** **

**SECURITIES AND EXCHANGECOMMISSION**

 

**WASHINGTON, D.C. 20549**

 

**FORM10-Q**

 

**ý****                                ****QUARTERLY REPORT PURSUANT TOSECTION 13 OR 15(d)OF THE SECURITIES EXCHANGE ACT OF 1934**

 

**For the quarterly period ended March 31, 2005**

 

**o****                                ****TRANSITION REPORT UNDER SECTION13 OR 15(d) OF THEEXCHANGE ACT**

 

**Commission file no. 33-74876-D**

** **

**SPORT-HALEY,INC.**

(Exact name of small business issuer as specified in its charter)

 

| **COLORADO**                                                    | ** ** | **84-1111669**                        |
|-----------------------------------------------------------------|------------|---------------------------------------|
| (State of other jurisdiction of  incorporation or organization) |       | (I.R.S. Employer  Identification No.) |

 

**4600 E. 48th Avenue, Denver, Colorado 80216**

(Address of principal executive offices)

 

**(303) 320-8800**

(Issuer’s telephone number including area code)

 

Indicate bycheck mark whether the registrant (1) filed all reports required to be filed bySection 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding12 months (or for such shorter period that the registrant was required to filesuch reports), and (2) has been subject to such filing requirements for thepast 90 days: Yes ý  No o

 

Indicate by check markwhether the registrant is an accelerated filer (as defined in Rule 12b-2 of theExchange Act: Yes o  No ý

 

Indicate thenumber of shares outstanding in each of the issuer’s classes of common stock,as of the latest practicable date.

 

| **Class**                      | ** ** | **Outstanding  at May 16, 2005** |
|--------------------------------|------------|----------------------------------|
| **Common Stock, no par value** | ** ** | **2,545,252**                    |

 

 

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**TABLE OF CONTENTS**

 
| **PART 1 –  FINANCIAL INFORMATION (UNAUDITED)** |          |
|------------------------------------------------------|---------------|
| ** **                                           | ** **    | ** ** |   |
|                                                 | ITEM 1 – | FINANCIAL  STATEMENTS |   |
|                                                 |          |   |   |
|                                                 |          | BALANCE  SHEETS |   |
|                                                 |          |   |   |
|                                                 |          | STATEMENTS OF OPERATIONS |   |
|                                                 |          |   |   |
|                                                 |          | STATEMENTS OF CASH FLOWS |   |
|                                                 |          |   |   |
|                                                 |          | NOTES TO FINANCIAL STATEMENTS | ** ** |
|                                                 |          |   |   |
|                                                 | ITEM 2 -      | MANAGEMENT’S DISCUSSION AND ANALYSIS OF  FINANCIAL CONDITION AND RESULTS OF OPERATIONS |   |
|                                                 |          |   |   |
|                                                 | ITEM 3 -      | QUALITATIVE AND QUANTITATIVE DISCLOSURES  ABOUT MARKET RISK | ** ** |
|                                                 |          |   |   |
|                                                 | ITEM 4 -      | CONTROLS AND PROCEDURES | ** ** |
|                                                 |          |   |   |
| **PART  II - OTHER INFORMATION**                     | ** **    |
| ** **                                           | ** **    | ** ** | ** ** |
|                                                 | ITEM 1        | LEGAL PROCEEDINGS |   |
| ** **                                           | ** **    | ** ** | ** ** |
|                                                 | ITEM 4        | SUBMISSION OF MATTERS TO A VOTE OF SECURITY  HOLDERS |   |
| ** **                                           | ** **    | ** ** | ** ** |
|                                                 | ITEM 5        | OTHER INFORMATION |   |
| ** **                                           | ** **    | ** ** | ** ** |
|                                                 | ITEM 6        | EXHIBITS |   |
| ** **                                           | ** **    | ** ** | ** ** |
| **SIGNATURES**                                       | ** **    | ** ** |
| ** **                                           | ** **    | ** ** | ** ** |
| **EXHIBITS**                                         | ** **    | ** ** |

 

2

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**SPORT-HALEY, INC.**

**BALANCESHEETS**

 
| ** **                                                                                                                      | ** ** | **March 31,**   | ** ** | **June 30,** | ** ** |
|---------------------------------------------------------------------------------------------------------------------------------|------------|-----------------|------------|--------------|------------|
| ** **                                                                                                                      | ** ** | **2005**        | ** ** | **2004**     | ** ** |
| ** **                                                                                                                      | ** ** | **(Unaudited)** | ** ** | **(***)**    | ** ** |
| ** **                                                                                                                      | ** ** | ** **      | ** ** | ** **   | ** ** |
| **ASSETS**                                                                                                                      | ** ** | ** **      | ** ** | ** **   | ** ** |
| Current assets:                                                                                                                 |       |            |       |         |       |
| Cash and cash equivalents                                                                                                       |       | $               | 6,419,000  |         | $          | 3,890,000 |   |
| Marketable securities                                                                                                           |       | —          |       | 539,000      |       |
| Accounts receivable, net of allowances of $969,000  and $1,128,000, respectively                                                |       | 2,984,000       |       | 5,946,000    |       |
| Inventories                                                                                                                     |       | 6,043,000       |       | 8,808,000    |       |
| Prepaid expenses and other                                                                                                      |       | 386,000         |       | 468,000      |       |
| Total current assets                                                                                                            |       | 15,832,000      |       | 19,651,000   |       |
|                                                                                                                            |       |            |       |         |       |
| Property and equipment, net                                                                                                     |       | 937,000         |       | 1,107,000    |       |
| Other assets                                                                                                                    |       | —          |       | 13,000       |       |
|                                                                                                                            |       |            |       |         |       |
| Total Assets                                                                                                                    |       | $               | 16,769,000 |         | $          | 20,771,000 |   |
|                                                                                                                            |       |            |       |         |       |
| **LIABILITIES  AND SHAREHOLDERS’ EQUITY**                                                                                  | ** ** | ** **      | ** ** | ** **   | ** ** |
|                                                                                                                            |       |            |       |         |       |
| Current liabilities:                                                                                                            |       |            |       |         |       |
| Accounts payable                                                                                                                |       | $               | 790,000    |         | $          | 1,461,000 |   |
| Accrued commissions payable                                                                                                     |       | 222,000         |       | 272,000      |       |
| Accrued payroll                                                                                                                 |       | 626,000         |       | 197,000      |       |
| Other                                                                                                                           |       | 266,000         |       | 218,000      |       |
| Total current liabilities                                                                                                       |       | 1,904,000       |       | 2,148,000    |       |
|                                                                                                                            |       |            |       |         |       |
| Commitments and Contingencies (Note 4)                                                                                          |       | —          |       | —       |       |
|                                                                                                                            |       |            |       |         |       |
| Shareholders’ equity:                                                                                                      |       |            |       |         |       |
| Preferred stock, no par value; 1,500,000  shares authorized; none issued and outstanding                                        |       | —          |       | —       |       |
| Common stock, no par value; 15,000,000  shares authorized; 2,545,252 and 2,525,252 shares issued and outstanding,  respectively |       | 10,189,000      |       | 10,126,000   |       |
| Additional paid-in capital                                                                                                      |       | 1,574,000       |       | 1,527,000    |       |
| Retained earnings                                                                                                               |       | 3,102,000       |       | 6,970,000    |       |
| Total shareholders’ equity                                                                                                 |       | 14,865,000      |       | 18,623,000   |       |
|                                                                                                                            |       |            |       |         |       |
| Total Liabilities and Shareholders’ Equity                                                                                 |       | $               | 16,769,000 |         | $          | 20,771,000 |   |

 

----

*** Taken from the auditedbalance sheet at that date.

 

See accompanying notes to financial statements.

 

3

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**SPORT-HALEY, INC.**

**STATEMENTSOF OPERATIONS**

 
| ** **                                            | ** ** | **Three Months Ended  March 31,** | ** ** | **Nine Months Ended  March 31,** | ** ** |
|-------------------------------------------------------|------------|-----------------------------------|------------|----------------------------------|------------|
| ** **                                            | ** ** | **2005**                          | ** ** | **2004**                         | ** ** | **2005** | ** ** | **2004** | ** ** |
| ** **                                            | ** ** | **(Unaudited)**                   | ** ** | **(Unaudited)**                  | ** ** | **(Unaudited)** | ** ** | **(Unaudited)** | ** ** |
|                                                  |       |                              |       |                             |       |   |   |   |   |
| Net sales                                             |       | $                                 | 4,455,000  |                             | $          | 5,365,000 |   | $ | 15,025,000 |   | $ | 14,440,000 |   |
|                                                  |       |                              |       |                             |       |   |   |   |   |
| Cost of goods sold                                    |       | 2,823,000                         |       | 3,275,000                        |       | 11,165,000 |   | 8,852,000 |   |
|                                                  |       |                              |       |                             |       |   |   |   |   |
| Gross profit                                          |       | 1,632,000                         |       | 2,090,000                        |       | 3,860,000 |   | 5,588,000 |   |
|                                                  |       |                              |       |                             |       |   |   |   |   |
| Selling, general and administrative  expenses         |       | 2,287,000                         |       | 2,534,000                        |       | 7,860,000 |   | 6,380,000 |   |
|                                                  |       |                              |       |                             |       |   |   |   |   |
| Loss from operations                                  |       | (655,000                          | )          | (444,000                         | )          | (4,000,000 | ) | (792,000 | ) |
|                                                  |       |                              |       |                             |       |   |   |   |   |
| Other income (expense), net                           |       | 75,000                            |       | (18,000                          | )          | 138,000 |   | 107,000 |   |
|                                                  |       |                              |       |                             |       |   |   |   |   |
| Loss before provision for income taxes                |       | (580,000                          | )          | (462,000                         | )          | (3,862,000 | ) | (685,000 | ) |
|                                                  |       |                              |       |                             |       |   |   |   |   |
| Provision for income taxes                            |       | (6,000                            | )          | (231,000                         | )          | (6,000 | ) | (158,000 | ) |
|                                                  |       |                              |       |                             |       |   |   |   |   |
| Net income (loss)                                     |       | $                                 | (586,000   | )                                | $          | (693,000 | ) | $ | (3,868,000 | ) | $ | (843,000 | ) |
|                                                  |       |                              |       |                             |       |   |   |   |   |
| Basic and diluted loss per common share               |       | $                                 | (0.23      | )                                | $          | (0.28 | ) | $ | (1.52 | ) | $ | (0.34 | ) |
|                                                  |       |                              |       |                             |       |   |   |   |   |
| Basic and diluted weighted average shares outstanding |       | 2,545,252                         |       | 2,450,252                        |       | 2,542,442 |   | 2,446,625 |   |

 

See accompanying notes to financial statements.

 

4

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** **

**SPORT-HALEY, INC.**

**STATEMENTSOF CASH FLOWS**

 
| ** **                                                                              | ** ** | **Nine Months Ended  March 31,** | ** ** |
|-----------------------------------------------------------------------------------------|------------|----------------------------------|------------|
| ** **                                                                              | ** ** | **2005**                         | ** ** | **2004** | ** ** |
| ** **                                                                              | ** ** | **(Unaudited)**                  | ** ** | **(Unaudited)** | ** ** |
| **Cash flows from operating activities:**                                               |       |                             |       |   |   |
| Net loss                                                                                |       | $                                | (3,868,000 | ) | $ | (843,000 | ) |
| Adjustments to reconcile net loss to net  cash provided (used) by operating activities: |       |                             |       |   |   |
| Depreciation and amortization                                                           |       | 267,000                          |       | 232,000 |   |
| Deferred taxes and other                                                                |       | —                           |       | 158,000 |   |
| Allowance for doubtful accounts                                                         |       | 180,000                          |       | 189,000 |   |
| Common stock options                                                                    |       | 47,000                           |       | 95,000 |   |
| Gain/Loss on sale of fixed assets                                                       |       | 22,000                           |       | 4,000 |   |
| Cash provided (used) due to changes in  assets and liabilities:                         |       |                             |       |   |   |
| Accounts receivable                                                                     |       | 2,782,000                        |       | (592,000 | ) |
| Inventories                                                                             |       | 2,765,000                        |       | (3,092,000 | ) |
| Other assets                                                                            |       | 82,000                           |       | 457,000 |   |
| Accounts payable                                                                        |       | (671,000                         | )          | 512,000 |   |
| Accrued commissions and other expenses                                                  |       | 427,000                          |       | 1,001,000 |   |
| Net cash provided (used) by operating  activities                                       |       | 2,033,000                        |       | (1,879,000 | ) |
|                                                                                    |       |                             |       |   |   |
| **Cash flows from investing activities:**                                               |       |                             |       |   |   |
| Redemption of held-to-maturity investments                                              |       | 539,000                          |       | 3,629,000 |   |
| Purchases of held-to-maturity investments                                               |       | —                           |       | (2,314,000 | ) |
| Sales of fixed assets                                                                   |       | —                           |       | 5,000 |   |
| Purchase of fixed assets                                                                |       | (106,000                         | )          | (335,000 | ) |
| Net cash provided by investing activities                                               |       | 433,000                          |       | 985,000 |   |
|                                                                                    |       |                             |       |   |   |
| **Cash flows from financing activities:**                                               |       |                             |       |   |   |
| Net proceeds from issuance of common stock                                              |       | 63,000                           |       | 18,000 |   |
| Net cash provided by financing activities                                               |       | 63,000                           |       | 18,000 |   |
| ** **                                                                              | ** ** | ** **                       | ** ** | ** ** | ** ** |
| **Net increase (decrease) in cash and cash  equivalents**                               |       | 2,529,000                        |       | (876,000 | ) |
| ** **                                                                              | ** ** | ** **                       | ** ** | ** ** | ** ** |
| **Cash and cash equivalents, beginning**                                                |       | 3,890,000                        |       | 4,304,000 |   |
|                                                                                    |       |                             |       |   |   |
| **Cash and cash equivalents, ending**                                                   |       | $                                | 6,419,000  |   | $ | 3,428,000 |   |
|                                                                                    |       |                             |       |   |   |
| **Supplemental disclosure of cash flow  information:**                                  |       |                             |       |   |   |
| Cash paid during the period for:                                                        |       |                             |       |   |   |
| Income taxes                                                                            |       | $                                | 6,000      |   | $ | — |   |

 

See accompanying notes to financial statements.

 

5

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**SPORT-HALEY, INC.**

**NOTES TO FINANCIAL STATEMENTS**

** **

**NOTE 1****                SIGNIFICANTACCOUNTING POLICIES:**

 

*Condensed Financial Statements* - Theaccompanying condensed balance sheets and interim condensed statements ofoperations and cash flows include all adjustments (consisting only of normalrecurring items) necessary for their fair representation. The preparation offinancial statements in conformity with accounting principles generallyaccepted in the United States of America requires management to make estimatesand assumptions that affect the reported amounts of assets, liabilities,revenues and expenses and the disclosure of contingent assets and liabilities.The Company’s revenues are seasonal, and, therefore, interim results are notnecessarily indicative of results to be expected for the full year.

 

Certaininformation in footnote disclosures normally included in financial statementshas been condensed or omitted in accordance with the rules and regulations ofthe Securities and Exchange Commission. The information included in this Form10-Q should be read in conjunction with financial statements and notes theretoand Management’s Discussion and Analysis of Financial Condition and Results ofOperations for the year ended June 30, 2004, included in the Company’s filingon Form 10-K

 

*Stock-Based Compensation* - The Company’sStock Option Plan (the “Plan”) expired by its terms on February 28, 2003.Option agreements that were issued in accordance with the Plan prior toFebruary 28, 2003, generally remain in force until the earlier of theirexercise, the expiration of certain time periods after the termination of agrantee’s employment (or other relationship with the Company) or expiration bytheir terms. At March 31, 2005, there were outstanding options to purchase1,038,500 shares of the Company’s common stock at exercise prices ranging from$2.71 to $9.78 per share and expiration dates between June 2005 and January2013.

 

The Company accounts for stock-based compensation using the intrinsicvalue method prescribed in Accounting Principles Board Opinion No. 25, “*Accounting for Stock Issued to Employees*,”and related interpretations. The Company has elected to apply thedisclosure-only provisions of Statement of Financial Accounting Standards(SFAS) No. 123, “*Accounting for Stock-BasedCompensation*,” as amended by SFAS No. 148, “*Accounting for Stock-Based Compensation – Transitionand Disclosure*.” Under the intrinsic value method, compensationexpense for stock options is recognized over the vesting period of the grantbased on the excess, if any, of the market price of the Company’s common stockat the date of grant over the stock option exercise price. As governed by thePlan, stock options were generally granted at or near fair market value on thedate of grant.

 

If the Company had accounted for stock-based compensation using thefair value method rather than the intrinsic value method, the pro forma amountsof the Company’s net loss and loss per common share would have been reported asfollows:

 

6

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| ** **                                                                           | ** ** | **Three Months Ended March 31,** | ** ** |
|--------------------------------------------------------------------------------------|------------|----------------------------------|------------|
| ** **                                                                           | ** ** | **2005**                         | ** ** | **2004** | ** ** |
|                                                                                 |       |                             |       |   |   |
| Net income (loss) - as reported                                                      |       | $                                | (586,000   | ) | $ | (693,000 | ) |
| Effect of employee stock-based compensation  included in reported net loss           |       | 16,000                           |       | 20,000 |   |
| Effect of employee stock-based compensation  per SFAS 123                            |       | (106,000                         | )          | (66,000 | ) |
| Net income (loss) applicable to common  stock - pro forma                            |       | $                                | (676,000   | ) | $ | (739,000 | ) |
|                                                                                 |       |                             |       |   |   |
| Basic and Diluted:                                                                   |       |                             |       |   |   |
| Income (loss per share) - as reported                                                |       | $                                | (0.23      | ) | $ | (0.28 | ) |
| Per share effect of employee stock-based  compensation included in reported net loss |       | 0.01                             |       | 0.01 |   |
| Per share effect of employee stock-based  compensation per SFAS 123             |       | (0.04                            | )          | (0.03 | ) |
| Income (loss) per share applicable to common  stock - pro forma                      |       | $                                | (0.26      | ) | $ | (0.30 | ) |

 
| ** **                                                                           | ** ** | **Nine Months Ended March 31,** | ** ** |
|--------------------------------------------------------------------------------------|------------|---------------------------------|------------|
| ** **                                                                           | ** ** | **2005**                        | ** ** | **2004** | ** ** |
|                                                                                 |       |                            |       |   |   |
| Net loss - as reported                                                               |       | $                               | (3,868,000 | ) | $ | (843,000 | ) |
| Effect of employee stock-based compensation  included in reported net loss           |       | 47,000                          |       | 60,000 |   |
| Effect of employee stock-based compensation  per SFAS 123                            |       | (317,000                        | )          | (199,000 | ) |
| Net loss applicable to common stock - pro  forma                                     |       | $                               | (4,138,000 | ) | $ | (982,000 | ) |
|                                                                                 |       |                            |       |   |   |
| Basic and Diluted:                                                                   |       |                            |       |   |   |
| Loss per share - as reported                                                         |       | $                               | (1.52      | ) | $ | (0.34 | ) |
| Per share effect of employee stock-based  compensation included in reported net loss |       | 0.02                            |       | 0.02 |   |
| Per share effect of employee stock-based  compensation per SFAS 123             |       | (0.13                           | )          | (0.08 | ) |
| Loss per share applicable to common stock -  pro forma                               |       | $                               | (1.63      | ) | $ | (0.40 | ) |

 

7

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In December 2004, theFinancial Accounting Standards Board issued Statement of Financial AccountingStandards No. 123(R) (“SFAS 123R”), *“Share-Based Payment,”*which is a revision of Statement of Financial Accounting Standards No. 123, *“Accounting for Stock-Based Compensation.”* SFAS 123R iseffective for annual periods beginning after July 1, 2005, supersedesAccounting Principles Board Opinion No. 25, *“Accounting for StockIssued to Employees,”* and amends Statement of Financial AccountingStandards No. 95, *“Statement of Cash Flows.”* SFAS123R requires all share-based payments to employees, including grants ofemployee stock options, to be recognized in the statement of operations basedupon their fair values and will rescind the acceptance of pro forma disclosure.SFAS 123R will be effective for the Company beginning with the quarter endedSeptember 30, 2005. The Company has not yet completed an evaluation but expectsthe adoption of SFAS 123R to have an effect on its financial statements similarto the pro forma effects reported above.

 

In December 2004, theFinancial Accounting Standards Board issued Statement of Financial AccountingStandards No. 153 (“SFAS 153”), *“Exchanges of NonmonetaryAssets,”* which changes the guidance in Accounting Principles Board OpinionNo. 29 (“APB 29”), *“Accounting forNonmonetary Transactions.”* SFAS 153 amends APB 29 to eliminate theexception for nonmonetary exchanges of similar productive assets and replacesit with a general exception for exchanges on nonmonetary assets that do nothave commercial substance. A nonmonetary exchange has commercial substance ifthe future cash flows of the entity are expected to change significantly as aresult of the exchange. SFAS 153 is effective during fiscal years beginningafter June 15, 2005. The Company does not believe the adoption of SFAS 153 willhave a material impact on its results of operations and financial condition.

 

*Segments* – The Company has one operating segment:designing, purchasing, contracting for the manufacture of and marketing women’sand men’s fashion golf apparel and outerwear. The information for this segmentis the information used by the Company’s chief decision maker to evaluateoperating performance.

 

**NOTE 2****   ****                INVENTORIES:**

 

| ** **                              | ** ** | **March 31,  2005** | ** ** | **June 30,  2004** | ** ** |
|-----------------------------------------|------------|---------------------|------------|--------------------|------------|
| Inventories consisted of the following: |       |                |       |               |       |
| Component                               |       | $                   | 37,000     |               | $          | 470,000 |   |
| Finished goods                          |       | 6,006,000           |       | 8,338,000          |       |
|                                    |       |                |       |               |       |
|                                    |       | $                   | 6,043,000  |               | $          | 8,808,000 |   |

 

**NOTE 3****   ****                LINEOF CREDIT AGREEMENT:**

 

The Companymaintains a revolving line of credit agreement with a commercial bank. Therevolving line of credit agreement, renewed by amendment through December 5,2005, provides for a maximum loan amount of $5,000,000, collateralized by alien on substantially all of the Company’s assets, and for interest at the bank’sprime rate. In accordance with the amendment agreement, the Company mustmaintain minimum tangible net worth of $14,000,000. The Company generallymaintains the line of credit to facilitate

 

8

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the issuanceof letters of credit for inventory purchases from offshore suppliers and, ifnecessary, to fund any temporary working capital needs.

 

**NOTE 4****   ****                COMMITMENTSAND CONTINGENCIES:**

 

At March 31, 2005, the Company had $782,000in outstanding letters of credit that were issued to foreign suppliers inaccordance with finished goods inventory purchase commitments. Outstandingletters of credit reduce the amount available for borrowing under the line ofcredit agreement.

 

**NOTE 5****                 EARNINGSPER SHARE:**

 

Effective with the year ended June 30, 1998, the Companyadopted the provisions of Statement of Financial Accounting Standards No. 128(SFAS No. 128), “*Earnings per Share*.” SFAS No. 128requires the presentation of basic and diluted earnings (loss) per commonshare. The following table provides a reconciliation of the numerator anddenominator of basic and diluted earnings (loss) per common share:

 
| ** **                                    | ** ** | **Three Months ended March 31, 2005** | ** ** |
|-----------------------------------------------|------------|---------------------------------------|------------|
| ** **                                    | ** ** | **Net  Income  (Loss)**               | ** ** | **Weighted  Average  Shares** | ** ** | **Per Share** | ** ** |
| Loss Per  Common Share                        | ** ** | ** **                            | ** ** | ** ** | ** ** | ** ** | ** ** |
|                                          |       |                                  |       |   |   |   |   |
| Basic loss per share                          |       | $                                     | (586,000   | ) | 2,545,252 |   | $ | (0.23 | ) |
|                                          |       |                                  |       |   |   |   |   |
| Effect of dilutive securities options **[A]** |       | —                                |       | — |   | — |   |
|                                          |       |                                  |       |   |   |   |   |
| Diluted loss per share                        |       | $                                     | (586,000   | ) | 2,545,252 |   | $ | (0.23 | ) |

 
| ** **                                    | ** ** | **Nine Months ended March 31, 2005** | ** ** |
|-----------------------------------------------|------------|--------------------------------------|------------|
| ** **                                    | ** ** | **Net  Income  (Loss)**              | ** ** | **Weighted  Average  Shares** | ** ** | **Per Share** | ** ** |
| Loss Per  Common Share                        | ** ** | ** **                           | ** ** | ** ** | ** ** | ** ** | ** ** |
|                                          |       |                                 |       |   |   |   |   |
| Basic loss per share                          |       | $                                    | (3,868,000 | ) | 2,542,442 |   | $ | (1.52 | ) |
|                                          |       |                                 |       |   |   |   |   |
| Effect of dilutive securities options **[A]** |       | —                               |       | — |   | — |   |
|                                          |       |                                 |       |   |   |   |   |
| Diluted loss per share                        |       | $                                    | (3,868,000 | ) | 2,542,442 |   | $ | (1.52 | ) |

 

9

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| ** **                                    | ** ** | **Three Months ended March 31, 2004** | ** ** |
|-----------------------------------------------|------------|---------------------------------------|------------|
| ** **                                    | ** ** | **Net  Income  (Loss)**               | ** ** | **Weighted  Average  Shares** | ** ** | **Per Share** | ** ** |
| Loss Per  Common Share                        | ** ** | ** **                            | ** ** | ** ** | ** ** | ** ** | ** ** |
|                                          |       |                                  |       |   |   |   |   |
| Basic loss per share                          |       | $                                     | (693,000   | ) | 2,450,252 |   | $ | (0.28 | ) |
|                                          |       |                                  |       |   |   |   |   |
| Effect of dilutive securities options **[A]** |       | —                                |       | — |   | — |   |
|                                          |       |                                  |       |   |   |   |   |
| Diluted loss per share                        |       | $                                     | (693,000   | ) | 2,450,252 |   | $ | (0.28 | ) |

 
| ** **                                    | ** ** | **Nine Months ended March 31, 2004** | ** ** |
|-----------------------------------------------|------------|--------------------------------------|------------|
| ** **                                    | ** ** | **Net  Income  (Loss)**              | ** ** | **Weighted  Average  Shares** | ** ** | **Per Share** | ** ** |
| Loss Per  Common Share                        | ** ** | ** **                           | ** ** | ** ** | ** ** | ** ** | ** ** |
|                                          |       |                                 |       |   |   |   |   |
| Basic loss per share                          |       | $                                    | (843,000   | ) | 2,446,625 |   | $ | (0.34 | ) |
|                                          |       |                                 |       |   |   |   |   |
| Effect of dilutive securities options **[A]** |       | —                               |       | — |   | — |   |
|                                          |       |                                 |       |   |   |   |   |
| Diluted loss per share                        |       | $                                    | (843,000   | ) | 2,446,625 |   | $ | (0.34 | ) |

 

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**[A]** Due to the Company’s net losses, alloptions were antidilutive and therefore excluded from the loss per sharecalculations.

 

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**SPORT-HALEY, INC.**

**ITEM 2MANAGEMENT’S DISCUSSION AND ANALYSIS OF**

**FINANCIAL CONDITION AND RESULTSOF OPERATIONS**

 

This Report on Form 10-Q contains certain forward-looking statements,within the meaning of Section 27A of the Securities Act of 1933 and Section 21Eof the Securities Exchange Act of 1934. The words “may,” “will,” “expect,” “anticipate,”“continue,” “estimate,” “project,” “intend,” “believe,” and similarexpressions, variations or the negative of these words, and any statementregarding possible or assumed future results of operations of the Company’sbusiness, the markets for its products, anticipated expenditures, regulatorydevelopments or competition, or other statements regarding matters that are nothistorical facts, are intended to identify forward-looking statements, althoughnot all forward-looking statements contain such identifying words. The readershould be aware that our actual results could differ materially from thosecontained in forward-looking statements. The Company’s financial condition andthe results of its operations will depend on a number of factors, including,but not limited to, the following: our ability to control costs and expenses;our ability to successfully anticipate fashion trends, design favorablyaccepted fashion golf apparel, effectively advertise and communicate within themarketplace, and penetrate our chosen distribution channels; our ability tosuccessfully forecast sales and optimize inventory levels; our ability tosuccessfully manage risks associated with the trend of increasing sales withrespect to licensed apparel, such as the Ben Hogan® apparel collections;relations with and performance of suppliers; competition within golf apparelmarkets; business conditions and growth in the fashion golf apparel market andthe general economy; political and international trade relations; changes ininternational trade quota systems for apparel; consumer spending on golfapparel; general global economic and political conditions resulting fromthreats or acts of war or terrorism and responses thereto; timely performanceof third parties, such as freight forwarders, including risks of labor disputesand/or labor strikes; changes in product mix; inventory risks due to shifts inmarket and/or price erosion of purchased apparel; lost or reduced manufacturingcapacity of significant suppliers; loss or delay of shipments from foreignsuppliers; access to capital; maintaining satisfactory relationships withcommercial banking institutions; and, establishing controls with regard to andmaintaining the integrity of technology and information systems. Additionalinformation on these and other factors that could affect our financial resultsis included in the discussion below and in the Company’s Form 10-K for the yearended June 30, 2004. There may be other factors not mentioned above, in thediscussion below or included in our Securities and Exchange Commission (“SEC”)filings that may cause actual results to differ materially from anyforward-looking statements. The reader should not place undue reliance on anyforward-looking statements. Neither the Company nor any of its corporateofficers or key employees assumes any obligation to update any forward-lookingstatements as a result of new information, future events or developments,except as required by securities laws.

 

All references to fiscal years are references to the Company’s fiscalyear, which ends on June 30.

 

##### **OVERVIEW**

##### ** **

##### **Sport-Haley, Inc. designs,purchases, contracts for the manufacture of and markets women’s and men’s fashiongolf apparel and outerwear under the SPORT HALEY® and Ben Hogan® labels. Ourfashion golf apparel collections, known for their innovative designs, qualityfabrics, generous fit and classic styles, are primarily marketed in the premiumand mid-priced markets, through a network of independent sales representativesand distributors, to golf professional shops, country clubs, resorts andexclusive department stores within the United States and by certaindistributors within international markets. The Company distributes Ben Hogan®apparel pursuant to a licensing agreement with Callaway Golf Company (“Callaway”).**

 

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The Company is represented by a network of independent wholesale salesrepresentatives and employs a vice-president of sales and a regional salesmanager, each with responsibilities for both of the Company’s branded labels ofapparel. Most of the independent wholesale sales representatives solicit salesof both SPORT HALEY® and Ben Hogan® apparel on behalf of the Company.

 

We believe that our sales may have been more negatively affected byrecent economic conditions and other market factors faced by our customers inthe golf industry. A few of our long-time customers have indicated that they arenow placing less of an importance on stocking women’s golf apparel collectionsin their shops. A decline in the market for women’s fashion golf apparel canaffect us more than other companies in the golf apparel industry, because,while, according to an industry-related survey, the golf apparel market isbasically comprised of 75% men’s apparel and 25% women’s apparel, our sales for2004 were generally comprised of 40% men’s apparel and 60% women’s apparel.

 

The Company continues to focus on stabilizing revenues associated withthe SPORT HALEY® women’s apparel brand and growth of revenues associated withthe Ben Hogan® men’s apparel brand. As we previously reported, our decision todiscontinue marketing HALEY RESERVE men’s fashion apparel beginning with ourspring 2005 season was due, in part, because we believe that there are naturalsynergies common to Ben Hogan® men’s fashion apparel and SPORT HALEY® women’sfashion apparel, and in part, because we had anticipated introducing a line ofmen’s apparel under the Top Flite® label to bolster our sales with respect tomen’s apparel. In 2004, we reached an agreement in principle with Callaway toindefinitely delay the introduction of Top Flite® branded apparel. While wehave no immediate plans to introduce apparel under the Top Flite® label, wemaintain the licensing rights to Top Flite® branded apparel granted to us underthe licensing agreement that we maintain with Callaway. By marketing SPORTHALEY® women’s apparel in conjunction with Ben Hogan® men’s apparel, we areattempting to retain our market share with current women’s apparel customers,and we expect to expand the distribution channels for fashion women’s apparelinto markets that we had previously only been able to penetrate via themarketing of Ben Hogan® men’s apparel, which has a broader market acceptancedue to its inherent brand appeal within golf markets.

** **

##### **RECENT DEVELOPMENTS**

##### ** **

Aspreviously reported, we began utilizing a new comprehensive computer system inJanuary 2004 that was specifically designed for the garment industry andfurther tailored to our business operations. Various design, implementation andoperational deficiencies of the computer system have affected our businessoperations over the fiscal periods since we began utilizing the system. As wepreviously reported, as of December 31, 2004, a majority of the deficiencies ofthe system had been corrected. During the quarter ended March 31, 2005, wecontinued to correct the remaining known deficiencies.

 

Aspreviously reported, in September 2004, we authorized our former softwareconsultants to perform a review and analysis of the processes performed by thenew computer system. The former consultants subsequently identified andadjusted certain aspects of the system in order for us to operate moreefficiently, and they prepared a written analysis of the major processes thatwe utilize. In January 2005, we contracted with another software consultant touse the written analysis to further analyze and adjust certain of the computersystem’s functionality. The new software consultants evaluated otheralternatives to improve functions within the system in order to strengtheninternal controls with respect to our business operations, including ourcontrols over finished goods inventories. The new consultants recommended thatwe upgrade the system to specific newer software versions and that we replacethe customized shipping software within the system with another softwarealternative. We installed the

 

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softwareupgrades in April 2005 and are currently completing the implementation of therecommended shipping software, which we anticipate will enhance our controlswith regard to invoiced sales and finished goods inventories. We expect thatthe new shipping software will also improve our ability to process orders fromcertain of our larger customers electronically via electronic data interchange(“EDI”). We expect the EDI functions of the new software to be fully functionalnear the end of our current fiscal year.

 

Previously,we reported that we discovered programming and human errors that had affectedthe comprehensive computer system’s ability to properly compute the valuationof our finished goods inventories. While the system was designed to account forour finished goods inventories using a weighted average costing method, we werepreviously unable to rely upon the system to provide an accurate estimation ofthe value of our finished goods inventories under that valuation method.Therefore, we recomputed the estimated value of our finished goods inventoriesusing a standard cost assumption over the prior four fiscal quarters. Wepreviously performed an analysis to compare the actual landed cost componentsof our finished goods inventories with their respective standard costcomponents. Previously, we also performed an analysis of the allocated overheadportion of our standard costs. Because our analyses indicated that our standardcosts approximated actual costs, we concluded that our standard cost valuationsyielded fair estimations of our finished goods inventories at the previousquarter-end dates. We still consider the system malfunction with respect to thecomputation of per-item valuation of finished goods inventories to be amaterial weakness in our internal controls over financial reporting withrespect to inventory valuation, which impaired our ability to rely uponinformation created by our computer system to fairly present, in all materialrespects, our financial condition, results of operations and cash flows for theperiods covered by the respective reports.

 

InFebruary 2005, we disabled the manufacturing functions within the computersystem and replaced them with an alternative method which we expect will beless prone to human error. The manufacturing functions within the system wereextremely complex, and a significant portion of the human errors committed withregard to inventory transactions had previously occurred when processingmanufacturing transactions. Because the manufacturing activities in an apparelbusiness are relatively simple in nature, the simplistic alternative methodthat we implemented provides us with improved controls with regard to inventorycosting, and we anticipate that no further major revisions will be required tothe software configuration to allow us to rely upon the system to properlycompute the weighted average costs of our finished goods inventories in thefuture.

 

AtMarch 31, 2005, we compared the standard costs of our finished goods inventoryitems with their respective weighted averages, as computed by our computersystem since December 31, 2004, and we performed a detailed analysis of ourcomponent inventories. While we concluded that the costing functions within thesystem appear to be operating correctly with respect to purchased inventories,we discovered several human errors that had been committed during the quarterlyperiod with respect to manufactured inventories prior to our disabling themanufacturing functions within the computer system. Those errors caused thesystem to improperly account for the consumption of component inventorieswithin the manufacturing process and resulted in an undervaluation of therelated finished goods inventory items. Because, in our earlier analyses, wedetermined with reasonable assurance that our standard costs approximate theactual costs of our finished goods inventories, and the methods we use todetermine our standard costs have not changed since we performed thoseanalyses, we recomputed the cost of the items for which the consumption ofcomponent inventories was incorrectly applied within the prior manufacturingfunctions by using a standard cost assumption. Had we been able to rely uponthe system to properly compute the cost of those items using the weightedaverage method, we believe that

 

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theweighted average method would not have yielded a materially differentcomputation of value than the standard cost method that we applied.

 

Thehuman errors committed prior to disabling the manufacturing functions of thesystem impaired the computer system’s ability to properly calculate theper-item valuations of our manufactured finished goods inventories and alsoaffected the system-recorded amounts within our cost of goods sold during thequarterly period covered by this report. Costs associated with invoiced salesand returns as well as inventory adjustments are natural components of our costof goods sold. Because we concluded with reasonable assurance that ourusing a standard cost assumption yielded a fair estimation of our finishedgoods inventories and we consistently recorded adjustments to inventories ascomponents of cost of goods sold during the periods covered by this report, webelieve with reasonable assurance that our cost of goods sold are fairly statedduring the periods covered by this report. Therefore, we believe that astandard cost valuation of our finished goods inventories provides us withreasonable assurance that our report fairly presents, in all material respects,our financial condition, results of operations and cash flows.

 

##### **CRITICAL ACCOUNTING POLICIESAND ESTIMATES**

 

The Company’s interim financial statements have been prepared inaccordance with accounting principles generally accepted in the United Statesof America, which require the Company to make estimates and judgments thataffect the reported amounts of assets, liabilities, revenues and expenses, andthe related disclosures. A summary of our significant accounting policies canbe found in the Notes to our Consolidated Financial Statements included in ourReport on 10-K for the year ended June 30, 2004, which was filed with the SECon October 13, 2004. The estimates usedby management are based upon the Company’s historical experiences combined withour understanding of current facts and circumstances. Certain of the Company’saccounting policies are considered critical as they are both important to theportrayal of our financial condition and the results of our operations andrequire significant or complex judgments on the part of management. We believethat the following critical accounting policies affect the more significantjudgments and estimates used in the preparation of our financial statements.

 

*Inventories*

 

Inventories, predominantly comprised offinished goods, are generally valued at the lower of cost or market. Asdiscussed above in *“Recent Developments,”*a material weakness in our internal controls has caused us to value all or someof our finished goods inventories using a standard cost assumption since weimplemented a new computer system in January 2004. Excess finished goodsinventories are a natural component of a seasonal apparel business. Whilecertain finished goods items will sell out in any particular selling season,quantities of other finished goods items will remain at the end of each sellingseason. We market previous seasons’ finished goods inventories at reducedwholesale prices to our customers in the normal course of business. Remainingexcess inventories are liquidated through other markets. Excess finished goodsinventories may have more of an adverse effect on the results of our operationsthan realized by other companies within the golf apparel industry. While,according to an industry-related survey, the golf apparel market in total isgenerally comprised of 75% men’s apparel and 25% women’s apparel, our sales forfiscal 2004 were generally comprised of 40% men’s apparel and 60% women’sapparel. Historically, a significant portion of our excess inventories havebeen comprised of women’s apparel, which has fewer channels of distributionthan are available within the men’s apparel market, especially with respect toexcess inventories.

 

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We perform quarterly analyses to identifydiscontinued or aging merchandise and adjust our inventory valuation allowanceto reduce the carrying value of discontinued or aging merchandise to itsestimated net realizable value. The net realizable value of the discontinued oraging merchandise is estimated based on our disposition plans and historicalexperiences regarding the dispositions of excess inventories. In the ordinarycourse of business, we maintain reserves for inventory write-downs due to theobsolescence of discontinued or aging merchandise. At December 31, 2004, weimproved the methods that we use to assess the recoverability of our finishedgoods inventories. We developed a system to better estimate the anticipatedfuture sales of our finished goods inventories in order to better forecastinventories expected to remain at the end of a current or future distributionperiod. Having better information available to forecast quantities and mix ofunsold inventories allows us to better estimate excess inventories expected tobe on hand in a future period. Having such information also allows us to betterplan marketing strategies for the sales of such inventories through existingmarketing channels and to better estimate the overall recoverability of ourfinished goods inventories. At December 31, 2004, we estimated therecoverability of our excess fall 2004 and spring 2005 inventories based uponour expectations for the success of future marketing plans and our historicalexperience regarding the disposition of such apparel. At March 31, 2005, ourreserve for inventory write-downs totaled $739,000. The analysis of our reservefor inventory write-downs that we performed at March 31, 2005, concluded thatan increase in the reserve was not required at that time. Near the end of April2005, we sold substantially all of our excess finished goods inventoriesrelating to our fall 2004 selling season to a major retailer at a net amountthat closely approximated the amount we had estimated in our previousrecoverability analysis. We believe that the methods we now use to identify andevaluate obsolete and aging finished goods inventories produce fair valuationsof obsolete inventories, but, if actual market conditions are less favorablethan those we have projected, additional allowances may be required or losseson dispositions may be recorded.

 

*Deferred Income Taxes*

 

Deferred income taxes are recognized for the expected tax consequencesin future years for differences between the tax bases of assets and liabilitiesand their financial reporting amounts, based upon enacted tax laws andstatutory tax rates applicable to the periods in which the differences areexpected to affect taxable income. Our significant deferred tax assets arerelated to net operating loss carryforwards for federal and state income taxpurposes, a change in accounting methods for federal income tax purposes, stockoptions compensation and an unrealized loss for tax purposes on a common stockinvestment. We previously established a valuation allowance to reduce deferredtax assets to the net amount expected to be recovered in future periods. Theestimates for deferred tax assets and the corresponding valuation allowancerequire us to exercise complex judgments. We periodically review and adjustthose estimates based upon the most current information available. At March 31,2005, we had cumulative federal and state net operating loss carryforwards of$5,561,000 and $8,437,000 that we estimated may be recoverable at income taxrates of 34% and 5%, respectively. Because of the Company’s trend of net lossesin the current and most recent prior years, we determined that it is moreprobable than not that none of our net deferred tax assets will be recovered,and we maintained our valuation allowance that effectively reduced our netdeferred tax assets to zero. Our federal net operating loss carryforwards beginto expire after our 2023 fiscal year. While we are continuing to streamline ourbusiness operations to return the Company to profitability, we cannot becertain that our efforts will result in the generation of future profits.Therefore, because the recoverability of deferred tax assets is directlydependent upon future operating results, actual recoverability of deferred taxassets may differ materially from our estimates.

 

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*Allowance for Doubtful Accounts*

 

The Company’s allowance for doubtful accounts reflects a reserve thatreduces customer accounts receivable to the net amount estimated to becollectible. Estimating the credit worthiness of customers and therecoverability of customer accounts requires us to exercise considerablejudgment. In estimating the reserve for uncollectible accounts, we considerfactors such as general economic and industry-specific conditions, historicalcustomer performance and anticipated customer performance. Analyses of ouraccounts receivable that we performed throughout fiscal 2004 indicated anincrease in the percentage of doubtful accounts. Therefore, we increased ourestimates for the percentage of doubtful accounts accordingly. From time totime, we also identify delinquent customer accounts for which a specificreserve is required. At June 30, 2004, we established specific reservesapproximating $175,000 with respect to two separate delinquent customeraccounts. At March 31, 2005, our allowance for doubtful accounts wasapproximately $474,000, including the two specific reserves. While we considerour processes to be adequate to effectively quantify our exposure to doubtfulaccounts, changes in economic, industry or specific customer conditions mayresult in a recoverability of doubtful accounts that differs materially fromour estimates.

* *

*Allowance for Sales Returns*

 

We record an allowance for sales returns as a net adjustment to customeraccounts receivable. When recording an allowance, the net method reducescustomer accounts receivable and net sales by the estimated gross margin effectof the anticipated sales return. Generally, our selling terms preclude thereturn of our products subsequent to the sale. However, we have traditionallymaintained limited programs that offer some customers the right to returncertain finished goods items under predefined conditions, and, historically, arelatively small percentage of our customers refuse receipt of merchandise atthe time of delivery. We review historical data and consider factors such asgeneral economic and industry-specific conditions and anticipated customerperformance when evaluating our allowance for sales returns. At March 31, 2005,our allowance for sales returns was $342,000. Significant changes in generaleconomic or industry conditions may yield sales returns that differ materiallyfrom our estimates.

 

*Allowance for Return of Sales Representative Sample Garments*

 

Beginning with the fall 2004 selling season, we initiated a policy thatgranted our independent wholesale sales representatives the right to returnsample garments to the Company at no charge to the sales representative.Previously, we invoiced the sales representatives for sample garments atdiscounted wholesale prices. Because of the right of return offered to thesales representatives with regard to sample garments, we elected to recordinvoiced shipments of sample garments to sales representatives in a manner consistentwith consigned inventories. Beginning with the fall 2004 selling season, weincluded the cost of sample garments in finished goods inventories as consignedinventories and reversed the cost of sale components of the invoiced shipments.We also recorded an accounts receivable allowance and reversed the revenueeffect of the sale of sample garments. The sales representative’s accountsreceivable balance, the related allowance for sales representative samples andthe related inventory costs are adjusted and a sale is recorded when the salesrepresentative reimburses the Company for the cost of sample garments or theterm, for which the right of return was granted, expires. Upon return of thegarments to the Company, the sales representative’s accounts receivable balanceand the related allowance for sales representative samples are adjustedaccordingly, the corresponding revenue effect of the return is reversed, andthe inventory items are returned to stock. At March 31, 2005, the Company’sallowance for returns of sales representatives sample garments was $153,000. Wediscontinued the policy

 

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that allowed our sales representatives to return sample garmentseffective with sample garments shipped for the fall 2005 selling season.Because the shipments and returns of sample garments made under the right toreturn policy must be tracked and adjusted manually, actual shipments andreturns made in accordance with that policy may differ from our estimates.

### ** **

### **RECENT PRONOUNCEMENTS**

 

InDecember 2004, the Financial Accounting Standards Board issued Statement ofFinancial Accounting Standards No. 123(R) (“SFAS 123R”), *“Share-BasedPayment,”* which is a revision of Statement of Financial AccountingStandards No. 123, *“Accounting forStock-Based Compensation.”* SFAS 123R is effective for our fiscalyear beginning July 1, 2005, supersedes Accounting Principles Board Opinion No.25, *“Accounting for Stock Issued to Employees,”*andamends Statement of Financial Accounting Standards No. 95, *“Statementof Cash Flows.”*SFAS 123R requires all share-based payments toemployees, including grants of employee stock options, to be recognized in theincome statement based on their fair values and will rescind the acceptance ofpro forma disclosure. SFAS 123R will be effective for the Company beginningwith the quarter ended September 30, 2005. The Company has not yet completed anevaluation but expects the adoption of SFAS 123R to have an effect on itsfinancial statements similar to the pro forma effects reported above in Note 1to the financial statements.

 

InDecember 2004, the Financial Accounting Standards Board issued Statement ofFinancial Accounting Standards No. 153 (“SFAS 153”), *“Exchangesof Nonmonetary Assets,”* which changes the guidance in AccountingPrinciples Board Opinion No. 29 (“APB 29”), *“Accounting forNonmonetary Transactions.”* SFAS 153 amends APB 29 to eliminate theexception for nonmonetary exchanges of similar productive assets and replacesit with a general exception for exchanges on nonmonetary assets that do nothave commercial substance. A nonmonetary exchange has commercial substance ifthe future cash flows of the entity are expected to change significantly as aresult of the exchange. SFAS 153 is effective during fiscal years beginningafter June 15, 2005. The Company does not believe the adoption of SFAS 153 willhave a material impact on its results of operations and financial condition.

 

### **LIQUIDITY AND CAPITALRESOURCES**

 

Because the golf apparel business is highly seasonal in nature, ourbalance sheet amounts at March 31, 2005, may be more meaningful when comparedwith our balance sheet amounts at March 31, 2004, rather than with our balancesheet amounts at June 30, 2004.

 

Our primary sources of liquidity are comprised of available cash andcash equivalents, cash flows from operations and a working capital line ofcredit with a commercial bank. We require cash for general working capitalpurposes. We do not anticipate the requirements of material amounts of cash forcapital expenditures over the remainder of the current fiscal year. Our workingcapital requirements are highly seasonal in nature, with greater requirementsfrom approximately August through October and February through April of eachfiscal year, due to the purchases of finished goods inventories for thespring/summer and fall/holiday selling seasons, respectively.

 

Our net accounts receivable decreased by $2,962,000 to $2,984,000 atMarch 31, 2005, from $5,946,000 at June 30, 2004. When compared with the March31, 2004, balance of $5,122,000, the net accounts receivable balance at March31, 2005, decreased by $2,138,000, or 42%. Historically, a large number of ourcustomers open their business for the spring months beginning in March or Aprilof each year. Because we generally require the settlement of outstanding pastdue account balances prior to shipping

 

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additional merchandise, past due accounts with pending orders forspring delivery are usually collected near the end of our third fiscal quarter.We also collected $689,000 during the quarter ended March 31, 2005, relating tothe substantial sale of prior seasons’ obsolete inventories which we previouslyreported in our Form 10-Q for the quarterly period ended December 31, 2004.Changes in our accounts receivable balances and related allowances provided(used) operating cash of $2,962,000 and ($403,000) for the nine-month periodsended March 31, 2005 and 2004, respectively.

** **

The balance of our inventories has declined significantly since June30, 2004. Inventories declined by $2,765,000, or 31%, to $6,043,000 at March31, 2005, from $8,808,000 at June 30, 2004. When compared with the balance atMarch 31, 2004, our finished goods inventories decreased by $4,877,000, or 45%,from $10,920,000. The decrease is attributable to several separate factors.Near the end of fiscal 2004, we established initiatives designed to reduceexcess inventories and to set target thresholds for expected future levels of finishedgoods inventories. One of our initiatives reduced the number of items offeredfor sale in each of the SPORT HALEY® and Ben Hogan® apparel collections,beginning with the spring 2005 selling season, thereby reducing inventoriesrelated to the initial purchases of finished goods items at the beginning ofeach season. Another initiative was enacted to identify and dispose of excessobsolete or aging finished goods inventories. In December 2004, we sold, atsignificantly discounted prices, substantially all of our excess obsolete oraging finished goods inventories dating from the spring 2004 and earlierselling seasons. As discussed above in *“Critical AccountingPolicies and Estimates,”* during fiscal 2005 we developed new methodsthat we believe provide us with better information to identify and value excessamounts of finished goods inventories from a current selling season. In fiscal 2005, we also developed new methodsto optimize reorders of finished goods inventories based upon the anticipatedrequired future delivery dates of pre-booked customer orders. We anticipatethat the new reorder methods will help us to minimize the quantities offinished goods inventories remaining at the end of each selling season,beginning in fiscal 2006. The differences between the periods in pendingocean deliveries of finished goods also contributed to the comparativedifferences in total finished goods inventories. Pending ocean deliveries offinished goods were $824,000, $360,000 and $1,794,000 at March 31, 2005, June 30,2004, and March 31, 2004, respectively. Changes in our inventory balancesprovided operating cash of $2,765,000 and used operating cash of $3,092,000 forthe nine-month periods ended March 31, 2005 and 2004, respectively.

** **

Our continued reliance on foreign suppliers sustains the risk that ourrevenues could be adversely affected if a foreign shipment or shipments werereceived late or lost. We maintain insurance for risk of loss relating to goodsshipped from our foreign and domestic suppliers. However, our predominantreliance upon foreign suppliers, and significant reliance on four separateforeign suppliers, also sustains the risk that we would be left with inadequateor unsatisfactory recourse should the goods received from a foreign supplier benonconforming.

** **

Accounts payable and accrued expenses decreased by $244,000, or 11%, to$1,904,000 at March 31, 2005, from $2,148,000 at June 30, 2004. Accountspayable and accrued expenses decreased by $727,000, or 28%, from $2,631,000 atMarch 31, 2004. The comparative decreases were primarily due to the differencesin pending ocean deliveries of finished apparel between the periods discussedabove and an accrual of severance and other compensation payable to our formerchief executive officer. In accordance with the terms of an executiveemployment agreement between the Company and the former officer, we previouslyaccrued severance and other compensation, primarily payable to the formerexecutive on a monthly basis subsequent to the effective date of termination ofthe employment agreement on March 17, 2005. At March 31, 2005, the estimatedamount due to the former executive totaled $490,000.

 

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Due to the combination of the factors discussed above, and others,during the nine-month period ended March 31, 2005, our operating activitiesprovided cash of $2,033,000. Comparatively, during the nine months ended March31, 2004, our operating activities used cash of $1,879,000.

 

For the nine months ended March 31, 2005, investing activities providedcash of $433,000. Comparatively, for the nine months ended March 31, 2004,investing activities provided cash of $985,000. Our cash flows from investingactivities are primarily derived from purchases and redemptions of held-to-maturityinvestments. Historically, our held-to-maturity investments have generallyconsisted of short-term federal agency securities. During the nine months endedMarch 31, 2005, we expended $106,000 for the purchase of property andequipment, and $267,000 in depreciation and amortization was charged to currentoperations.

 

We maintain a revolving line of credit agreement with a commercialbank. The revolving line of credit agreement, renewed by amendment throughDecember 5, 2005, provides for a maximum loan amount of $5,000,000,collateralized by a lien on substantially all of our assets, and for interestat the bank’s prime rate. In accordance with the amendment agreement, we mustmaintain tangible net worth of $14,000,000. We generally maintain the line ofcredit to facilitate the issuance of letters of credit for inventory purchasesfrom offshore suppliers and, if necessary, to fund any temporary workingcapital needs. Outstanding letters of credit reduce the amount available forborrowing under the line of credit agreement. At March 31, 2005, we had$782,000 in outstanding letters of credit that were issued to foreign suppliersin accordance with finished goods inventory purchase commitments.

 

We believe that cash on hand and cash generated from operations, aswell as the ability to borrow under the bank line of credit, will be sufficientto meet our cash requirements during the remainder of fiscal 2005. We also havealternative sources of financing, including the factoring of customer accountsreceivable. Although they are available to the Company, we do not anticipateusing alternative sources of financing during the remainder of fiscal 2005.However, our capital needs will depend on many factors, including the Company’sgrowth rate, the need to finance required inventory levels, the success ofvarious sales and marketing programs, expenses related to the defense ofpending law suits and various other factors.

** **

**RESULTS OF OPERATIONS**

 

The Company’s business is seasonal in nature, and sales occurring fromJanuary through June, which comprise the Company’s third and fourth quarters ofeach fiscal year, are generally disproportionately higher than sales occurringfrom July through December.

 

Net sales for the nine months ended March 31, 2005, were $15,025,000,an increase of $585,000, or 4%, from net sales of $14,440,000 for the samenine-month period in the prior fiscal year. We attribute the difference in netsales to factors such as our discontinuance of our HALEY RESERVE men’s fashionapparel, a continued decrease in sales of SPORT HALEY® women’s fashion appareland the continued growth in sales of Ben Hogan® apparel collections. A largeportion of the decrease is attributable to our discontinuance of our HALEYRESERVE men’s fashion collections, beginning with our spring 2005 sellingseason. We began shipping spring 2005 apparel during November 2004. Aspreviously reported, we discontinued the HALEY RESERVE men’s collections inpart because of its diminishing sales and in part because we had expected to introduceTop Flite® branded apparel in its place within our distribution channels. Salesof HALEY® men’s apparel were approximately $2,500,000 for our spring 2004selling season, $1,285,000 of which related to our quarter ended March 31,2004. Historically, sales of our

 

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HALEY® branded apparel have been disproportionately comprised ofgreater sales of women’s apparel than of men’s apparel. The continued declinein sales of our SPORT HALEY® women’s collections appears to be related to ashrinking market for women’s golf apparel. In a time of increased competitionwithin the women’s golf apparel market, our customers appear to be placing lessimportance on women’s fashion golf apparel within their shops.

 

Net sales of Ben Hogan® apparel collections were $2,316,000 and$1,608,000 for the fiscal quarters ended March 31, 2005 and 2004, respectively.Net sales of Ben Hogan® apparel collections were $7,025,000 and $4,349,000 forthe nine months ended March 31, 2005 and 2004, respectively. The increase of$708,000, or 44%, in the fiscal period and the increase of $2,676,000, or 62%,in the nine-month period are indicative of our continued efforts to maximizerevenues with regard to licensed apparel. Ben Hogan® apparel is marketed inaccordance with a licensing agreement we maintain with Callaway Golf Company (“Callaway”).We consider the licensing agreement with Callaway to be a key component of ourbusiness strategies. While we believe we have sustained a good workingrelationship with Callaway, the trend for the last several periods, reflectinga continued increase in sales of licensed apparel, sustains a risk of loss,should the licensing agreement with Callaway be terminated by either party.

 

Grossprofit was $1,632,000 for the quarter ended March 31, 2005, and $2,090,000 forthe same quarter in the prior fiscal year. Gross profit was $3,860,000 for thenine-month period ended March 31, 2005, and $5,588,000 for the same nine-monthperiod in the prior fiscal year. The differences in gross profit were primarilyattributable to the following factors: (i) As previously reported, we assessedthe recoverability of our finished goods inventories using an improved methodthat calculates the estimated sales value based upon the quantities and mix ofinventories that are available for sale, rather than an estimate based upontotal units on hand. The recoverability assessment indicated that we shouldexpect to have a considerable number of units remaining from our fall 2004 andspring 2005 delivery periods, and, accordingly, we increased our reserve forinventory write-downs by $695,000 at December 31, 2004. The increase was inaddition to the $543,000 increase in our reserve that was recorded at September30, 2004. An additional increase in our reserve for inventory write-downs wasnot required at March 31, 2005. (ii) As we previously reported, in December2004, we sold substantially all of our discontinued or aging finished goodsinventories from the spring 2004 and earlier selling seasons to a majorretailer. Those inventories had been written down at September 30, 2004, to thenet amount we expected to recover in a mass disposition of them. The disposalof closeout inventories negatively impacts our gross margins, because the valuationof such inventories to the lower of cost or market causes a zero marginrelating to their sale. The actual sales price we obtained for the substantialsale to the major retailer resulted in our recording a loss of $179,000 on thesale in December 2004. (iii) As previously reported, in conjunction withperforming procedures recommended by the developer of our software that weredesigned to correct a prior system malfunction, we performed a physical countof our finished goods inventories and performed a detailed review of ourcomponent inventories at December 31, 2004. The physical inventory caused us toreduce our finished goods inventories by $53,000 and the detailed review causedus to reduce our component inventories by $300,000. As a percentage of sales,gross profit was 37% and 39% for the quarters and 26% and 39% for thenine-month periods ended March 31, 2005 and 2004, respectively.

** **

Ourgross margins may not be comparable to other companies within the golf apparelindustry. We have consistently included the cost of merchandise sold, includingimport charges, in-bound freight, allocated overhead, freight-out, embroiderycosts and other charges in our cost of goods sold. Our overhead allocationincludes a portion of our distribution costs, such as receiving, inspection andshipping costs,

 

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butwe include some of the other costs of distribution, such as a portion of ourwarehousing and other handling costs, in selling, general and administrativeexpenses. We also include royalty payments, relating to sales of licensedapparel, in selling, general and administrative expenses. We recorded royaltyexpense of $153,000 and $125,000 for the quarters and $503,000 and $342,000 forthe nine-month periods ended March 31, 2005 and 2004, respectively.

 

Selling, general and administrative expenses decreased by $247,000, or10%, to $2,287,000 for the fiscal quarter ended March 31, 2005, from $2,534,000for the same quarter in the prior fiscal year. Selling, general andadministrative expenses increased by $1,480,000, or 23%, to $7,860,000 for thenine-month period ended March 31, 2005, from $6,380,000 for the same nine-monthperiod in the prior fiscal year. The difference for the fiscal quarter wasprimarily due to a decrease in executive salaries attributable to the death ofour former Chairman and the departure of our former Chief Executive Officer anda general decrease in many other expense categories as a result of management’sconcerted efforts to cut expenses. The difference for the nine-month periodincludes the $650,000 in severance and other compensation paid to our lateChairman’s estate during our fiscal quarter ended September 30, 2004, $520,000in severance and other compensation payable to our former chief executiveofficer that was accrued at December 31, 2004, differences in sales commissionsand differences in royalties payable on increased Ben Hogan® net sales. Salescommissions were $362,000 and $1,353,000 for the quarterly and nine-month periodsended March 31, 2005, and $498,000 and $1,370,000 for the quarterly andnine-month periods in the prior fiscal year, respectively. Near December 31,2004, we performed a detailed analysis of individual categories of our selling,general and administrative expenses. During the quarter ended March 31, 2005,we used our evaluation as a tool to help streamline our operations further, andwe are continuing to search for additional ways to reduce our overall operatingexpenses. As a percentage of net sales, selling, general and administrativeexpenditures were 51% and 47% for the quarterly and 52% and 44% for thenine-month periods ended March 31, 2005 and 2004, respectively.

 

Loss before (provision for) benefit fromincome taxes for the nine months ended March 31, 2005, was ($3,862,000), adifference of ($3,117,000), or 464%, as compared with ($685,000) for the sameperiod in the prior fiscal year. Provision for benefit from income taxes was$6,000 for the nine months ended March 31, 2005, a difference of ($152,000)from $158,000 for the same period in the prior fiscal year. The difference inprovision for income taxes between the fiscal periods arose primarily becauseof a change in estimates between the periods with regard to the recoverabilityof deferred tax assets. At March 31, 2005, we had federal and state netoperating loss carryforwards of $5,561,000 and $8,437,000 that we estimated maybe recoverable at income tax rates of 34% and 5%, respectively. Because of ourcontinued trend of net losses in the current and most recent prior fiscalyears, we determined that it was more probable than not that none of our netdeferred tax assets will be recovered, and we maintained our valuationallowance that effectively reduced our net deferred tax assets to zero. Whilewe are attempting to streamline our business operations and to initiate otherimprovements to return the Company to profitability, we cannot be certain thatour efforts will result in the generation of future profits sufficient tooffset our significant net operating loss carryforwards prior to theirexpirations. Accordingly, during the nine-month periods ended March 31, 2005and 2004, we did not record a benefit from income taxes associated with thecorresponding losses for the respective nine-month periods.

 

Basic and diluted losses per share were ($0.23) and ($0.28) for thequarterly and ($1.52) and ($0.34) for the nine-month periods ended March 31,2005 and 2004, respectively. Due to the Company’s losses, all options wereantidilutive and therefore excluded from the loss per share calculations.

 

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Our book values per share were $5.84 at March 31, 2005, $7.37 at June30, 2004, and $8.04 at March 31, 2004, respectively.

 

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**SPORT-HALEY, INC.**

**ITEM 3QUALITATIVE AND QUANTITATIVE DISCLOSURES**

**ABOUT MARKET RISK**

 

Market risk represents the risk of loss that may impact the financialposition, results of operations or cash flows due to adverse changes infinancial and commodity market prices and rates. We are exposed to market riskwith regard to changes in United States interest rates. This exposure isdirectly related to our normal operating and funding activities. Historically,and as of March 31, 2005, we have not used derivative instruments or engaged inhedging activities. Our market risk has not changed significantly from December31, 2004.

 

**Interest Rate Risk**

 

The Company maintains a revolving line of credit agreement with acommercial bank. The revolving line of credit agreement, renewed by amendmentthrough December 5, 2005, provides for a maximum loan amount of $5,000,000,collateralized by a lien on substantially all of the Company’s assets, and forinterest at the bank’s prime rate. In accordance with the amendment agreement,we must maintain minimum tangible net worth of $14,000,000. We generallymaintain the line of credit to facilitate the issuance of letters of credit forinventory purchases from offshore suppliers, and, if necessary, to fund any temporaryworking capital needs. We did not have any outstanding borrowings under theline of credit at March 31, 2005. We had outstanding letters of credit ofapproximately $782,000 at March 31, 2005. Outstanding letters of credit reducethe amount available for borrowing under the line of credit. Increases in thebank’s prime rate could increase the interest expense with respect to futureborrowings, including borrowings under the line of credit. We do not usederivative financial instruments to manage interest rate risk.

 

From time to time, we maintain short-term investments in low risk andno risk financial instruments, readily convertible into cash, which earninterest at variable rates. Periodically, our cash balances held at financialinstitutions exceed federally insured limits.

 

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**SPORT-HALEY, INC.**

**ITEM 4 CONTROLS AND PROCEDURES**

** **

**(a)****   Evaluationof Disclosure Controls and Procedures**

 

Management of the Company, with the participation of the Interim ChiefExecutive Officer and the Chief Financial Officer, conducted an evaluation ofthe effectiveness of the Company’s disclosure controls and procedures pursuantto Rule 13a-15 under the Securities Exchange Act of 1934 as of the end of theperiod covered by this report. Based on that evaluation, management, includingthe Interim Chief Executive Officer and Chief Financial Officer, concludedthat, as of the end of the period covered by this report, the Company’sdisclosure controls and procedures were effective in reaching a reasonablelevel of assurance that: (a) all material information relating to the Company,required to be disclosed in this report, has been made known to management in atimely manner; and, (b) information was recorded, processed, summarized and reportedwithin the time periods specified in the Securities and Exchange Commission’srules and regulations.

 

As discussed in *“Recent Developments,”*we consider the programming and human errors and a system malfunction that hadpreviously affected our computer system’s ability to properly compute theper-item valuations of our finished goods inventories using a weighted averagecosting method to be a material weakness in our internal controls overfinancial reporting with respect to inventory valuation throughout the periodcovered by this report. This weakness in our controls prevented us from relyingupon the system-recorded transactions with respect to finished goodsinventories during the period covered by this report. During the period coveredby this report, we recomputed the estimated value of our finished goodsinventories using a standard cost assumption. We previously performed ananalysis to compare the landed cost components of our finished goodsinventories with our respective standard cost components, and we performed ananalysis of the allocated overhead portion of our standard costs. We concludedthat valuations using a standard cost assumption yielded a fair estimation ofour finished goods inventories. In December 2004, we performed certain proceduresrecommended by the developer of our software in order to correct errors causedwithin the system, and we also performed a physical inventory of our finishedgoods apparel. The methods we use to determine the standard costs of ourfinished goods inventories have not changed since the analyses of such costswere performed. At the conclusion of our December 31, 2004, physical inventory,we valued our finished goods inventories, as determined by the results of thephysical count, using a standard cost assumption.

 

At March 31, 2005, we compared the standard costs of our finished goodsinventories with their respective weighted averages, as computed by ourcomputer system since December 31, 2004, and we performed a detailed analysisof our component inventories. While we concluded that the costing functionswithin the system appear to be functioning correctly with respect to purchasedinventories, we discovered several human errors that had been committed duringthe quarterly period with respect to manufactured inventories prior to ourdisabling the manufacturing functions and replacing them with alternativeprocedures within the computer system. Those errors caused the system toimproperly account for the consumption of component inventories within the manufacturingprocess and resulted in an undervaluation of the related finished goodsinventory items. We consider the human errors with respect to manufacturedinventories to be a material weakness in our internal controls over financialreporting with respect to inventory valuation during the period covered by thisreport. Because, in our earlier analyses, we determined with reasonableassurance that our standard costs approximate the actual costs of our finishedgoods inventories, and the methods we use to determine our standard costs havenot changed since we performed those analyses, we

 

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recomputed the cost of the items for which the consumption of componentinventories was incorrectly applied within the prior manufacturing functions byusing a standard cost assumption. Had we been able to rely upon the system toproperly compute the cost of those items using the weighted average method, theInterim Chief Executive Officer and the Chief Financial Officer believe thatthe weighted average method would not have yielded a materially differentcomputation of value than the standard cost method that we applied. Therefore,the Interim Chief Executive Officer and Chief Financial Officer believe thatthe procedures we applied to quantify and value our finished goods inventoriesat March 31, 2005, provide us with reasonable assurance that the Company’sdisclosure controls and procedures were effective as of the end of the periodcovered by this report.

 

The material weakness in our internal controls over financial reportingwith respect to inventory valuation impaired our ability to rely uponinformation created by our computer system to fairly present, in all materialrespects, our financial condition, results of operations and cash flows for theperiod covered by this report. Based upon our previous analyses with respect tothe standard cost components of our finished goods inventories we concludedwith reasonable assurance that our using a standard cost assumption yielded afair estimation of our finished goods inventories during the periods covered bythis report. The inability of our computer system to properly calculate theper-item valuations of our finished goods inventories also affected thesystem-recorded amounts within our cost of goods sold during the period coveredby this report. Costs associated with invoiced sales and returns as well asinventory adjustments are natural components of our cost of goods sold. Becausewe concluded with reasonable assurance that our using a standard costassumption yielded a fair estimation of our finished goods inventories, and weconsistently recorded adjustments to inventories as components of cost of goodssold during the period covered by this report, we believe with reasonableassurance that our cost of goods sold are fairly stated during the periodcovered by this report. Therefore, the Interim Chief Executive Officer andChief Financial Officer believe that a standard cost valuation of our finishedgoods inventories provides us with reasonable assurance that our report fairlypresents, in all material respects, our financial condition, results ofoperations and cash flows.

 

**(b)****   Changesin Internal Controls**

 

During the third quarterof fiscal 2005, we instituted one change in internal controls over financialreporting that materially affected, or is reasonably likely to materiallyaffect, the Company’s internal controls over financial reporting. In February2005, we disabled the complex manufacturing functions within the computersystem and replaced them with a simplistic alternative method which we expectwill be less prone to human error. The manufacturing functions within thesystem were extremely complex, and a significant portion of the human errorscommitted with regard to inventory transactions had previously occurred whenprocessing manufacturing transactions. Because the manufacturing activities ofan apparel business are relatively simple in nature, the simplistic alternativemethod that we implemented provides us with improved controls with regard toinventory costing, and the Interim Chief Executive Officer and Chief FinancialOfficer anticipate that no further revisions will be required to the softwareconfiguration to provide reasonable assurance that the system will properlycompute the weighted average costs of our finished goods inventories.

 

TheCompany’s management, including the Interim Chief Executive Officer and theChief Financial Officer, does not expect that our disclosure controls andprocedures or our internal

 

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controlsover financial reporting will, in all instances, prevent all errors and allfraud. A control system, no matter how well conceived or operated, can onlyprovide reasonable, not absolute, assurance that the objectives of the controlsystem are met. While the Company’s control systems provide a reasonableassurance level, the design of its control systems reflects the fact that thereare resource constraints, and the benefits of such controls were consideredrelative to their costs. Because of the inherent limitations in all controlsystems, no evaluation of controls can provide absolute assurance that allcontrol issues and instances of fraud, if any, within the Company have been detected.These inherent limitations include the realities that judgments indecision-making can be faulty, and that breakdowns can occur because of simpleerrors or mistakes. Additionally, a control may be circumvented by theindividual act of some person, by collusion of two or more persons, or bymanagement’s override of a specific control. The design of any system ofcontrols is also based in part on certain assumptions about the likelihood offuture events, and there can be no assurance that any design will succeed inachieving its stated goals under all potential future conditions. Because ofthe inherent limitations in a cost-effective control system, misstatements dueto error or fraud may occur and not be detected.

 

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**SPORT-HALEY, INC.**

**PART II**

**OTHER INFORMATION**

 

### **ITEM 1**         LEGAL PROCEEDINGS

 

As previously reported, on September 26, 2003, the United StatesSecurities and Exchange Commission (the “Commission”) filed suit in the UnitedStates District Court for the District of Colorado (the “Action”) againstSport-Haley, its late Chairman and former Chief Executive Officer, Robert G.Tomlinson, and its former controller, Steve S. Auger (the “Defendants”). TheCommission filed an amended complaint in October 2003, which added one of theCompany’s former auditors to the Action as a Defendant. The suit seeks aninjunction against future violations and other relief, including disgorgement,civil penalties and an order barring Mr. Tomlinson and Mr. Auger from serving asa director or officer of any publicly held company. The suit alleges that theDefendants misrepresented inventories, period costs and losses on the sale ofheadwear equipment in annual and/or quarterly financial statements for ourfiscal years 2000, 1999 and 1998. The complaint alleges that the Companyviolated §17(a) of the Securities Act of 1933 (the “Securities Act”), §10(b),§13(b)(2) and §15(d) of the Securities Exchange Act of 1934 (the “Exchange Act”)and various other rules promulgated thereunder. The amended complaint furtheralleges that Mr. Tomlinson and Mr. Auger violated §17(a) of the Securities Act,§10(b) and §13(b)(5) of the Exchange Act and Rules 10b-5 and 13b-2 thereunder.Finally, the suit alleges that Mr. Tomlinson and Mr. Auger aided and abettedthe Company’s violations of §13(b)(2) and §15(d) of the Exchange Act andvarious rules promulgated thereunder. The Commission’s suit primarily relatesto errors in our previously issued financial statements that we previouslyreported when we voluntarily restated our financial statements for fiscal years1999 and 1998 and subsequently corrected material financial information for thequarterly periods of fiscal years 2000, 1999 and 1998. The Defendants haveanswered the allegations of the amended complaint, denying the substantiveallegations and asserting various defenses. Discovery in the Action hasconcluded. No trial date has yet been determined. The Company, subject to itsBylaws and Colorado law, agreed to indemnify Mr. Tomlinson and Mr. Auger, andwe have advanced the costs of their defenses, pending final adjudication of theAction. The costs of defense of the Action by the Defendants are covered by ourapplicable liability insurance, subject to a retention amount, which has beensatisfied, and other limitations. After Mr. Tomlinson’s death in September2004, the Commission advised his counsel that it would dismiss Mr. Tomlinsonfrom the case and would not seek any relief against Mr. Tomlinson’s estate.Recently, the Commission filed a motion to dismiss Mr. Tomlinson from theaction without prejudice, which motion was granted. The remaining Defendantshave continued to vigorously defend the Commission’s allegations, which theDefendants believe are without merit. Based upon the information that iscurrently available, we cannot reasonably estimate the amount of unrecoverablefuture costs that we will incur defending the Action. However, if the suit weredetermined in favor of the Commission and against the Defendants, the possiblemonetary penalties and other relief that we might be required to pay couldnegatively impact our financial position and the results of our operations.

 

As of March 31, 2005, we had cumulatively incurred approximately$1,094,000 in potentially recoverable costs related to the restatements of ourfinancial statements and material quarterly information, the investigation bythe Commission and a class action lawsuit that has been settled. The policyretention for such costs has been satisfied, and one of our insurance carriershad reimbursed us $374,000 as of March 31, 2005, of which $170,000 was receivedduring the nine months ended March 31, 2005. Amounts recovered from ourinsurance carriers are generally offset against other related legal expenses inthe period in which they

 

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are recovered. However, amounts recovered from our insurance carriersare generally included in other income to the extent that such recovery exceedslegal expenses for related matters incurred in the period in which the recoveryis received. For the nine months ended March 31, 2005, we offset $82,000 inrelated legal expenses and recorded $88,000 in other income with respect toreimbursements received during the nine-month period.

 

As previously reported, we retained legal counsel to possibly pursueclaims against our former auditors in connection with damages suffered as aresult of the restatements of our financial statements for the fiscal yearsended June 30, 1999 and 1998 and the corrections of material financialinformation for the quarterly periods of the fiscal years ended June 30, 2000,1999 and 1998. Further, counsel to the former auditors has advised us that theformer auditors may bring certain claims against us. We believe that the claimsthreatened by the former auditors relate to allegations of unpaid fees. Eachparty continues to deny any liability to the other party. Neither the Companynor the former auditors have yet filed any legal action to assert any of theseclaims. The parties have scheduled a non-binding mediation session before aneutral party in July 2005.

 

We are subject to various other legal proceedings and claims whicharise in the ordinary course of business. Based upon information that iscurrently available, we do not believe that the total impact of the other legalproceedings will materially affect our financial position or the results of ouroperations.

 

### **ITEM 4**         SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS

 

Sport-Haley, Inc. held its annual meeting ofshareholders on April 8, 2005. The following matters were considered andapproved by the shareholders:

 

A.           The following four directors were elected tohold office for one-year terms or until their successors are elected andqualified:

 
| ** **        | ** ** | **Votes  For** | ** ** | **Votes  Against  or Withheld** | ** ** | **Total  Voted** | ** ** |
|-------------------|------------|----------------|------------|---------------------------------|------------|------------------|------------|
|              |       |           |       |                            |       |             |       |
| Ronald J. Norick  |       | 1,951,311      |       | 520,512                         |       | 2,471,823        |       |
| James R. TenBrook |       | 1,951,311      |       | 520,512                         |       | 2,471,823        |       |
| Mark J. Stevenson |       | 1,951,011      |       | 520,812                         |       | 2,471,823        |       |
| James H. Everest  |       | 1,951,311      |       | 520,512                         |       | 2,471,823        |       |

 

B.             To ratify appointment of Hein &Associates LLP as the independent certified public accountants for Sport Haley:

 
| Votes For        |   | 2,283,695 |   |   |   |   |   |
|------------------|--------|-----------|--------|--------|--------|--------|--------|
| Votes Against    |   | 187,718   |   |   |   |   |   |
| Votes Abstaining |   | 410       |   |   |   |   |   |
| Total Voted      |   | 2,471,823 |   |   |   |   |   |

 

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### **ITEM 5**         OTHER INFORMATION

 

InApril 2005, Donald W. Jewell, Interim Chief Executive Officer and Senior VicePresident, accepted the appointment by the Board of Directors to serve asPresident. Mr. Jewell’s duties as President are not expected to differmaterially from his duties as Interim Chief Executive Officer. Mr. Jewell willserve as President for a term consistent with that of his service as InterimChief Executive Officer. He will not receive any additional compensation forserving as President.

 

### **ITEM 6**         EXHIBITS

 

Exhibit 31.1 – Certification of Donald W. Jewell pursuant to ExchangeAct Rule 13a-14(a)/15d-14(a)

 

Exhibit 31.2 – Certification of Patrick W. Hurley pursuant to ExchangeAct Rule 13a-14(a)/15d-14(a)

 

Exhibit 32.1 – Certifications of Donald W. Jewell and Patrick W. Hurleypursuant to 18 U.S.C. §1350, as adopted pursuant to Section 906 of theSarbanes-Oxley Act of 2002

#### ** **

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**SPORT-HALEY, INC.**

**SIGNATURES**

 

In accordance with the requirements of the Securities Exchange Act of1934, the Registrant caused this report to be signed on its behalf by theundersigned thereunto duly authorized.

 

 
| ** ** | ** **   | **SPORT-HALEY, INC.**                          |
|------------|--------------|------------------------------------------------|
|       |         | (Registrant)                                   |
|       |         |                                           |
|       |         |                                           |
| Date:      | May 20, 2005 | /s/ PATRICK W. HURLEY                          |
|       |         | Patrick W. Hurley                              |
|       |         | Chief Financial Officer                        |
| * *   | * *     | *(Principal Financial and Accounting Officer)* |

 

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