — |   |
| Number of stores  open at end of period                |       | 312                              |       | 290                            |       | 312 |   | 290 |   |

 

----

(1)           We calculate net sales per averagesquare foot using net store sales and a monthly average store square footage.

 

12

----

Table of Contents

 

*GrossMargin.* Grossmargin decreased to $70.1 million during the three months ended January 3,2009 from $94.0 million for the comparable period of the prior year, a decreaseof $23.9 million, or 25.4%. As a percentage of net sales, gross margindecreased to 38.6% for the three months ended January 3, 2009 from 46.2%in the comparable period of the prior year.  The decrease in gross marginas a percentage of net sales was primarily due to higher markdowns andunfavorable occupancy leverage partially offset by higher initial markup.

 

For the six months ended January 3,2009, gross margin decreased to $143.4 million from $170.5 million for thecomparable period of the prior year, a decrease of $27.1 million, or15.9%.  As a percentage of net sales,gross margin decreased to 41.6% for the six months ended January 3, 2009from 46.8% in the comparable period of the prior year.  The decrease in gross margin as a percentageof net sales was primarily due to higher markdowns and unfavorable occupancyleverage.

 

*Selling,General and Administrative Expenses.* Selling, general and administrative expenses, whichprimarily consist of non-occupancy store costs, corporate overhead andadvertising costs, decreased to $61.5 million during the three months ended January 3,2009 from $62.8 million for the comparable period of the prior year, a decreaseof $1.3 million, or 2.1 %. As a percentage of net sales, selling, general andadministrative expenses increased to 33.8% during the three months ended January 3,2009 from 30.9% in the comparable period of the prior year.  The decreasein selling, general and administrative expenses was primarily due to lowertotal compensation expense offset by an increase in depreciation expense andapproximately $1.2 million in impairment charges and fixed asset write-offsrelated to underperforming stores and store closures .

 

For the six months ended January 3,2009, selling, general and administrative expenses increased to $120.6 millionfrom $118.9 for the comparable period of the prior year, an increase of $1.7million, or 1.4%.  As a percentage of netsales, selling, general and administrative expenses increased to 34.9% from32.6% in the comparable period of the prior year.  The decrease in selling, general andadministrative expenses was primarily due to lower total compensation expenseoffset by an increase in depreciation expense and approximately $1.4 million inimpairment charges and fixed asset write-offs related to underperforming storesand store closures.

 

*Interestand Other Income, Net.* We generated approximately $1.9 million of interest and other income(net of other expenses) during the three months ended January 3, 2009compared to approximately $4.1 million in the comparable period of the prioryear. The decrease was primarily the result of lower investment in higheryielding tax-exempt investments, more investments in low yielding money marketfunds and an approximately $0.5 million loss on the ARS written put right.

 

For the six month periodending January 3, 2009, we generated approximately $4.9 million ofinterest and other income (net of other expenses), compared to $7.8 million inthe comparable period of the prior year. The decrease was primarily the result of lower investment in higheryielding tax-exempt investments, more investments in low yielding money marketfunds and an approximately $0.5 million loss on the ARS written put right.

 

*Provisionfor Income Taxes.*Our effective tax rate increased to 35.0% for the three months ended January 3,2009 from 33.8% for the comparable period in the prior year primarily due todeleveraging of permanent items, including stock based compensation expense,offset by higher tax exempt interest income as a percent of taxable income.

 

For the six months ended January 3,2009, our effective tax rate increased to 35.0% from 34.7% for the comparableperiod in the prior year primarily due to deleveraging of permanent items,including stock based compensation expense, offset by higher tax exemptinterest income as a percent of taxable income.

 

**Seasonalityof Business and Quarterly Results**

 

Our business varies withgeneral seasonal trends that are characteristic of the retail and apparelindustries. As a result, our typical store generates a higher percentage of ourannual net sales and profitability in the second quarter of our fiscal year,which includes the holiday selling season, compared to the other quarters ofour fiscal year. If for any reason our sales were below seasonal norms during thesecond quarter of our fiscal year, our annual operating results would benegatively impacted. Because of the seasonality of our business, results forany quarter are not necessarily indicative of results that may be achieved fora full fiscal year.

 

**LIQUIDITYAND CAPITAL RESOURCES**

 

Our working capitalrequirements vary widely throughout the year and generally peak during thefirst and second fiscal quarters. At January 3, 2009, we had approximately$341.5 million of cash and equivalents and long term investments on hand ofwhich approximately $197.5 million, net of impairment charges of $24.8 million,were invested in auction rate securities (“ARS”). We do not anticipate the lackof liquidity in the ARS to impact our ability to fund our operations in the foreseeablefuture and believe we have sufficient cash and equivalents to fund ongoingoperations. In addition, we have a revolving line of credit, under which we mayborrow or issue letters of credit up to a combined total of $25 million. As of January 3,2009, there were no cash borrowings outstanding under the line of credit, andletters of credit outstanding totaled $2 million.

 

13

----

Table of Contents

 

At January 3, 2009,we had cash and equivalents of $144.0 million held in accounts managed bythird-party financial institutions consisting of invested cash and cash in ouroperating accounts.  The invested cash is invested in interest bearingfunds managed by third party financial institutions.  These funds investin direct obligations of the government of the United States.  To date,except with respect to our ARS (discussed above and elsewhere in this quarterlyreport), we have experienced no loss or lack of access to our invested cash orequivalents; however, we can provide no assurances that access to our investedcash and equivalents will not be impacted by adverse conditions in thefinancial markets.

 

At any point in time wealso have approximately $100 to $145 million of invested cash and cash inoperating accounts that are with third party financial institutions. These balances exceed the Federal Deposit Insurance Corporation insurancelimits.  While we monitor daily the cash balances in our operatingaccounts and adjust the cash balances as appropriate, these cash balances couldbe impacted if the underlying financial institutions fail or could be subjectto other adverse conditions in the financial markets.  To date, we haveexperienced no loss or lack of access to invested cash or cash in our operatingaccounts.

 

Net cash provided byoperating activities for the six months ended January 3, 2009 was $32.4million versus $65.3 million for the six months ended January 5, 2008.Cash provided by operating activities for the period was primarily generated bynet income of $18 million adjusted for stock compensation of $3.2 million,depreciation of $12.8 million, deferred rent of $0.8 million, loss on ARSwritten put right of $0.5 million and net loss on disposal of property of $1.4million, as well as changes in working capital. The changes in working capitalwere primarily due to an increase in accounts payable of $6.8 million and adecrease in inventory of $5.1 million, offset by an increase in prepaidexpenses and other assets of $12.6 million and a decrease in accruedliabilities of $3.0 million.

 

Net cash provided byinvesting activities for the six months ended January 3, 2009 was $3.5million versus $12.5 million for the six months ended January 5,2008.  Cash provided by investing activities for the period was primarilydue to proceeds on our auction rate securities of $21.2 million, partiallyoffset by capital expenditures of $17.7 million related to the opening of newstores, IS&T and office equipment.  We opened 11 new stores in the sixmonths ended January 3, 2009 and expect to open approximately 14 storesduring fiscal 2009.  We estimate that total capital expenditures will beapproximately $32 million in fiscal 2009.

 

Net cash used byfinancing activities was $15.8 million for the six months ended January 3,2009 versus  $78.3 million for the sixmonths ended January 5, 2008.  Cash used by financing activities forthe period was primarily due to payments of quarterly dividends for the fourthquarter of fiscal 2008 and the first two quarters of fiscal 2009 totaling $13.1million and stock repurchases of $3.2 million, partially offset by proceedsreceived from stock option exercises and the related tax benefits of $0.5million.

 

As of January 3,2009, we had a balance of approximately $197.5 million in investments in ARS,with $72.3 million, net of an impairment charge of  $12.1 million, classified as trading and$125.2, net of temporary impairment charges of $12.7 million, classified asavailable for sale.  Our ARS portfolio includes approximately 98%federally insured student loan backed securities and 2% municipal authoritybonds. Our ARS portfolio is comprised of approximately 57% AAA ratedinvestments, 30% AA rated investments and 13% A rated investments.  TheseARS investments are intended to provide liquidity via an auction process thatresets the applicable interest rate at predetermined calendar intervals,allowing investors to either roll over their holdings or gain immediateliquidity by selling such interests at par. The recent uncertainties in thecredit markets have affected our holdings in ARS investments and auctions forthe majority of our investments in these securities have failed to settle ontheir respective settlement dates. Consequently, the investments are notcurrently liquid and we will not be able to access these funds until a futureauction of these investments is successful. Maturity dates for these ARSinvestments range from 2010 to 2044 with principal distributions occurring oncertain securities prior to maturity. We currently have the ability to holdthese ARS investments until a recovery of the auction process or untilmaturity.

 

In November 2008, weentered into a settlement agreement related to our ARS held with UBS thatgrants us certain rights related to these ARS. Beginning June 30, 2010, at our request, UBS has agreed to purchaseall of our ARS currently held with them at par value.  Conversely, UBS has the right, in itsdiscretion, to purchase or sell our ARS at any time until July 2, 2012, so longas we receive payment at par value upon any sale or disposition.  By entering into the agreement we elected todesignate approximately $84.4 million in ARS as trading securities and record aloss on investments of approximately $12.1 million with an offsetting ARSwritten put right of $11.6 million directly to net income.  Prior to accepting the UBS offer, we recordedour ARS held with UBS as investments available for sale, with an associatedloss included in other comprehensive income.

 

In October 2008, ourboard of directors authorized a program to repurchase up to $30 million of ourcommon stock.  We may, from time to time,as business conditions warrant, purchase stock in the open market or through privatetransactions.  Purchases may beincreased, decreased or discontinued at any time without prior notice.  The plan does not obligate us to repurchaseany specific number of shares and may be suspended at any time at management’sdiscretion.   During the second quarterof fiscal 2009, we repurchased 537,000 shares at an average price per share of$5.96.

 

During our first quarterof fiscal 2008, we entered into an agreement with our former Vice ChairpersonNeda Mashouf to purchase 5 million shares of our common stock beneficiallyowned by Ms. Mashouf at a price per share of $13.39, an aggregate purchaseprice of $66,950,000.  We may purchase additional shares from Ms. Mashoufor other shareholders in the future.

 

We believe that our cashon hand, together with our cash flows from operations, will be sufficient tomeet our capital and operating requirements for at least the next twelvemonths. Our future capital requirements, however, will depend on numerousfactors, including without limitation, liquidity of our auction ratesecurities, the size and number of new and expanded stores and/or storeconcepts, investment costs for management information systems, potentialacquisitions and/or joint ventures, repurchase of stock and future results ofoperations.

 

14

----

Table of Contents

 

**ITEM3.  QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK**

 

We are exposed to marketrisks, which include changes in U.S. interest rates and, to a lesser extent,foreign exchange rates. We do not engage in financial transactions for tradingor speculative purposes.

 

*InterestRate Risk*

 

We currently maintain aportfolio of variable interest rate investments consisting of cash equivalentsand long term investments comprised of auction rate securities (“ARS”). Our ARSportfolio includes approximately 98% federally insured student loan backedsecurities and 2% municipal authority bonds. Our ARS portfolio includesapproximately 57% AAA rated investments, 30% AA rated investments and 13% Arated investments.  According to our investment policy, we may invest intaxable and tax-exempt instruments.  In addition, the policy establisheslimits on credit quality, maturity, issuer and type of instrument. Marketablesecurities are classified as “trading” or “available for sale”.  We do notuse derivative financial instruments in our investment portfolio.

 

All highly liquidinvestments with a maturity of three months or less at the date of purchase areconsidered to be cash equivalents.  Investments are considered short termmarketable securities if the original maturity is between three months andtwelve months, or long term investments if the original maturity is greater thantwelve months. Typically the fair value of ARS investments approximates parvalue due to the frequent resets through the auction process. While we continueto earn interest on our ARS investments at the maximum contractual rate, theseinvestments are not currently trading and therefore do not currently have areadily determinable market value. Accordingly, the estimated fair value of ARSno longer approximates par value. We determined the estimated fair value of ourinvestment in ARS as of January 3, 2009 using a discounted cash flow modelto estimate the fair value of our investments in ARS. The assumptions used inpreparing the discounted cash flow model include estimates for interest rates,timing and amount of cash flows and expected holding periods of the ARS. The ARSwritten put right is a free standing asset separate from the ARS, andrepresents our contractual right to require UBS to purchase our ARS at parvalue during the two year period beginning June 20, 2010.  In order to value the ARS written put right,we considered intrinsic value, time value of money and our assessment of thecredit worthiness of UBS.  We havemodified our investment strategy and increased our investments in more liquidmoney market investments.  An immediate and uniform increase in marketinterest rate of 100 basis points from levels at January 3, 2009 wouldcause an additional decline of approximately 2%, or $5.4 million, in the fairmarket value of our investments in ARS.

 

The following table listsour cash equivalents and investments at January 3, 2009:

 
| ** **                          | ** ** | **Book Value**                  | ** ** | **Fair Value** | ** ** |
|-------------------------------------|------------|--------------------------------------|------------|---------------------|------------|
| ** **                          | ** ** | **(Dollars in thousands)** | ** ** |
| Cash equivalents                    |       | $                                    | 115,057    |                | 115,057    |   |
| Weighted average  interest rate (1) |       | 0.91                                 | %          |                |       |
| Trading  securities                 |       | $                                    | 72,375     |                | 72,375     |   |
| Weighted average  interest rate (1) |       | 1.85                                 | %          |                |       |
| Available for  sale securities      |       | $                                    | 125,245    |                | 125,245    |   |
| Weighted average  interest rate (1) |       | 1.72                                 | %          |                |       |
| Total                               |       | $                                    | 312,677    |                | 312,677    |   |
|                                     |            |                                      |            |                     |            |  |  |

 

----

(1)   Represents the weighted average interestrate for tax-exempt student loan and municipal bonds, and taxable andtax-exempt institutional money market instruments.

 

The interest payable onoutstanding cash borrowings under our bank line of credit is based on variableinterest rates and therefore affected by changes in market interest rates. Aswe have no outstanding cash borrowings, if interest rates rose significantly,our results from operations and cash flows would not be affected.

 

15

----

Table of Contents

 

*ForeignCurrency Risks*

 

We enter into asignificant amount of purchase obligations outside of the United States,substantially all of which are negotiated and settled in U.S. Dollars and,therefore, have only minimal exposure to foreign currency exchange risks. Wealso operate a subsidiary for which the functional currency is the CanadianDollar. In accordance with SFAS No. 52, “Foreign Currency Translation”,assets and liabilities of Canada’s operations are translated into U.S. dollarsat quarter-end rates, while income and expenses are translated at the weightedaverage exchange rates for the quarter. We record the related translationadjustments in accumulated other comprehensive income as a separate componentof shareholders’ equity. Fluctuations in exchange rates therefore impact ourfinancial condition and results of operations, as reported in U.S.Dollars.   We do not hedge against foreign currency risks and believethat foreign currency exchange risk is immaterial.

 

**ITEM4.****                 ****CONTROLS AND PROCEDURES**

 

Under the supervision andwith the participation of our management, including our Chief Executive Officerand Chief Financial Officer, we evaluated the effectiveness of our disclosurecontrols and procedures, as such term is defined under Rule 13a-15(e) promulgatedunder the Securities Exchange Act of 1934, as amended. Based upon thatevaluation, our Chief Executive Officer and Chief Financial Officer concludedthat our disclosure controls and procedures were effective as of the end of theperiod covered by this quarterly report at the reasonable assurance level.

 

There has been no changein our internal control over financial reporting during the quarter ended January 3,2009 that has materially affected, or is reasonably likely to materiallyaffect, our internal control over financial reporting.

 

16

----

Table of Contents

 

**PART II****                ****OTHER INFORMATION**

 

**ITEM1.****                 ****LEGAL PROCEEDINGS**

 

See the Legal Matterssection of the Notes to the Condensed Consolidated Financial Statements for adiscussion of legal proceedings.

 

**ITEM1A.****              ****RISK FACTORS**

 

Our past performance maynot be a reliable indicator of future performance because actual future resultsand trends may differ materially depending on a variety of factors, including,but not limited to, the risks and uncertainties discussed below. In addition,historical trends should not be used to anticipate results or trends in futureperiods.

 

Factors that might causeour actual results to differ materially from the forward looking statementsdiscussed elsewhere in this report, as well as affect our ability to achieveour financial and other goals, include, but are not limited to, those set forthbelow.  Except for changes to the general economic conditions risk factor,there have been no material changes in our risk factors from those disclosed inPart I, Item 1A of our Annual Report on Form 10-K for the fiscalyear ended July 5, 2008.

 

RISKS RELATING TO OURBUSINESS:

 

**1. Thesuccess of our business depends in large part on our ability to identifyfashion trends as well as to react to changing customer demand in a timelymanner.**  Consequently, we depend in part upon the customer response to the creativeefforts of our merchandising, design and marketing teams and their ability toanticipate trends and fashions that will appeal to our consumer base. If wemiscalculate our customers’ product preferences or the demand for our products,we may be faced with excess inventory. Historically, this type of occurrencehas resulted in excess fabric for some products and markdowns and/orwrite-offs, which has impaired our profitability, and may do so in the future.Similarly, any failure on our part to anticipate, identify and respondeffectively to changing consumer demands and fashion trends will adverselyaffect our sales.

 

**2. If weare unable to obtain raw materials, or unable to find manufacturing facilitiesor if our manufacturers perform unacceptably, our sales may be negativelyaffected and our financial condition may be harmed** . We do not own any manufacturingfacilities and therefore depend on contractors and third parties to manufactureour products. We place all of our orders for production of merchandise and rawmaterials by purchase order and do not have any long-term contracts with anymanufacturer or supplier. If we fail to maintain favorable relationships withour manufacturers and suppliers or are unable to obtain sufficient quantitiesof quality raw materials on commercially reasonable terms, it could harm ourbusiness and results of operations. We cannot assure you that contractors andthird-party manufacturers (1) will not supply similar products to ourcompetitors, (2) will not stop supplying products to us completely or (3) willsupply products in a timely manner. Untimely receipt of products may result inlower than anticipated sales and markdowns which would have a negative impacton earnings. Furthermore, we have received in the past, and may receive in thefuture, shipments of products from manufacturers that fail to conform to ourquality control standards. In such event, unless we are able to obtainreplacement products in a timely manner, we may lose sales. Certain of ourthird-party manufacturers store our raw materials. In the event our inventoryis damaged or destroyed while in storage and we are unable to obtainreplacement raw materials, our earnings may be negatively impacted.

 

**3. Oursuccess depends on our ability to attract and retain qualified employees inorder to support our existing business and future expansion.**   From time to time we activelyrecruit qualified candidates to fill key executive positions from within theCompany. There is substantial competition for experienced personnel, which weexpect will continue. We compete for experienced personnel with companies whohave greater financial resources than we do. In the past, we have experiencedsignificant turnover of our executive management team and retail storepersonnel. We are also exposed to employment practice litigation due to thelarge number of employees and high turnover of our sales associates. If we failto attract, motivate, and retain qualified personnel, it could harm ourbusiness and limit our ability to expand.

 

In addition, we depend onthe expertise and execution of our key employees, particularly Manny Mashouf,our founder, Chief Executive Officer and Chariman of the Board of Directors. Ifwe lose the services of Mr. Mashouf, or any key officers or employees, itcould harm our business and results of operations.

 

**4. If weare not able to successfully develop new concepts, including BEBE SPORT and 2bbebe, our revenue base and earnings may be impaired** . From time to time, we may pursue newconcepts.  If the BEBE SPORT and 2b bebe or other new concepts are notsuccessful, our financial condition may be harmed.

 

17

----

Tableof Contents

 

**5. General economic conditions,including increases in energy and commodity prices, that are largely out of ourcontrol may adversely affect our financial condition and results of operations.**   We are sensitive to changes in generaleconomic conditions, both nationally and locally.  Recessionary economiccycles, higher interest rates, higher fuel and other energy costs, inflation,deflation, increases in commodity prices, higher levels of unemployment, higherconsumer debt levels, higher tax rates and other changes in tax laws or othereconomic factors that may affect consumer spending or buying habits couldadversely affect the demand for products we sell in our stores. In addition,the recent turmoil in the financial markets may have an adverse effect on theU.S. and world economy, which could negatively impact consumer spendingpatterns.  We cannot assure you  that government responses to the disruptionsin the financial markets will restore consumer confidence.

 

Furthermore, we couldexperience reduced traffic in our stores or limitations on the prices we cancharge for our products, either of which could reduce our sales and profitmargins and have a material adverse affect on our financial condition andresults of operations. Also, economic factors such as those listed above andincreased transportation costs, inflation, higher costs of labor, insurance andhealthcare, and changes in other laws and regulations may increase our cost ofsales and our operating, selling, general and administrative expenses, andotherwise adversely affect our financial condition and results of operations.

 

**6. Wecannot assure you that future store openings will be successful, and new storeopenings may impact existing stores.** We expect to openapproximately 14 stores in fiscal 2009, of which 7 will be bebe stores, 1 willbe a BEBE SPORT store and 6 will be 2b bebe stores. We cannot assure you thatthe stores that we plan to open in fiscal 2009, or any other stores that wemight open in the future, will be successful or that our overall operatingprofit will increase as a result of opening these stores. During fiscal 2009 weclosed 3 bebe stores and anticipate closing 6 additional stores during theremainder of the fiscal year. Most of our new store openings in fiscal 2009will be in existing markets. These openings may affect the existing stores’ netsales and profitability. Our failure to predict accurately the demographic orretail environment at any future store location could have a material adverseeffect on our business, financial condition and results of operations.

 

Our ability toeffectively obtain real estate to open new stores depends upon the availabilityof real estate that meets our criteria, including traffic, square footage,co-tenancies, average sales per square foot, lease economics, demographics, andother factors, and our ability to negotiate terms that meet our financialtargets. In addition, we must be able to effectively renew our existing storeleases. Failure to secure real estate locations adequate to meet annual targetsas well as effectively managing the profitability of our existing fleet ofstores could have a material adverse effect on our results of operations.

 

18

----

Table of Contents

 

**7. Weare subject to risks associated with our on-line sales.** Weoperate an on-line store at www.bebe.com to sell our merchandise. Although ouron-line sales encompass a relatively small percentage of our total sales, ouron-line operations are subject to numerous risks, including unanticipatedoperating problems, reliance on third-party computer hardware and softwareproviders. The on-line operations also involve other risks that could have animpact on our results of operations including but not limited to diversion ofsales from our stores, rapid technological change, liability for on-linecontent, security breaches, consumer privacy concerns, credit card fraud, andrisks related to the failure of the computer systems that operate the websiteand its related support systems. In addition, given our use of a third partyplatform, we do not have direct control of certain aspects of our on-linebusiness. We cannot assure you that our on-line store will continue to achievesales and profitability growth or even remain at its current level.

 

**8. Anyserious disruption at our major facilities could have a harmful effect on ourbusiness.** We currently operate a corporate office inBrisbane, California, a distribution facility in Benicia, California, and adesign studio including our merchandising and production facility in LosAngeles, California. Any serious disruption at these facilities whether due toconstruction, relocation, fire, earthquake, terrorist acts or otherwise wouldharm our operations and could have a harmful effect on our business and resultsof operations. Furthermore, we have little experience operating essentialfunctions away from our main corporate offices and are uncertain what effectoperating such satellite facilities might have on business, personnel andresults of operations.

 

**9. Werely on information technology, the disruption of which could adversely impactour business.** We rely on various information systems tomanage our operations and regularly make investments to upgrade, enhance orreplace such systems. To support our growth we initiated a three year IS&Tstrategic plan and we are currently entering year three of this plan. Ifwe fail to successfully implement the plan, our business could be adverselyaffected.

 

**10. Weface significant competition in the retail and apparel industry, which couldharm our sales and profitability.** The retail and apparelindustries are highly competitive and are characterized by low barriers toentry. We expect competition in our markets to increase. The primarycompetitive factors in our markets are: brand name recognition, sourcing,product styling, quality, presentation and pricing, timeliness of productdevelopment and delivery, store ambiance, customer service andconvenience.  We compete with traditional department stores, specialtystore retailers, business to consumer websites, off-price retailers and directmarketers for, among other things, raw materials, market share, retail space,finished goods, sourcing and personnel. Because many of these competitors arelarger and have substantially greater financial, distribution and marketingresources than we do, we may lack the resources to adequately compete withthem. If we fail to remain competitive in any way, it could harm our business,financial condition and results of operations.

 

**11. Ourbusiness could be adversely impacted by unfavorable international politicalconditions.** Due to our international operations, our salesand operating results are, and will continue to be, affected by internationalsocial, political, legal and economic conditions. In particular, our businesscould be adversely impacted by instability or changes resulting in thedisruption of trade with the countries in which our contractors, suppliers orcustomers are located, significant fluctuations in the value of the dollaragainst foreign currencies or restrictions on the transfer of funds, oradditional trade restrictions imposed by the United States and other foreigngovernments. Trade restrictions, including increased tariffs or quotas,embargoes, and customs restrictions could increase the cost or reduce thesupply of merchandise available to the company and adversely affect itsfinancial condition and results of operations. In addition, we purchase asubstantial amount of our raw materials from China and our business andoperating results may be affected by changes in the political, social oreconomic environment in China.

 

**12. Ifwe are not able to successfully protect our intellectual property our abilityto capitalize on the value of our brand name may be impaired**  . Even though we take actions to establish,register and protect our trademarks and other proprietary rights, we cannotassure you that we will be successful or that others will not imitate ourproducts or infringe upon our intellectual property rights. In addition, wecannot assure that others will not resist or seek to block the sale of ourproducts as infringements of their trademark and proprietary rights.

 

19

----

Tableof Contents

 

We are seeking toregister our trademarks domestically and internationally. Obstacles may existthat may prevent us from obtaining a trademark for the bebe name or relatednames. We may not be able to register certain trademarks, purchase the right orobtain a license to use the bebe name or related names on commerciallyreasonable terms. If we fail to obtain trademark, ownership or license therequisite rights, it would limit our ability to expand. In some jurisdictions,despite successful registration of our trademarks, third parties may allegeinfringement and bring actions against us. In addition, if our licensees failto use our intellectual property correctly, the reputation and value associatedwith our trademarks may be diluted.  Furthermore, if we do not demonstrateuse of our trademarks, our trademark rights may lapse over time.

 

**13. Wemay be required to record losses in future quarters as a result of the declinein value of our investments in auction rate securities or as a result of achange in our ability to hold our investment in auction rate securities.**  We hold a variety of interest bearing ARScomprised of federally insured student loan backed securities and insuredmunicipal authority bonds. These ARS investments are intended to provideliquidity via an auction process that resets the applicable interest rate atpredetermined calendar intervals, allowing investors to either roll over theirholdings or gain immediate liquidity by selling such interests at par. Therecent uncertainties in the credit markets that began in February 2008 haveaffected our holdings in ARS investments and the majority of auctions for ourinvestments in these securities have failed to settle on their respectivesettlement dates. Consequently, $197.5 million of our ARS are not currentlyliquid and we will not be able to access these funds until a future auction ofthese investments is successful or a buyer is found outside of the auctionprocess. Maturity dates for these ARS investments range from 2010 to 2044 withprincipal distributions occurring on certain securities prior to maturity.

 

During the second fiscalquarter of 2009, we entered into a settlement agreement related to our ARS heldwith UBS.  Beginning June 30, 2010,at our request, UBS has agreed to purchase all of our ARS currently held withthem at par value.  Conversely, UBS hasthe right, in its discretion, to purchase or sell our ARS at any time untilJuly 2, 2012, so long as we receive payment at par value upon any sale ordisposition.  By entering into theagreement we elected to designate approximately $84.4 million in ARS fromavailable for sale to trading securities and record an impairment ofapproximately $12.1 million with an offsetting ARS written put right of $11.6million directly to net income.  UBS hasoffered to also provide us with access to “no net cost” loans up to 75% of thepar value of eligible ARS until June 30, 2010.

 

The valuation of ourinvestment portfolio is subject to uncertainties that are difficult to predict.Factors that may impact its valuation include changes to credit ratings of thesecurities as well as to the underlying assets supporting those securities,rates of default of the underlying assets, underlying collateral value,discount rates and ongoing strength and quality of market credit and liquidity.

 

Although we currentlyhave the ability to hold these ARS investments until a recovery of the auctionprocess or until maturity, if the current market conditions deterioratefurther, or the anticipated recovery in market values does not occur, we may berequired to record additional losses in other comprehensive income or losses innet income in future quarters.

 

**14. Ifan independent manufacturer violates labor or other laws, or is accused ofviolating any such laws, or if their labor practices diverge from thosegenerally accepted as ethical, it could harm our business and brand image**.. While we maintain a policy to monitor the operations of our independentmanufacturers by having an independent firm inspect these manufacturing sites,and all manufacturers are contractually required to comply with such laborpractices, we cannot control the actions or the public’s perceptions of suchmanufacturers, nor can we assure that these manufacturers will conduct theirbusinesses using ethical or legal labor practices. Apparel companies can beheld jointly liable for the wrongdoings of the manufacturers of their products.While we do not control their employees’ employment conditions or themanufacturers’ business practices, and the manufacturers act in their owninterest, they may act in a manner that result in negative public perceptionsof us and/or employee allegations or court determinations that we are jointlyliable.

 

 RISKS RELATING TOOUR COMMON STOCK:

 

**1. Ourstock price may fluctuate because of the relatively low number of shares thatcan be publicly traded.** The vast majority of our outstandingshares of our common stock are subject to trading restrictions. As of January 30,2009, of the approximately 88,000,000 shares of our common stock thenoutstanding, approximately 30,700,000 shares were available to be publiclytraded, and as a result, our stock price is vulnerable to market swings due tolarge purchases, sales and short sales of our common stock.

 

**2.Because Manny Mashouf beneficially owns a substantial portion of theoutstanding shares, other shareholders may not be able to influence thedirection the company takes.**   As of January 30,2009, Manny Mashouf, our Chief Executive Officer and Chairman of the Board,beneficially owned approximately 52% of the outstanding shares of our commonstock. As a result, he can control the election of directors and the outcome ofall issues submitted to the shareholders. This may make it more difficult for athird party to acquire shares, may discourage acquisition bids, and could limitthe price that certain investors might be willing to pay for shares of commonstock. This concentration of stock ownership may have the effect of delaying,deferring or preventing a change in control of our company.

 

**3. Oursignificant shareholders hold a substantial portion of our stock which mayresult in the trading volatility or may adversely affect our common stock.** As of January 30, 2009, Ms. Neda Mashouf currently ownedapproximately 13% of the outstanding shares of our common stock. As a result,any change in ownership of a significant portion of these shares, includingsales by Ms. Mashouf, may result in trading volatility in our common stockor may adversely affect our stock price.

 

20

----

Tableof Contents

 

**4. Oursales, margins and operating results are subject to seasonal and quarterlyfluctuations.** Our business varies with general seasonal trendsthat are characteristic of the retail and apparel industries, such as thetiming of seasonal wholesale shipments and other events affecting retail sales.As a result, our stores typically generate a higher percentage of our annualnet sales and profitability in the second quarter of our fiscal year, whichincludes the holiday selling season, compared to other quarters.

 

In addition, ourcomparable store sales have fluctuated significantly in the past, and we expectthat they will continue to fluctuate in the future. A variety of factors affectcomparable store sales, including fashion trends, competition, current economicconditions, the timing of release of new merchandise and promotional events,changes in our merchandise mix, the success of marketing programs and weatherconditions. Our ability to deliver strong comparable store sales results andmargins depends in large part on accurately forecasting demand and fashiontrends, selecting effective marketing techniques, providing an appropriate mix ofmerchandise for our customer base, managing inventory effectively, andoptimizing store performance by closing underperforming stores. Suchfluctuations may adversely affect the market price of our common stock.

 

**5.Failure to comply with Section 404 of the Sarbanes-Oxley Act of 2002 couldnegatively impact investor confidence.** In order to meet therequirements of the Sarbanes-Oxley Act of 2002 in future periods, we mustcontinuously document, test, monitor and enhance our internal control overfinancial reporting.  We cannot assure you that the periodic evaluation ofour internal controls required by Section 404 of the Sarbanes-Oxley Actwill not result in the identification of significant control deficienciesand/or material weaknesses or that our auditors will be able to attest to theeffectiveness of our internal control over financial reporting.

 

Failure to maintain theeffectiveness of our internal control over financial reporting or to complywith the requirements of this Act could have a material adverse effect on ourreputation, financial condition and market price of our common stock.

 

**ITEM2.  UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS**

 

The following table presents information with respect to purchases of ourcommon stock made during the thirteen weeks ended January 3, 2009 by bebeStores, Inc. or any affiliated purchaser, as defined in Rule 10b-18(a)(3) underthe Exchange Act.

 
| ** **                                         | ** ** | **Total  Number  of  Shares  Purchased**                         | ** ** | **Average  Price Paid  per Share** | ** ** | **Total Number  of Shares**

**Purchased as  Part of  Publicly  Announced  Plans or  Programs** | ** ** | **Maximum  Number (or  approximate  dollar amount) of  Shares that May  Yet be Purchased  Under the Plans  or Programs (1)** | ** ** |
|----------------------------------------------------|------------|------------------------------------------------------------------|------------|----------------------------------------------|------------|--------------------------------------------------------------------------------------------------------------------------|------------|-------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|------------|
| ** **                                         | ** ** | **(in thousands, except per share amounts)** | ** ** |
| Month #1 (October 5 – November 1)   |       | —                                                           |       | $                                            | —     |                                                                                                                     | —     |                                                                                                                                                                                | $          | 30,000 |   |
|                                               |       |                                                             |       |                                         |       |                                                                                                                     |       |                                                                                                                                                                                |       |
| Month #2 (November 2 – November 29) |       | 411                                                              |       | $                                            | 5.95       |                                                                                                                     | 411        |                                                                                                                                                                                | $          | 27,545 |   |
|                                               |       |                                                             |       |                                         |       |                                                                                                                     |       |                                                                                                                                                                                |       |
| Month #3 (November 30 – January 3)  |       | 126                                                              |       | $                                            | 5.89       |                                                                                                                     | 126        |                                                                                                                                                                                | $          | 26,799 |   |
|                                               |       |                                                             |       |                                         |       |                                                                                                                     |       |                                                                                                                                                                                |       |
| Total                                              |       | 537                                                              |       | $                                            | 5.96       |                                                                                                                     | 537        |                                                                                                                                                                                |       |   |

 

----

(1)               In October 2008, our Board of Directorsapproved $30 million for share repurchases, which we announced on October 21,2008. This authorization has no expiration date. 

 

**ITEM3.  DEFAULTS UPON SENIOR SECURITIES**

 

Not applicable.

 

**ITEM4.  SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS**

 

Not applicable.

 

**ITEM5.  OTHER INFORMATION**

 

Not applicable.

 

**ITEM6.  EXHIBITS**

 

(a) Exhibits. The following is a list of exhibits filed as part of this Report on Form 10-Q.

 
| **Exhibit** | ** ** | **Description**                                             |
|-------------|------------|-------------------------------------------------------------|
|        |       |                                                        |
| 31.1        |       | Section 302  Certification of Chief Executive Officer. |
| 31.2        |       | Section 302  Certification of Chief Financial Officer. |
| 32.1        |       | Section 906  Certification of Chief Executive Officer. |
| 32.2        |       | Section 906  Certification of Chief Financial Officer. |

 

21

----

Tableof Contents

 

**SIGNATURE**

 

Pursuant to therequirements of the Securities Exchange Act of 1934, the registrant has dulycaused this report to be signed on its behalf by the undersigned thereunto dulyauthorized.

 

 
|   | Dated February 11,  2009                                       |
|--------|---------------------------------------------------------------------|
|   |                                                                |
|   | bebe stores, inc.                                                   |
|   |                                                                |
|   | /s/ Walter Parks                                                    |
|   | Walter Parks, Chief  Operating Officer and Chief Financial  Officer |

 

22

----

Tableof Contents

 

EXHIBIT INDEX

 
| **Exhibit Number** | ** ** | **Description**                                            |
|-------------------------|------------|------------------------------------------------------------|
|                    |       |                                                       |
| 31.1                    |       | Section 302  Certification of Chief Executive Officer |
| 31.2                    |       | Section 302  Certification of Chief Financial Officer |
| 32.1                    |       | Section 906  Certification of Chief Executive Officer |
| 32.2                    |       | Section 906  Certification of Chief Financial Officer |

 

23

----