BARNES & NOBLE FORM 10-Q
Table of Contents

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-Q

     
(Mark One)
x   QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE SECURITIES EXCHANGE ACT OF 1934
     
    For the quarterly period ended August 3, 2002
     
OR
     
o   TRANSITION REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE SECURITIES EXCHANGE ACT OF 1934
     
    For the transition period from                to                

Commission File Number: 1-12302

BARNES & NOBLE, INC.


(Exact Name of Registrant as Specified in Its Charter)
     
Delaware   06-1196501

 
(State or Other Jurisdiction of
Incorporation or Organization)
  (I.R.S. Employer
Identification No.)
     
122 Fifth Avenue, New York, NY   10011

 
(Address of Principal Executive Offices)   (Zip Code)

(212) 633-3300


(Registrant’s Telephone Number, Including Area Code)


(Former Name, Former Address and Former Fiscal Year, if Changed Since Last Report)

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 [   ]

Number of shares of $.001 par value common stock outstanding as of August 31, 2002: 67,460,733.

 


TABLE OF CONTENTS

PART I — FINANCIAL INFORMATION
Item 1: Financial Statements
Consolidated Statements of Operations
Consolidated Balance Sheets
Consolidated Statement of Changes in Shareholders’ Equity
Consolidated Statements of Cash Flows
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
PART II — OTHER INFORMATION
Item 1. Legal Proceedings
Item 4. Submission of Matters to a Vote of Security Holders
Item 6. Exhibits and Reports on Form 8-K
SIGNATURES
CERTIFICATION PURSUANT TO
18 U.S.C. SECTION 1350,
AS ADOPTED PURSUANT TO
SECTION 302 OF THE SARBANES-OXLEY ACT OF 2002
CERTIFICATION PURSUANT TO
18 U.S.C. SECTION 1350,
AS ADOPTED PURSUANT TO
SECTION 302 OF THE SARBANES-OXLEY ACT OF 2002


Table of Contents

BARNES & NOBLE, INC. AND SUBSIDIARIES

August 3, 2002

Index to Form 10-Q

                 
            Page No.
           
PART I -  
FINANCIAL INFORMATION
       
Item 1.  
Financial Statements
       
       
Consolidated Statements of Operations — For the 13 weeks and 26 weeks ended August 3, 2002 and August 4, 2001
    3  
       
Consolidated Balance Sheets – August 3, 2002, August 4, 2001 and February 2, 2002
    4  
       
Consolidated Statement of Changes in Shareholders’ Equity – August 3, 2002
    6  
       
Consolidated Statements of Cash Flows — For the 26 weeks ended August 3, 2002 and August 4, 2001
    7  
       
Notes to Consolidated Financial Statements
    8  
Item 2.  
Management’s Discussion and Analysis of Financial Condition and Results of Operations
    16  
Item 3.  
Quantitative and Qualitative Disclosures About Market Risk
    24  
PART II -  
OTHER INFORMATION
       
Item 1.  
Legal Proceedings
    25  
Item 4.  
Submission of Matters to a Vote of Security Holders
    25  
Item 6.  
Exhibits and Reports on Form 8-K
    25  
       
SIGNATURES
    26  
       
Certification of Chief Executive Officer, pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002
    27  
       
Certification of Chief Financial Officer, pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002
    28  

 


Table of Contents

PART I — FINANCIAL INFORMATION

Item 1: Financial Statements

BARNES & NOBLE, INC. AND SUBSIDIARIES
Consolidated Statements of Operations
(thousands of dollars, except per share data)
(unaudited)

                                       
          13 weeks ended   26 weeks ended
         
 
          August 3,   August 4,   August 3,   August 4,
          2002   2001   2002   2001
         
 
 
 
Sales
  $ 1,159,214       1,050,018       2,292,340       2,059,655  
Cost of sales and occupancy
    857,159       774,696       1,706,652       1,525,282  
 
   
     
     
     
 
     
Gross profit
    302,055       275,322       585,688       534,373  
 
   
     
     
     
 
Selling and administrative expenses
    229,582       214,691       460,623       424,861  
Legal settlement expense
                      4,500  
Depreciation and amortization
    36,620       36,560       72,370       73,283  
Pre-opening expenses
    2,250       896       4,000       1,721  
Impairment charge
                25,328        
 
   
     
     
     
 
     
Operating profit
    33,603       23,175       23,367       30,008  
Interest (net of interest income of $941, $31, $1,959 and $499, respectively) and amortization of deferred financing fees
    (4,960 )     (9,830 )     (10,366 )     (21,107 )
Equity in net loss of Barnes & Noble.com
    (7,469 )     (13,906 )     (14,904 )     (28,221 )
Other expense, primarily losses attributable to equity-method investments
    (14,685 )     (2,328 )     (16,498 )     (3,213 )
 
   
     
     
     
 
 
Income (loss) before taxes and minority interest
    6,489       (2,889 )     (18,401 )     (22,533 )
Income taxes
    2,821       (1,199 )     (7,406 )     (9,351 )
 
   
     
     
     
 
 
Income (loss) before minority interest
    3,668       (1,690 )     (10,995 )     (13,182 )
Minority interest
    (2,239 )           (3,897 )      
 
   
     
     
     
 
   
Net income (loss)
  $ 1,429       (1,690 )     (14,892 )     (13,182 )
 
   
     
     
     
 
Income (loss) per common share
                               
   
Basic
  $ 0.02       (0.03 )     (0.22 )     (0.20 )
   
Diluted
  $ 0.02       (0.03 )     (0.22 )     (0.20 )
Weighted average common shares outstanding
                               
   
Basic
    67,413,000       66,172,000       67,332,000       65,689,000  
   
Diluted
    69,739,000       66,172,000       67,332,000       65,689,000  

See accompanying notes to consolidated financial statements.

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Table of Contents

BARNES & NOBLE, INC. AND SUBSIDIARIES
Consolidated Balance Sheets
(thousands of dollars, except per share data)

                                 
            August 3,   August 4,   February 2,
            2002   2001   2002
           
 
 
            (unaudited)        
ASSETS
                       
Current assets:
                       
   
Cash and cash equivalents
  $ 205,000       26,107       108,218  
   
Receivables, net
    100,322       83,466       98,570  
   
Merchandise inventories
    1,395,971       1,267,082       1,285,005  
   
Prepaid expenses and other current assets
    112,637       103,686       99,201  
 
   
     
     
 
       
Total current assets
    1,813,930       1,480,341       1,590,994  
 
   
     
     
 
Property and equipment:
                       
   
Land and land improvements
    3,247       3,247       3,247  
   
Buildings and leasehold improvements
    471,734       446,545       468,954  
   
Fixtures and equipment
    881,015       725,998       798,505  
 
   
     
     
 
 
    1,355,996       1,175,790       1,270,706  
     
Less accumulated depreciation and amortization
    754,720       626,937       674,937  
 
   
     
     
 
       
Net property and equipment
    601,276       548,853       595,769  
 
   
     
     
 
Intangible assets, net
    341,081       351,606       352,897  
Investment in Barnes & Noble.com
    33,313       108,374       48,217  
Other noncurrent assets
    25,504       46,688       35,343  
 
   
     
     
 
   
Total assets
  $ 2,815,104       2,535,862       2,623,220  
 
   
     
     
 

(Continued)

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Table of Contents

BARNES & NOBLE, INC. AND SUBSIDIARIES
Consolidated Balance Sheets
(thousands of dollars, except per share data)

                                 
            August 3,   August 4,   February 2,
            2002   2001   2002
           
 
 
            (unaudited)        
LIABILITIES AND SHAREHOLDERS’ EQUITY
                       
Current liabilities:
                       
   
Accounts payable
  $ 726,020       626,409       695,284  
   
Accrued liabilities
    344,504       255,563       444,944  
 
   
     
     
 
       
Total current liabilities
    1,070,524       881,972       1,140,228  
 
   
     
     
 
Long-term debt
    355,000       676,300       449,000  
Deferred income taxes
    115,207       72,622       36,178  
Other long-term liabilities
    106,880       100,485       109,704  
Minority interest
    184,719              
Shareholders’ equity:
                       
   
Common stock; $.001 par value; 300,000,000 shares authorized; 72,959,598, 72,326,161 and 72,713,069 shares issued, respectively
    73       72       73  
   
Additional paid-in capital
    823,896       715,459       728,015  
   
Accumulated other comprehensive loss
    (628 )     (8,224 )     (14,303 )
   
Retained earnings
    276,810       214,553       291,702  
   
Treasury stock, at cost, 5,504,700 shares
    (117,377 )     (117,377 )     (117,377 )
 
   
     
     
 
       
Total shareholders’ equity
    982,774       804,483       888,110  
 
   
     
     
 
Commitments and contingencies
                 
 
   
     
     
 
   
Total liabilities and shareholders’ equity
  $ 2,815,104       2,535,862       2,623,220  
 
   
     
     
 

See accompanying notes to consolidated financial statements.

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Table of Contents

BARNES & NOBLE, INC. AND SUBSIDIARIES
Consolidated Statement of Changes in Shareholders’ Equity
(thousands of dollars, except per share data)
(unaudited)

                                                     
                        Accumulated                        
                Additional   Other           Treasury        
        Common   Paid-In   Comprehensive   Retained   Stock at        
        Stock   Capital   Losses   Earnings   Cost   Total
       
 
 
 
 
 
Balance at February 2, 2002
  $ 73     $ 728,015     $ (14,303 )   $ 291,702     $ (117,377 )   $ 888,110  
 
   
     
     
     
     
     
 
Comprehensive loss:
                                               
 
Net loss
                      (14,892 )              
 
Other comprehensive loss:
                                               
   
Unrealized loss on available-for-sale securities (net of deferred tax benefit of $1,267)
                (1,823 )                    
   
Less: reclassification adjustment, net of deferred income tax of $10,462
                14,806                      
   
Unrealized gain on derivative instrument (net of deferred tax of $475)
                692                      
Total comprehensive loss
                                            (1,217 )
GameStop Corp. IPO (net of deferred income tax of $65,306)
          90,184                         90,184  
Exercise of 246,529 common stock options (including tax benefit of $1,154)
          5,534                         5,534  
Exercise of common stock options of subsidiary
          163                         163  
 
   
     
     
     
     
     
 
Balance at August 3, 2002
  $ 73     $ 823,896     $ (628 )   $ 276,810     $ (117,377 )   $ 982,774  
 
   
     
     
     
     
     
 

See accompanying notes to consolidated financial statements.

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Table of Contents

BARNES & NOBLE, INC. AND SUBSIDIARIES
Consolidated Statements of Cash Flows
(thousands of dollars)
(unaudited)

                       
          26 weeks ended
         
          August 3, 2002   August 4, 2001
         
 
Cash flows from operating activities:
               
 
Net loss
  $ (14,892 )     (13,182 )
 
Adjustments to reconcile net loss to net cash flows from operating activities:
               
   
Depreciation and amortization (including amortization of deferred financing fees)
    74,044       74,251  
   
Loss on disposal of property and equipment
    5,001       826  
   
Deferred taxes
    4,723        
   
Impairment charge
    25,328        
   
Increase in other long-term liabilities for scheduled rent increases in long-term leases
    1,514       3,326  
   
Other expense, primarily losses attributable to equity-method investments
    16,498       3,213  
   
Legal settlement expense
          4,500  
   
Equity in net loss of Barnes & Noble.com
    14,904       28,221  
   
Minority interest
    3,897        
   
Changes in operating assets and liabilities, net
    (201,732 )     (78,200 )
 
   
     
 
   
Net cash flows from operating activities
    (70,715 )     22,955  
 
   
     
 
Cash flows from investing activities:
               
 
Purchases of property and equipment
    (82,878 )     (50,468 )
 
Proceeds from the partial sale of investments
          6,072  
 
Acquisition of consolidated subsidiary
          (3,747 )
 
Purchase of investments
    (2,351 )     (4,047 )
 
Net increase in other noncurrent assets
    (5,173 )     (10,328 )
 
   
     
 
   
Net cash flows from investing activities
    (90,402 )     (62,518 )
 
   
     
 
Cash flows from financing activities:
               
 
Proceeds from GameStop initial public offering
    346,202        
 
Net decrease in revolving credit facility
    (94,000 )     (290,600 )
 
Proceeds from issuance of long-term debt
          300,000  
 
Proceeds from exercise of common stock options
    5,697       30,267  
 
   
     
 
   
Net cash flows from financing activities
    257,899       39,667  
 
   
     
 
Net increase in cash and cash equivalents
    96,782       104  
Cash and cash equivalents at beginning of period
    108,218       26,003  
 
   
     
 
Cash and cash equivalents at end of period
  $ 205,000       26,107  
 
   
     
 
Changes in operating assets and liabilities, net:
               
 
Receivables, net
  $ (1,752 )     1,039  
 
Merchandise inventories
    (110,966 )     (28,464 )
 
Prepaid expenses and other current assets
    (14,112 )     2,441  
 
Accounts payable and accrued liabilities
    (74,902 )     (53,216 )
 
   
     
 
   
Changes in operating assets and liabilities, net
  $ (201,732 )     (78,200 )
 
   
     
 
Supplemental cash flow information:
               
 
Cash paid during the period for:
               
   
Interest
  $ 11,360       15,889  
   
Income taxes
  $ 69,651       38,257  
Supplemental disclosure of subsidiaries acquired:
               
   
Assets acquired
  $       3,747  
   
Liabilities assumed
           
 
   
     
 
     
Cash
  $       3,747  
 
   
     
 

See accompanying notes to consolidated financial statements.

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Table of Contents

BARNES & NOBLE, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
For the 26 weeks ended August 3, 2002 and August 4, 2001
(thousands of dollars, except per share data)
(unaudited)

The unaudited consolidated financial statements include the accounts of Barnes & Noble, Inc. and its subsidiaries (collectively, 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 as of August 3, 2002 and the results of its operations and its cash flows for the 26 weeks then ended. These consolidated financial statements are condensed and therefore do not include all of the information and footnotes required by generally accepted accounting principles. The consolidated financial statements should be read in conjunction with the Company’s Annual Report on Form 10-K for the 52 weeks ended February 2, 2002 (fiscal 2001). The Company follows the same accounting policies in preparation of interim reports.

Due to the seasonal nature of the business, the results of operations for the 26 weeks ended August 3, 2002 are not indicative of the results to be expected for the 52 weeks ending February 1, 2003 (fiscal 2002).

(1)   Merchandise Inventories

         Merchandise inventories are stated at the lower of cost or market. Cost is determined using the retail inventory method on the first-in, first-out (FIFO) basis for 82 percent, 80 percent and 81 percent of the Company’s merchandise inventories as of August 3, 2002, August 4, 2001 and February 2, 2002, respectively. Merchandise inventories of GameStop Corp. (GameStop) stores and Calendar Club L.L.C. (Calendar Club) represent 11 percent, 12 percent and 11 percent of merchandise inventories as of August 3, 2002, August 4, 2001 and February 2, 2002, respectively and are recorded based on the average cost method. The remaining merchandise inventories are valued on the last-in, first-out (LIFO) method.

         If substantially all of the merchandise inventories currently valued at LIFO costs were valued at current costs, merchandise inventories would remain unchanged as of August 3, 2002, August 4, 2001 and February 2, 2002.

(2)   Reclassifications

         Certain prior period amounts have been reclassified to conform to the current period presentation.

(3)   Income Taxes

         The tax provisions for the 26 weeks ended August 3, 2002 and August 4, 2001 are based upon management’s estimate of the Company’s annualized effective tax rate.

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BARNES & NOBLE, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
For the 26 weeks ended August 3, 2002 and August 4, 2001
(thousands of dollars, except per share data)
(unaudited)

(4)   Comprehensive Income (Loss)

         Comprehensive income (loss) is net income (loss), plus certain other items that are recorded directly to shareholders’ equity. The only such items currently applicable to the Company are the unrealized gains (losses) on available-for-sale securities and derivative instruments, as follows:

                                   
      13 weeks ended   26 weeks ended
     
 
      August 3,   August 4,   August 3,   August 4,
      2002   2001   2002   2001
     
 
 
 
Net income (loss)
  $ 1,429       (1,690 )     (14,892 )     (13,182 )
Other comprehensive income (loss):
                               
 
Unrealized gains (losses) on available-for-sale securities:
                               
 
     Unrealized holding gains (losses) arising
     during the period
          385       (1,823 )     (2,139 )
 
     Less: reclassification adjustment
                14,806       556  
 
   
     
     
     
 
 
Unrealized gains (losses), net of deferred income tax expense (benefit) of $0, $273, $9,195 and ($1,517), respectively
          385       12,983       (1,583 )
 
   
     
     
     
 
 
Unrealized gain (loss) on derivative instrument, net of deferred income tax expense (benefit) of $123, ($83), $475 and ($544), respectively
    185       (118 )     692       (767 )
 
   
     
     
     
 
Total comprehensive income (loss)
  $ 1,614       (1,423 )     (1,217 )     (15,532 )
 
   
     
     
     
 

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BARNES & NOBLE, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
For the 26 weeks ended August 3, 2002 and August 4, 2001
(thousands of dollars, except per share data)
(unaudited)

(5)   Other Expense, Primarily Losses Attributable to Equity-Method Investments

         The following table sets forth the components of other expense, in thousands of dollars:

                                 
    13 weeks ended   26 weeks ended
   
 
    August 3,   August 4,   August 3,   August 4,
    2002   2001   2002   2001
   
 
 
 
Equity in net losses of iUniverse.com(a)(b)
  $ (7,910 )     (873 )     (8,489 )     (1,893 )
Equity in net losses of BOOK® magazine(b)(c)
    (4,381 )     (750 )     (5,081 )     (950 )
Equity in net losses of enews, inc.(b)(d)
    (1,817 )     (705 )     (2,351 )     (705 )
Other
    (577 )           (577 )     335  
 
   
     
     
     
 
Total other expense
  $ (14,685 )     (2,328 )     (16,498 )     (3,213 )
 
   
     
     
     
 

  (a)   The Company has a 22 percent ownership interest in iUniverse.com. This investment is being accounted for under the equity method.
 
  (b)   In the second quarter of fiscal 2002, the Company determined that a decrease in value of its investment occurred which is other than temporary. This resulted in the recognition of losses in excess of what would otherwise be recognized by application of the equity method in accordance with Accounting Principles Board Opinion No. 18, “The Equity Method of Accounting for Investments in Common Stock.” The investment balance is $0 at August 3, 2002.
 
  (c)   The Company has a 50 percent interest in BOOK® magazine. This investment is being accounted for under the equity method.
 
  (d)   The Company has a 49 percent interest in enews, inc. This investment is being accounted for under the equity method.

(6)   Segment Information

         The Company’s reportable segments are strategic groups that offer different products. These groups have been aggregated into two segments: bookstores and video-game and entertainment-software stores.

         Bookstores
         This segment includes 606 bookstores under the Barnes & Noble Booksellers, Bookstop and Bookstar trade names which generally offer a comprehensive title base, a café, a children’s section, a music department, a magazine section and a calendar of ongoing events, including author appearances and children’s activities. This segment also includes 286 small format mall-based stores under the B. Dalton Bookseller, Doubleday Book Shops and Scribner’s Bookstore trade names. Additionally, this segment includes the operations of Calendar Club, a majority-owned subsidiary of the Company. Calendar Club is an operator of seasonal calendar kiosks, primarily in malls. The bookstore segment employs a merchandising strategy that targets the mainstream consumer book market.

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BARNES & NOBLE, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
For the 26 weeks ended August 3, 2002 and August 4, 2001
(thousands of dollars, except per share data)
(unaudited)

         Video-Game and Entertainment-Software Stores
         This segment includes 360 Video Game & Entertainment Software stores under the Babbage’s and Software Etc. names, 768 stores operated under the GameStop and FuncoLand names, a Web site (gamestop.com) and Game Informer magazine. The principal products of these stores are comprised of video-game hardware and software and PC-entertainment software.

         The accounting policies of the segments are the same as those for the Company as a whole. Segment operating profit includes corporate expenses in each operating segment. The Company evaluates the performance of its segments and allocates resources to them based on operating profit.

         Segment information for the 13 and 26 weeks ended August 3, 2002 and August 4, 2001 is as follows:

                                   
      13 weeks ended   26 weeks ended
     
 
      August 3,   August 4,   August 3,   August 4,
Sales   2002   2001   2002   2001

 
 
 
 
Bookstores
  $ 884,952       843,212       1,746,673       1,651,479  
Video Game & Entertainment Software stores
    274,262       206,806       545,667       408,176  
 
   
     
     
     
 
 
Total
  $ 1,159,214       1,050,018       2,292,340       2,059,655  
 
   
     
     
     
 
                                   
      13 weeks ended   26 weeks ended
     
 
      August 3,   August 4,   August 3,   August 4,
Operating profit   2002   2001   2002   2001

 
 
 
 
Bookstores*
  $ 23,739       25,337       4,791       37,511  
Video Game & Entertainment Software stores
    9,864       (2,162 )     18,576       (7,503 )
 
   
     
     
     
 
 
Total
  $ 33,603       23,175       23,367       30,008  
 
   
     
     
     
 

*Operating profit of the 26 weeks ended August 3, 2002 is net of a non-cash impairment charge of $25,328.

         Bookstores operating profit includes Calendar Club operating losses of approximately $2,501 and $2,725 for the 13 weeks ended August 3, 2002 and August 4, 2001, respectively, and $5,077 and $6,459 for the 26 weeks ended August 3, 2002 and August 4, 2001, respectively.

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BARNES & NOBLE, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
For the 26 weeks ended August 3, 2002 and August 4, 2001
(thousands of dollars, except per share data)
(unaudited)

         A reconciliation of operating profit reported by reportable segments to income (loss) before income taxes and minority interest in the consolidated financial statements for the 13 weeks and 26 weeks ended August 3, 2002 and August 4, 2001 is as follows:

                                 
    13 weeks ended   26 weeks ended
   
 
    August 3,   August 4,   August 3,   August 4,
    2002   2001   2002   2001
   
 
 
 
Reportable segments operating profit
  $ 33,603       23,175       23,367       30,008  
Interest, net
    (4,960 )     (9,830 )     (10,366 )     (21,107 )
Equity in net loss of Barnes & Noble.com
    (7,469 )     (13,906 )     (14,904 )     (28,221 )
Other expense
    (14,685 )     (2,328 )     (16,498 )     (3,213 )
 
   
     
     
     
 
Consolidated income (loss) before income taxes and minority interest
  $ 6,489       (2,889 )     (18,401 )     (22,533 )
 
   
     
     
     
 

(7)   GameStop Initial Public Offering

         In February 2002, GameStop completed an initial public offering of shares of its Class A common stock at a price of $18.00 per share, raising net proceeds of approximately $348,000. A portion of the net proceeds was used to repay $250,000 of indebtedness to the Company, with the Company contributing the remaining $150,000 of indebtedness to GameStop as additional paid-in capital. The balance of the net proceeds (approximately $98,000) is being used for working capital and general corporate purposes for GameStop. Currently, the Company owns approximately 63 percent of the outstanding shares of GameStop’s capital stock through its ownership of 100 percent of GameStop’s Class B common stock, which represents 94.5 percent of the combined voting power of all classes of GameStop voting stock. The Company recorded an increase in additional paid-in capital of $155,490 ($90,184 after taxes), representing the Company’s incremental share in the equity of GameStop.

(8)   Impairment Charge

         During the first quarter of fiscal 2002, the Company deemed the decline in value in its available-for-sale securities in Gemstar-TV Guide International, Inc. (Gemstar) and Indigo Books & Music Inc. (Indigo) to be other than temporary. The investments had been carried at fair market value with unrealized gains and losses included in shareholders’ equity. Events such as Gemstar’s largest shareholder taking an impairment charge for its investment, the precipitous decline in the stock price subsequent to the abrupt resignation of one of its senior executives, the questioning of aggressive revenue recognition policies and the filing of a class action lawsuit against Gemstar, were among the items which led to management’s decision to record an impairment for its investment in Gemstar of nearly $24,000 (before taxes). The Company’s decision to record an impairment charge for its investment in Indigo was based on a review of Indigo’s financial condition and historical share

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BARNES & NOBLE, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
For the 26 weeks ended August 3, 2002 and August 4, 2001
(thousands of dollars, except per share data)
(unaudited)

trading data. As a result, the Company recorded a non-cash impairment charge to operating earnings of $25,328 ($14,944 after taxes) to reclassify the accumulated unrealized losses and to write down the investments to their current fair market value at the close of business on May 4, 2002.

         In the second quarter of fiscal 2002, the Company sold its investment in Gemstar resulting in a loss of $297.

(9)   Recent Accounting Pronouncements

         In June 2001, the Financial Accounting Standards Board (FASB) finalized Statements of Financial Accounting Standards (SFAS) No. 141, “Business Combinations,” and SFAS No. 142, “Goodwill and Other Intangible Assets”. SFAS No. 141 requires the use of the purchase method of accounting and prohibits the use of the pooling-of-interests method of accounting for business combinations initiated after June 30, 2001. SFAS No. 141 also requires that the Company recognize acquired intangible assets apart from goodwill if the acquired intangible assets meet certain criteria. SFAS No. 141 applies to all business combinations initiated after June 30, 2001 and for purchase business combinations completed on or after July 1, 2001. It also requires that, upon adoption of SFAS No. 142, the Company reclassify the carrying amounts of intangible assets and goodwill based on the criteria in SFAS No. 141.

         SFAS No. 142 requires, among other things, that companies no longer amortize goodwill, but instead test goodwill for impairment at least annually. In addition, SFAS No. 142 requires that the Company identify reporting units for the purposes of assessing potential future impairments of goodwill, reassess the useful lives of other existing recognized intangible assets, and cease amortization of intangible assets with an indefinite useful life. An intangible asset with an indefinite useful life should be tested for impairment in accordance with the guidance in SFAS No. 142. SFAS No. 142 is required to be applied in fiscal years beginning after December 15, 2001 to all goodwill and other intangible assets recognized at that date, regardless of when those assets were initially recognized. SFAS No. 142 requires the Company to complete a transitional goodwill impairment test six months from the date of adoption. The Company reassessed the useful lives of other intangible assets within the first interim quarter after adoption of SFAS No. 142.

         The Company’s previous business combinations were accounted for using the purchase method. As of August 3, 2002, the net carrying amount of goodwill was $341,081. As required by SFAS No. 142, the Company has completed its initial impairment test on the goodwill in the second quarter of fiscal 2002 and as a result no impairment charge is deemed necessary.

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BARNES & NOBLE, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
For the 26 weeks ended August 3, 2002 and August 4, 2001
(thousands of dollars, except per share data)
(unaudited)

The effect of adoption of SFAS No. 142 on the reported net income (loss) for the prior period is as follows:

                                 
    13 weeks ended   26 weeks ended
   
 
    August 3,   August 4,   August 3,   August 4,
    2002   2001   2002   2001
   
 
 
 
Reported net income (loss)
  $ 1,429       (1,690 )     (14,892 )     (13,182 )
Add back: Amortization of goodwill
          3,129             6,220  
 
   
     
     
     
 
Net income (loss), as adjusted
  $ 1,429       1,439       (14,892 )     (6,962 )
 
   
     
     
     
 

         In August 2001, the FASB issued SFAS No. 144, “Accounting for the Impairment or Disposal of Long-Lived Assets”, that is applicable to financial statements issued for fiscal years beginning after December 15, 2001. The FASB’s new rules on asset impairment supersede SFAS No. 121, and portions of Accounting Principles Board Opinion 30, “Reporting the Results of Operations”. This new standard provides a single accounting model for long-lived assets to be disposed of and significantly changes the criteria that would have to be met to classify an asset as held-for-sale. Classification as held-for-sale is an important distinction since such assets are not depreciated and are stated at the lower of fair value and carrying amount. The adoption of SFAS No. 144 has not had any impact on the Company’s financial position and operating results.

         SFAS No. 145, “Rescission of FASB Statements No. 4, 44 and 64, Amendment of FASB Statement No. 13, and Technical Corrections”, updates, clarifies and simplifies existing accounting pronouncements. SFAS No. 145 rescinds SFAS No. 4, “Reporting Gains and Losses from Extinguishment of Debt,” and amends SFAS No. 13, “Accounting for Leases,” to eliminate an inconsistency between the required accounting for sale-leaseback transactions and the required accounting for certain lease modifications that have economic effects that are similar to sale-leaseback transactions. The provisions of SFAS No. 145 related to SFAS No. 4 and SFAS No. 13 are effective for fiscal years beginning and transactions occurring after May 15, 2002. It is anticipated that the financial impact of SFAS No. 145 will not have a material effect on the Company.

         SFAS No. 146, “Accounting for Costs Associated with Exit or Disposal Activities”, requires the Company to recognize certain costs associated with exit or disposal activities when they are incurred rather than at the date of a commitment to an exit or disposal plan. SFAS No. 146 replaces Emerging Issues Task Force Issue No. 94-3, “Liability Recognition for Certain Employee Termination Benefits and Other Costs to Exit an Activity (Including Certain Costs Incurred in a Restructuring).” The provisions of SFAS No. 146 are to be applied prospectively to exit or disposal activities initiated after December 31, 2002.

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BARNES & NOBLE, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
For the 26 weeks ended August 3, 2002 and August 4, 2001
(thousands of dollars, except per share data)
(unaudited)

(10)   Revolving Credit Facility

         On May 22, 2002, the Company obtained a $500,000 three-year senior revolving credit facility (the Facility) with a syndicate led by Fleet National Bank. The Facility permits borrowings at various interest-rate options based on the prime rate or London Interbank Offer Rate (LIBOR) plus applicable margin depending upon the level of the Company’s fixed charge coverage ratio. The Company’s fixed charge coverage is calculated on a consolidated basis as the ratio of earnings before interest, taxes, depreciation, amortization and rents to interest plus rents. In addition, the Facility requires the Company to pay an initial commitment fee of 0.25 percent, which fee varies based upon the Company’s fixed charge coverage ratio, calculated as a percentage of the unused portion. The Company is required to pay utilization fees of 0.125 percent or 0.25 percent on all outstanding loans under the Facility if the aggregate outstanding loans are greater than 33 percent and 66 percent, respectively, of the aggregate amount of the Facility.

         A portion of the Facility, not to exceed $100,000, is available for the issuance of letters of credit. Also, under certain circumstances, the Company may be permitted to increase the size of the Facility to an amount not to exceed $600,000 and/or to extend the term of the Facility by one additional year.

         Mandatory prepayments include the requirement that loans outstanding under the Facility be reduced by 100 percent of the net cash proceeds from (i) the disposition of the Company’s stock in certain entities, (ii) any equity issuance, and (iii) the disposition of certain other material assets, other than those assets disposed of during the ordinary course of business. Under certain circumstances, mandatory commitment reductions include the requirement that the aggregate size of the Facility be reduced upon the disposition by the Company of its stock in GameStop.

         The Facility contains covenants, limitations and events of default typical of credit facilities of this size and nature, including financial covenants, which require the Company to meet, among other things, leverage and fixed charge coverage ratios and which limit capital expenditures. Negative covenants include limitations on other indebtedness, liens, investments, mergers, consolidations, sales or leases of assets, acquisitions, distributions and dividends and other payments in respect of capital stock, transactions with affiliates, and sale/leaseback transactions. In the event the Company defaults on these financial covenants, all outstanding borrowings under the Facility may become immediately payable and no further borrowings may be available. The Facility is secured by the Company’s capital stock in its subsidiaries, and by the accounts receivable and general intangibles of the Company and its subsidiaries. Net proceeds from the Facility are available for general corporate purposes.

(11)   Recent Events

         As previously announced, the board of directors has authorized the resumption of the Company’s $250,000 stock repurchase plan begun in 1999. Under that program, the Company has remaining authorization to purchase up to $132,000 of its common shares. The Company may repurchase shares from time to time in the open market or through privately negotiated transactions, depending on prevailing market conditions, and other factors.

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Item 2: Management’s Discussion and Analysis of Financial Condition and Results of Operations

Critical Accounting Policy for the Impairment of Long-Lived Assets

The Company’s long-lived assets include property and equipment and intangibles (primarily goodwill). At August 3, 2002, the Company had $601.3 million of property and equipment, net of accumulated depreciation, and $341.1 million of goodwill, net of amortization, accounting for approximately 33.5% of the Company’s total assets.

The Company periodically reviews its property and equipment and non-goodwill intangibles under the newly issued accounting pronouncement Statement of Financial Accounting Standard (SFAS) No. 144, “Accounting for the Impairment or Disposal of Long-Lived Assets,” whenever events or changes in circumstances indicate that their carrying amounts may not be recoverable or their depreciation periods should be accelerated. Factors that the Company considers important which could trigger a review include the following:

  Significant changes in the manner of use of the assets
 
  Significant changes in the strategy of the overall business
 
  Significant underperformance relative to expected historical or projected future operating results

Recoverability is assessed based on several factors, including management’s intentions with respect to its stores and those stores’ projected undiscounted cash flows. Assumptions underlying such projected cash flows include historical experience of stores, competitive environment, purchasing trends and projected demographics in the areas.

If it is determined that the carrying value of long-lived assets may not be recoverable, the Company measures impairment based on the present values of the projected cash flows using a discount rate determined by the Company’s management to be commensurate with the risk involved.

On February 3, 2002, the Company adopted SFAS No. 142, “Goodwill and Other Intangible Assets,” and as a result, the Company ceased to amortize its remaining goodwill. In lieu of amortization, the Company was required to perform an initial impairment review of its goodwill in the first six months of fiscal 2002 (year ending February 1, 2003) and an annual impairment review thereafter. As required by SFAS No. 142, the Company has completed its initial impairment test on the goodwill in the second quarter of fiscal 2002 and as a result no impairment charge is deemed necessary.

Liquidity and Capital Resources

In February 2002, the Company completed an initial public offering (IPO) for its GameStop subsidiary, raising $250.0 million in cash for the Company (which was used to pay down debt) and $98.0 million in net proceeds for GameStop. The Company has retained an approximate 63 percent interest in GameStop.

The primary sources of the Company’s cash are net cash flows from operating activities, funds available under its senior credit facility and short-term vendor financing.

The Company’s cash and cash equivalents were $205.0 million as of August 3, 2002 compared with $26.1 million as of August 4, 2001. The increase was primarily attributable to cash received by GameStop as a result of the

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GameStop IPO. During the 26 weeks ended August 3, 2002, retail earnings before interest, taxes, depreciation and amortization (EBITDA) increased $13.7 million to $124.8 million from $111.1 million during the comparable prior year period.

Merchandise inventories increased to $1,396.0 million as of August 3, 2002, compared with $1,267.1 million as of August 4, 2001, partially due to the Company’s distribution center in Reno, Nevada becoming fully operational. The increase supported the Company’s 11.3% sales growth, the opening of 50 Barnes & Noble stores and 153 GameStop, Inc. (f/k/a Funco, Inc.) and Babbage’s Etc. LLC (collectively, Video Game & Entertainment Software) stores over the last twelve months.

The Company’s investing activities consist principally of capital expenditures for new store construction, system enhancements and store relocations/remodels. Capital expenditures totaled $82.9 million and $50.5 million during the 26 weeks ended August 3, 2002 and August 4, 2001, respectively.

In fiscal 2001, the Company issued $300.0 million of 5.25 percent convertible subordinated notes due March 15, 2009. The notes are convertible into the Company’s common stock at a conversion price of $32.512 per share.

Total debt decreased 47.5% to $355.0 million as of August 3, 2002 from $676.3 million as of August 4, 2001. Average combined borrowings under the Company’s senior credit facility and subordinated notes were $368.4 million and $737.7 million during the 26 weeks ended August 3, 2002 and August 4, 2001, respectively, and peaked at $480.0 million and $870.0 million during the same periods. The ratio of debt to equity decreased to 0.36:1.00 as of August 3, 2002 compared with 0.84:1.00 as of August 4, 2001, primarily due to decreased borrowings under the Company’s senior credit facility. The reduced debt, which was accomplished during a period of 11.3% sales growth and a 10.2% increase in merchandise inventories, was primarily attributable to the proceeds received from the GameStop IPO.

As of August 3, 2002, the Company had an aggregate receivable of $45.1 million from Barnes & Noble.com related to its supply and service agreements. Barnes & Noble.com’s cash, cash equivalents and short-term marketable securities of $87.6 million as of its second quarter ended June 30, 2002, are adequate to cover this payable due to the Company. In the future, the Company may provide additional funding to Barnes & Noble.com.

On May 22, 2002, the Company completed a new $500.0 million revolving credit facility with a syndicate of banks led by Fleet National Bank as administrative agent. The new facility, which expires in May 2005, replaced the Company’s $850.0 million revolving credit facility.

Based upon the Company’s current operating levels, management believes net cash flows from operating activities and the capacity under its new $500.0 million senior credit facility will be sufficient to meet the Company’s normal working capital and debt service requirements for at least the next twelve months.

The Company did not declare or pay any cash dividends during the 26-week periods ended August 3, 2002 and August 4, 2001.

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Seasonality

The Company’s business, like that of many retailers, is seasonal, with the major portion of sales and operating profit realized during the quarter which includes the Holiday selling season.

Results of Operations

13 weeks ended August 3, 2002 compared with the 13 weeks ended August 4, 2001

Sales

During the 13 weeks ended August 3, 2002, the Company’s sales increased $109.2 million, or 10.4%, to $1,159.2 million from $1,050.0 million during the 13 weeks ended August 4, 2001. Contributing to this improvement was an increase of $67.5 million from Video Game & Entertainment Software stores. During the second quarter, Barnes & Noble bookstore sales rose 6.6% to $823.9 million from $772.5 million during the same period a year ago and accounted for 71.1% of total Company sales or 93.1% of total bookstore sales.

During the second quarter, the 6.6% increase in Barnes & Noble bookstore sales was primarily attributable to the opening of 50 new stores opened since August 4, 2001 which contributed to a 8.1% increase in square footage. Barnes & Noble bookstore comparable store sales were up 0.3% for the second quarter.

During the second quarter, B. Dalton sales declined 13.5% and represented 5.1% of total Company sales. The decrease was primarily a result of 46 store closings and a 12.4% reduction in its square footage since August 4, 2001. In addition, B. Dalton’s same store sales declined 3.7% during the second quarter.

GameStop sales during the first quarter increased 32.6%. This increase in sales was primarily attributable to the 22.9% growth in the GameStop comparable store sales and sales from the 153 new GameStop stores opened since August 4, 2001.

During the second quarter, the Company opened eight Barnes & Noble stores and closed one, bringing its total number of Barnes & Noble bookstores to 606 with 14.6 million square feet. The Company closed 12 B. Dalton stores, ending the period with 286 B. Dalton stores and 1.2 million square feet. The Company opened 62 GameStop stores and closed two, bringing its total to 1,128 stores with 1.7 million square feet. As of August 3, 2002, the Company operated 2,020 stores in fifty states, the District of Columbia, Puerto Rico and Guam.

Cost of Sales and Occupancy

During the 13 weeks ended August 3, 2002, cost of sales and occupancy increased $82.5 million, or 10.6%, to $857.2 million from $774.7 million during the 13 weeks ended August 4, 2001, primarily due to growth in the Video Game & Entertainment Software segment. As a percentage of sales, cost of sales and occupancy increased slightly to 73.9% from 73.8% during the same period one year ago.

Selling and Administrative Expenses

Selling and administrative expenses increased $14.9 million to $229.6 million during the 13 weeks ended August 3, 2002 from $214.7 million during the 13 weeks ended August 4, 2001, primarily due to growth in the Video Game & Entertainment Software segment and the increase in bookstore expenses from the opening of 50 Barnes

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& Noble bookstores since August 4, 2001. During the second quarter, selling and administrative expenses decreased as a percentage of sales to 19.8% from 20.4% during the prior year period.

Depreciation and Amortization

During the second quarter, depreciation and amortization remained flat as compared with the same period a year ago. This was due to the combination of the implementation of SFAS No. 142 in fiscal 2002, whereby goodwill is no longer amortized but is reviewed for impairment at least annually, offset by the increase in depreciation related to the 50 new Barnes & Noble bookstores opened since August 4, 2001.

Pre-opening Expenses

Pre-opening expenses increased to $2.3 million during the 13 weeks ended August 3, 2002 from $0.9 million for the 13 weeks ended August 4, 2001. The increase in pre-opening expenses was primarily the result of opening eight Barnes & Noble bookstores and 62 new GameStop stores during the 13 weeks ended August 3, 2002, compared with four new Barnes & Noble bookstores and 13 new GameStop stores during the 13 weeks ended August 4, 2001.

Operating Profit

The Company’s consolidated operating profit increased to $33.6 million during the 13 weeks ended August 3, 2002 from $23.2 million during the 13 weeks ended August 4, 2001.

Interest Expense, Net and Amortization of Deferred Financing Fees

Net interest expense and amortization of deferred financing fees decreased to $5.0 million during the 13 weeks ended August 3, 2002 from $9.8 million during the 13 weeks ended August 4, 2001. The decrease was primarily the result of reduced borrowings under the Company’s senior credit facility due to the pay down of debt with proceeds from the GameStop IPO.

Other Expense, Primarily Losses Attributable to Equity-Method Investments

In the second quarter of fiscal 2002, the Company determined that a decrease in value in certain of its equity investments occurred which was other than temporary. As a result, other expense of $14.7 million in the second quarter of 2002 included the recognition of losses of $11.5 million in excess of what would otherwise have been recognized by application of the equity method in accordance with Accounting Principles Board Opinion No. 18, “The Equity Method of Accounting for Investments in Common Stock.” The $14.7 million loss in other expense was primarily comprised of $7.9 million attributable to iUniverse.com, $4.4 million attributable to BOOK® magazine and $1.8 million attributable to enews, inc. Other expense of $2.3 million in the second quarter of fiscal 2001 was due to $0.9 million in equity losses in iUniverse.com and $0.7 million in equity losses in BOOK® magazine and $0.7 million in equity losses in enews, inc.

Income Taxes

Income taxes during the 13 weeks ended August 3, 2002 was $2.8 million compared with an income tax benefit of $1.2 million during the 13 weeks ended August 4, 2001. Taxes were based upon management’s estimate of the

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Company’s annualized effective tax rates. The Company’s effective tax rate was 43.47% for the second quarter of fiscal 2002 and 41.5% for the second quarter of fiscal 2001.

Minority Interest

During the second quarter of fiscal 2002, minority interest for GameStop was $2.2 million based on a 36.6% basic weighted average.

Net Income (Loss)

As a result of the factors discussed above, the Company reported consolidated net income of $1.4 million (or $0.02 per share) during the 13 weeks ended August 3, 2002, compared with a net loss of ($1.7) million (or ($0.03) per share) during the 13 weeks ended August 4, 2001. Components of earnings per share were as follows:

                   
      13 weeks ended
     
      August 3, 2002   August 4, 2001
     
 
Retail Earnings Per Share
               
 
Bookstores
  $ 0.20       0.21  
 
Video Game & Entertainment Software stores
    0.04       (0.06 )
 
   
     
 
Retail EPS
  $ 0.24       0.15  
EPS Impact of Investing Activities
               
 
Share of net losses of Barnes & Noble.com
  $ (0.07 )     (0.12 )
 
Share of net losses from other investments
    (0.15 )     (0.06 )
 
   
     
 
Total Investing Activities
  $ (0.22 )     (0.18 )
 
   
     
 
Consolidated EPS
  $ 0.02       (0.03 )
 
   
     
 

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Results of Operations

26 weeks ended August 3, 2002 compared with the 26 weeks ended August 4, 2001

Sales

During the 26 weeks ended August 3, 2002, the Company’s sales increased $232.7 million, or 11.3%, to $2,292.3 million from $2,059.7 million during the 26 weeks ended August 4, 2001. Contributing to this improvement was an increase of $137.5 million from Video Game & Entertainment Software stores. During the first half of fiscal 2002, Barnes & Noble bookstore sales rose 7.4% to $1,622.5 million from $1,511.1 million during the same period a year ago and accounted for 70.8% of total Company sales or 92.9% of total bookstore sales.

During the first half of fiscal 2002, the 7.4% increase in Barnes & Noble bookstore sales was primarily attributable to the opening of 50 new stores opened since August 4, 2001 which contributed to a 8.1% increase in square footage. Barnes & Noble bookstore comparable store sales were up 1.4% for the first half of fiscal 2002.

During the first half of fiscal 2002, B. Dalton sales declined 11.7% and represented 5.2% of total Company sales. The decrease was primarily a result of 46 store closings and a 12.4% reduction in its square footage since August 4, 2001. In addition, B. Dalton’s same store sales declined 2.3% during the first half of fiscal 2002.

GameStop sales during the first half of fiscal 2002 increased 33.7%. This increase in sales was primarily attributable to the 25.8% growth in the GameStop comparable store sales and sales from the 153 new GameStop stores opened since August 4, 2001.

During the first half of fiscal 2002, the Company opened 16 Barnes & Noble stores and closed one, bringing its total number of Barnes & Noble bookstores to 606 with 14.6 million square feet. The Company closed 19 B. Dalton stores, ending the period with 286 B. Dalton stores and 1.2 million square feet. The Company opened 100 GameStop stores and closed 10, bringing its total to 1,128 stores with 1.7 million square feet. As of August 3, 2002, the Company operated 2,020 stores in fifty states, the District of Columbia, Puerto Rico and Guam.

Cost of Sales and Occupancy

During the 26 weeks ended August 3, 2002, cost of sales and occupancy increased $181.4 million, or 11.9%, to $1,706.7 million from $1,525.3 million during the 26 weeks ended August 4, 2001, primarily due to growth in the Video Game & Entertainment Software segment. As a percentage of sales, cost of sales and occupancy increased to 74.4% from 74.1% during the same period one year ago. This increase was primarily attributable to lower gross margins in the bookstore segment due to discounts related to the Readers’ Advantage™ program.

Selling and Administrative Expenses

Selling and administrative expenses increased $35.8 million to $460.6 million during the 26 weeks ended August 3, 2002 from $424.9 million during the 13 weeks ended August 4, 2001, primarily due to growth in the Video Game & Entertainment Software segment and the increase in bookstore expenses from the opening of 50 Barnes & Noble bookstores since August 4, 2001. During the first half of fiscal 2002, selling and administrative expenses decreased as a percentage of sales to 20.1% from 20.6% during the prior year period.

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Legal Settlement Expense

In the first quarter of fiscal 2001, the Company recorded a pre-tax charge of $4.5 million in connection with a lawsuit brought by the American Booksellers Association and 26 independent bookstores. The charges included a settlement of $2.4 million paid to the plaintiffs and approximately $2.1 million in legal expenses incurred by the Company.

Depreciation and Amortization

During the first half of fiscal 2002, depreciation and amortization decreased $0.9 million, or 1.2%, to $72.4 million from $73.3 million during the same period last year. The decrease was primarily the result of the implementation of SFAS No. 142 in fiscal 2002, whereby goodwill is no longer amortized but is reviewed for impairment at least annually. This decrease was partially offset by the increase in depreciation related to the 50 new Barnes & Noble bookstores opened since August 4, 2001.

Pre-opening Expenses

Pre-opening expenses increased to $4.0 million during the 26 weeks ended August 3, 2002 from $1.7 million for the 26 weeks ended August 4, 2001. The increase in pre-opening expenses was primarily the result of opening 16 Barnes & Noble bookstores and 100 new GameStop stores during the 26 weeks ended August 3, 2002, compared with six new Barnes & Noble bookstores and 21 new GameStop stores during the 26 weeks ended August 4, 2001.

Impairment Charge

During the first quarter of fiscal 2002, the Company deemed the decline in value in its available-for-sale securities in Gemstar-TV Guide International, Inc. (Gemstar) and Indigo Books & Music Inc. (Indigo) to be other than temporary. The investments had been carried at fair market value with unrealized gains and losses included in shareholders’ equity. Events such as Gemstar’s largest shareholder taking an impairment charge for its investment, the precipitous decline in the stock price subsequent to the abrupt resignation of one of its senior executives, the questioning of aggressive revenue recognition policies and the filing of a class action lawsuit against Gemstar, were among the items which led to management’s decision to record an impairment for its investment in Gemstar of nearly $24.0 million (before taxes). The Company’s decision to record an impairment charge for its investment in Indigo was based on a review of Indigo’s financial condition and historical share trading data. As a result, the Company recorded a non-cash impairment charge to operating earnings of $25.3 million ($14.9 million after taxes) to reclassify the accumulated unrealized losses and to write down the investments to their current fair market value at the close of business on May 4, 2002.

Operating Profit

The Company’s consolidated operating profit decreased to $23.4 million during the 26 weeks ended August 3, 2002 from $30.0 million during the 26 weeks ended August 4, 2001. Operating profit increased to $48.7 million, before the effect of the $25.3 million impairment charge during the first half of fiscal 2002, from $34.5 million, before the effect of the $4.5 million legal settlement expense during the first half of fiscal 2001.

Interest Expense, Net and Amortization of Deferred Financing Fees

Net interest expense and amortization of deferred financing fees decreased to $10.4 million during the 26 weeks ended August 3, 2002 from $21.1 million during the 26 weeks ended August 4, 2001. The decrease was primarily the result of reduced borrowings under the Company’s senior credit facility due to the pay down of debt with proceeds from the GameStop IPO.

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Other Expense, Primarily Losses Attributable to Equity-Method Investments

In the second quarter of fiscal 2002, the Company determined that a decrease in value in certain of its equity investments occurred which was other than temporary. As a result, other expense of $16.5 million in the first half of fiscal 2002 included the recognition of losses of $11.5 million in excess of what would otherwise have been recognized by application of the equity method in accordance with Accounting Principles Board Opinion No. 18, “The Equity Method of Accounting for Investments in Common Stock.” The $16.5 million loss in other expense was primarily comprised of $8.5 million attributable to iUniverse.com, $5.1 million attributable to BOOK® magazine and $2.4 million attributable to enews, inc. Other expense of $3.2 million in the first half of fiscal 2001 was due to $1.9 million in equity losses in iUniverse.com and $0.9 million in equity losses in BOOK® magazine and $0.7 million in equity losses in enews, inc., partially offset by a one-time gain of $0.3 million from the partial sale of Indigo Books & Music Inc.

Income Taxes

The benefit for income taxes during the 26 weeks ended August 3, 2002 was $7.4 million compared with $9.4 million during the 26 weeks ended August 4, 2001. Tax benefits were based upon management’s estimate of the Company’s annualized effective tax rates. The Company’s effective tax rate was 40.25% for the first half of fiscal 2002 and 41.5% for the first half of fiscal 2001.

Minority Interest

During the first half of fiscal 2002, minority interest, net of income taxes for GameStop was $3.9 million based on a 35.2% basic weighted average.

Net Loss

As a result of the factors discussed above, the Company reported a consolidated net loss of ($14.9) million (or ($0.22) per share) during the 26 weeks ended August 3, 2002, compared with a net loss of ($13.2) million (or ($0.20) per share) during the 26 weeks ended August 4, 2001. Components of earnings per share were as follows:

                   
      26 weeks ended
     
      August 3, 2002   August 4, 2001
     
 
Retail Earnings Per Share
               
 
Bookstores
  $ 0.25       0.33  
 
Video Game & Entertainment Software stores
    0.07       (0.16 )
 
   
     
 
Retail EPS
  $ 0.32       0.17  
EPS Impact of Investing Activities
               
 
Share of net losses of Barnes & Noble.com
  $ (0.13 )     (0.25 )
 
Share of net losses from other investments
    (0.19 )     (0.08 )
 
   
     
 
Total Investing Activities
  $ (0.32 )     (0.33 )
Other Adjustments
               
 
Impairment charge
  $ (0.22 )      
 
Legal and settlement expense
          (0.04 )
 
   
     
 
Total Other Adjustments
  $ (0.22 )     (0.04 )
 
   
     
 
Consolidated EPS
  $ (0.22 )     (0.20 )
 
   
     
 

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Item 3: Quantitative and Qualitative Disclosures About Market Risk

The Company’s exposure to market risks results primarily from fluctuations in interest rates. There have been no material changes in this Item since the Company’s last Annual Report on Form 10-K for the year ended February 2, 2002.

Disclosure Regarding Forward-Looking Statements

         This report may contain certain forward-looking statements (as such term is defined in the Private Securities Litigation Reform Act of 1995) and information relating to the Company that are based on the beliefs of the management of the Company as well as assumptions made by and information currently available to the management of the Company. When used in this report, the words “anticipate,” “believe,” “estimate,” “expect,” “intend,” “plan” and similar expressions, as they relate to the Company or the management of the Company, identify forward-looking statements. Such statements reflect the current views of the Company with respect to future events, the outcome of which is subject to certain risks, including among others general economic and market conditions, decreased consumer demand for the Company’s products, possible disruptions in the Company’s computer or telephone systems, possible work stoppages or increases in labor costs, possible increases in shipping rates or interruptions in shipping service, effects of competition, possible disruptions or delays in the opening of new stores or the inability to obtain suitable sites for new stores, higher-than-anticipated store closing or relocation costs, higher interest rates, the performance of the Company’s online initiatives such as Barnes & Noble.com, the performance and successful integration of acquired businesses, the success of the Company’s strategic investments, unanticipated increases in merchandise or occupancy costs, unanticipated adverse litigation results or effects, and other factors which may be outside of the Company’s control. In addition, the video-game market has historically been cyclical in nature and dependent upon the introduction of new generation systems and related interactive software. Should one or more of these risks or uncertainties materialize, or should underlying assumptions prove incorrect, actual results or outcomes may vary materially from those described as anticipated, believed, estimated, expected, intended or planned. Subsequent written and oral forward-looking statements attributable to the Company or persons acting on its behalf are expressly qualified in their entirety by the cautionary statements in this paragraph.

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PART II — OTHER INFORMATION

Item 1. Legal Proceedings

         There have been no material developments with respect to previously reported legal proceedings.

Item 4. Submission of Matters to a Vote of Security Holders

      The Company’s Annual Meeting of Shareholders was held on June 4, 2002. At the close of business on the record date for the meeting (which was April 15, 2002), there were 67,310,635 shares of Common Stock outstanding and entitled to vote at the meeting. Holders of 62,646,974 shares of Common Stock (representing a like number of votes) were present at the meeting, either in person or by proxy.

      The following individuals were elected to the Company’s Board of Directors to hold office for a term of three years and until their respective successors are duly elected and qualified.

         
Nominee In Favor Withheld



Stephen Riggio
  62,143,357   503,617
Matthew A. Berdon
  62,131,369   515,605
Margaret T. Monaco
  62,197,288   449,686

     The Shareholders approved an amendment to the Barnes & Noble, Inc. 1996 Incentive Plan, to among other things, increase the maximum number of shares that may be the subject of awards and to extend the expiration date of the plan.

             
In Favor Against Abstained



26,763,837
  22,338,688     107,898  

      The Shareholders ratified the appointment of BDO Seidman, LLP as the Company’s independent certified public accountants for the fiscal year ending February 1, 2003.

             
In Favor Against Abstained



60,997,336
  1,592,931     56,707  

Item 6. Exhibits and Reports on Form 8-K

  (a)   Exhibits filed with this Form 10-Q:
 
      10.1 Barnes & Noble, Inc. Amended and Restated 1996 Incentive Plan, incorporated by reference to Exhibit 4.1 of Form S-8 filed with the Securities and Exchange Commission on June 14, 2002.
 
  (b)   Reports on Form 8-K:
 
      No report on Form 8-K was filed during the Company’s quarter ended August 3, 2002.

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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.

               
BARNES & NOBLE, INC.
(Registrant)
       
             
By:   /s/ Lawrence S. Zilavy   By:   /s/ Joseph J. Lombardi
   
     
    Lawrence S. Zilavy
Chief Financial Officer
(principal financial officer)
      Joseph J. Lombardi
Vice President, Controller
(principal accounting officer)
             
September 13, 2002        

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CERTIFICATION PURSUANT TO
18 U.S.C. SECTION 1350,
AS ADOPTED PURSUANT TO
SECTION 302 OF THE SARBANES-OXLEY ACT OF 2002

I, Stephen Riggio, certify that:

1.   I have reviewed this quarterly report on Form 10-Q of Barnes & Noble, Inc.
 
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.

Date: September 13, 2002

   
  /s/Stephen Riggio

 
  Stephen Riggio
Chief Executive Officer

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CERTIFICATION PURSUANT TO
18 U.S.C. SECTION 1350,
AS ADOPTED PURSUANT TO
SECTION 302 OF THE SARBANES-OXLEY ACT OF 2002

I, Lawrence S. Zilavy, certify that:

1.   I have reviewed this quarterly report on Form 10-Q of Barnes & Noble, Inc.
 
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.

Date: September 13, 2002

   
  /s/ Lawrence S. Zilavy

 
  Lawrence S. Zilavy
Chief Financial Officer

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