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Duckwall-Alco Stores 10-Q 2008

Documents found in this filing:

  1. 10-Q
  2. Ex-31.1
  3. Ex-31.2
  4. Ex-32.1
  5. Ex-32.2
  6. Ex-32.2
fy2009q310-q.htm
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549

FORM 10-Q

(X) QUARTERLY REPORT PURSUANT TO SECTION 13 or 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the quarterly period ended November 2, 2008

OR

(  ) TRANSITION REPORT PURSUANT TO SECTION 13 or 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

Commission File Number 0-20269

 
DUCKWALL-ALCO STORES, INC.> 
(Exact name of registrant as specified in its charter)

Kansas 
48-0201080
(State or other jurisdiction of incorporation or organization)
(I.R.S. Employer Identification No.)
   
401 Cottage Street
Abilene, Kansas 
 
 67410-2832
(Address of principal executive offices)
(Zip Code)

Registrant's telephone number including area code: (785) 263-3350

Securities registered pursuant to Section 12(b) of the Act:
NONE

Securities registered pursuant to Section 12(g) of the Act:
Common Stock, par value $.0001 per share
(Title of Class)

Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act. Yes_____ No __X_

Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Exchange Act. Yes___ No  _X__

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 if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of registrant's knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. [X]
 
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer or a smaller reporting company. See definitions of “accelerated filer", "large accelerated filer” and "smaller reporting company" in Rule 12b-2 of the Exchange Act. Large accelerated filer [ ] Accelerated filer [X] Non-accelerated filer (Do not check if a smaller reporting company) [ ] Smaller reporting company [ ]

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes ____ No __X__

APPLICABLE ONLY TO CORPORATE ISSUERS:

3,806,113 shares of common stock, $.0001 par value (the issuer's only class of common stock), were outstanding as of November 2, 2008.
 
 
 
 
 
 
 
 
 
 
 
 

 
DUCKWALL-ALCO STORES, INC.
 








 
 
 
 
 
 
 
 
 
 
 
 
 
 

 

 
 
 
 
 
 

 


 
 
 
 
 
 
 

 
 
 
2


Duckwall-ALCO Stores, Inc. and Subsidiaries
 
Consolidated Balance Sheets
 
(in thousands, except share amounts)
 
             
Assets
 
   
November 2,
   
February 3,
 
   
2008
   
2008
 
   
(Unaudited)
       
Current assets:
           
   Cash and cash equivalents
  $ 5,320       5,501  
   Receivables
    3,520       4,905  
   Prepaid income taxes
    4,731       768  
   Prepaid expenses
    3,871       3,101  
   Inventories
    166,404       128,545  
   Deferred income taxes
    5,430       7,094  
          Total current assets
    189,276       149,914  
                 
Property and equipment, at cost:
               
   Land and land improvements
    2,758       2,205  
   Buildings and building improvements
    12,121       11,931  
   Furniture, fixtures and equipment
    62,485       58,911  
   Transportation equipment
    1,322       1,310  
   Leasehold improvements
    13,843       15,419  
   Construction work in progress
    1,078       1,282  
          Total property and equipment
    93,607       91,058  
   Less accumulated depreciation
    63,605       64,019  
          Net property and equipment
    30,002       27,039  
                 
Property under capital leases
    11,622       13,571  
   Less accumulated amortization
    8,109       8,654  
          Net property under capital leases
    3,513       4,917  
                 
Other non-current assets
    227       262  
Deferred income taxes
    1,181       3,254  
          Total assets
  $ 224,199       185,386  
                 
Liabilities and Stockholders' Equity
 
                 
Current liabilities:
               
   Current maturities of long-term debt
  $ 1,340       1,278  
   Current maturities of capital lease obligations
    1,833       1,860  
   Accounts payable
    37,513       19,134  
   Accrued salaries and commissions
    5,589       3,711  
   Accrued taxes other than income
    4,844       4,301  
   Self-insurance claim reserves
    4,318       4,571  
   Other current liabilities
    4,618       7,360  
          Total current liabilities
    60,055       42,215  
                 
Long term debt, less current maturities
    3,214       4,227  
Notes payable under revolving loan
    48,388       20,715  
Capital lease obligations - less current maturities
    3,528       4,933  
Deferred gain on leases
    4,695       4,985  
Other noncurrent liabilities
    1,617       1,139  
          Total liabilities
    121,497       78,214  
                 
Stockholders' equity:
               
  Common stock, $.0001 par value, authorized 20,000,000 shares; issued and outstanding
               
    3,806,113 shares and 3,810,591 shares respectively
    1       1  
   Additional paid-in capital
    38,557       38,766  
   Retained earnings
    64,144       68,405  
          Total stockholders' equity
    102,702       107,172  
          Total liabilities and stockholders' equity
  $ 224,199       185,386  
See accompanying notes to unaudited consolidated financial statements.
 
 
3

 
Duckwall-ALCO Stores, Inc. and Subsidiaries
 
Consolidated Statements of Operations
 
(dollars in thousands, except per share amounts)
 
(Unaudited)
 
                         
   
For the Thirteen Week
   
For the Thirty-Nine Week
 
   
Periods Ended
   
Periods Ended
 
   
November 2, 2008
   
October 28, 2007
   
November 2, 2008
   
October 28, 2007
 
                         
Net sales
  $ 115,472       110,258       351,010       335,537  
Cost of sales
    78,234       74,447       238,504       227,459  
Gross margin
    37,238       35,811       112,506       108,078  
                                 
Selling, general and administrative
    38,217       35,487       110,315       100,785  
Depreciation and amortization
    2,119       1,820       5,799       5,359  
           Total operating expenses
    40,336       37,307       116,114       106,144  
Operating income (loss) from continuing operations
    (3,098 )     (1,496 )     (3,608 )     1,934  
                                 
Interest expense, net
    63       929       1,219       2,526  
                                 
Loss from continuing operations before income taxes
    (3,161 )     (2,425 )     (4,827 )     (592 )
                                 
                                 
Income tax benefit
    (1,647 )     (979 )     (2,354 )     (249 )
                                 
Loss from continuing operations
    (1,514 )     (1,446 )     (2,473 )     (343 )
                                 
                                 
Loss from discontinued operations, net of income tax benefit
    (151 )     (189 )     (1,788 )     (930 )
                                 
Net loss
    (1,665 )     (1,635 )     (4,261 )     (1,273 )
                                 
Loss per share
                               
     Basic
                               
         Continuing operations
    (0.40 )     (0.38 )     (0.65 )     (0.09 )
         Discontinued operations
    (0.04 )     (0.05 )     (0.47 )     (0.24 )
                                 
         Net loss per share
    (0.44 )     (0.43 )     (1.12 )     (0.33 )
                                 
Loss per share
                               
     Diluted
                               
         Continuing operations
    (0.40 )     (0.38 )     (0.65 )     (0.09 )
         Discontinued operations
    (0.04 )     (0.05 )     (0.47 )     (0.24 )
                                 
         Net loss per share
   $ (0.44 )     (0.43 )     (1.12 )     (0.33 )
                                 
See accompanying notes to unaudited consolidated financial statements.
                         

 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
4

 
Duckwall-ALCO Stores, Inc. and Subsidiaries
 
Consolidated Statements of Cash Flows
 
(dollars in thousands)
 
(Unaudited)
 
   
For the Thirty-Nine Week
 
   
Periods Ended
 
   
November 2, 2008
   
October 28, 2007
 
             
Cash flows from operating activities:
           
Net loss
  $ (4,261 )     (1,273 )
Adjustments to reconcile net loss to net cash used in operating activities:
 
                 
Depreciation and amortization
    5,836       5,652  
Gain on sale of assets
    14       (118 )
Share-based compensation
    34       893  
Tax benefit of stock options exercised
    -       11  
Deferred income tax expense, net
    3,595       (231 )
Changes in:
               
   Receivables
    1,385       (1,471 )
   Prepaid income taxes
    (3,963 )     (4,382 )
   Inventories
    (37,859 )     (26,905 )
   Prepaid expenses
    (770 )     (1,792 )
   Other assets
    35       31  
   Accounts payable
    18,379       12,383  
   Accrued salaries and commissions
    1,878       (173 )
   Accrued taxes other than income
    543       1,647  
   Self-insurance claim reserves
    (253 )     997  
   Other liabilities
    (2,554 )     (568 )
      Net cash used in operating activities
    (17,961 )     (15,299 )
                 
Cash flows from investing activities:
               
Proceeds from the sale of assets
    169       637  
Acquisition of fixtures, equipment and leasehold improvements
    (7,578 )     (9,854 )
      Net cash used in investing activities
    (7,409 )     (9,217 )
                 
Cash flows from financing activities:
               
   Net borrowings under revolving loan credit agreement
    27,673       27,384  
   Repurchase of common stock
    (191 )     -  
   Proceeds for stock sale     90       -  
   Proceeds from exercise of outstanding stock options
    -       276  
   Excess tax benefit on stock options exercised
    -       11  
   Net pay downs under term loan
    (951 )     -  
   Principal payments under capital lease obligations
    (1,432 )     (1,613 )
      Net cash provided by financing activities
    25,189       26,058  
                 
      Net increase (decrease) in cash and cash equivalents
    (181 )     1,542  
Cash and cash equivalents at beginning of period
    5,501       2,983  
                 
Cash and cash equivalents at end of period
  $ 5,320       4,525  
                 
Supplemental disclosures of cash flow information:
               
Cash paid (received) during the period for:
               
   Interest
  $ 1,834       2,385  
   Income taxes
    (828 )     3,784  
                 
See accompanying notes to unaudited consolidated financial statements.
               
 
 
 
 
 
 
 
5

 
  
Duckwall-ALCO Stores, Inc. and Subsidiaries
Notes to Unaudited Consolidated Financial Statements
(dollars in thousands, except per share amounts unless otherwise noted)
(1)           Basis of Presentation
 
The accompanying unaudited consolidated financial statements of Duckwall-ALCO Stores, Inc. and Subsidiaries (the "Company") are for interim periods and have been prepared in accordance with U.S. generally accepted accounting principles for interim financial information and with the instructions to Form 10-Q, Regulation G and Regulation S-X. Accordingly, they do not include all of the information and footnotes required by U.S. generally accepted accounting principles for complete financial statements.  It is suggested that the accompanying unaudited consolidated financial statements be read in conjunction with the consolidated financial statements included in the Company's fiscal 2008 Annual Report. In the opinion of management of the Company, the accompanying unaudited consolidated financial statements reflect all adjustments (consisting of normal recurring accruals) necessary to present fairly the financial position of the Company and the results of its operations and cash flows for the interim periods. Because the Company’s business is moderately seasonal, the results from interim periods are not necessarily indicative of the results to be expected for the entire year.
 
Fiscal year 2009 is a 52-week year following a 53-week year, fiscal 2008.  The fiscal quarters of the Company are normally thirteen weeks.  The only time that the fiscal quarter would not consist of thirteen weeks is the fourth quarter of a 53-week fiscal year, the fourth quarter would then be fourteen weeks. 
 
The depreciation and amortization amount from the Consolidated Statements of Operations will not agree to the Consolidated Statements of Cash Flows due to the fact that a portion of the depreciation and amortization from the Consolidated Statements of Cash Flows is included in the loss from discontinued operations, net of income tax benefit line of the Consolidated Statements of Operations.
 
(2)           Principles of Consolidation

The consolidated financial statements include the accounts of Duckwall-ALCO Stores, Inc. and Subsidiaries.  All significant intercompany transactions and balances have been eliminated in consolidation.
 
(3)           Reclassification
 
The Company reclassified the change in outstanding checks in excess of bank balances of $4,651 from net cash provided by financing activities to net cash used in operating activities for the thirty-nine week period ending October 28, 2007. The Company's policy is to reflect changes in outstanding checks in excess of bank balances as cash flow from operating activities which is consistent with the treatment for the fiscal years ending February 3, 2008 and January 29, 2007.
 
(4)           Share-Based Compensation

Effective with fiscal 2007, the Company adopted Statement of Financial Accounting Standards No. 123(R) Share-Based Payment (SFAS 123(R)) and began recognizing compensation expense for its share-based payments based on the fair value of the awards. Share-based payments consist of stock option grants. SFAS 123(R) requires share based compensation expense to be based on the following: a) grant date fair value estimated in accordance with the original provisions of SFAS 123 for unvested options granted prior to the adoption date and b) grant date fair value estimated in accordance with the provisions of SFAS 123(R) for all share-based payments granted subsequent to the adoption date.  For the thirteen weeks ended November 2, 2008 and October 28, 2007, share-based compensation expense decreased pre-tax income by $169 and $317, respectively and $34 and $893 for the thirty-nine weeks ended November 2, 2008 and October 28, 2007, respectively.

Under SFAS 123(R), forfeitures are estimated at the time of valuation and reduce expense ratably over the vesting period. This estimate is adjusted periodically based on the extent to which actual forfeitures differ, or are expected to differ, from the previous estimate.
 
On July 1, 2008, the Company entered into a Non-Qualified Stock Option Agreement with Lawrence J. Zigerelli as part of his starting employment with the Company.  Under the terms of the Agreement Mr. Zigerelli was granted the right to purchase 10,000 shares of the Company’s common stock at a purchase price of $9.05, which is equal to the closing price of the stock on the NASDAQ Global Market on the grant date.  The options will vest in equal amounts over a four year period unless certain Company events occur.  The options will terminate if Mr. Zigerelli ceases to be a full time employee of the Company.  The options will also terminate five years from the date of grant.  The Company issues these grants from the unissued shares authorized.

Stock Incentive Plan

Under our 2003 Incentive Stock Option Plan, options may be granted to officers and key employees, not to exceed 500,000 shares.  According to the terms of the plan, the per share exercise price of options granted shall not be less than the fair market value of the stock on the date of grant and such options will expire no later than five years from the date of grant. The options vest in equal amounts over a four year requisite service period beginning from the grant date. In the case of a stockholder owning more than 10% of the outstanding voting stock of the Company, the exercise price of an incentive stock option may not be less than 110% of the fair market value of the stock on the date of grant and such options will expire no later than five years from the date of grant.  Also, the aggregate fair market value of the stock with respect to which incentive stock options are exercisable on a tax deferred basis for the first time by an individual in any calendar year may not exceed $100,000. In the event that the foregoing results in a portion of an option exceeding the $100,000 limitation, such portion of the option in excess of the limitation shall be treated as a non-qualified stock option.  At November 2, 2008, the Company had 80,750 shares authorized for future option grants.  The Company issues these grants from the unissued shares authorized.
 
 

6

Under our Non-Qualified Stock Option Plan for Non-Management Directors, options may be granted to Directors of the Company who are not otherwise officers or employees of the Company, not to exceed 200,000 shares.  According to the terms of the plan, the per share exercise price of options granted shall not be less than the fair market value of the stock on the date of grant and such options will expire five years from the date of grant.  The options vest in equal amounts over a four year requisite service period beginning from the grant date.  All options under the plan shall be non-qualified stock options.  There are 45,000 shares remaining to be issued under this plan. 
 
The fair value of each option grant is separately estimated for each grant. The fair value of each option is amortized into compensation expense on a straight-line basis from the grant date for the award over the requisite service period as discussed above.  We have estimated the fair value of all stock option awards as of the date of the grant by applying a modified Black-Scholes pricing valuation model.  The application of this valuation model involves assumptions that are judgmental and highly sensitive in the determination of compensation expense, including expected stock price volatility.
 
The following summarizes information concerning stock option grants during fiscal 2009 and 2008:

         
For the Thirteen Week
   
For the Thirty-Nine Week
 
         
Periods Ended
   
Periods Ended
 
   
February 3, 2008
   
November 2, 2008
   
October 28, 2007
   
November 2, 2008
   
October 28, 2007
 
Stock options granted
    88,000       10,000       25,000       384,500       88,000  
Weighted average exercise price
  $ 39.02       14.08       39.67       12.43       39.02  
Weighted average grant date fair value
  $ 10.93       5.19       10.72       4.18       10.93  

The weighted average for key assumptions used in determining the fair value of options granted in the thirteen and thirty-nine weeks ended November 2, 2008 and October 28, 2007 and a summary of the methodology applied to develop each assumption are as follows:
 
         
For the Thirteen Week
   
For the Thirty-Nine Week
 
         
Periods Ended
   
Periods Ended
 
   
February 3, 2008
   
November 2, 2008
   
October 28, 2007
   
November 2, 2008
   
October 28, 2007
 
Expected price volatility
    25.6 %     38.0 %     25.3 %     36.1 %     25.6 %
Risk-free interest rate
    4.8 %     2.9 %     4.8 %     2.6 %     4.8 %
Weighted average expected lives in years
    3.8       4.8       3.8       4.5       3.8  
Dividend yield
    0.00 %     0.00 %     0.00 %     0.00 %     0.00 %

EXPECTED PRICE VOLATILITY -- This is a measure of the amount by which a price has fluctuated or is expected to fluctuate. The Company uses actual historical changes in the market value of its stock to calculate expected price volatility because management believes that this is the best indicator of future volatility. The Company calculates monthly market value changes from the date of grant over a past period to determine volatility. An increase in the expected volatility will increase compensation expense.

RISK-FREE INTEREST RATE -- This is the U.S. Treasury rate for the date of the grant over the expected term.  An increase in the risk-free interest rate will increase compensation expense.

EXPECTED LIVES -- This is the period of time over which the options granted are expected to remain outstanding and is based on management’s expectations in relation to the holders of the options. Options granted have a maximum term of five years. An increase in the expected life will increase compensation expense.

DIVIDEND YIELD --- The Company has not made any dividend payments nor does it have plans to pay dividends in the foreseeable future. An increase in the dividend yield will decrease compensation expense.

As of November 2, 2008, total unrecognized compensation expense related to non-vested stock options is $2.0 million with a weighted average expense recognition period of 2.9 years.
 
(5)           Accounting for Income Taxes
 
      The Company recorded decreases in gross unrecognized tax benefits of approximately $2.3 million for the thirty-nine week period ended November 2, 2008 and increases of $93 for the thirty-nine week period ended October 28, 2007.  The Company filed a request for an automatic tax accounting method change with the Internal Revenue Service during the quarter which eliminated the remainder of the gross unrecognized tax benefits.  None of these amounts impacted the effective income tax rate.  The Company also recognized a related decrease in interest expense of approximately $605 in its statement of operations respectively for the third quarter fiscal 2009 and year-to-date fiscal 2009.
 
 
 
 
 
 
 
 
7

 
(6)           Earnings Per Share
 
       Basic net earnings per share is computed by dividing net earnings by the weighted average number of shares outstanding.  Diluted net earnings per share reflects the potential dilution that could occur if contracts to issue securities (such as stock options) were exercised, except for those periods with a loss.
 
The average number of shares used in computing earnings per share was as follows:
           
             
Thirteen Weeks Ended
 
Basic
   
Diluted
 
             
November 2, 2008
    3,811,943       3,811,943  
October 28, 2007
    3,809,363       3,809,363  
                 
                 
Thirty-Nine Weeks Ended
               
                 
November 2, 2008
    3,812,249       3,812,249  
October 28, 2007
    3,805,795       3,805,795  
 
(7)            Store Closings and Discontinued Operations
 
The Company closed 14 stores (ten ALCO stores and four Duckwall stores) in the first quarter of fiscal 2009.  The Company incurred costs associated with the store closings in the thirty-nine week period of fiscal 2009 consisting primarily of $399 of future lease costs (net of estimated sublease income of $848), lease termination costs of $470, and severance costs of $30.  The operations of these stores were reclassified to discontinued operations in the thirty-nine week period of fiscal 2009, as well as prior years presented.  In addition to the 14 stores that were closed in the first quarter of fiscal 2009, three Duckwall stores were closed and replaced by an ALCO store.  These three stores are shown in continuing operations.
 
The future lease costs were adjusted during the thirteen weeks ended November 2, 2008 for a change in estimate regarding a reduction of sublease income expected to be received.  The actual results of the future lease costs could vary from these estimates.  A rollforward of the future lease costs balance is seen below:
 
Beginning balances as of August 3, 2008
  $ 369  
Lease payments made
    (152 )
Impact of change in estimate
    182  
Ending balance as of November 2, 2008
  $ 399  

In addition to the above store closing costs, the Company incurred severance costs of $1.9 million during the thirty-nine week period of fiscal 2009, of which, $937 was actually paid out during the same time period.
 
(8)           New Accounting Pronouncements
 
In September 2006, the FASB issued Statement of Financial Accounting Standards No. 157, Fair Value Measurement (SFAS 157). SFAS 157 provides a definition of fair value, provides guidance for measuring fair value in U.S. GAAP and expands disclosures about fair value measurements.  Effective February 4, 2008, the Company adopted the provisions of SFAS No. 157, Fair Value Measurements (SFAS 157), for financial assets and financial liabilities. In accordance with Financial Accounting Standards Board Staff Position No. 157-2, Effective Date of FASB Statement No. 157, the Company will delay application of SFAS No. 157 for non-financial assets and non-financial liabilities, until February 2, 2009. SFAS No. 157 defines fair value, establishes a framework for measuring fair value in generally accepted accounting principles and expands disclosures about fair value measurements. Adoption of SFAS No. 157 did not have a material impact on our consolidated financial position, results of operations, or cash flows. Certain non-financial assets measured at fair value on a non-recurring basis include non-financial long-lived assets measured at fair value for impairment assessment. As stated above, SFAS No. 157 will be applicable to these fair value measurements beginning February 2, 2009.
 
In February 2007, the FASB issued SFAS 159, The Fair Value Option for Financial Assets and Financial Liabilities - Including an Amendment of SFAS 115 (SFAS 159), which permits entities to choose to measure many financial instruments and certain other items at fair value. The fair value option established by this standard permits all entities to choose to measure eligible items at fair value at specified election dates. Entities choosing the fair value option would be required to report unrealized gains and losses on items for which the fair value option has been elected in earnings at each subsequent reporting date. Adoption is required for fiscal years beginning after November 15, 2007. Adoption of SFAS No. 159 did not have a material impact on our consolidated financial position, results of operations, or cash flows.
 
In April 2008, the FASB issued FASB Staff Position (“FSP”) No. FAS 142-3, “Determination of the Useful Life of Intangible Assets”, which amends the factors that must be considered in developing renewal or extension assumptions used to determine the useful life over which to amortize the cost of a recognized intangible asset under SFAS 142, “Goodwill and Other Intangible Assets.” The FSP requires an entity to consider its own assumptions about renewal or extension of the term of the arrangement, consistent with its expected use of the asset, and is an attempt to improve consistency between the useful life of a recognized intangible asset under SFAS 142 and the period of expected cash flows used to measure the fair value of the asset under SFAS 141, “Business Combinations.” The FSP is effective for fiscal years beginning after December 15, 2008, and the guidance for determining the useful life of a recognized intangible asset must be applied prospectively to intangible assets acquired after the effective date. The FSP is not expected to have a significant impact on our financial condition, results of operations or cash flows.
 
 
8

In May 2008, the FASB issued SFAS No. 162 (“SFAS 162”), “The Hierarchy of Generally Accepted Accounting Principles.” The statement is intended to improve financial reporting by identifying a consistent hierarchy for selecting accounting principles to be used in preparing financial statements that are prepared in conformance with generally accepted accounting principles. The statement is effective 60 days following the SEC’s pending approval of the Public Company Accounting Oversight Board (PCAOB) amendments to AU Section 411, “The Meaning of Present Fairly in Conformity with GAAP,” and is not expected to have any impact on the Company’s financial condition, results of operations or cash flows.
 
ITEM 2.    MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (dollars in thousands except per share amounts or otherwise noted)
 
CAUTIONARY STATEMENT CONCERNING FORWARD-LOOKING STATEMENTS AND FACTORS THAT MAY AFFECT FUTURE RESULTS OF OPERATIONS, FINANCIAL CONDITION OR BUSINESS

Certain statements contained in this Quarterly Report on Form 10-Q that are not statements of historical fact may constitute "forward-looking statements" within the meaning of Section 21E of the Exchange Act. These statements are subject to risks and uncertainties, as described below. Examples of forward-looking statements include, but are not limited to: (i) projections of revenues, income or loss, earnings or loss per share, capital expenditures, store openings, store closings, payment or non-payment of dividends, capital structure and other financial items, (ii) statements of plans and objectives of the Company's management or Board of Directors, including plans or objectives relating to inventory, store development, marketing, competition, business strategy, store environment, merchandising, purchasing, pricing, distribution, transportation, store locations and information systems, (iii) statements of future economic performance, and (iv) statements of assumptions underlying the statements described in (i), (ii) and (iii). Forward-looking statements can often be identified by the use of forward-looking terminology, such as "believes," "expects," "may," "will," "should," "could," "intends," "plans," "estimates", "projects" or "anticipates," variations thereof or similar expressions.

Forward-looking statements are not guarantees of future performance or results.  They involve risks, uncertainties and assumptions.  The Company's future results of operations, financial condition and business operations may differ materially from the forward-looking statements or the historical information stated in this Quarterly Report on Form 10-Q.  Stockholders and investors are cautioned not to put undue reliance on any forward-looking statement.

There are a number of factors and uncertainties that could cause actual results of operations, financial condition or business contemplated by the forward-looking statements to differ materially from those discussed in the forward-looking statements made herein or elsewhere orally or in writing, by, or on behalf of, the Company, including those factors described below. Other factors not identified herein could also have such an effect. Factors that could cause actual results to differ materially from those discussed in the forward-looking statements and from historical information include, but are not limited to, those factors described below.

OVERVIEW
 
Operations.  The Company is a multi-regional discount retailer operating 259 stores in 23 states in the central United States.  The thirteen weeks ended November 2, 2008 and October 28, 2007 are referred to herein as the third quarter of fiscal 2009 and 2008, respectively.  For purposes of this management's discussion and analysis of financial condition and results of operations, the financial numbers are presented in thousands, except as noted. 
 
Strategy.  The Company's overall business strategy involves identifying and opening stores in towns that will provide the Company with the highest return on investment.  The Company competes for retail sales with other entities, such as specialty retailers, mass merchandisers, dollar stores and the internet.
 
The Company is routinely evaluating the appropriate mix of merchandise to improve sales and gross margin performance.  The Company uses centralized purchasing, merchandising, pricing and warehousing to obtain volume discounts, improve efficiencies and achieve consistency among stores and the best overall results.  The Company utilizes information obtained from its point-of-sale system and perpetual inventory system to make more fact based decisions.

The Company is aggressively reviewing its inventory levels and marketing strategies to address its same-store sales decline.  The inventory level of the Company was allowed to decline too far during the fourth quarter of fiscal 2008.  The Company believes that this was a significant factor in the same-store sales decline it experienced during the first quarter of fiscal 2009. 
 
Company Initiatives. 
 
·
Marketing initiative:  The Company is aggressively reviewing its fiscal 2009 marketing strategies to find the most effective and cost efficient method to reach its customers. 
·
Operational initiative:  The Company is aggressively looking to improve its operational effectiveness.  This includes both store operations and corporate office expense structures.
 
Recent Events.
 
·
On September 3, 2008, the Company entered into an agreement with Accenture, LLP to provide the Company with consulting services to increase the Company’s operating efficiency and reduce shrink ("store transformation project").
 
 
 

 
 
9

Key Items in Third Quarter Fiscal 2009

The Company measures itself against a number of financial metrics to assess its performance.  Some of the important financial items during the third quarter of fiscal 2009 were:
 
·
Net sales increased 4.7% to $115.5 million.  Same store sales decreased 6.3% compared to the prior year third quarter.
·
Gross margin percentage decreased to 32.2% of sales, when compared to 32.5% in the prior year third quarter.
·
Net loss per share was $0.44 in the third quarter of fiscal 2009 compared to $0.43 net loss per share in the prior year third quarter.
·
The Company’s earnings from continuing operations before interest, taxes, depreciation and amortization, share-based compensation expense, preopening store costs, inventory review initiative and executive, staff severance and Accenture store transformation project fees(“Adjusted EBITDA”) for the third quarter 2009 was $469 to the prior year third quarter of $1.8 million. 

Same store sales growth is a measure which may indicate whether existing stores are maintaining their market share.  Other factors, such as the overall economy, may also affect same store sales.  The Company defines same stores as those stores that were open as of the first day of the prior fiscal year and remain open at the end of the reporting period.  The same store sales for all Company stores decreased 6.3% compared to the prior year third quarter.  In the third quarter ended November 2, 2008, the Company opened three ALCO stores.
 
RESULTS OF OPERATIONS

Thirteen Weeks Ended November 2, 2008 Compared to Thirteen Weeks Ended October 28, 2007.

Net Sales

Net sales for the third quarter of fiscal 2009 increased $5,214, or 4.7%, to $115,472 compared to $110,258 for the third quarter of fiscal 2008.  Same store sales decreased 6.3% when compared with the prior year same quarter.  
 
Gross Margin

Gross margin for the third quarter of fiscal 2009 increased $1,427, or 4.0%, to $37,238 compared to $35,811 in the third quarter of fiscal 2008.  Gross margin as a percentage of sales was 32.2% for the third quarter of fiscal 2009, which decreased when compared to 32.5% for the third quarter of fiscal 2008.   The slight decrease in the gross margin percentage was primarily due to increased markdowns, increased freight costs and lower rebates and new store allowances offset by continued reduction in shrink and reduced LIFO expense. 
 
                SG&A>

Selling, general and administrative (SG&A) expense increased $2,730 or 7.7%, to $38,217 in the third quarter of fiscal 2009 compared to $35,487 in the third quarter of fiscal 2008.  This increase is primarily attributable to operating 31 new stores along with $937 in fees to Accenture associated with the store transformation project.  As a percentage of net sales, selling, general and administrative expenses for the third quarter of fiscal 2009 were 33.1%, compared to 32.2% for fiscal 2008.  Of the 31 new stores, three were opened in the third quarter of fiscal 2009.  Six new stores were opened in the third quarter of fiscal 2008.  This increase of new stores contributed to increased real property rent of $1.7 million.   In addition to the Accenture store transformation project fees of $937, also impacting SG&A expenses were reduced co-op advertising offset of $622 offset by reduced floor care services of $168 and reduced advertising expense of $243.  Excluding share-based compensation expense, preopening store costs, Accenture store transformation project fees and executive and staff severance (Adjusted SG&A expenses) were 31.8% and 30.8% respectively for the third quarter fiscal 2009 and third quarter fiscal 2008.
 
Depreciation and Amortization Expense
 
Depreciation and amortization expense increased $299, or 16.4%, to $2,119 in the third quarter of fiscal 2009 compared to $1,820 in the third quarter of fiscal 2008.  
 
Interest Expense

Interest expense decreased $866, or 93.2%, to $63 in the third quarter of fiscal 2009 compared to $929 in the third quarter of fiscal 2008.  The decrease in interest expense was due the reversal of accrued interest of $605 related to the FIN 48 liability of the Company.
 
Income Taxes
 
The Company’s effective tax rate on earnings from continuing operations before income taxes in the third quarter of fiscal 2009 was 52.1% compared to 40.4% in the third quarter of fiscal 2008.  The effective tax rate is higher due to the impact of permanent book and tax differences which have remained relatively constant over the reporting periods as compared to a decrease in book income.
 
Loss from Discontinued Operations

Loss from discontinued operations, net of income benefit, was $151 in the third quarter of fiscal 2009, compared to loss of $189 in the third quarter of fiscal 2008.  Three Duckwall stores closed during fiscal year 2009 and replaced by an ALCO store are shown in continuing operations.
 
 

 
10

Thirty-nine Weeks Ended November 2, 2008 Compared to Thirty-nine Weeks Ended October 28, 2007.

Net Sales

Net sales for the thirty-nine week period of fiscal 2009 increased $15,473, or 4.6%, to $351,010 compared to $335,537 for the thirty-nine week period of fiscal 2008.  Same store sales decreased 5.5% when compared with the prior year same quarter.
 
Gross Margin
 
Gross margin for the thirty-nine week period of fiscal 2009 increased $4,428, or 4.1%, to $112,506 compared to $108,078 in the thirty-nine week period of fiscal 2008.  Gross margin as a percentage of sales was 32.1% for the thirty-nine week period of fiscal 2009, which decreased slightly when compared to 32.2% for the thirty-nine week period of fiscal 2008.   The decrease in the gross margin percentage was primarily due to inventory review initiative expense and increased freight costs offset by continued shrink improvement. 
 

Selling, general and administrative (SG&A) expense increased $9,530 or 9.5%, to $110,315 in the thirty-nine week period of fiscal 2009 compared to $100,785 in the thirty-nine week period of fiscal 2008.  As a percentage of net sales, selling, general and administrative expenses for the thirty-nine week period of fiscal 2009 were 31.4%, compared to 30.0% for fiscal 2008.  The Company opened 15 new stores in fiscal 2009 to-date, compared to eight new stores opened in fiscal 2008 to-date.  Of the 33 non same-stores for the Company, 21 of them have been open less than 12 months.  The increased non same-stores contributed to increased real property rent of $4.0 million, increased real property taxes of $433 and preopening store costs of $316.  Also contributing to the increase were executive and staff severance, related to the first quarter of fiscal 2009 corporate staff reduction, of $1.9 million, reduced co-op advertising offset of $1.3 million and Accenture consulting fees of $937, offset by reduced share-based compensation expense of $859 and reduced costs for supplies of $227.  Adjusted SG&A expenses were 30.1% and 29.3% respectively for year-to-date fiscal 2009 and year-to-date fiscal 2008.
 
Depreciation and Amortization Expense
 
Depreciation and amortization expense increased $440, or 8.2%, to $5,799 in the thirty-nine week period of fiscal 2009 compared to $5,359 in the thirty-nine week period of fiscal 2008.  

Interest Expense

Interest expense decreased $1,307, or 51.7%, to $1,219 in the thirty-nine week period of fiscal 2009 compared to $2,526 in the thirty-nine week period of fiscal 2008.  The decrease in interest expense was due to the reversal of accrued interest of $605 related to the FIN 48 liability of the Company.
 
Income Taxes
 
The Company’s effective tax rate on earnings from continuing operations before income taxes in the thirty-nine week period of fiscal 2009 was 48.8% compared to 42.1% in the thirty-nine week period of fiscal 2008.  The effective tax rate is higher due to the impact of permanent book and tax differences which have remained relatively constant over the reporting periods as compared to a decrease in book income.
 
Loss from Discontinued Operations

Loss from discontinued operations, net of income benefit, was $1,788 in the thirty-nine week period of fiscal 2009, compared to loss of $930 in the thirty-nine week period of fiscal 2008.  In the thirty-nine week period of fiscal 2009, ten ALCO stores and four Duckwall stores were closed.  The Company closed one ALCO store and two Duckwall stores in the thirty-nine week period of fiscal 2008.  Stores closed where the Company has exited the market are reflected in discontinued operations in all periods presented.  Three additional Duckwall stores were closed during fiscal 2009 and replaced by an ALCO store.  These stores are shown in continuing operations.
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
11

 
Certain Non-GAAP Financial Measures

The Company has included Adjusted SG&A and Adjusted EBITDA, non-GAAP performance measures, as part of its disclosure as a means to enhance its communications with stockholders. Certain stockholders have specifically requested this information as a means of comparing the Company to other retailers that disclose similar non-GAAP performance measures. Further, management utilizes these measures in internal evaluation; review of performance and to compare the Company’s financial measures to that of its peers. Adjusted EBITDA differs from the most comparable GAAP financial measure (earnings from continuing operations before discontinued operations) in that it does not include certain items, as does Adjusted SG&A. These items are excluded by management to better evaluate normalized operational cash flow and expenses excluding unusual, inconsistent and non-cash charges.  To compensate for the limitations of evaluating the Company's performance using Adjusted SG&A and Adjusted EBITDA, management also utilizes GAAP performance measures such as gross margin return on investment, return on equity and free cash flow.  As a result, Adjusted SG&A and Adjusted EBITDA may not reflect important aspects of the results of the Company’s operations.
 
   
For the Thirteen Week Periods Ended
   
For the Thirty-Nine Week Periods Ended
 
SG&A Expenses Breakout
 
November 2, 2008
   
October 28, 2007
   
November 2, 2008
   
October 28, 2007
 
Store support center (1)
  $ 6,609       5,612       19,501       16,404  
Distribution center
    2,608       2,506       7,186       6,947  
401K expense
    115       118       359       356  
Same-store SG&A
    23,795       25,004       69,715       73,133  
Non same-store SG&A (2)
    4,921       1,930       13,520       3,052  
Share-based compensation expense
    169       317       34       893  
Final SG&A as reported
    38,217       35,487       110,315       100,785  
Less:
                               
Share-based compensation expense
    (169 )     (317 )     (34 )     (893 )
Preopening store costs (2)
    (342 )     (1,169 )     (1,837 )     (1,520 )
Executive and staff severance (1)
    -       -       (1,942 )     -  
Accenture store transformation project
    (937 )     -       (937 )     -  
Adjusted SG&A
  $ 36,769       34,001       105,565       98,372  
                                 
Adjusted SG&A as % of sales
    31.8 %     30.8 %     30.1 %     29.3 %
                                 
Sales per average selling square foot
  $ 25.59       27.98       79.86       80.50  
                                 
Adjusted gross margin dollars per average selling square feet (3)(4)
  $ 8.25       9.09       25.90       25.93  
                                 
Adjusted SG&A per average selling square foot (3)
  $ 8.15       8.63       24.02       23.60  
                                 
Adjusted EBITDA per average selling square foot (3)(5)
  $ 0.10       0.46       1.88       2.33  
                                 
Average inventory per average selling square feet (3)(6)(7)
  $ 28.63       32.86       28.43       28.38  
                                 
Average selling square feet (3)
    4,513       3,941       4,395       4,168  
                                 
Total stores operating beginning of period
    257       255       262       256  
Total stores operating end of period
    259       256       259       256  
Total stores less than twelve months old
                    21       10  
Total Non same-stores
                    33       15  
                                 
Supplemental Data:
                               
Same-store sales change
    -6.3 %     4.9 %     -5.5 %     4.2 %
Same-store gross margin dollar change
    -7.4 %     9.0 %     -6.3 %     10.1 %
Same-store SG&A dollar change
    -5.8 %     7.3 %     -4.7 %     9.2 %
Same-store total customer count change
    -10.5 %     -3.8 %     -9.2 %     -4.5 %
Same-store average sale per ticket change
    4.7 %     9.0 %     4.1 %     9.1 %
                                 
                                 
(1) General office includes executive and staff severance
                               
(2) Non same-stores are those stores opened in Fiscal 2009 & Fiscal 2008 and includes preopening costs
                 
(3) Average selling square feet is (beginning square feet plus ending square feet) divided by 2.
                         
(4) Adjusted gross margin includes inventory review initiative
                               
(5) Adjusted EBITDA per selling square foot is a non-GAAP financial measure and is calculated as Adjusted EBITDA divided by selling square feet.
 
(6) Average inventory is (beginning inventory plus ending inventory) divided by 2. This includes only the merchandise inventory at store level.
 
(7) Excludes inventory for unopened stores.
                               

 
 
 
12

Fiscal 2009 Compared to Fiscal 2008

Store support center expenses for fiscal 2009 increased $3.1 million or 18.9%.  The increase was primarily due to severance costs of $1.9 million and Accenture store transformation project fees of $937.
 
Same-store SG&A expenses decreased $3.4 million or 4.7%.  The decrease was primarily due to labor efficiencies of $3.5 million, decreased advertising expenses of $989, decreased floor care services expenses of $449 and decreased general insurance expenses of $371 offset by reduced coop advertising of $1.6 million and increased real property rent expense of $608.
 
Non same-store SG&A expenses increased $10.5 million.  The Company has opened 25 stores since the third quarter of fiscal 2008.
 
Reconciliation and Explanation of Non-GAAP Financial Measures

The following table shows the reconciliation of Adjusted EBITDA from net earnings (loss) from continuing operations:
 
Adjusted EBITDA from net earnings (loss) from continuing operations:
                                     
         
For the Twenty-Six Week Periods Ended
   
Trailing Twelve Periods Ended
   
For the Thirteen Week Periods Ended
   
Trailing Twelve Periods Ended
 
   
Fiscal 2008
   
August 3, 2008
   
July 29, 2007
   
August 3, 2008
   
November 2, 2008
   
October 28, 2007
   
November 2, 2008
 
Net income (loss) from continuing operations (1)
  $ 522       (959 )     1,103       (1,540 )     (1,514 )     (1,446 )     (1,608 )
Plus:
                                                       
Interest
    3,382       1,156       1,597       2,941       63       929       2,075  
Taxes (1)
    538       (707 )     730       (899 )     (1,647 )     (979 )     (1,567 )
Depreciation and amortization (1)
    9,475       3,679       3,539       9,615       2,119       1,820       9,914  
Share-based compensation expense
    1,130       (135 )     576       419       169       317       271  
Preopening store costs (2)
    2,783       1,495       352       3,926       342       1,169       3,099  
Inventory review initiative
    -       1,345       -       1,345       -       -       1,345  
Executive and staff severance
    -       1,942       -       1,942       -       -       1,942  
Accenture store transformation project
    -       -       -       -       937       -       937  
=Adjusted EBITDA (1)(3)(4)
    17,830       7,816       7,897       17,749       469       1,810       16,408  
                                                         
Adjusted EBITDA
                                                       
Same-stores (5)
    47,623       22,585       22,988       47,220       8,524       9,786       45,957  
Non same-stores (3)(5)
    1,650       1,275       381       2,544       340       260       2,624  
Store support center (5)
    (22,116 )     (11,279 )     (11,031 )     (22,364 )     (5,787 )     (5,730 )     (22,421 )
Warehouse
    (9,327 )     (4,765 )     (4,441 )     (9,651 )     (2,608 )     (2,506 )     (9,753 )
Reconciled Adjusted EBITDA (1)(3)(4)
  17,830       7,816       7,897       17,749       469       1,810       16,408  
                                                         
Cash
    5,501       4,653       4,217       4,653       5,320       4,525       5,320  
Debt
    33,013       36,964       37,698       36,964       58,303       55,759       58,303  
Debt, net of cash
  $ 27,512       32,311       33,481       32,311       52,983       51,234       52,983  
                                                         
(1) These amounts will not agree with the 2008 fiscal 2008 10-K filing due to the 14 stores the Company closed in the first quarter of fiscal 2009. These stores are now shown in discontinued operations.
 
(2) These costs are not consistent quarter to quarter as the Company does not open the same number of stores in each quarter of each fiscal year. These costs are directly associated with the number of stores that have or will be opened and are incurred prior to the grand opening of each store.
 
(3) For the trailing twelve periods ended November 2, 2008 the average open weeks for the Company's 33 non same-stores is 41 weeks.
(4) During fiscal year 2009, the Company made a change in its Executive Management team and Board of Directors resulting in several initiatives to reduce SG&A expense. For the thirty-nine weeks ended November 2, 2008, the Company has reduced SG&A approximately $4.6 million when compared to the same period for the previous fiscal year.  The initiatives include, but are not limited to, executive and staff reduction, reduced floor care services, professional service providers' expense and travel expense.
 
(5) Adjusted EBITDA amount of $321 was reclassified for an internal allocation for the thirteen week period ended October 28, 2007 and the twenty-six week period ended July 29, 2007.
 
 
LIQUIDITY AND CAPITAL RESOURCES

The Company's primary sources of funds are cash flows from operations and borrowings under its revolving loan credit facility.
 
13

 
At November 2, 2008, working capital (defined as current assets less current liabilities) was $129.2 million compared to $127.9 million at October 28, 2007.  The increase in working capital was primarily attributable to increased inventory.
 
The Company uses its revolving loan credit facility and vendor trade credit financing (accounts payable) to fund the build up of inventories periodically during the year for its peak selling seasons and to meet other short-term cash requirements. The revolving loan credit facility provides up to $105 million of financing in the form of notes payable and letters of credit. The loan agreement expires in January 2011. The revolving loan note payable and letter of credit balance at November 2, 2008 was $54.4 million, resulting in an available line of credit at that date of $50.6 million, subject to a borrowing base calculation. Loan advances are secured by a security interest in the Company’s inventory and credit card receivables.  The loan agreement contains various restrictions that are applicable when outstanding borrowings exceed $77.5 million, including limitations on additional indebtedness, prepayments, acquisition of assets, granting of liens, certain investments and payments of dividends. The Company's loan agreement contains various covenants including limitations on additional indebtedness and certain financial tests, as well as various subjective acceleration clauses. The balance sheet classification of the borrowings under the revolving loan credit facility has been determined in accordance with Emerging Issues Task Force of the Financial Accounting Board as set forth in EITF Issue 95- 22, Balance Sheet Classification of Borrowings Outstanding under Revolving Credit Agreements that Include both a Subjective Acceleration Clause and a Lock-Box Arrangement. As of December 11, 2008, the Company believes it is in compliance with all covenants and subjective acceleration clauses of the debt agreements. Accordingly, this obligation has been classified as a long-term liability in the accompanying consolidated balance sheet.  Short-term trade credit represents a significant source of financing for inventory to the Company. Trade credit arises from the willingness of the Company's vendors to grant payment terms for inventory purchases.
 
Cash used in operating activities in the thirty-nine week period of fiscal 2009 and 2008 was $17,961 and $15,299 respectively.  The increase in the amount of cash used in operating activities in the thirty-nine week period of fiscal 2009 compared to the thirty-nine week period of fiscal 2008 was primarily due to an increase in inventory and decreased other liabilities offset by increased accounts payable.

Cash used in investing activities (including acquisitions, divestitures and remodeling of property and equipment) in the thirty-nine week period of fiscal 2009 and 2008 was $7,409 and $9,217, respectively.
 
Cash provided by financing activities in the thirty-nine week period of fiscal 2009 and 2008 was $25,189 and $26,058 respectively.  Net borrowings on the revolving loan generated $27,673 during the thirty-nine week ended November 2, 2008, compared to $27,384 during the thirteen week period of the prior fiscal year.

For a discussion of our other contractual obligations, see a discussion of future commitments under Item 7, “Management’s Discussion and Analysis of Financial Condition and Results of Operations,” in our Form 10-K for the fiscal year ended February 3, 2008. There have been no significant developments with respect to our contractual obligations since February 3, 2008.

As of December 1, 2008, the Company has repurchased 19,797 shares of stock since August 15, 2008.  The average price paid was $13.15.  Since fiscal quarter end November 2, 2008, the Company has repurchased 5,766 shares at an average price of $11.93.
 
OFF-BALANCE SHEET ARRANGEMENTS

The Company has no off-balance sheet arrangements that affect the Company’s current or future financial condition.
 
BUSINESS OPERATIONS
 
The following chart indicates the percentage of sales, excluding fuel sales, represented by each of our major product categories for the thirteen and thirty-nine week periods of fiscal 2009 and 2008:
 
   
For the Thirteen Weeks Ended
   
For the Thirty-Nine Weeks Ended
 
   
November 2, 2008
   
October 28, 2007
   
November 2, 2008
   
October 28, 2007
 
Merchandise Category:
                       
Consumables and commodities
    34 %     32 %     32 %     31 %
Electronics, entertainment, sporting goods, toys and outdoor living
    21 %     20 %     25 %     24 %
Apparel and accessories
    20 %     22 %     19 %     20 %
Home furnishings and décor
    14 %     14 %     13 %     14 %
Other
    11 %     12 %     11 %     11 %
                                 
Total
    100 %     100 %     100 %     100 %

NEW ACCOUNTING PRONOUNCEMENTS
 
 
In September 2006, the FASB issued Statement of Financial Accounting Standards No. 157, Fair Value Measurement (SFAS 157). SFAS 157 provides a definition of fair value, provides guidance for measuring fair value in U.S. GAAP and expands disclosures about fair value measurements.  Effective February 4, 2008, the Company adopted the provisions of SFAS No. 157, Fair Value Measurements (SFAS 157), for financial assets and financial liabilities. In accordance with Financial Accounting Standards Board Staff Position No. 157-2, Effective Date of FASB Statement No. 157, the Company will delay application of SFAS No. 157 for non-financial assets and non-financial liabilities, until February 2, 2009. SFAS No. 157 defines fair value, establishes a framework for measuring fair value in generally accepted accounting principles and expands disclosures about fair value measurements. Adoption of SFAS No. 157 did not have a material impact on our consolidated financial position, results of operations, or cash flows.  Certain non-financial assets measured at fair value on a non-recurring basis include non-financial long-lived assets measured at fair value for impairment assessment. As stated above, SFAS No. 157 will be applicable to these fair value measurements beginning February 2, 2009.
14

 
In February 2007, the FASB issued SFAS 159, The Fair Value Option for Financial Assets and Financial Liabilities - Including an Amendment of SFAS 115 (SFAS 159), which permits entities to choose to measure many financial instruments and certain other items at fair value. The fair value option established by this standard permits all entities to choose to measure eligible items at fair value at specified election dates. Entities choosing the fair value option would be required to report unrealized gains and losses on items for which the fair value option has been elected in earnings at each subsequent reporting date. Adoption is required for fiscal years beginning after November 15, 2007. Adoption of SFAS No. 159 did not have a material impact on our consolidated financial position, results of operations, or cash flows.
 
In April 2008, the FASB issued FASB Staff Position (“FSP”) No. FAS 142-3, “Determination of the Useful Life of Intangible Assets”, which amends the factors that must be considered in developing renewal or extension assumptions used to determine the useful life over which to amortize the cost of a recognized intangible asset under SFAS 142, “Goodwill and Other Intangible Assets.” The FSP requires an entity to consider its own assumptions about renewal or extension of the term of the arrangement, consistent with its expected use of the asset, and is an attempt to improve consistency between the useful life of a recognized intangible asset under SFAS 142 and the period of expected cash flows used to measure the fair value of the asset under SFAS 141, “Business Combinations.” The FSP is effective for fiscal years beginning after December 15, 2008, and the guidance for determining the useful life of a recognized intangible asset must be applied prospectively to intangible assets acquired after the effective date. The FSP is not expected to have a significant impact on our financial condition, results of operations or cash flows.
 
In May 2008, the FASB issued SFAS No. 162 (“SFAS 162”), “The Hierarchy of Generally Accepted Accounting Principles.” The statement is intended to improve financial reporting by identifying a consistent hierarchy for selecting accounting principles to be used in preparing financial statements that are prepared in conformance with generally accepted accounting principles. The statement is effective 60 days following the SEC’s pending approval of the Public Company Accounting Oversight Board (PCAOB) amendments to AU Section 411, “The Meaning of Present Fairly in Conformity with GAAP,” and is not expected to have any impact on the Company’s financial condition, results of operations or cash flows.
 
 
INSTRUMENTS ENTERED INTO OTHER THAN FOR TRADING – INTEREST RATE RISK
 
The Company is exposed to various types of market risk in the normal course of its business, including the impact of interest rate changes.  The Company may enter into interest rate swaps to manage its exposure to interest rate changes, and we may employ other risk management strategies, including the use of foreign currency forward contracts.  The Company does not currently hold any derivative instruments and would enter into such instruments solely for cash flow hedging purposes and not for trading purposes.

As described under "Management's Discussion and Analysis of Financial Condition and Results of Operations-Liquidity and Capital Resources", the Company has a variable interest rate debt facility that is subject to interest rate risk.  The Company uses this facility to meet the short-term needs of its capital improvements and inventory purchases and other operating activities.  These obligations expose the Company to variability in interest payments due to changes in interest rates.  If interest rates increase, interest expense increases.  Conversely, if interest rates decrease, interest expense also decreases. Based on the Company’s current borrowings under its revolving credit facility, if interest rates were to increase 100 basis points on an annual basis interest expense would increase $290.  The average interest rate for the thirteen week period and thirty-nine week period ended November 2, 2008 was 5.6% and 5.3%, respectively.
 
The Company has and continues to analyze its debt structure in relation to interest rate risk and believes the mix of debt instruments utilized by the Company (revolving line of credit, term loans, capital leases and operating leases) adequately addresses these risk issues.  This process of evaluation is continuous and the Company will adjust its debt structure as is appropriate depending on market conditions.
 
 
(a)  Evaluation of Disclosure Controls and Procedures
 
Management of the Company, with the participation of the President - Chief Executive Officer and the Chief Financial Officer, evaluated the effectiveness of the design and operation of the Company’s disclosure controls and procedures (as defined in Rule 13a-15(e) of the Securities and Exchange Act of 1934, as amended) as of November 2, 2008. Based upon this evaluation, the President - Chief Executive Officer and the Chief Financial Officer have concluded that the Company’s disclosure controls and procedures were not effective as of November 2, 2008 because of the material weakness described in internal control over financial reporting described below in Item 4(b).
 
(b)  Management’s Report on Internal Control over Financial Reporting
 
Management of the Company is responsible for establishing and maintaining internal control over financial reporting as defined in Rule 13a-15(f) under the Securities and Exchange Act of 1934, as amended. The Company’s internal control system is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external reporting purposes in accordance with U.S. generally accepted accounting principles. Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.
 
A material weakness represents a deficiency or a combination of deficiencies in internal controls over financial reporting, such that there is a reasonable possibility that a material misstatement of the Company's annual or interim financial statements will not be prevented or detected on a timely basis.
 
 
 
15

Management assessed the effectiveness of the Company’s internal control over financial reporting as of November 2, 2008 based on the criteria established in Internal Control- Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (“COSO”). As a result of this assessment, management concluded that the Company’s internal control over financial reporting was not effective as of November 2, 2008.
 
·
The Company did not have adequate transition plans to address turnover in finance and accounting personnel.  As a result, due to significant changes in these personnel that occurred around the Company’s February 3, 2008 year-end closing process, the Company did not have sufficient trained resources to effectively operate the year-end closing process controls.  This resulted in misstatements that were corrected prior to the issuance of the consolidated financial statements.  As a result of this material weakness, there is more than a reasonable possibility that a material misstatement of the Company’s annual or interim financial statements will not be prevented or detected on a timely basis.
 
(c)  Changes in Internal Control over Financial Reporting
 
The Company had significant changes to its accounting and finance personnel during the first quarter of fiscal 2009.  These changes resulted in improvement in each position.  The Company replaced three positions with individuals who had obtained Bachelors of Science accounting degrees.  These positions were previously held by individuals without this education.  The Company replaced one position with an individual who has achieved their certified public accountant license.  The person who had previously held this particular position did not have this license.  The Company believes that these changes have significantly strengthened the Finance Department for the future.
 
The President and Chief Executive Officer of the Company resigned on February 22, 2008.  At that time the Board of Directors appointed the current Senior Vice President – Chief Financial Officer to assume the duties of Interim President and Chief Executive Officer.  The Vice President – Controller was appointed to assume the duties of Interim Chief Financial Officer.
 
On July 1, 2008, the Company hired a President and Chief Executive Officer.  The Interim President and Chief Executive Officer returned to the Chief Financial Officer position as Executive Vice President – Chief Financial Officer.  The Interim Chief Financial Officer returned to the position of Vice President – Controller at that time also.
 
 
 
There are no material pending legal proceedings other than routine litigation incidental to the business to which the Company is party of or with any property is subject.

 
There have been no material changes to our risk factors as previously disclosed in our Form 10-K for the fiscal year ended February 3, 2008.
 
 
On March 23, 2006, the Board of Directors of the Company authorized the Company to repurchase up to 200,000 shares of Common Stock, of which 17,368 shares had been purchased as of November 2, 2008.  On August 13, 2008 the Company announced that it was resuming its stock repurchase program.  Since August 13, 2008, 14,031 shares have been repurchased.  The following are details of repurchases under this program for the period covered by this report, in accordance with Rule 10b-1 and Rule 10b-18 of the Securities Exchange Act of 1934:
 
             
Maximum Number
 
         
Total Number of
 
(or Approximate Dollar
 
         
shares (or Units)
 
Value) of Shares (or
 
 
Total Number
 
Average Price
 
Purchased as Part
 
Units) that May Yet
 
 
Of Shares (or
 
Paid per Share
 
of Publicly Announced
 
Be Purchased Under
 
Period
Units) Purchased
 
(or Unit)
 
Plans or Programs
 
the Plans or Programs
 
August 4, 2008 - August 31, 2008
    7,501       14.22       7,501       189,162  
September 1, 2008 - October 5, 2008
    3,020       13.42       3,020       186,142  
October 6, 2008 - November 2, 2008
    3,510       12.61       3,510       182,632  
 
On July 1, 2008, the Company entered into a Stock Purchase Agreement with Lawrence J. Zigerelli as part his starting employment at the Company.  Mr. Zigerelli purchased 10,000 shares of the Company’s common stock.  The purchase price was $9.05 which was the closing price of the stock on the NASDAQ Global Market on the date of the agreement.  The agreement was executed in reliance upon the exemption from securities registration afforded by Section 4(2) of the Securities Act.  The proceeds of this transaction were used by the Company for general purposes.
 
 
Not applicable.
 
16

 
None.
 
 
None.
 
 
See the Exhibit Index immediately following the signature page hereto.
 
SIGNATURE

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.

DUCKWALL-ALCO STORES, INC.
    (Registrant)

/s/ Donny R. Johnson
    Donny R. Johnson
    Chief Financial Officer – Executive Vice President
    Signing on behalf of the registrant and as Principal Financial Officer
 
EXHIBIT INDEX

3.1
Articles of Incorporation of Duckwall-ALCO Stores, Inc., amended as of June 13, 1994 and restated solely for filing with the Securities and Exchange Commission (filed as Exhibit 3.1 to Company's Quarterly Report on Form 10-Q for the fiscal quarter ended August 1, 2004 and incorporated herein by reference).
   
3.2
Bylaws of Duckwall-ALCO Stores, Inc. (filed as Exhibit 3.2 to Company's Quarterly Report on Form 10-Q for the fiscal quarter ended August 1, 2004 and incorporated herein by reference).
   
4.1
Specimen of Duckwall-ALCO Stores, Inc. Common Stock Certificate.  (filed as Exhibit 4.1 to Company’s Quarterly Report on Form 10-Q for the fiscal quarter ended August 3, 2008 and incorporated herein by reference).
 
4.2
Reference is made to the Amended and Restated Articles of Incorporation described under 3.1 above and Bylaws described under 3.2 above.
   
10.1
Employment Agreement dated July 1, 2008 between the Company and Lawrence J. Zigerelli is incorporated by reference to Exhibit 10.1 to the Current Report on Form 8-K of the Company dated July 3, 2008.
 
10.2
Stock Purchase Agreement dated July 1, 2008 between the Company and Lawrence J. Zigerelli is incorporated by reference to Exhibit 10.2 to the Current Report on Form 8-K of the Company dated July 3, 2008.
   
10.3
Non-Qualified Stock Option Agreement dated July 1, 2008 between the Company and Lawrence J. Zigerelli is incorporated by reference to Exhibit 10.3 to the Current Report on Form 8-K of the Company dated July 3, 2008.
 
10.4
Employment Agreement dated July 24, 2008 between the Company and Jane F. Gilmartin is incorporated by reference to Exhibit 10.4 to the Current Report on Form 8-K of the Company dated July 24, 2008.
 
10.5
Employment Agreement dated August 25, 2008 between the Company and Edmond C. Beaith is incorporated by reference to Exhibit 10.5 to the Current Report on Form 8-K of the Company dated August 25, 2008.
   
10.6
Separation Agreement and Release, dated as of August 1, 2008, between the Company and Anthony C. Corradi, including consulting agreement is incorporated by reference to Exhibit 10.6 to the Current Report on Form 8-K of the Company dated August 1, 2008.
   
31.1
Certification of Chief Executive Officer of Duckwall-ALCO Stores, Inc. dated December 11, 2008, pursuant to Rule 13a-4(a) under the Securities Exchange Act of 1934, as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
   
31.2
Certification of Chief Financial Officer of Duckwall-ALCO Stores, Inc. dated December 11, 2008, pursuant to Rule 13a-4(a) under the Securities Exchange Act of 1934, as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
   
32.1
Certification of Chief Executive Officer of Duckwall-ALCO Stores, Inc, dated December 11, 2008, pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, which is furnished with this Quarterly Report on Form 10-Q for the quarter ended November 2, 2008 and is not treated as filed in reliance upon § 601(b)(32) of Regulations S-K.
   
32.2
Certification of Chief Financial Officer of Duckwall-ALCO Stores, Inc., dated December 11, 2008, pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, which is furnished with this Quarterly Report on Form 10-Q for the quarter ended November 2, 2008 and is not treated as filed in reliance upon § 601(b)(32) of Regulations S-K.
 
17

 
 
Signature and Title
   
Date
       
/s/ Lawrence J. Zigerelli
   
December 11, 2008
Lawrence J. Zigerelli
     
President and Chief Executive Officer
     
(Principal Executive Officer)
     
       
/s/ Donny R. Johnson
   
December 11, 2008
Donny R. Johnson
     
Executive Vice President - Chief Financial Officer
     
(Principal Financial and Accounting Officer)
     
       
/s/ Raymond A.D. French
   
December 11, 2008
Raymond A.D. French
     
Director
     
       
/s/ James G. Hyde
   
December 11, 2008
James G. Hyde
     
Director
     
       
/s/ Dennis E. Logue
   
December 11, 2008
Dennis E. Logue
     
Director
     
       
/s/ Lolan C. Mackey
   
December 11, 2008
Lolan C. Mackey
     
Director
     
       
/s/ Royce L. Winsten
   
December 11, 2008
Royce L. Winsten
     
Director - Chairman of Board
     
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
18

 
 
 
 
 
 
 
 
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