##### Table of Contents



UNITED STATES
SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549




---

FORM 10-Q/A

(Amendment No. 1)


|           |  |                                                                                        
|---------- |  | ---------------------------------------------------------------------------------------
|(Mark One)
|           |  |                                                                                        
|(x)        |  | Quarterly Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934

For the Quarterly Period Ended January 31, 2003

or

|     |  |                                                                                         
|---- |  | ----------------------------------------------------------------------------------------
|(  ) |  | Transition Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934

For the Transition Period
from                  to

Commission File Number
333-54035

MTS, INCORPORATED


(Exact name of registrant as specified in its charter)


|                                                                          |  |                                                
|------------------------------------------------------------------------- |  | -----------------------------------------------
|California
(State or other jurisdiction of
incorporation or organization) |  | 94-1500342
(I.R.S. Employer
Identification No.)

2500 Del Monte Street, West Sacramento, CA 95691
(Address of principal executive office)

916-373-2500
(Registrants telephone number, including area code)

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

Indicate by check mark whether the registrant is an accelerated filer (as
defined in Rule 12b-2 of the exchange act).   Yes  (  ) No   (x)

Shares outstanding of the Registrants common stock:

|                                         |  |                                             
|---------------------------------------- |  | --------------------------------------------
|Class
Class B Common Stock, no par value |  | Outstanding at January 31, 2003
1,000 shares





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TABLE OF CONTENTS



|                                         |                                                                                               |                                                                                                                                               |  |  |  |  |  | 
|---------------------------------------- | --------------------------------------------------------------------------------------------- | --------------------------------------------------------------------------------------------------------------------------------------------- |  |  |  |  |  | 
|PART IFINANCIAL INFORMATION            
|                                         | Item 1. Consolidated Financial Statements                                                    
|                                         |                                                                                               | CONSOLIDATED BALANCE SHEETS AS OF JANUARY 31, 2003, 2002 AND JULY 31, 2002                                                                   
|                                         |                                                                                               | CONSOLIDATED STATEMENTS OF OPERATIONS FOR THE THREE MONTHS ENDED JANUARY 31, 2003 AND 2002 AND THE SIX MONTHS ENDED JANUARY 31, 2003 AND 2002
|                                         |                                                                                               | CONSOLIDATED STATEMENTS OF CASH FLOWS FOR THE SIX MONTHS ENDED JANUARY 31, 2003 AND 2002                                                     
|                                         |                                                                                               | CONSOLIDATED STATEMENTS OF COMPREHENSIVE LOSS FOR THE SIX MONTHS ENDED JANUARY 31, 2003 AND 2002                                             
|                                         |                                                                                               | NOTES TO CONSOLIDATED FINANCIAL STATEMENTS                                                                                                   
|                                         | Item 2. Managements Discussion and Analysis of Financial Condition and Results of Operations
|                                         | Item 3. Quantitative and Qualitative Disclosures About Market Risk                           
|                                         | Item 4. Controls and Procedures                                                              
|PART II  OTHER INFORMATION             
|                                         | ITEM 1. LEGAL PROCEEDINGS                                                                    
|                                         | ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K                                                     
|SIGNATURES                              
|CERTIFICATION OF CHIEF EXECUTIVE OFFICER
|CERTIFICATION OF CHIEF FINANCIAL OFFICER
|INDEX OF EXHIBITS                       



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##### Table of Contents



MTS, INCORPORATED
TABLE OF CONTENTS

|                                         |                                                                                               |                                                                                                                                                           |    |       |      | 
|---------------------------------------- | --------------------------------------------------------------------------------------------- | --------------------------------------------------------------------------------------------------------------------------------------------------------- | -- | ----- | ---- | 
|                                         |                                                                                               |                                                                                                                                                           |    | Page 
|Part I. Financial Information            |                                                                                               |                                                                                                                                                           | 4  |      
|                                         | Item 1. Consolidated Financial Statements                                                     |                                                                                                                                                           |    | 4     |     
|                                         |                                                                                               | Consolidated Balance Sheets (unaudited) as of January 31, 2003, 2002 and July 31, 2002 )                                                                  |    |       | 4    | 
|                                         |                                                                                               | Consolidated Statements of Operations (unaudited) for the three months ended January 31,
2003 and 2002 and the six months ended January 31, 2003 and 2002 |    |       | 5    | 
|                                         |                                                                                               | Consolidated Statements of Cash Flows (unaudited) for the six months ended January 31,
2003 and 2002                                                      |    |       | 6    | 
|                                         |                                                                                               | Consolidated Statements of Comprehensive Loss (unaudited) for the six months ended
January 31, 2003 and 2002                                              |    |       | 7    | 
|                                         |                                                                                               | Notes to Consolidated Financial Statements (unaudited)                                                                                                    |    |       | 8-15 | 
|                                         | Item 2. Managements Discussion and Analysis of Financial Condition and Results of Operations |                                                                                                                                                           |    | 16-26 |     
|                                         | Item 3. Quantitative and Qualitative Disclosures about Market Risk                            |                                                                                                                                                           |    | 27    |     
|                                         | Item 4. Controls and Procedures                                                               |                                                                                                                                                           |    | 28    |     
|Part II. Other Information               |                                                                                               |                                                                                                                                                           |    |      
|                                         | Item 1. Legal Proceedings                                                                     |                                                                                                                                                           |    | 29    |     
|                                         | Item 6. Exhibits and Reports on Form 8-K                                                      |                                                                                                                                                           |    | 29    |     
|Signatures                               |                                                                                               |                                                                                                                                                           | 30 |      
|Certification
of Chief Executive Officer |                                                                                               |                                                                                                                                                           | 31 |      
|Certification
of Chief Financial Officer |                                                                                               |                                                                                                                                                           | 32 |      
|Index of Exhibits                        |                                                                                               |                                                                                                                                                           | 33 |      

2



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Explanatory Note

The purpose of this Amendment No. 1 to Quarterly Report on Form 10-Q is to
restate the unaudited consolidated financial statements of MTS,
Incorporated and its subsidiaries (the Company) for the three months
ended January 31, 2003 to reflect an adjustment related to the disposal of
the Companys Japanese subsidiary (see Note 1 to the consolidated financial
statements).

This Amendment No. 1 to Quarterly Report on Form 10-Q does not reflect
events occurring after the April 1, 2003 filing of the Companys Quarterly
Report on Form 10-Q for the three months ended January 31, 2003, or modify
or update those disclosures as set forth in that Quarterly Report on Form
10-Q in any way, except to reflect the effect of the restatement as
described above.

The items of the Companys Quarterly Report on Form 10-Q for the three
months ended January 31, 2003, which are amended and restated herein, are:



|1. |  | Part I, Item 1  Consolidated Financial Statements, have been restated.                                                   
|-- |  | --------------------------------------------------------------------------------------------------------------------------
|  
|2. |  | Part I, Item 2 - Managements Discussion and Analysis of Financial
Condition and Results of Operations, have been revised.
|  
|3. |  | The certifications required by Section 302 of the Sarbanes-Oxley Act of
2002 have been refiled.                           

The remaining Items contained within this Amendment No. 1 to the Companys
Quarterly Report on Form 10-Q consist of all other Items originally
contained in the Companys Quarterly Report on Form 10-Q for the three
months ended January 31, 2003 in the form filed with the Commission on
April 1, 2003. These remaining Items are not amended hereby, but are
included for the convenience of the reader. In order to preserve the
nature and character of the disclosures set forth in such Items as
originally filed, except as expressly noted herein, this report contains
disclosures as of the date of the original filing, and the Company has not
updated the disclosures in this report to reflect events subsequent to the
original filing date, April 1, 2003. While this report primarily relates
to the historical periods covered, events may have taken place since the
original filing that might have been reflected in this report if they had
taken place prior to the original filing date. All information contained
in this Amendment No. 1 to Quarterly Report on Form 10-Q may be updated or
supplemented by disclosures contained in the Companys reports filed with
the Commission subsequent to the date of the original filing of the
Quarterly Report on Form 10-Q, including but not limited to the Companys
Quarterly Report on Form 10-Q for the three months ended April 30, 2003.

3



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##### Table of Contents






PART IFINANCIAL INFORMATION




Item 1. Consolidated Financial Statements

MTS, INCORPORATED




CONSOLIDATED BALANCE SHEETS
AS OF JANUARY 31, 2003, 2002 AND JULY 31, 2002
(DOLLARS IN THOUSANDS)
(UNAUDITED)


|                                  |  |                                                                                                                                                  |                                                      |                                                |         |               |         |             |         |          |         |   |         |         |   | 
|--------------------------------- |  | ------------------------------------------------------------------------------------------------------------------------------------------------ | ---------------------------------------------------- | ---------------------------------------------- | ------- | ------------- | ------- | ----------- | ------- | -------- | ------- | - | ------- | ------- | - | 
|                                  |  |                                                                                                                                                  |                                                      |                                                |         | JANUARY 31,   |         | JANUARY 31, |         | JULY 31,
|                                  |  |                                                                                                                                                  |                                                      |                                                |         | 2003          |         | 2002        |         | 2002    
|                                  |  |                                                                                                                                                  |                                                      |                                                |         |               |         |             |         |         
|                                  |  |                                                                                                                                                  |                                                      |                                                |         | (AS RESTATED, |         |             |         |          |         |   |         |        
|                                  |  |                                                                                                                                                  |                                                      |                                                |         | SEE NOTE 1)   |         |             |         |          |         |   |         |        
|                                  |  |                                                                                                                                                  |                                                      | Assets                                         |         |               |         |             |         |          |         |   |         |         |   | 
|Current assets:                   |  |                                                                                                                                                  |                                                      |                                                |         |               |         |             |         |          |         |  
|                                  |  | Cash and cash equivalents                                                                                                                        |                                                      | $                                              | 8,409   |               |         | $           | 9,058   |          |         | $ | 7,477   |        
|                                  |  | Receivables, net                                                                                                                                 |                                                      |                                                | 6,098   |               |         |             | 22,545  |          |         |   | 21,710  |        
|                                  |  | Merchandising inventories                                                                                                                        |                                                      |                                                | 159,571 |               |         |             | 166,854 |          |         |   | 167,609 |        
|                                  |  | Prepaid expenses                                                                                                                                 |                                                      |                                                | 8,330   |               |         |             | 5,421   |          |         |   | 8,055   |        
|                                  |  |                                                                                                                                                  |                                                      |                                                |         |               |         |             |         |          |         |   |         |        
|                                  |  |                                                                                                                                                  | Total current assets                                 |                                                |         | 182,408       |         |             |         | 203,878  |         |   |         | 204,851 |  
|Fixed assets, net                 |  |                                                                                                                                                  | 101,822                                              |                                                |         |               | 135,964 |             |         |          | 114,894 |  
|Other assets                      |  |                                                                                                                                                  | 13,768                                               |                                                |         |               | 14,761  |             |         |          | 13,210  |  
|Assets of discontinued operations |  |                                                                                                                                                  |                                                     |                                                |         |               | 127,920 |             |         |          | 145,049 |  
|                                  |  |                                                                                                                                                  |                                                      |                                                |         |               |         |             |         |          |         |   |         |        
|                                  |  |                                                                                                                                                  | Total assets                                         |                                                | $       | 297,998       |         |             | $       | 482,523  |         |   | $       | 478,004 |  
|                                  |  |                                                                                                                                                  |                                                      |                                                |         |               |         |             |         |          |         |   |         |        
|                                  |  |                                                                                                                                                  |                                                      | Liabilities and Shareholders (Deficit) Equity |         |               |         |             |         |          |         |   |         |         |   | 
|Current liabilities:              |  |                                                                                                                                                  |                                                      |                                                |         |               |         |             |         |          |         |  
|                                  |  | Current maturities of long-term debt                                                                                                             |                                                      | $                                              | 3,248   |               |         | $           | 51,846  |          |         | $ | 82,776  |        
|                                  |  | Accounts payable                                                                                                                                 |                                                      |                                                | 121,081 |               |         |             | 125,138 |          |         |   | 112,904 |        
|                                  |  | Reserve for restructuring costs                                                                                                                  |                                                      |                                                | 16,786  |               |         |             | 274     |          |         |   | 6,839   |        
|                                  |  | Accrued liabilities                                                                                                                              |                                                      |                                                | 33,590  |               |         |             | 31,221  |          |         |   | 28,664  |        
|                                  |  | Deferred revenue, current portion                                                                                                                |                                                      |                                                | 6,559   |               |         |             | 7,465   |          |         |   | 2,286   |        
|                                  |  |                                                                                                                                                  |                                                      |                                                |         |               |         |             |         |          |         |   |         |        
|                                  |  |                                                                                                                                                  | Total current liabilities                            |                                                |         | 181,264       |         |             |         | 215,944  |         |   |         | 233,469 |  
|                                  |  | Long-term debt, less current maturities                                                                                                          |                                                      |                                                | 176,609 |               |         |             | 116,641 |          |         |   | 115,771 |        
|                                  |  | Deferred revenue, less current portion                                                                                                           |                                                      |                                                | 112     |               |         |             | 125     |          |         |   | 118     |        
|                                  |  | Liabilities of discontinued operations                                                                                                           |                                                      |                                                |        |               |         |             | 148,195 |          |         |   | 169,433 |        
|                                  |  |                                                                                                                                                  |                                                      |                                                |         |               |         |             |         |          |         |   |         |        
|                                  |  |                                                                                                                                                  | Total liabilities                                    |                                                |         | 357,985       |         |             |         | 480,905  |         |   |         | 518,791 |  
|                                  |  |                                                                                                                                                  |                                                      |                                                |         |               |         |             |         |          |         |   |         |        
|Shareholders (deficit) equity:   |  |                                                                                                                                                  |                                                      |                                                |         |               |         |             |         |          |         |  
|                                  |  | Class B common stock, no par value; 10,000,000 shares
authorized;1,000 shares issued and outstanding at
January 31, 2003, 2002 and July 31, 2002 |                                                      |                                                | 6       |               |         |             | 6       |          |         |   | 6       |        
|                                  |  | Retained (deficit) earnings                                                                                                                      |                                                      |                                                | (47,334 | )             |         |             | 15,203  |          |         |   | (21,355 | )      
|                                  |  | Accumulated other comprehensive loss                                                                                                             |                                                      |                                                | (12,659 | )             |         |             | (13,591 | )        |         |   | (19,438 | )      
|                                  |  |                                                                                                                                                  |                                                      |                                                |         |               |         |             |         |          |         |   |         |        
|                                  |  |                                                                                                                                                  | Total shareholders (deficit) equity                 |                                                |         | (59,987       | )       |             |         | 1,618    |         |   |         | (40,787 | )
|                                  |  |                                                                                                                                                  |                                                      |                                                |         |               |         |             |         |          |         |   |         |        
|                                  |  |                                                                                                                                                  | Total liabilities and shareholders (deficit) equity |                                                | $       | 297,998       |         |             | $       | 482,523  |         |   | $       | 478,004 |  
|                                  |  |                                                                                                                                                  |                                                      |                                                |         |               |         |             |         |          |         |   |         |        

See accompanying notes to consolidated financial statements

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MTS, INCORPORATED




CONSOLIDATED STATEMENTS OF OPERATIONS
FOR THE THREE MONTHS ENDED JANUARY 31, 2003 AND 2002
AND THE SIX MONTHS ENDED JANUARY 31, 2003 AND 2002
(DOLLARS IN THOUSANDS)
(UNAUDITED)


|                                                 |                                          |   |                                                                                                                                                                                               |        |                    |         |                  |        |      |         |               |         |   |         |         |         |   |         |  
|------------------------------------------------ | ---------------------------------------- | - | --------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------- | ------ | ------------------ | ------- | ---------------- | ------ | ---- | ------- | ------------- | ------- | - | ------- | ------- | ------- | - | ------- | -
|                                                 |                                          |   |                                                                                                                                                                                               |        | THREE MONTHS ENDED |         | SIX MONTHS ENDED
|                                                 |                                          |   |                                                                                                                                                                                               |        | JANUARY 31,        |         | JANUARY 31,     
|                                                 |                                          |   |                                                                                                                                                                                               |        |                    |         |                 
|                                                 |                                          |   |                                                                                                                                                                                               |        | 2003               |         | 2002             |        | 2003 |         | 2002         
|                                                 |                                          |   |                                                                                                                                                                                               |        |                    |         |                  |        |      |         |              
|                                                 |                                          |   |                                                                                                                                                                                               |        | (AS RESTATED,      |         |                  |        |      |         | (AS RESTATED, |         |   |         |        
|                                                 |                                          |   |                                                                                                                                                                                               |        | SEE NOTE 1)        |         |                  |        |      |         | SEE NOTE 1)   |         |   |         |        
|Net revenue                                      |                                          | $ | 176,789                                                                                                                                                                                       |        |                    | $       | 194,310          |        |      | $       | 306,911       |         |   | $       | 334,430 |        
|Cost of sales (a) (b)                            |                                          |   | 127,907                                                                                                                                                                                       |        |                    |         | 142,324          |        |      |         | 217,693       |         |   |         | 238,759 |        
|                                                 |                                          |   |                                                                                                                                                                                               |        |                    |         |                  |        |      |         |               |         |   |         |         |        
|                                                 |                                          |   | Gross profit                                                                                                                                                                                  |        |                    | 48,882  |                  |        |      | 51,986  |               |         |   | 89,218  |         |         |   | 95,671  |  
|Operating expenses:                              |                                          |   |                                                                                                                                                                                               |        |                    |         |                  |        |      |         |               |         |   |         |         |        
|Selling, general and administrative expenses (c) |                                          |   | 44,259                                                                                                                                                                                        |        |                    |         | 49,926           |        |      |         | 87,514        |         |   |         | 94,098  |        
|Restructuring and asset impairment costs, net    |                                          |   | 20,071                                                                                                                                                                                        |        |                    |         | 719              |        |      |         | 23,981        |         |   |         | 802     |        
|Depreciation and amortization                    |                                          |   | 5,256                                                                                                                                                                                         |        |                    |         | 5,709            |        |      |         | 10,584        |         |   |         | 11,442  |        
|                                                 |                                          |   |                                                                                                                                                                                               |        |                    |         |                  |        |      |         |               |         |   |         |         |        
|                                                 |                                          |   | Loss from operations                                                                                                                                                                          |        |                    | (20,704 | )                |        |      | (4,368  | )             |         |   | (32,861 | )       |         |   | (10,671 | )
|Other income and (expense):                      |                                          |   |                                                                                                                                                                                               |        |                    |         |                  |        |      |         |               |         |   |         |         |        
|                                                 | Interest expense                         |   |                                                                                                                                                                                               | (5,309 | )                  |         |                  | (6,214 | )    |         |               | (11,157 | ) |         |         | (12,357 | )
|                                                 | Foreign currency translation gain (loss) |   |                                                                                                                                                                                               | 2,031  |                    |         |                  | (785   | )    |         |               | 2,059   |   |         |         | (1,086  | )
|                                                 | Other                                    |   |                                                                                                                                                                                               | (844   | )                  |         |                  | (818   | )    |         |               | (1,172  | ) |         |         | (848    | )
|                                                 |                                          |   |                                                                                                                                                                                               |        |                    |         |                  |        |      |         |               |         |   |         |         |        
|                                                 |                                          |   | Loss from continuing operations before taxes                                                                                                                                                  |        |                    | (24,826 | )                |        |      | (12,185 | )             |         |   | (43,131 | )       |         |   | (24,962 | )
|Provision for income taxes                       |                                          |   | 29                                                                                                                                                                                            |        |                    |         | 123              |        |      |         | 76            |         |   |         | 254     |        
|                                                 |                                          |   |                                                                                                                                                                                               |        |                    |         |                  |        |      |         |               |         |   |         |         |        
|                                                 |                                          |   | Loss from continuing operations                                                                                                                                                               |        |                    | (24,855 | )                |        |      | (12,308 | )             |         |   | (43,207 | )       |         |   | (25,216 | )
|Discontinued operations (Note 3):                |                                          |   |                                                                                                                                                                                               |        |                    |         |                  |        |      |         |               |         |   |         |         |        
|                                                 |                                          |   | Income from operations of discontinued Japanese
subsidiary (including gain on disposal of
$15,847, net of U.S. income and foreign taxes of
$6,512, for the six months ended January 31, 2003) |        |                    |        |                  |        |      | 2,935   |               |         |   | 17,228  |         |         |   | 4,571   |  
|                                                 |                                          |   |                                                                                                                                                                                               |        |                    |         |                  |        |      |         |               |         |   |         |         |        
|                                                 |                                          |   | Net loss                                                                                                                                                                                      |        | $                  | (24,855 | )                |        | $    | (9,373  | )             |         | $ | (25,979 | )       |         | $ | (20,645 | )
|                                                 |                                          |   |                                                                                                                                                                                               |        |                    |         |                  |        |      |         |               |         |   |         |         |        



|(a) |  | Includes $2.0 million and $9.7 million of inventory write-downs
related to restructuring efforts for the three months ended January 31,
2003 and 2002, respectively; and $2.0 million and $11.2 million for the
six months ended January 31, 2003 and 2002, respectively.                                                      
|--- |  | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|   
|(b) |  | Excludes depreciation and amortization related to retail and
distribution assets of $3.3 and $3.9 million for the three months ended
January 31, 2003 and 2002, respectively, and $6.7 and $7.6 million for
the six months ended January 31, 2003 and 2002, respectively, which
have been included below in operating expenses.
|   
|(c) |  | Includes $0.7 million and $1.3 million in professional fees related
to restructuring efforts for the three months ended January 31, 2003 and
2002, respectively; and $1.5 million and $2.7 million for the six months
ended January 31, 2003 and 2002, respectively.                                                           

See accompanying notes to consolidated financial statements.

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MTS, INCORPORATED




CONSOLIDATED STATEMENTS OF CASH FLOWS
FOR THE SIX MONTHS ENDED JANUARY 31, 2003 AND 2002
(DOLLARS IN THOUSANDS)
(UNAUDITED)


|                                                             |                                                                                           |                                                                                                                                |                                 |                                                     |         |                  |          |         |        |        |        |  
|------------------------------------------------------------ | ----------------------------------------------------------------------------------------- | ------------------------------------------------------------------------------------------------------------------------------ | ------------------------------- | --------------------------------------------------- | ------- | ---------------- | -------- | ------- | ------ | ------ | ------ | -
|                                                             |                                                                                           |                                                                                                                                |                                 |                                                     |         | SIX MONTHS ENDED
|                                                             |                                                                                           |                                                                                                                                |                                 |                                                     |         | JANUARY 31,     
|                                                             |                                                                                           |                                                                                                                                |                                 |                                                     |         | 2003             |          | 2002   
|                                                             |                                                                                           |                                                                                                                                |                                 |                                                     |         |                  |          |        
|                                                             |                                                                                           |                                                                                                                                |                                 |                                                     |         | (AS RESTATED,    |          |         |        |       
|                                                             |                                                                                           |                                                                                                                                |                                 |                                                     |         | SEE NOTE 1)      |          |         |        |       
|Cash flows from operating activities:                        |                                                                                           |                                                                                                                                |                                 |                                                     |         |                  |          |        
|                                                             | Net loss                                                                                  |                                                                                                                                | $                               | (25,979                                             | )       |                  | $        | (20,645 | )     
|                                                             | Adjustments to reconcile net loss to net cash provided by (used
in) operating activities: |                                                                                                                                |                                 |                                                     |         |                  |          |         |       
|                                                             |                                                                                           | Income from discontinued operations, net of tax                                                                                |                                 |                                                     | (17,228 | )                |          |         | (4,571 | )     
|                                                             |                                                                                           | Depreciation and amortization                                                                                                  |                                 |                                                     | 11,137  |                  |          |         | 12,047 |       
|                                                             |                                                                                           | Restructuring and asset impairment costs, net                                                                                  |                                 |                                                     | 23,981  |                  |          |         | 802    |       
|                                                             |                                                                                           | Allowance for doubtful accounts                                                                                                |                                 |                                                     | (178    | )                |          |         | 2      |       
|                                                             |                                                                                           | Inventory write-downs due to restructuring                                                                                     |                                 |                                                     | 1,965   |                  |          |         | 11,156 |       
|                                                             |                                                                                           | Loss on disposal of depreciable assets                                                                                         |                                 |                                                     | 312     |                  |          |         | 436    |       
|                                                             |                                                                                           | Foreign exchange loss (gain)                                                                                                   |                                 |                                                     | 2,039   |                  |          |         | (957   | )     
|                                                             |                                                                                           | Other non-cash expense                                                                                                         |                                 |                                                     | 217     |                  |          |         | 268    |       
|                                                             |                                                                                           | Increase (decrease) in cash resulting from changes in operating
assets and liabilities, net of effect from
sale of subsidiary: |                                 |                                                     |         |                  |          |         |        |       
|                                                             |                                                                                           |                                                                                                                                | Receivables                     |                                                     |         | 9,697            |          |         |        | 3,402  |       
|                                                             |                                                                                           |                                                                                                                                | Merchandising inventories       |                                                     |         | 6,073            |          |         |        | 4,683  |       
|                                                             |                                                                                           |                                                                                                                                | Prepaid expenses                |                                                     |         | (275             | )        |         |        | (303   | )     
|                                                             |                                                                                           |                                                                                                                                | Accounts payable                |                                                     |         | 8,177            |          |         |        | 5,268  |       
|                                                             |                                                                                           |                                                                                                                                | Reserve for restructuring costs |                                                     |         | (4,063           | )        |         |        | (2,254 | )     
|                                                             |                                                                                           |                                                                                                                                | Accrued liabilities             |                                                     |         | 4,926            |          |         |        | 1,332  |       
|                                                             |                                                                                           |                                                                                                                                | Deferred revenue                |                                                     |         | 4,267            |          |         |        | 4,770  |       
|                                                             |                                                                                           |                                                                                                                                |                                 |                                                     |         |                  |          |         |       
|                                                             |                                                                                           |                                                                                                                                |                                 | Net cash provided by operating activities           |         |                  | 25,068   |         |        |        | 15,436 |  
|                                                             |                                                                                           |                                                                                                                                |                                 |                                                     |         |                  |          |         |       
|Cash flows from investing activities:                        |                                                                                           |                                                                                                                                |                                 |                                                     |         |                  |          |        
|                                                             | Net proceeds from sale of Japanese subsidiary                                             |                                                                                                                                |                                 | 109,532                                             |         |                  |          |        |       
|                                                             | Acquisition of fixed assets                                                               |                                                                                                                                |                                 | (2,038                                              | )       |                  |          | (3,725  | )     
|                                                             | Acquisition of investments                                                                |                                                                                                                                |                                 | (175                                                | )       |                  |          | (983    | )     
|                                                             | Change in deposits, net                                                                   |                                                                                                                                |                                 | (478                                                | )       |                  |          | (443    | )     
|                                                             | Change in intangibles, net                                                                |                                                                                                                                |                                 | (99                                                 | )       |                  |          | (246    | )     
|                                                             |                                                                                           |                                                                                                                                |                                 |                                                     |         |                  |          |         |       
|                                                             |                                                                                           |                                                                                                                                |                                 | Net cash provided by (used in) investing activities |         |                  | 106,742  |         |        |        | (5,397 | )
|                                                             |                                                                                           |                                                                                                                                |                                 |                                                     |         |                  |          |         |       
|Cash flows from financing activities:                        |                                                                                           |                                                                                                                                |                                 |                                                     |         |                  |          |        
|                                                             | Proceeds from life insurance loans                                                        |                                                                                                                                |                                 |                                                    |         |                  |          | 3,526   |       
|                                                             | Proceeds from employee loan payments                                                      |                                                                                                                                |                                 | 3                                                   |         |                  |          | 107     |       
|                                                             | Change in debt issuance costs, net                                                        |                                                                                                                                |                                 | (4,674                                              | )       |                  |          | (994    | )     
|                                                             | Net proceeds from long-term line of credit                                                |                                                                                                                                |                                 | 37,506                                              |         |                  |          |        |       
|                                                             | Repayments on other long-term debt                                                        |                                                                                                                                |                                 | (172,655                                            | )       |                  |          | (51,925 | )     
|                                                             | Proceeds from other long-term debt                                                        |                                                                                                                                |                                 | 7,600                                               |         |                  |          | 40,000  |       
|                                                             |                                                                                           |                                                                                                                                |                                 |                                                     |         |                  |          |         |       
|                                                             |                                                                                           |                                                                                                                                |                                 | Net cash used in financing activities               |         |                  | (132,220 | )       |        |        | (9,286 | )
|                                                             |                                                                                           |                                                                                                                                |                                 |                                                     |         |                  |          |         |       
|Net cash and cash equivalents from discontinued operations   |                                                                                           |                                                                                                                                | 157                             |                                                     |         |                  | (6,834   | )      
|Effect of exchange rate changes on cash and cash equivalents |                                                                                           |                                                                                                                                | 1,185                           |                                                     |         |                  | 4,495    |        
|                                                             |                                                                                           |                                                                                                                                |                                 |                                                     |         |                  |          |         |       
|                                                             |                                                                                           |                                                                                                                                |                                 | Net decrease in cash and cash equivalents           |         |                  | 932      |         |        |        | (1,586 | )
|Cash and cash equivalents, beginning of period               |                                                                                           |                                                                                                                                | 7,477                           |                                                     |         |                  | 10,644   |        
|                                                             |                                                                                           |                                                                                                                                |                                 |                                                     |         |                  |          |         |       
|Cash and cash equivalents, end of period                     |                                                                                           | $                                                                                                                              | 8,409                           |                                                     |         | $                | 9,058    |        
|                                                             |                                                                                           |                                                                                                                                |                                 |                                                     |         |                  |          |         |       
|Cash paid for interest                                       |                                                                                           | $                                                                                                                              | 11,460                          |                                                     |         | $                | 12,504   |        
|                                                             |                                                                                           |                                                                                                                                |                                 |                                                     |         |                  |          |         |       
|Cash paid for income taxes                                   |                                                                                           | $                                                                                                                              | 4,504                           |                                                     |         | $                | 37       |        
|                                                             |                                                                                           |                                                                                                                                |                                 |                                                     |         |                  |          |         |       

See accompanying notes to consolidated financial statements.

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MTS, INCORPORATED




CONSOLIDATED STATEMENTS OF COMPREHENSIVE LOSS
FOR THE SIX MONTHS ENDED JANUARY 31, 2003 AND 2002
(DOLLARS IN THOUSANDS)
(UNAUDITED)


|                                        |                                                                              |                            |         |                  |       |      |         |     |     | 
|--------------------------------------- | ---------------------------------------------------------------------------- | -------------------------- | ------- | ---------------- | ----- | ---- | ------- | --- | --- | 
|                                        |                                                                              |                            |         | SIX MONTHS ENDED
|                                        |                                                                              |                            |         | JANUARY 31,     
|                                        |                                                                              |                            |         | 2003             |       | 2002
|                                        |                                                                              |                            |         |                  |       |     
|                                        |                                                                              |                            |         | (AS RESTATED,    |       |      |         |    
|                                        |                                                                              |                            |         | SEE NOTE 1)      |       |      |         |    
|Net loss                                |                                                                              | $                          | (25,979 | )                |       | $    | (20,645 | )  
|                                        |                                                                              |                            |         |                  |       |      |         |    
|Other comprehensive income, net of tax: |                                                                              |                            |         |                  |       |      |         |    
|                                        | Reclassification adjustment to net loss from
the sale of Japanese subsidiary |                            |         | 9,029            |       |      |         |    |    
|                                        | Foreign currency translation                                                 |                            |         | (2,250           | )     |      |         | 874 |    
|                                        |                                                                              |                            |         |                  |       |      |         |    
|                                        |                                                                              | Other comprehensive income |         |                  | 6,779 |      |         |     | 874 | 
|                                        |                                                                              |                            |         |                  |       |      |         |    
|Comprehensive loss                      |                                                                              | $                          | (19,200 | )                |       | $    | (19,771 | )  
|                                        |                                                                              |                            |         |                  |       |      |         |    

See accompanying notes to consolidated financial statements.

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MTS, INCORPORATED




NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)


NOTE 1- RESTATEMENT

As part of the review and preparation of its Quarterly Report on Form 10-Q for
the three months ended January 31, 2003, MTS, Incorporated and its subsidiaries
(the Company) identified an adjustment related to the disposal of the
Companys Japanese subsidiary in October 2002. The gain on the sale of the
Companys Japanese subsidiary was originally reported as $36.0 million, net of
tax, in the Companys Quarterly Report on Form 10Q for the three months ended
October 31, 2002, as filed on December 16, 2002. However, the Company has
determined that the gain should have been $15.8 million, net of tax, after
reclassification of the Japanese subsidiarys accumulated other comprehensive
loss. This restatement has also been reflected in the Companys Amendment No. 2
to Quarterly Report on Form 10Q for the three months ended October 31, 2002.

The effects of the restatement on the unaudited consolidated statements of
operations and other comprehensive loss for the six months ended January 31,
2003 are presented below (dollars in thousands):

|                                 |                                                            |  |                                   |        |          |  |   |         |  
|-------------------------------- | ---------------------------------------------------------- |  | --------------------------------- | ------ | -------- |  | - | ------- | -
|                                 |                                                            |  | Six Months Ended January 31, 2003
|                                 |                                                            |  |                                  
|                                 |                                                            |  | As                                |        |          |  |  
|                                 |                                                            |  | Previously                        |        | As      
|                                 |                                                            |  | Reported*                         |        | Restated
|                                 |                                                            |  |                                   |        |         
|Statement of Operations:         |                                                            |  |                                   |        |          |  |   |        
|                                 | Income from operations of discontinued
Japanese subsidiary |  | $                                 | 37,400 |          |  | $ | 17,228  |  
|                                 | Net loss                                                   |  |                                   | (5,807 | )        |  |   | (25,979 | )
|Statement of Comprehensive Loss: |                                                            |  |                                   |        |          |  |   |        
|                                 | Net loss                                                   |  |                                   | (5,807 | )        |  |   | (25,979 | )
|                                 | Comprehensive income                                       |  |                                   | 972    |          |  |   | (19,200 | )

*As previously reported in the Companys Quarterly Report on Form 10-Q for the
three months ended January 31, 2003, filed on April 1, 2003.

NOTE 2- BASIS OF PRESENTATION

The unaudited consolidated financial statements include the accounts of MTS,
Incorporated and its majority and wholly owned subsidiaries (the Company).
In the opinion of the Companys management, the accompanying unaudited
consolidated financial statements contain all adjustments (consisting of only
normal recurring adjustments) necessary to present fairly its consolidated
financial position, the consolidated results of its operations and the
consolidated cash flows for each of the periods presented. The consolidated
results of operations for the interim periods are not necessarily indicative of
the results of operations to be expected for the full year or any future
period.

The significant accounting policies and certain financial information that are
normally included in financial statements prepared in accordance with
accounting principles generally accepted in the United States of America, but
which are not required for interim reporting purposes, have

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been omitted. The accompanying unaudited consolidated financial statements
should be read in conjunction with the Companys Annual Report on Form 10-K for
the fiscal year ended July 31, 2002.

Certain reclassifications have been made to conform prior periods financial
statements to the current periods presentation.

NOTE 3  DISCONTINUED OPERATIONS

On October 11, 2002, the Company completed the sale of its Japanese subsidiary,
Tower Records Kabushiki Kaisha (TRKK), to Nikko Principal Investments Japan,
Ltd. The Company sold all authorized and issued capital stock of TRKK for an
aggregate purchase price of 16 billion Japanese Yen, which was approximately
$129 million at then-current exchange rates. As discussed in Note 7, net
proceeds were used to pay down the Credit Facility (as defined in Note 7). The
Company recorded a $15.8 million gain, net of $6.5 million in U.S. income and
foreign taxes, from the sale of TRKK, which is included in income from
discontinued operations on the accompanying statement of operations for the six
months ended January 31, 2003. In accordance with the Statement of Financial
Accounting Standards (SFAS) No. 144, Accounting for the Impairment or
Disposal of Long-Lived Assets, TRKKs current year operating results have been
presented as discontinued operations. Additionally, all prior period
consolidated financial statements presented have been reclassified to present
TRKK as discontinued operations.

Net income from discontinued operations, excluding the gain on sale, is as
follows (dollars in thousands):

|              |            |   |                  |       |                  |   |         |       | 
|------------- | ---------- | - | ---------------- | ----- | ---------------- | - | ------- | ----- | 
|              |            |   | Six Months Ended |       | Six Months Ended
|              |            |   | January 31, 2003 |       | January 31, 2002
|              |            |   |                  |       |                 
|Total revenue |            | $ | 66,313           |       |                  | $ | 185,929 |      
|Total expense |            |   | 64,932           |       |                  |   | 181,358 |      
|              |            |   |                  |       |                  |   |         |      
|              | Net income |   | $                | 1,381 |                  |   | $       | 4,571 | 
|              |            |   |                  |       |                  |   |         |      

Assets and liabilities of discontinued operations primarily consist of the
following (dollars in thousands):

|             |                                          |                                        |   |                  |         |               |   |         |         | 
|------------ | ---------------------------------------- | -------------------------------------- | - | ---------------- | ------- | ------------- | - | ------- | ------- | 
|             |                                          |                                        |   | January 31, 2002 |         | July 31, 2002
|             |                                          |                                        |   |                  |         |              
|Assets:      |                                          |                                        |   |                  |         |               |   |        
|             | Cash and cash equivalents                |                                        | $ | 20,917           |         |               | $ | 29,876  |        
|             | Merchandising inventories                |                                        |   | 63,281           |         |               |   | 68,763  |        
|             | Fixed assets, net                        |                                        |   | 29,966           |         |               |   | 31,873  |        
|             | Other                                    |                                        |   | 13,756           |         |               |   | 14,537  |        
|             |                                          |                                        |   |                  |         |               |   |        
|             |                                          | Assets of discontinued operations      |   | $                | 127,920 |               |   | $       | 145,049 | 
|             |                                          |                                        |   |                  |         |               |   |        
|Liabilities: |                                          |                                        |   |                  |         |               |   |        
|             | Current maturities of long-term debt     |                                        | $ | 100,595          |         |               | $ | 113,007 |        
|             | Accounts payable and accrued liabilities |                                        |   | 36,520           |         |               |   | 39,918  |        
|             | Other                                    |                                        |   | 11,080           |         |               |   | 16,508  |        
|             |                                          |                                        |   |                  |         |               |   |        
|             |                                          | Liabilities of discontinued operations |   | $                | 148,195 |               |   | $       | 169,433 | 
|             |                                          |                                        |   |                  |         |               |   |        

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NOTE 4 - TRANSLATION OF FOREIGN CURRENCY

The value of the U.S. dollar rises and falls day-to-day on foreign currency
exchanges. Since the Company does business in several foreign countries, these
fluctuations affect the Companys financial position and results of operations.
In accordance with SFAS No. 52,Foreign Currency Translation, all foreign
assets and liabilities have been translated at the exchange rates prevailing at
the respective balance sheets dates, and all statement of operations items have
been translated using the weighted average exchange rates during the respective
periods. The net gain or loss resulting from translation upon consolidation
into the financial statements is included in accumulated other comprehensive
loss, which is reported as a separate component of shareholders equity. Some
transactions of the Company and its foreign subsidiaries are made in currencies
different from their functional currency. Translation gains and losses from
these transactions are included in the consolidated statement of operations as
they occur. The Company recorded a net transaction gain of approximately $2.1
million for the six months ended January 31, 2003 and a net translation loss of
approximately $1.1 million for the six months ended January 31, 2002. These
amounts primarily represent the volatility of currencies in foreign countries
in which the Company does business.

NOTE 5 - INCOME TAXES

The effective income tax rates for the six months ended January 31, 2003 and
2002 are based on the federal statutory income tax rate, increased for the
effect of state income taxes, net of federal benefit, and foreign taxes
resulting from the sale of TRKK. The Company has reserved all of its net
deferred tax assets at January 31, 2003 and 2002 and July 31, 2002 due to the
uncertainty of future utilization.

NOTE 6  RESTRUCTURING PLANS AND SUBSEQUENT EVENT

2001 RESTRUCTURING PLAN

During the third quarter of fiscal 2001, the Company commenced a business plan
and restructuring process and retained a consulting firm to assist the Company
in its efforts to improve its operations and financial performance. These
efforts produced a restructuring plan that was adopted by the Company in
February 2001 (the 2001 Restructuring Plan).

The 2001 Restructuring Plan contains several store-related initiatives designed
to improve the Companys profitability, including closing and liquidating most
stand-alone and combination bookstores; disposing of most of the Companys
foreign operations by direct sale, franchise or closure; closing
under-performing domestic record, outlet and frame/gallery stores; and
monitoring the performance of additional stores. The 2001 Restructuring Plan
also contains several operational initiatives designed to improve the Companys
cash flow position, including reducing corporate work force and overhead
expenses, reducing working capital requirements and reducing capital
expenditures until internally generated cash flow will support future needs.

FISCAL 2001 AND 2002 ACTIVITY

In fiscal 2001, the Company began efforts to dispose of its Argentina, Hong
Kong, Taiwan, Singapore and Canadian operations, close under-performing
domestic stores and make certain reductions in work force. As a result, the
Company recorded pre-tax restructuring and asset impairment charges of $23.3
million during the 12 months of fiscal year 2001, which included $1.6 million
of severance costs, $1.9 million of lease termination costs, $14.2 million of
non-

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cash asset impairment charges and $5.6 million of other closure costs. In
fiscal 2001, the Company also recorded $2.7 million of professional fees
incurred in connection with the 2001 Restructuring Plan in selling, general and
administrative expenses, and $20.7 million of inventory write-downs in cost of
sales. At July 31, 2001, the reserve for restructuring costs was $2.2 million,
which was comprised mainly of accruals for store closures and severance.

In the fourth quarter of fiscal 2002, the Company began efforts to dispose of
its United Kingdom and Ireland operations, close additional under-performing
domestic stores and further reduce the domestic corporate in work force. As a
result, the Company recorded pre-tax restructuring and asset impairment charges
of $21.8 million during the 12 months of fiscal year 2002, which included $2.9
million of severance costs, $4.7 million of lease termination costs, $13.6
million of non-cash asset impairment charges and $0.6 million of other closure
costs. In fiscal 2002, the Company also recorded $5.9 million of professional
fees incurred in connection with the 2001 Restructuring Plan in selling,
general and administrative expenses, and $14.2 million of inventory write-downs
in cost of sales. At July 31, 2002, the reserve for restructuring costs was
$6.8 million, which was comprised mainly of accruals for the closing of the
United Kingdom and Ireland operations and two domestic store closures.

SUBSEQUENT EVENT

In February 2003, the Company entered into a Leasing and Employee Transfer
Agreement with Virgin Retail Group Limited and Piccadilly Entertainment Store
Limited (collectively, Virgin). Under this agreement, the Company will assign
leases, sell store fixtures and transfer certain employees for two of the
Companys stores in the United Kingdom to Virgin in exchange for 1.5 million
British Sterling (approximately $2.5 million at the then-current exchange
rates) payable at the closing of the transaction. In addition, Virgin shall
obtain the non-exclusive right to use the business name of Tower Records for
the operation of these two stores for a period not to exceed one year from date
of closing. The Company anticipates that the assignment and transfer pursuant
to this agreement will be completed in April 2003.

2003 RESTRUCTURING PLAN

During the second quarter of the Companys 2003 fiscal year, the Company
commenced another restructure and turnaround plan and retained a consulting
firm to assist the Company in its efforts. These efforts produced a
restructuring plan that was adopted by the Company in December 2002 (the 2003
Restructuring Plan).

The 2003 Restructuring Plan contains several additional initiatives designed to
improve the Companys operations, including closing and liquidating 13
under-performing stores, selling its Mexico investment, making cost cutting
efforts focused on overhead reduction, right-sizing inventory with centralized
purchasing and automatic replenishment, and suspending the Pulse! magazine
publication. The 2003 Restructuring Plan also contains other cash flow
improvement initiatives, including sales and marketing, gross margin
enhancement, and inventory management. The Company began implementing its
restructuring plan shortly after its adoption and has since closed two of the
13 under-performing stores through January 31, 2003. The Company closed an
additional three stores in February 2003.

The Company expects to substantially complete implementation of the remainder
of the 2001 Restructuring Plan by the end of the third quarter of fiscal 2003,
and expects to substantially complete implementation of the 2003 Restructuring
Plan by the end of the second quarter of fiscal 2004.

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SECOND QUARTER FISCAL 2002 AND 2003 ACTIVITY

In the second quarter of fiscal 2003, the Company recorded restructuring and
asset impairment charges of $21.4 million under the 2003 Restructuring Plan and
decreased its estimated restructuring costs under the 2001 Restructuring Plan
by $1.3 million, which resulted in net pre-tax restructuring and asset
impairment charges of $20.1 million. The $21.4 million of restructuring and
asset impairment charges under the 2003 Restructuring Plan included
restructuring charges of $4.7 million for accrual of lease termination costs,
$5.7 million of involuntary termination benefits and $1.0 million of other
costs, which have been recorded in reserve for restructuring costs; and asset
impairment charges of $4.1 million for the write-down of fixed assets and
leasehold improvements in stores to be closed and $5.9 million for the disposal
of the Companys joint venture investment in Mexico. The involuntary
termination benefits include amounts that have been either paid or accrued for
and cover approximately 114 employees in both retail and corporate locations.
As a result of the Leasing and Employee Transfer Agreement with Virgin, the
Company had revised its 2001 Restructuring plan estimates and decreased its
reserve for restructuring costs and restructuring costs as of and for the three
months ended January 31, 2003 by $1.3 million, which comprised of $0.9 million
of accrued lease termination costs and $0.4 million of accrued severance
costs. In connection with the 2003 Restructuring Plan, the Company also
recorded $0.7 million of professional fees incurred as a result of the
Companys restructuring efforts in selling, general and administrative
expenses, and $2.0 million of inventory write-downs in cost of sales.

In the second quarter of fiscal 2002, the Company recorded pre-tax
restructuring and asset impairment charges of $0.7 million, which was comprised
of $0.5 million for write-down of fixed assets and leasehold improvements and
$0.2 million in other costs. In connection with the 2001 Restructuring Plan,
the Company also recorded $1.3 million of professional fees in selling, general
and administrative expenses, and $9.7 million of inventory write-downs in cost
of sales.

A summary of the restructuring reserve activities in fiscal 2002 and for the
six months ended January 31, 2003 is approximately as follows (dollars in
millions):

|                        |       |   |               |     |               |   |             |     |               |   |               |      |                 |   |                  |     |  |   |                 |      |  |   |      |      |   |   |     |      | 
|----------------------- | ----- | - | ------------- | --- | ------------- | - | ----------- | --- | ------------- | - | ------------- | ---- | --------------- | - | ---------------- | --- |  | - | --------------- | ---- |  | - | ---- | ---- | - | - | --- | ---- | 
|                        |       |   |               |     |               |   |             |     |               |   |               |      |                 |   |                  |     |  |   | Fiscal 2003 Six |      |  |   |      |      |   |   |    
|                        |       |   | Restructuring |     | Fiscal 2002   |   | Fiscal 2002 |     | Restructuring |   | Month         |      | Fiscal 2003 Six |   | Restructuring   
|                        |       |   | Reserve at    |     | Restructuring |   | Cash        |     | Reserve at    |   | Restructuring |      | Month Cash      |   | Reserve at      
|                        |       |   | July 31, 2001 |     | Charges       |   | Payments    |     | July 31, 2002 |   | Charges       |      | Payments        |   | January 31, 2003
|                        |       |   |               |     |               |   |             |     |               |   |               |      |                 |   |                 
|Severance costs         |       | $ | 0.2           |     |               | $ | 2.9         |     |               | $ | (1.2          | )    |                 | $ | 1.9              |     |  | $ | 9.3             |      |  | $ | (3.6 | )    |   | $ | 7.6 |     
|Lease termination costs |       |   | 0.8           |     |               |   | 4.7         |     |               |   | (0.7          | )    |                 |   | 4.8              |     |  |   | 3.8             |      |  |   |     |      |   |   | 8.6 |     
|Other                   |       |   | 1.2           |     |               |   | 0.6         |     |               |   | (1.7          | )    |                 |   | 0.1              |     |  |   | 1.0             |      |  |   | (0.5 | )    |   |   | 0.6 |     
|                        |       |   |               |     |               |   |             |     |               |   |               |      |                 |   |                  |     |  |   |                 |      |  |   |      |      |   |   |     |     
|                        | Total |   | $             | 2.2 |               |   | $           | 8.2 |               |   | $             | (3.6 | )               |   | $                | 6.8 |  |   | $               | 14.1 |  |   | $    | (4.1 | ) |   | $   | 16.8 | 
|                        |       |   |               |     |               |   |             |     |               |   |               |      |                 |   |                  |     |  |   |                 |      |  |   |      |      |   |   |     |     

NOTE 7  LONG-TERM DEBT

In April 1998, the Company refinanced on a long-term basis certain obligations
outstanding under its revolving credit lines, senior notes and term notes by
consummating an offering of $110.0 million of 9.375% senior subordinated notes
(the Notes) and entering into a senior revolving credit facility, which was
collateralized by a majority of the Companys inventory, accounts receivable
and a pledge of 65% of the capital stock of its Japanese subsidiary (the
Credit Facility). The Notes have options to redeem in part at various
premiums throughout the duration of the indenture and mature in May 2005.

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In April 2001, the Company extended and restated on a short-term basis its
outstanding obligations under the Credit Facility. The Credit Facility was
further amended in October 2001, April 2002, June 2002, September 2002 and
October 2002. The extended Credit Facility provided for initial maximum
borrowings of up to $225.0 million, consisting of two sub-facilities (one for
an initial maximum of $98.4 million and one for an initial maximum 15.6 billion
Japanese Yen, which was equivalent to $126.6 million at inception), with a
maturity date, as amended, of October 11, 2002. Maximum borrowings under the
Credit Facility, as amended, were scheduled to decline by $15 million in July
2001, $5 million in October 2001 and $10 million in December 2001. The Company
met all scheduled reductions under the Credit Facility, as amended.

On October 11, 2002, the Company completed the sale of TRKK to Nikko Principal
Investments Japan, Ltd. for an aggregate purchase price of 16 billion Japanese
Yen (approximately $129 million at then-current exchange rates). Of the
proceeds from the sale of TRKK, $108.8 million were used to pay down the Credit
Facility. The balance of the Credit Facility was refinanced on October 11,
2002, with an asset-based line of credit and a term loan, each of which matures
on April 1, 2005. The asset-based borrowings as described in the Companys Loan
and Security Agreement with The CIT Group/Business Credit, Inc. and other
lenders provide for a line of credit of up to $110 million. The Company has
successfully syndicated $100 million of the line of credit. The Company
anticipates that the line of credit at $100 million will be sufficient to meet
its liquidity requirements. Interest is based on a formula of prime plus a
premium based upon excess availability levels achieved each month. As of
January 31, 2003, the line of credit had an outstanding balance of $37.5
million, with an additional $62.5 million available. The Company has received
a $26 million term loan pursuant to an Amended and Restated Term Loan Agreement
with JPMorgan Chase Bank and other lenders, which had an outstanding balance of
$25 million at January 31, 2003.

Maximum borrowings under both the Amended and Restated Term Loan Agreement and
the Loan and Security Agreement are subject to a borrowing base formula,
certain financial ratio tests and maintaining a minimum rolling quarterly
EBITDA. Also, the new line of credit requires that the Company maintain a
minimum collateral reserve level of $15 million. Prior to its refinancing, the
Credit Facility bore interest at various variable rates, including (as defined
in the agreements) a Money Market Rate, ABR Rate, Yen Base Rate and Euro Rate,
plus an annual facility fee payable by the Company. Under the Companys
long-term financing agreements, there were various restrictive terms and
covenants relating to the occurrence of material adverse financial operating
conditions, balance sheet coverage ratio, certain debt and certain limitations
on additional indebtedness, sale-leaseback transactions, liens or encumbrances
on substantially all of the Companys assets, cash management arrangements,
long-term transactions, capital expenditures, investments, acquisitions and new
retail locations, mandatory commitment reductions and issuance of capital
stock. The Company obtained a waiver from its lenders approving the sale of
TRKK in October 2002.

NOTE 8  RECENT ACCOUNTING PRONOUNCEMENTS

In November 2002, and as amended in March 2003, the Financial Accounting
Standards Board (the FASB) issued Emerging Issues Task Force Issue No. 02-16
(EITF No. 02-16), Accounting by a Customer (Including a Reseller) for
Certain Consideration Received from a Vendor. EITF No. 02-16 provides
guidance on how a reseller of a vendors products should account for cash
consideration received from that vendor. The Task Force reached a consensus
that cash consideration received from a vendor is presumed to be a reduction of
the prices of the vendors products or services and should, therefore, be
characterized as a reduction of cost of

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sales unless certain restrictive criteria are met. EITF No. 02-16 is effective
for vendor reimbursement arrangements entered into after December 31, 2002.
Accordingly, the Company will record amounts received from vendors for
cooperative advertising and slotting arrangements as reductions to cost of
sales. Vendor reimbursements from arrangements entered into prior to December
31, 2002 were recorded as reductions to selling, general and administrative
expense. The Companys accounting for promotional and volume related
allowances was already consistent with the new EITF No. 02-16 requirements, and
therefore will not require a change in policy. The adoption of EITF No. 02-16
did not have an impact on stockholders equity or net loss as of and for the
three and six months ended January 31, 2003.

In June 2001, the FASB issued SFAS No. 143, Accounting for Asset Retirement
Obligations. SFAS No. 143 addresses financial accounting and reporting for
obligations associated with the retirement of tangible long-lived assets and
the associated asset retirement costs. The Companys adoption of SFAS 143 on
August 1, 2002 did not materially impact its financial position or results of
operations.

In August 2001, the FASB issued SFAS No. 144, Accounting for the Impairment or
Disposal of Long-Lived Assets. SFAS No. 144 addresses financial accounting
and reporting for the impairment or disposal of long-lived assets. This
statement is effective for financial statements issued for fiscal years
beginning after December 15, 2001. The Company adopted SFAS No. 144 on August
1, 2002, on a prospective basis, and has recorded the sale of TRKK in
accordance with this statement.

In May 2002, the FASB issued SFAS No. 145, Rescission of FASB Statements No.
4, 44 and 64, Amendment of FASB Statement No. 13, and Technical Corrections,
which rescinded SFAS No. 4, Reporting Gains and Losses from Extinguishment of
Debt, and SFAS No. 64, Extinguishments of Debt Made to Satisfy Sinking-Fund
Requirements. As a result, gains and losses from extinguishment of debt will
no longer be aggregated and classified as an extraordinary item, net of related
income tax effect, in the statement of operations. Instead, such gains and
losses will be classified as extraordinary items only if they meet the criteria
of unusual or infrequently occurring items. SFAS No. 145 also requires that
gains and losses from debt extinguishments, which were classified as
extraordinary items in prior periods, be reclassified to continuing operations
if they do not meet the revised criteria for extraordinary items. The adoption
of SFAS No. 145 on August 1, 2002 did not have a material impact on the
Companys financial position or results of operations.

In June 2002, the FASB issued SFAS No. 146, Accounting for Exit or Disposal
Activities. SFAS No. 146 addresses significant issues regarding the
recognition, measurement and reporting of costs associated with exit and
disposal activities, including restructuring activities that are currently
accounted for pursuant to the guidance that the Emerging Issues Task Force (the
EITF) set forth in EITF Issue 94-3, Liability Recognition for Certain
Employee Termination Benefits and Other Costs to Exit an Activity (including
Certain Costs Incurred in a Restructuring) (EITF 94-3). The scope of SFAS
No. 146 also includes (i) costs related to terminating a contract that is not a
capital lease and (ii) termination benefits that employees who are
involuntarily terminated receive under the terms of a one-time benefit
arrangement that is not an ongoing benefit arrangement, or an individual
deferred compensation contract. SFAS No. 146 will be effective for exit or
disposal activities initiated after December 31, 2002. Accordingly, with the
Companys continued restructuring efforts, the Company can only determine
prospectively the impact that SFAS No. 146 may have on the Companys financial
position and results of operations.

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NOTE 9 - SEGMENT AND GEOGRAPHIC INFORMATION

The Company reports financial and descriptive information about its reportable
operating segments using the management approach model. Under the management
approach model, segments are defined based on the way the Companys management
internally evaluates segment performance and decides how to allocate resources
to segments. The Company has defined its only reportable segment as retail
sales of pre-recorded music and related products and evaluates this reportable
segment based on geographic area.

The Company is a worldwide specialty retailer and distributor of pre-recorded
music, video, books and other related products. Certain of the Companys stores
offer video and other products for rental. The Company is supported by
centralized corporate services and the stores have similar economic
characteristics, products, customers, and retail distribution methods, and as
such are reported as a single segment.

Financial information relating to the Companys principal geographic areas of
continuing operations is as follows (dollars in thousands):

|                      |                           |       |         |                          |         |             |         |         |         | 
|--------------------- | ------------------------- | ----- | ------- | ------------------------ | ------- | ----------- | ------- | ------- | ------- | 
|                      |                           |       |         | For the Six Months Ended
|                      |                           |       |         | January 31,              |         | January 31,
|                      |                           |       |         | 2003                     |         | 2002       
|                      |                           |       |         |                          |         |            
|Net Revenue           |                           |       |         |                          |         |             |         |        
|                      | United States             |       | $       | 284,147                  |         |             | $       | 302,426 |        
|                      | Great Britain and Ireland |       |         | 21,274                   |         |             |         | 28,748  |        
|                      | Other foreign operations  |       |         | 1,490                    |         |             |         | 3,256   |        
|                      |                           |       |         |                          |         |             |         |        
|                      |                           | TOTAL |         | $                        | 306,911 |             |         | $       | 334,430 | 
|                      |                           |       |         |                          |         |             |         |        
|Loss from operations: |                           |       |         |                          |         |             |         |        
|                      | United States             |       | $       | (31,081                  | )       |             | $       | (12,372 | )      
|                      | Great Britain and Ireland |       |         | (1,765                   | )       |             |         | (3,402  | )      
|                      | Other foreign operations  |       |         | (15                      | )       |             |         | 5,103   |        
|                      |                           |       |         |                          |         |             |         |        
|                      |                           | $     | (32,861 | )                        |         | $           | (10,671 | )      
|                      |                           |       |         |                          |         |             |         |        

|                     |                           |   |             |         |      |   |         |         | 
|-------------------- | ------------------------- | - | ----------- | ------- | ---- | - | ------- | ------- | 
|                     |                           |   | January 31,
|                     |                           |   | 2003        |         | 2002
|                     |                           |   |             |         |     
|Identifiable assets: |                           |   |             |         |      |   |         |        
|                     | United States             |   | $           | 292,399 |      |   | $       | 328,045 | 
|                     | Great Britain and Ireland |   |             | 6,032   |      |   |         | 27,916  | 
|                     | Other foreign operations  |   |             | (433    | )    |   |         | 126,562 | 
|                     |                           |   |             |         |      |   |         |        
|                     |                           | $ | 297,998     |         |      | $ | 482,523 |        
|                     |                           |   |             |         |      |   |         |        

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Item 2. Managements Discussion and Analysis of Financial Condition and Results of Operations

The following information should be read in conjunction with the unaudited
interim consolidated financial statements and the notes thereto included in
Item 1 of this Quarterly Report on Form 10-Q, and in conjunction with the
consolidated financial statements and notes thereto for the fiscal year ended
July 31, 2002 included in the Companys Annual Report on Form 10-K filed with
the Securities and Exchange Commission.

FORWARD-LOOKING STATEMENTS

The following discussion should be read in conjunction with historical
consolidated financial information and the consolidated financial statements of
the Company and the notes thereto included elsewhere in this Form 10-Q. The
results shown herein are not necessarily indicative of the results to be
expected in any future period. The following discussion contains
forward-looking statements that involve known and unknown risks and
uncertainties. Use of the words anticipates, believes, estimates,
expects, intends, plans, potential and similar expressions are intended
to identify forward-looking statements. A variety of factors could cause the
Companys actual results to differ materially from the anticipated results
expressed in such forward-looking statements, including among other things: (i)
consumer demand for the Companys products, which is believed to be related to
a number of factors, including overall consumer spending patterns, weather
conditions and new releases available from suppliers; (ii) an increase in
competition, including Internet competition and competition resulting from
electronic or other alternative methods of delivery of music and other products
to consumers, or unanticipated margin or other disadvantages relative to
competitors; (iii) the continued availability and cost of adequate capital to
fund the Companys operations; (iv) higher than anticipated interest,
occupancy, labor, distribution and inventory shrinkage costs; (v) the ability
of the Company to successfully defend itself in ongoing and future litigation
and the expenses associated with such litigation; (vi) higher than anticipated
costs associated with the implementation of the Companys restructuring plans
and/or lower than anticipated resulting operations and cash flow benefits;
(vii) unanticipated increases in the cost of merchandise sold by the Company;
(viii) changes in foreign currency exchange rates and economic and political
risks; (ix) the adverse effects of acts or threats of war, terrorism or other
armed conflict on the United States and international economies; (x) the
ability of the Company to comply with the ongoing monthly affirmative and
negative covenants as prescribed by the Companys Amended and Restated Term
Loan Agreement with JPMorgan Chase and other lenders and by the Companys Loan
and Security Agreement with The CIT Group/Business Credit Inc., and other
lenders; and (xi) the ability of the Company to continue to service its senior
subordinated notes. All forward-looking statements included in this Form 10-Q
are based on information available to the Company on the date hereof, and the
Company assumes no obligation to update any such forward-looking statements.
Please refer to the Risk Factors section of the Companys Annual Report Form
10-K for further information on other factors, which could affect the financial
results of the Company and such forward-looking statements.

RESTATEMENT

The Company restated its consolidated financial statements for the six months
ended January 31, 2003 for an overstatement of the gain from the disposal of
the Companys Japanese subsidiary (see Note 1 to Notes to Consolidated
Financial Statements). The following discussion of the financial condition and
results of operations of the Company has been amended in its entirety to
reflect changes resulting from this restatement.

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OVERVIEW

Founded in 1960, the Company is one of the largest specialty retailers of
recorded music headquartered in the United States in terms of revenues and is
one of the largest and most widely recognized music retailers in the world. As
of January 31, 2003, the Company operated a total of 105 stores worldwide,
consisting of 99 U.S. stores in 21 states and six stores in three countries.

The Company offers a diversified line of music and video products including
compact discs, recorded audio cassettes, recorded video cassettes, DVD and
other complementary products, including books, magazines, blank tapes, video
games, personal electronics and accessories.

On October 11, 2002, the Company sold its Japanese subsidiary, Tower Records,
Kabushiki Kaisha (TRKK). Prior to its sale, TRKK represented a significant
portion of the Companys revenues, and the revenues accounted for by TRKK
increased annually in each of the most recent two fiscal years. In addition,
Japan was the only geographic region in which the Company generated net
operating income in each of fiscal 2002 and fiscal 2001. For the fiscal year
ended July 31, 2002, TRKK accounted for 38% of the Companys revenues and
provided $15.6 million of operating income, which is included in the Companys
net operating loss of $31.2 million.

The Company also faces declining sales with the emerging digital download of
music by consumers and mass market competition. According to industry
statistics provided by Billboard Magazine, unit shipments of all music formats
have decreased by 11% in 2002, and a major cause of the decline in 2002 is the
ongoing problem of online and physical music piracy. However, the Companys
sales decline over the six months of fiscal year 2003 has been lower than the
industrys sales decline. The Company attributes its lower-than-industry sales
decline to its deep catalog competitive advantage as well as efforts to market
products other than pre-recorded music such as DVDs, accessories, and other
complementary products.

The Companys management attempts to manage business risks on a daily basis by
analyzing sales trends, industry trends and monitoring costs in order to
maintain sales and gross profits for the domestic operations. In September
2002, the Company hired a turn-around specialist to focus efforts in the
domestic market and improve financial results. These turn-around efforts are
focused principally on gross margin improvement, sales and marketing, cost
reduction and store management restructuring.

CRITICAL ACCOUNTING POLICIES

The preparation of financial statements requires management to make estimates
and assumptions that affect the reported amounts of assets and liabilities at
the date of the financial statements and revenues and expenses during the
period. The Companys management bases its estimates on historical experience
and other assumptions that it believes to be reasonable under the
circumstances, the results of which form the basis for making judgments about
carrying values of assets and liabilities that are not readily apparent from
other sources. The Company continually evaluates the information used to make
these estimates as its business and the economic environment change. The use of
estimates is pervasive throughout the Companys financial statements, but the
accounting policies and estimates it considers most critical are as follows:

REVENUE RECOGNITION

The Company generates revenue primarily from retail sales comprised of
pre-recorded music

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(including compact discs and audio cassettes), video sales (including recorded
video cassettes, laser discs and DVD) and other complementary products
(including books, magazines, blank tapes, video games, personal electronics and
accessories) through the Companys stores and is recognized at the point of the
retail transaction. Reductions of revenue for returns by retail customers are
provided at the point of the return. Additionally, the Company generates
revenue from distribution to outside customers and recognizes revenue based
upon the shipment of merchandise to those distribution customers. The Companys
distribution arrangements with these customers generally give them the right to
return titles. The Company reduces gross sales and direct product costs for
returns at the time of the returns. The Company continuously monitors
collections and payments from its wholesale distribution customers and
maintains a provision for estimated credit losses based upon its historical
experience and any specific distribution customer collection issues that the
Company has identified.

INVENTORY VALUATION

Inventories are valued at the lower of cost or market value. Inventory
valuation requires significant judgments and estimates, including merchandise
markdowns and provisions for inventory shrink caused by customer theft. The
Company evaluates all of its inventory units to determine excess or slow-moving
units based on current quantities, anticipated store closures and projections
of future demand and market conditions. Due to industry return policies, which
generally provide for full recovery of cost upon return, the Company does not
provide an allowance for inventory returns.

RESTRUCTURING CHARGES

Since the adoption of the 2001 Restructuring Plan and the 2003 Restructuring
Plan (the Restructuring Plans), the Company has closed
seven out of ten of
its stand-alone bookstores and has liquidated most of its book inventories. The
Company has also closed six domestic under-performing record and outlet stores
and sold two of its frame/gallery stores. It has successfully converted the
Argentina, Hong Kong and Taiwan operations to franchises and closed its
Canadian operations. Additionally, five out of eight stores in the United
Kingdom were closed during the six months ended January 31, 2003. In addition,
the Company has entered into an agreement in February 2003 with Virgin Retail
Group Limited and Piccadilly Entertainment Store Limited regarding the
assignment of leases and the transfer of certain employees of two stores in the
United Kingdom. The Company believes that it is being more selective in the
number of new store openings and remodels. Management has implemented several
rounds of reductions in workforce related to store closures and to reduce
operating costs. Since the adoption of the Restructuring Plans, the Company has terminated
approximately 795 employees at both the retail and corporate level, from clerks
to management. Capital expenditures and working capital have also been closely
managed under the Restructuring Plans. In accordance with the Restructuring
Plans, the Company continues to monitor additional stores for possible future
closure.

Management expects to substantially complete the final phase of the 2001
Restructuring Plan by the end of the third quarter of fiscal 2003. Nearing
completion of the 2001 Restructuring Plan and in conjunction with the hiring of
a retail operations turnaround specialist, the Company adopted the 2003
Restructuring Plan in December 2002 aimed at further improving operations,
monitoring and closing additional under-performing stores and assets, and
evaluating its ongoing working capital investments. The 2003 Restructuring Plan
will likely require the Company to

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implement various restructuring initiatives,
which could result in additional restructuring costs,
asset impairment charges and inventory write-downs in future periods. The
Company expects to complete the 2003 Restructuring Plan by the end of the
second quarter of fiscal 2004.

The Company has estimated and recorded restructuring and asset impairment
charges and inventory write-downs in fiscal 2003 and 2002 related to the
Restructuring Plans. These costs and charges required judgments about, among
other things, employee severance costs, contract and lease terminations,
related consulting and litigation fees, long-lived assets and inventory
valuation and other contingent liabilities. The ability to obtain agreements
with lessors to terminate leases or with other parties to assign leases can
also affect the accuracy of current estimates.

IMPAIRMENT OF LONG-LIVED ASSETS

It is the Companys policy to review its long-lived assets for possible
impairment whenever events or circumstances indicate that the carrying amount
of an asset may not be recoverable. The Company recognizes impairment losses
when the carrying value of the long-lived asset (asset group) is not
recoverable and exceeds its fair value. The carrying amount of a long-lived
asset (asset group) is not recoverable if it exceeds the sum of the future
undiscounted cash flows expected to result from the use and eventual
disposition of the asset (asset group). An impairment loss is measured as the
amount by which the carrying amount of a long-lived asset (asset group) exceeds
its fair value. Assumptions and estimates used in the evaluation of impairment,
including current and future economic trends in the many geographic regions
that the Companys stores are located, are subject to a high degree of judgment
and complexity and changes in the assumptions and estimates may affect the
carrying value of long-lived assets, and could result in additional impairment
charges in future periods.

For a detailed discussion of the Companys accounting policies and related
estimates and judgments, see the Notes to the Consolidated Financial Statements
for the fiscal year ended July 31, 2002 filed on Form 10-K with the Securities
and Exchange Commission. While the Company believes that the historical
experience and other factors considered provide a meaningful basis for the
accounting policies applied in the preparation of the consolidated financial
statements, there can be no assurance that its estimates and assumptions will
be accurate, which could require the Company to make adjustments to these
estimates in future periods.

LIQUIDITY AND CAPITAL RESOURCES

The Companys principal capital requirements are to fund working capital needs,
to refurbish and expand or move existing stores, and to continue development of
the Companys technological infrastructure.

Net cash provided by operating activities was $25.1 million for the six months
ended January 31, 2003, and was $15.4 million for the six months ended January
31, 2002. For the six months ended January 31, 2003, net increase in inventory
was $6.1 million. For the six months ended January 31, 2002, net increase in
inventory was $4.7 million.

Net cash provided by investing activities was $106.7 million for the six months
ended January 31, 2003 and net cash used in investing activities was $5.4
million for the six months ended January 31, 2002. Net cash provided by
investing activities for the six months ended January 31, 2003 was primarily
from proceeds received from sale of the Companys Japanese
subsidiary,

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TRKK,
and was offset by store leasehold improvements and capital expenditure
requirements,
including refurbishment and technology investments totaling approximately $1.4
million and $0.6 million used for video rental acquisition. Net cash used in
investing activities for the six months ended January 31, 2002 was primarily
due to store leasehold improvements and capital expenditure requirements,
including store relocations, refurbishment and technology investments totaling
approximately $5.5 million and $0.6 million used for video rental acquisition.

Net cash used in financing activities for the six months ended January 31, 2003
was $132.2 million, resulting principally from pay-down of long-term financing
agreements from proceeds received from the sale of TRKK, offset by borrowings
under the Companys line of credit and changes in debt issuance costs. Net
borrowings under the Companys line of credit were $37.5 million for the six
months ended January 31, 2003. Net cash used in financing activities for the
six months ended January 31, 2002 was $9.3 million, which resulted primarily
from net borrowings under the Credit Facility (as defined in Note 7 to the
Consolidated Financial Statements).

Total funded debt decreased to $179.9 million as of January 31, 2003 from
$269.4 million as of January 31, 2002, which included the funded debt of TRKK
of $100.9 million at January 31, 2002. On January 31, 2003, outstanding debt
consisted primarily of $110.0 million of 9.375% senior subordinated notes,
$37.5 million under the asset-based line of credit agreement with The CIT
Group/Business Credit, Inc. and $25.0 million under a term loan with JPMorgan
Chase Bank. On January 31, 2002 outstanding debt consisted primarily of $110.0
million of 9.375% senior subordinated notes and $150.3 million under the Credit
Facility.

Interest payments on the Companys senior subordinated notes and under the
asset-based line of credit and term loan will continue to impose significant
liquidity demands upon the Company. In fiscal 2003, the Company made an
interest payment on November 1, 2002, and is obligated to make another interest
payment on its subordinated notes on May 1, 2003, each in the amount of $5.2
million. The Company must continue to make the semi-annual payments through the
maturity date of the senior subordinated notes in May 2005. In addition to
its debt service obligations, the Company will require liquidity for capital
expenditures, lease obligations and general working capital needs.

During the six months ended January 31, 2003, the Company terminated a total of
114 employees in the United States, including certain senior executives, in
accordance with its Restructuring Plans. As a result, the Company has estimated
and accrued for $7.6 million of severance obligations in reserve for
restructuring costs on the accompanying January 31, 2003 consolidated balance
sheet, $4.5 million of which will be payable to senior executives over terms
ranging from twelve to thirty-five months. New restructuring efforts include
closure of under-performing domestic stores, closure of the Companys Pulse!
Magazine office and suspension of the Pulse! publication.

On October 11, 2002, the Company completed the sale of its Japanese subsidiary,
TRKK, to Nikko Principal Investments Japan, Ltd. for an aggregate purchase
price of 16 billion Japanese Yen (approximately $129 million at then-current
exchange rates). Of the proceeds from the sale of TRKK, $108.8 million were
used to pay down the Credit Facility. The balance of the Credit Facility was
refinanced on October 11, 2002, with an asset-based line of credit and a term
loan, each of which matures on April 1, 2005. For its asset-based borrowings,
the Company entered into a Loan and Security Agreement with The CIT
Group/Business Credit, Inc. and other lenders providing for a line of credit of
up to $110 million. The Company has successfully achieved the syndication
requirements for a line of credit up to $100 million. Interest is based on a
formula of

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prime plus a premium based upon excess availability levels achieved each month.
As of January 31, 2003, the line of credit had an outstanding balance of $37.5
million, with an additional $62.5 million available. The Company also received
a $26 million term loan pursuant to an Amended and Restated Term Loan Agreement
with JPMorgan Chase Bank and other lenders, with an outstanding balance of $25
million at January 31, 2003.

The Company believes that the cash flow generated from its operations, together
with amounts available from existing financing sources, will be sufficient to
fund its debt service requirements, lease obligations, working capital needs,
its currently anticipated capital expenditures and other operating expenses for
at least the next 12 months. However, the Companys ability to service its
senior subordinated notes, asset-based line of credit and term loan, which
mature in May 2005, April 2005 and April 2005, respectively, is subject to
future economic conditions and financial, business and other factors.

The Companys asset-based line of credit, term loan and senior subordinated
notes impose certain restrictions on the Companys ability to make capital
expenditures and limit the Companys ability to incur additional indebtedness.
In addition, the Companys cash balances are transferred nightly to pay down
its outstanding debt and the daily management of cash needs and availability
determine the next days draw on the line of credit. Such restrictions and
cash balance transfers could limit the Companys ability to respond to market
conditions, to provide for unanticipated capital investments or to take
advantage of business or acquisition opportunities. The debt covenants also,
among other things, limit the ability of the Company to dispose of assets,
repay indebtedness or amend other debt instruments, pay distributions to its
shareholders, create liens on assets, make investments, loans or advances and
make acquisitions.

The Company leases substantially all of its retail stores, warehouses and
administrative facilities pursuant to operating leases that expire on dates
through 2024 and generally have renewal options of one to 20 years. The terms
of the leases provide for fixed or minimum payments plus, in some cases,
contingent rents based on the consumer price index, or percentages of sales in
excess of specified minimum amounts or other specified increases. The Company
is generally responsible for maintenance, insurance and property taxes. Total
rental expense (including taxes and maintenance, when included in rent,
contingent rents and accruals to recognize minimum rents on the straight-line
basis over the term of the lease) relating to all operating leases for the
twelve months ending January 31, 2004 is expected to be approximately $45.2
million.

CONTRACTUAL OBLIGATIONS

The Companys contractual obligations as of January 31, 2003 are as follows:
(dollars in thousands):

|                        |       |       |                        |         |  |       |        |        |     |       |         |         |        |   |        |        |      |   |         |         | 
|----------------------- | ----- | ----- | ---------------------- | ------- |  | ----- | ------ | ------ | --- | ----- | ------- | ------- | ------ | - | ------ | ------ | ---- | - | ------- | ------- | 
|                        |       |       | Payments due by period
|                        |       |       |                       
|                        |       |       |                        |         |  |       | Less   |        |     |       |         |         |        |   |        |        | More
|                        |       |       |                        |         |  |       | than 1 |        | 1-3 |       | 3-5     |         | than 5
|Contractual Obligations |       | Total |                        | year    |  | years |        | years  |     | years
|                        |       |       |                        |         |  |       |        |        |     |      
|Long-term debt          |       | $     | 179,857                |         |  | $     | 3,248  |        |     | $     | 153,328 |         |        | $ | 4,269  |        |      | $ | 19,012  |        
|Operating leases        |       |       | 253,258                |         |  |       | 33,695 |        |     |       | 61,294  |         |        |   | 49,737 |        |      |   | 108,532 |        
|                        |       |       |                        |         |  |       |        |        |     |       |         |         |        |   |        |        |      |   |         |        
|                        | Total |       | $                      | 433,115 |  |       | $      | 36,943 |     |       | $       | 214,622 |        |   | $      | 54,006 |      |   | $       | 127,544 | 
|                        |       |       |                        |         |  |       |        |        |     |       |         |         |        |   |        |        |      |   |         |        

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SEASONALITY

Retail music sales in the United States are typically higher during the
calendar fourth quarter as a result of consumer purchasing patterns due to
increased store traffic and impulse buying by holiday shoppers. As a result,
the majority of domestic music retailers and, more specifically, the mall-based
retailers rely heavily on the calendar fourth quarter to achieve annual sales
and profitability results. The Companys deep-catalog approach to pre-recorded
music appeals to customers who purchase music on a year-round basis.
Consequently, the Company has historically experienced less seasonal reliance
than other domestic music retailers. In each of fiscal 2002 and 2001, the
second fiscal quarter (November 1 through January 31), excluding the sales of
the Japanese subsidiary, accounted for approximately 32% and 31%, respectively,
of the Companys annual sales. Management expects to maintain this same
seasonal trend as the Company continues to emphasize its year-round specialized
entertainment shopping experience.

RESULTS OF OPERATIONS

Three months ended January 31, 2003 compared to three months ended January 31,
2002

REVENUES

For the three months ended January 31, 2003, the Companys consolidated net
revenues decreased 9.0% to $176.8 million from $194.3 million for the three
months ended January 31, 2002, a decrease of $17.5 million. The Companys net
revenues were comprised of domestic revenues of $164.5 million and
international revenues of $12.3 million for the three months ended January 31,
2003, compared to $176.0 million domestically and $18.3 million internationally
for the three months ended January 31, 2002. The overall decrease in total
Company revenues for the three months ended January 31, 2003 was driven
primarily by the closing of seven domestic stores associated with the
Restructuring Plans as well as an industry-wide 11% reduction in pre-recorded
music sales in the United States, which the Company believes is primarily due
to the increased digital downloading of music, online and physical music
piracy, and the effects of other competition. The decrease in the Companys
revenues during the three months ended January 31, 2003 was offset by revenue
increases from Internet sales of $1.2 million as compared to the three months
ended January 31, 2002. Same store sales for the three months ended January
31, 2003 decreased by 4.1% when compared to the three months ended January 31,
2002.

GROSS PROFIT

For the three months ended January 31, 2003, gross profit decreased $3.1
million to $48.9 million from $52.0 million for the three months ended January
31, 2002. The decline in gross profit is principally attributable to the
decrease in revenues as a result of the closure of seven domestic stores and
the industry-wide reduction in pre-recorded music sales in the United States.
Gross profit as a percentage of net revenues was 27.6% for the three months
ended January 31, 2003, or 28.8% excluding the effects of the Restructuring
Plans. Gross profit as a percentage of net revenues was 26.8% for the three
months ended January 31, 2002, or 31.8% excluding the effects of the
Restructuring Plans. The decrease in gross profit as a percentage of net
revenues, excluding the effects of the Restructuring Plans, is attributable to
weaker margins associated with competitive pricing pressures in the United
States, partially offset by an increase in the Companys warehouse distribution
sales margin.

22



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##### Table of Contents



SELLING, GENERAL AND ADMINISTRATIVE EXPENSE

Selling, general and administrative expenses decreased by $5.6 million to $44.3
million for the three months ended January 31, 2003 from $49.9 million for the
three months ended January 31, 2002. Excluding the effects of the $0.7 million
and $1.3 million in professional fees related to the Restructuring Plans for
the three months ended January 31, 2003 and 2002, respectively, selling,
general and administrative expenses decreased by $5.0 million to $43.6 million
during the three months ended January 31, 2003 from $48.6 million for the three
months ended January 31, 2002. Excluding the effect of professional fees
related to the Restructuring Plans, decreases in personnel, occupancy and other
administrative expenses are due to cost savings from initiatives resulting from
the Companys Restructuring Plans. As a percentage of net revenues, selling,
general and administrative expenses, excluding the effects of the professional
fees related to the Restructuring Plans, remained relatively level at 24.7% for
the three months ended January 31, 2003 as compared to 25.0% for the three
months ended January 31, 2002.

RESTRUCTURING AND IMPAIRMENT COSTS

Pre-tax restructuring and asset impairment charges increased by $19.4 million
to $20.1 million for the three months ended January 31, 2003, from $0.7 million
for the three months ended January 31, 2002. The increase of $19.4 million was
comprised of new restructuring and asset impairment charges of $21.4 million
under the 2003 Restructuring Plan, partially offset by changes in estimates
made under the 2001 Restructuring Plan for accrued lease termination and
severance costs of $1.3 million related to the Leasing and Employee Transfer
Agreement with Virgin. In connection with the Restructuring Plans and for the
three months ended January 31, 2003 and 2002, the Company also recorded $2.0
million and $9.7 million, respectively, of inventory write-downs in cost of
sales, and $0.7 million and $1.3 million, respectively, of professional fees
incurred in connection with the Restructuring Plans in selling, general and
administrative expenses on the accompanying consolidated statements of
operations.

DEPRECIATION AND AMORTIZATION

Depreciation and amortization expense was $5.3 million for the three months
ended January 31, 2003, compared to $5.7 million for the three months ended
January 31, 2002. The decrease of $0.4 million was primarily due to the closing
of under-performing stores identified in the Restructuring Plans.

LOSS FROM CONTINUING OPERATIONS

The Companys consolidated operating loss for the three months ended January
31, 2003 increased $16.3 million to $20.7 million from $4.4 million for the
three months ended January 31, 2002. Excluding the effects of the
Restructuring Plans, operating income decreased $5.2 million, which was
primarily attributable to the decrease in revenues and gross profit as
described above, partially offset by cost savings for the three-month period.

INTEREST EXPENSE

Net interest expense decreased to $5.3 million for the three months ended
January 31, 2003 from $6.2 million for the three months ended January 31, 2002.
The decrease of $0.9 million was due primarily to the reduction of the variable
interest rate components as specified in the Companys financing agreements.

23



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##### Table of Contents



FOREIGN CURRENCY TRANSLATION GAIN (LOSS)

A non-cash foreign currency translation gain of $2.0 million was recognized for
the three months ended January 31, 2003, compared to a non-cash foreign
currency translation loss of $0.8 million for the three months ended January
31, 2002. The gain (loss) primarily represents the foreign exchange
fluctuations against the U.S. dollar in the foreign countries in which the
Company does business.

INCOME TAXES

Pre-tax losses resulted in an income tax provision in the amount of $0.1
million for the three months ended January 31, 2003 and $0.1 million for the
three months ended January 31, 2002. Tax provisions and benefits are based upon
managements estimate of the Companys annualized effective tax rates.

Six months ended January 31, 2003 compared to six months ended January 31, 2002

REVENUES

For the six months ended January 31, 2003, the Companys consolidated net
revenues decreased 8.2% to $306.9 million from $334.4 million for the six
months ended January 31, 2002, a decrease of $27.5 million. The Companys net
revenues were comprised of domestic revenues of $284.1 million and
international revenues of $22.8 million for the six months ended January 31,
2003, compared to $302.4 million domestically and $32.0 million internationally
for the six months ended January 31, 2002. The overall decrease in total
Company revenues for the six months ended January 31, 2003 was driven primarily
by the closing of seven domestic stores associated with the Restructuring Plans
as well as the industry-wide reduction in pre-recorded music sales in the
United States, which the Company believes is primarily due to the increased
digital downloading of music, online and physical music piracy, and the effects
of other competition. The decrease in the Companys revenues during the six
months ended January 31, 2003 was offset by revenue increases from Internet
sales in the amount of $2.1 million as compared to the six months ended January
31, 2002. Same store sales for the six months ended January 31, 2003 decreased
by 5.1% when compared to the six months ended January 31, 2002.

GROSS PROFIT

For the six months ended January 31, 2003, gross profit decreased $6.5 million
to $89.2 million from $95.7 million for the six months ended January 31, 2002.
The decrease in the gross profit is principally due to the decrease in revenues
as described above. Gross profit as a percentage of net revenues, was 29.1%
for the six months ended January 31, 2003, or 29.7% excluding the effects of
the Restructuring Plans. Gross profit as a percentage of net revenues was 28.6%
for the six months ended January 31, 2002, or 32.0% excluding the effects of
the Restructuring Plans. Management attributes the percentage decrease,
excluding the effects of the Restructuring Plans, primarily to weaker margins
associated with the competitive pricing pressures in the United States,
partially offset by an increase in the Companys warehouse distribution sales
margin.

SELLING, GENERAL AND ADMINISTRATIVE EXPENSE

Selling, general and administrative expenses decreased by $6.6 million to $87.5
million for the six months ended January 31, 2003 from $94.1 million for the
six months ended January 31, 2002. Excluding the effects of the $1.5 million
and $2.7 million in professional fees related to
24Table of Contents

the Restructuring Plans for the six months ended January 31, 2003 and 2002,
respectively, selling, general and administrative expenses decreased by $5.4
million to $86.0 million during the six months ending January 31, 2003 from
$91.4 million during the six months ending January 31, 2002. Excluding the
effect of professional fees related to the Restructuring Plans, decreases in
personnel, occupancy and other administrative expenses are due to cost savings
from initiatives resulting from the Restructuring Plans. As a percentage of
net revenues, selling, general and administrative expenses, excluding the
effects of the professional fees related to the Restructuring Plans, was 28.0%
for the six months ended January 31, 2003 as compared to 27.3% for the six
months ended January 31, 2002. This increase of 0.7% is attributable to the
decrease in net revenues as described above.

RESTRUCTURING AND IMPAIRMENT COSTS

The Company recorded pre-tax restructuring and asset impairment charges of
$24.0 million for the six months ended January 31, 2003 and $0.8 million for
the six months ended January 31, 2002. In connection with the Restructuring
Plans and for the six months ended January 31, 2003 and 2002, the Company also
recorded $2.0 million and $11.2 million, respectively, of inventory write-downs
in cost of sales, and $1.5 million and $2.7 million, respectively, of
professional fees in selling, general and administrative expenses.

DEPRECIATION AND AMORTIZATION

Depreciation and amortization expense was $10.6 million for the six months
ended January 31, 2003, compared to $11.4 million for the six months ended
January 31, 2002. The decrease of $0.8 million was primarily due to the closing
of under-performing stores identified in the Restructuring Plans.

LOSS FROM CONTINUING OPERATIONS

The Companys consolidated operating loss for the six months ended January 31,
2003 was $32.9 million compared to $10.7 million for the six months January 31,
2002. The increase of $22.2 million, or $9.4 million excluding the effects of
the Restructuring Plans, was primarily attributable to costs associated with
the Restructuring Plans and decreases in revenues and gross profit as described
above.

DISCONTINUED OPERATIONS

On October 11, 2002, the Company completed the sale of its Japanese subsidiary,
TRKK, to Nikko Principal Investments Japan, Ltd. The Company sold all
authorized and issued capital stock of TRKK for an aggregate purchase price of
16 billion Japanese Yen, which was approximately $129 million at then-current
exchange rates. As discussed in Notes 3 and 7 to the Consolidated Financial
Statements, net proceeds were primarily used to pay down the Credit Facility.
The Company recorded a $15.8 million gain, net of $6.5 million in U.S. income
and foreign taxes, from the sale of TRKK, which is included in income from

discontinued operations on the accompanying statement of operations for the six
months ended January 31, 2003. In accordance with SFAS No. 144, Accounting for
the Impairment or Disposal of Long-Lived Assets, TRKKs current year operating
results have been presented as discontinued operations. Additionally, all prior
period consolidated financial statements presented have been reclassified to
present TRKK as discontinued operations.

25



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INTEREST EXPENSE

Net interest expense decreased to $11.2 million for the six months ended
January 31, 2003 from $12.4 million for the six months ended January 31, 2002.
The decrease of $1.2 million was due primarily to the reduction of the variable
interest rate components as specified in the Companys financing agreements.

FOREIGN CURRENCY TRANSLATION GAIN (LOSS)

A non-cash foreign currency translation gain of $2.1 million was recognized for
the six months ended January 31, 2003, compared to a non-cash foreign currency
loss of $1.1 million for the six months ended January 31, 2002. The gain
(loss) primarily represents the volatility of foreign currency fluctuations
against the U.S. Dollar in foreign countries in which the Company does
business.

INCOME TAXES

Pre-tax losses resulted in an income tax provision in the amount of $0.1
million for the six months ended January 31, 2003 and $0.3 million for the six
months ended January 31, 2002. Tax provisions and benefits are based upon
managements estimate of the Companys annualized effective tax rates.

26



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Item 3. Quantitative and Qualitative Disclosures About Market Risk

The Company is exposed to the impact of interest-rate changes and foreign
exchange rate fluctuations. The Company does not enter into market risk
sensitive instruments for trading purposes. In the ordinary course of its
business, the Company enters into debt instruments, including instruments with
short-term maturities. The Company could be exposed to a higher interest rate
at the time such debt instruments are renewed or refinanced. Certain of the
Companys debt instruments contain terms that permit the Company to cap the
interest rate at a maximum rate.

The Company is subject to risks resulting from interest rate fluctuations
because interest on the Companys asset-based line of credit borrowings is
based on variable rates. If the base borrowing rates (primarily LIBOR) were to
increase 1% above current rates as of January 31, 2003, the Companys interest
expense under the line of credit in fiscal 2003 would increase approximately
$0.5 million.

A majority of the Companys revenues, expenses and capital purchasing
activities are transacted in U.S. Dollars. However, before the sale of TRKK,
the Company had significant transactions in foreign currencies, primarily in
Japanese Yen. The Company had used forward exchange contracts to hedge
intercompany transactions with foreign subsidiaries and affiliates, and their
vendors. Such instruments were short-term in nature and entered into in the
ordinary course of the Companys business, in order to reduce the impact of
exchange rate fluctuation on net income and shareholders equity. At January
31, 2003, the Company did not have any outstanding forward exchange contracts.
The Company has not entered into any Euro hedging contracts because the Company
believes that the Companys volume of transactions denominated in the Euro is
not significant.

To finance expansion and operations in Japanese markets prior to the sale of
TRKK, the Company entered into Japanese Yen-denominated borrowing arrangements.
Unrealized gains and losses resulting from the impact of foreign exchange rate
movements on these debt instruments were recognized as other income or expense
in the period in which the exchange rates change. These borrowing arrangements
were ultimately repaid with the proceeds received from the sale of TRKK.

27



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##### Table of Contents






Item 4. Controls and Procedures

(a)     Under the supervision and with the participation of the Companys
management, including the Companys principal executive officer and principal
financial officer, the Company conducted an evaluation of its disclosure
controls and procedures, as such term is defined under Rule 13a-14(c)
promulgated under the Securities Exchange Act of 1934, as amended, within 90
days of the filing date of this report. Based on their evaluation, the
Companys principal executive officer and principal financial officer concluded
that the Companys disclosure controls and procedures are effective.

(b)     There have been no significant changes (including corrective actions with
regard to significant deficiencies or material weaknesses) in the Companys
internal controls or in other factors that could significantly affect these
controls subsequent to the date of the evaluation referenced in paragraph (a)
above.

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##### Table of Contents






PART II  OTHER INFORMATION




ITEM 1. LEGAL PROCEEDINGS

The Company entered into a consulting contract with Chilmark Partners, LLC
(Chilmark) on May 18, 2001. By letter to Chilmark dated June 12, 2002, the
Company terminated the contract. On July 29, 2002, Chilmark filed suit against
the Company in the U.S. District Court for the Northern District of Illinois,
alleging breach of contract and seeking other remedies under the contract and
attachment of proceeds of the Companys sale of its Japanese subsidiary. In
August 2002, Chilmarks request for such an attachment was denied. The
litigation continues with respect to Chilmarks breach of contract claim and
its request for damages under the terms of the contract. As of January 31,
2003, Chilmarks total damage request was approximately $2.6 million. The
Company believes it has meritorious defenses with respect to each of Chilmarks
claims and intends to defend against the claims vigorously; however, the
litigation is in the preliminary stage and there can be no assurance that the
Company will prevail in this action. If Chilmark receives a favorable judgment
for all or a substantial portion of the total $2.6 million in damages Chilmark
is seeking, such an outcome could have a material adverse effect on the
Companys financial condition, results of operations and cash flows.




ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K



| | (a) |  | Exhibits
| | --- |  | --------

| |         |  |                                                     | 
| | ------- |  | --------------------------------------------------- | 
| | Exhibit |  | Description                                         | 
| | 10.26*  |  | DeVaughn D. Searson Severance Agreement             | 
| |         |  |                                                     | 
| | 10.27*  |  | Amended and Restated Revolving Loan Promissory Note | 
| |         |  |                                                     | 
| | 10.28*  |  | First Amendment to Loan and Security Agreement      | 
| |         |  |                                                     | 
| | 10.29*  |  | Second Amendment to Loan and Security Agreement     | 
| |         |  |                                                     | 
| | 10.30*  |  | James Bain Retention Agreement                      | 
| |         |  |                                                     | 
| | 10.31*  |  | William Baumann Retention Agreement                 | 
| |         |  |                                                     | 
| | 10.32*  |  | Kevin Cassidy Retention Agreement                   | 
| |         |  |                                                     | 
| | 10.33*  |  | Michael Solomon Retention Agreement                 | 



| | * Previously filed
| | ------------------
|
| | (b)               
|
| |                   

29



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##### Table of Contents






SIGNATURES

Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.

June 16, 2003
MTS, INCORPORATED
(Registrant)

| |  |     |  |                                                     
| |  | --- |  | ----------------------------------------------------
| |  | By: |  | /s/ DeVaughn D. Searson                             
| |  |     |  |                                                     
| |  |     |  |                                                     
| |  |     |  | DeVaughn D. Searson                                 
| |  |     |  | Executive Vice President and Chief Financial Officer
| |  |     |  | (Principal Financial and Accounting Officer)        

30



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##### Table of Contents






CERTIFICATION OF CHIEF EXECUTIVE OFFICER



|   |  | I, E.Allen Rodriguez, Chief Executive Officer of MTS, Incorporated,
certify that:                                                                                                                                                                                                                                             
|-- |  | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|  
|1. |  | I have reviewed this quarterly report on Form 10-Q of MTS, Incorporated.                                                                                                                                                                                                                                                      
|  
|2. |  | Based on my knowledge, this quarterly report does not contain any untrue
statement of a material fact or omit to state a material fact necessary to
make the statements made, in light of the circumstances under which such
statements were made, not misleading with respect to the period covered by
this quarterly report;
|  
|3. |  | Based on my knowledge, the financial statements, and other financial
information included in this quarterly report, fairly present in all
material respects the financial condition, results of operations and cash
flows of the registrant as of, and for, the periods presented in this
quarterly report;                   
|  
|4. |  | The registrants other certifying officers and I are responsible for
establishing and maintaining disclosure controls and procedures (as
defined in Exchange Act Rules 13a-14 and 15d-14) for the registrant and we
have:                                                                                                     



| | a) |  | designed such disclosure controls and procedures to ensure
that material information relating to the registrant, including its
consolidated subsidiaries, is made known to us by others within
those entities, particularly during the period in which this
quarterly report is being prepared;
| | -- |  | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|
| | b) |  | evaluated the effectiveness of the registrants disclosure
controls and procedures as of a date within 90 days prior to the
filing date of this quarterly report (the Evaluation Date); and                                                                                                  
|
| | c) |  | presented in this quarterly report our conclusions about the
effectiveness of the disclosure controls and procedures based on our
evaluation as of the Evaluation Date;                                                                                                                        



|5. |  | The registrants other certifying officers and I have disclosed, based on
our most recent evaluation, to the registrants auditors and the audit
committee of registrants board of directors (or persons performing the
equivalent function):
|-- |  | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| | a) |  | all significant deficiencies in the design or operation of
internal controls which could adversely affect the registrants
ability to record, process, summarize and report financial data and
have identified for the registrants auditors any material
weaknesses in internal controls; and
| | -- |  | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|
| | b) |  | any fraud, whether or not material, that involves management
or other employees who have a significant role in the registrants
internal controls; and                                                                                                                                        



|6. |  | The registrants other certifying officers and I have indicated in this
quarterly report whether or not there were significant changes in internal
controls or in other factors that could significantly affect internal
controls subsequent to the date of our most recent evaluation, including
any corrective actions with regard to significant deficiencies and
material weaknesses.
|-- |  | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

|                     |  |                        
|-------------------- |  | -----------------------
|Dated: June 16, 2003 |  | /s/ E. Allen Rodriguez 
|                     |  |                        
|                     |  | E. Allen Rodriguez     
|                     |  | Chief Executive Officer

31



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##### Table of Contents






CERTIFICATION OF CHIEF FINANCIAL OFFICER



|   |  | I, DeVaughn D. Searson, Chief Financial Officer of MTS, Incorporated,
certify that:                                                                                                                                                                                                                                           
|-- |  | ------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|  
|1. |  | I have reviewed this quarterly report on Form 10-Q of MTS, Incorporated.                                                                                                                                                                                                                                                      
|  
|2. |  | Based on my knowledge, this quarterly report does not contain any untrue
statement of a material fact or omit to state a material fact necessary to
make the statements made, in light of the circumstances under which such
statements were made, not misleading with respect to the period covered by
this quarterly report;
|  
|3. |  | Based on my knowledge, the financial statements, and other financial
information included in this quarterly report, fairly present in all
material respects the financial condition, results of operations and cash
flows of the registrant as of, and for, the periods presented in this
quarterly report;                   
|  
|4. |  | The registrants other certifying officers and I are responsible for
establishing and maintaining disclosure controls and procedures (as
defined in Exchange Act Rules 13a-14 and 15d-14) for the registrant and we
have:                                                                                                     



| | a) |  | designed such disclosure controls and procedures to ensure
that material information relating to the registrant, including its
consolidated subsidiaries, is made known to us by others within
those entities, particularly during the period in which this
quarterly report is being prepared;
| | -- |  | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|
| | b) |  | evaluated the effectiveness of the registrants disclosure
controls and procedures as of a date within 90 days prior to the
filing date of this quarterly report (the Evaluation Date); and                                                                                                  
|
| | c) |  | presented in this quarterly report our conclusions about the
effectiveness of the disclosure controls and procedures based on our
evaluation as of the Evaluation Date;                                                                                                                        



|5. |  | The registrants other certifying officers and I have disclosed, based on
our most recent evaluation, to the registrants auditors and the audit
committee of registrants board of directors (or persons performing the
equivalent function):
|-- |  | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------



| | a) |  | all significant deficiencies in the design or operation of
internal controls which could adversely affect the registrants
ability to record, process, summarize and report financial data and
have identified for the registrants auditors any material
weaknesses in internal controls; and
| | -- |  | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|
| | b) |  | any fraud, whether or not material, that involves management
or other employees who have a significant role in the registrants
internal controls; and                                                                                                                                        



|6. |  | The registrants other certifying officers and I have indicated in this
quarterly report whether or not there were significant changes in internal
controls or in other factors that could significantly affect internal
controls subsequent to the date of our most recent evaluation, including
any corrective actions with regard to significant deficiencies and
material weaknesses.
|-- |  | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

|                     |  |                        
|-------------------- |  | -----------------------
|Dated: June 16, 2003 |  | /s/ DeVaughn D. Searson
|                     |  |                        
|                     |  | DeVaughn D. Searson    
|                     |  | Chief Financial Officer

32



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##### Table of Contents






INDEX OF EXHIBITS

| |         |  |                                                     | 
| | ------- |  | --------------------------------------------------- | 
| | Exhibit |  | Description                                         | 
| | 10.26*  |  | DeVaughn D. Searson Severance Agreement             | 
| |         |  |                                                     | 
| | 10.27*  |  | Amended and Restated Revolving Loan Promissory Note | 
| |         |  |                                                     | 
| | 10.28*  |  | First Amendment to Loan and Security Agreement      | 
| |         |  |                                                     | 
| | 10.29*  |  | Second Amendment to Loan and Security Agreement     | 
| |         |  |                                                     | 
| | 10.30*  |  | James Bain Retention Agreement                      | 
| |         |  |                                                     | 
| | 10.31*  |  | William Baumann Retention Agreement                 | 
| |         |  |                                                     | 
| | 10.32*  |  | Kevin Cassidy Retention Agreement                   | 
| |         |  |                                                     | 
| | 10.33*  |  | Michael Solomon Retention Agreement                 | 



| |  |  | * Previously filed
| |  |  | ------------------

33