BARNES & NOBLES, INC.
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 November 2, 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   (I.R.S. Employer
Incorporation or Organization)   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 o

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

Number of shares of $.001 par value common stock outstanding as of November 30, 2002: 64,600,521.

 


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
Item 4: Controls and Procedures
PART II — OTHER INFORMATION
Item 1. Legal Proceedings
Item 6. Exhibits and Reports on Form 8-K
SIGNATURES
CERTIFICATION
CERTIFICATION
AMENDMENT NO.1 TO REVOLVING CREDIT AGREEMENT
CERTIFICATION OF CHEIF EXECUTIVE OFFICER
CERTIFICATION OF CHEIF FINANCIAL OFFICER


Table of Contents

BARNES & NOBLE, INC. AND SUBSIDIARIES

November 2, 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 39 weeks ended November 2, 2002 and November 3, 2001  
3
    Consolidated Balance Sheets – November 2, 2002, November 3, 2001 and February 2, 2002   4
    Consolidated Statement of Changes in Shareholders’ Equity – November 2, 2002   6
    Consolidated Statements of Cash Flows — For the 39 weeks ended November 2, 2002 and November 3, 2001   7
    Notes to Consolidated Financial Statements   8
Item 2.   Management’s Discussion and Analysis of Financial Condition and Results of Operations   18
Item 3.   Quantitative and Qualitative Disclosures About Market Risk   26
Item 4.   Controls and Procedures   26
PART II -   OTHER INFORMATION    
Item 1.   Legal Proceedings   27
Item 6.   Exhibits and Reports on Form 8-K   27
    SIGNATURES   28
    Certification of Chief Executive Officer   29
    Certification of Chief Financial Officer   30

 


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   39 weeks ended
         
 
          November 2, 2002   November 3, 2001   November 2, 2002   November 3, 2001
         
 
 
 
Sales
  $ 1,130,885       995,605       3,423,225       3,055,260  
Cost of sales and occupancy
    836,968       733,811       2,543,620       2,259,093  
 
   
     
     
     
 
     
Gross profit
    293,917       261,794       879,605       796,167  
 
   
     
     
     
 
Selling and administrative expenses
    227,509       206,675       688,132       631,536  
Legal settlement expense
                      4,500  
Depreciation and amortization
    37,982       36,477       110,352       109,760  
Pre-opening expenses
    4,077       3,314       8,077       5,035  
Impairment charge
                25,328        
 
   
     
     
     
 
     
Operating profit
    24,349       15,328       47,716       45,336  
Interest (net of interest income of $628, $269, $2,587 and $768, respectively) and amortization of deferred financing fees
    (5,604 )     (8,285 )     (15,970 )     (29,392 )
Equity in net loss of Barnes & Noble.com
    (6,323 )     (13,865 )     (21,227 )     (42,086 )
Other expense, primarily losses attributable to equity-method investments
          (4,812 )     (16,498 )     (8,025 )
 
   
     
     
     
 
 
Income (loss) before taxes and minority interest
    12,422       (11,634 )     (5,979 )     (34,167 )
Income taxes
    4,995       (4,828 )     (2,411 )     (14,179 )
 
   
     
     
     
 
 
Income (loss) before minority interest
    7,427       (6,806 )     (3,568 )     (19,988 )
Minority interest
    (3,598 )           (7,495 )      
 
   
     
     
     
 
     
Net income (loss)
  $ 3,829       (6,806 )     (11,063 )     (19,988 )
 
   
     
     
     
 
Income (loss) per common share
                               
   
Basic
  $ 0.06       (0.10 )     (0.17 )     (0.30 )
   
Diluted
  $ 0.05       (0.10 )     (0.18 )     (0.30 )
Weighted average common shares outstanding
                               
   
Basic
    66,207,000       67,021,000       66,957,000       66,133,000  
   
Diluted
    67,927,000       67,021,000       66,957,000       66,133,000  

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)

                                 
            November 2, 2002   November 3, 2001   February 2, 2002
           
 
 
            (unaudited)        
       
ASSETS
                       
Current assets:
                       
 
Cash and cash equivalents
  $ 142,571       25,097       108,218  
 
Receivables, net
    67,718       76,441       51,366  
 
Barnes & Noble.com receivable
    40,639       42,581       47,204  
 
Merchandise inventories
    1,827,897       1,591,583       1,285,005  
 
Prepaid expenses and other current assets
    113,453       106,473       99,201  
 
   
     
     
 
     
Total current assets
    2,192,278       1,842,175       1,590,994  
 
   
     
     
 
Property and equipment:
                       
 
Land and land improvements
    3,247       3,247       3,247  
 
Buildings and leasehold improvements
    484,307       452,895       468,954  
 
Fixtures and equipment
    916,224       762,552       798,505  
 
   
     
     
 
 
    1,403,778       1,218,694       1,270,706  
   
Less accumulated depreciation and amortization
    787,021       653,231       674,937  
 
   
     
     
 
     
Net property and equipment
    616,757       565,463       595,769  
 
   
     
     
 
Intangible assets, net
    341,081       346,042       352,897  
Investment in Barnes & Noble.com
    27,521       94,509       48,217  
Other noncurrent assets
    23,570       38,550       35,343  
 
   
     
     
 
 
Total assets
  $ 3,201,207       2,886,739       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)

                               
          November 2, 2002   November 3, 2001   February 2, 2002
         
 
 
          (unaudited)        
   
LIABILITIES AND SHAREHOLDERS’ EQUITY
                       
Current liabilities:
                       
 
Accounts payable
  $ 1,055,485       894,955       695,284  
 
Accrued liabilities
    367,665       240,456       444,944  
 
   
     
     
 
     
Total current liabilities
    1,423,150       1,135,411       1,140,228  
 
   
     
     
 
Long-term debt
    443,550       775,100       449,000  
Deferred income taxes
    115,204       68,733       36,178  
Other long-term liabilities
    106,064       105,432       109,704  
Minority interest
    188,491              
Shareholders’ equity:
                       
 
Common stock; $.001 par value; 300,000,000 shares authorized; 73,055,025, 72,667,730 and 72,713,069 shares issued, respectively
    73       73       73  
 
Additional paid-in capital
    826,059       725,326       728,015  
 
Accumulated other comprehensive loss
    (632 )     (13,706 )     (14,303 )
 
Retained earnings
    280,639       207,747       291,702  
 
Treasury stock, at cost, 8,502,700, 5,504,700 and 5,504,700 shares, respectively
    (181,391 )     (117,377 )     (117,377 )
 
   
     
     
 
     
Total shareholders’ equity
    924,748       802,063       888,110  
 
   
     
     
 
Commitments and contingencies
                 
 
   
     
     
 
 
Total liabilities and shareholders’ equity
  $ 3,201,207       2,886,739       2,623,220  
 
   
     
     
 

See accompanying notes to consolidated financial statements.

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

                                                     
                Additional   Accumulated 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
                      (11,063 )              
 
Other comprehensive income:
                                               
   
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 $472)
                688                      
Total comprehensive income
                                            2,608  
GameStop Corp. IPO (net of deferred income tax of $65,306)
          90,184                         90,184  
Exercise of 341,956 common stock options (including tax benefit of $1,297)
          7,391                         7,391  
Exercise of common stock options of subsidiary
          469                         469  
Treasury stock acquired, 2,998,000 shares
                            (64,014 )     (64,014 )
 
   
     
     
     
     
     
 
Balance at November 2, 2002
  $ 73     $ 826,059     $ (632 )   $ 280,639     $ (181,391 )   $ 924,748  
 
   
     
     
     
     
     
 

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)

                       
          39 weeks ended
         
          November 2, 2002   November 3, 2001
         
 
Cash flows from operating activities:
               
 
Net loss
  $ (11,063 )     (19,988 )
 
Adjustments to reconcile net loss to net cash flows from operating activities:
               
   
Depreciation and amortization (including amortization of deferred financing fees)
    112,618       111,280  
   
Loss on disposal of property and equipment
    4,096       990  
   
Deferred taxes
    7,851        
   
Impairment charge
    25,328        
   
Increase in other long-term liabilities for scheduled rent increases in long-term leases
    2,091       4,618  
   
Other expense, primarily losses attributable to equity-method investments
    16,498       8,025  
   
Legal settlement expense
          4,500  
   
Equity in net loss of Barnes & Noble.com
    21,227       42,086  
   
Minority interest
    7,495        
   
Changes in operating assets and liabilities, net
    (293,114 )     (182,632 )
 
   
     
 
   
Net cash flows from operating activities
    (106,973 )     (31,121 )
 
   
     
 
Cash flows from investing activities:
               
 
Purchases of property and equipment
    (135,436 )     (100,569 )
 
Proceeds from the partial sale of investments
          6,072  
 
Acquisition of consolidated subsidiary
          (3,747 )
 
Purchase of investments
    (2,882 )     (4,966 )
 
Net increase in other noncurrent assets
    (3,829 )     (12,660 )
 
   
     
 
   
Net cash flows from investing activities
    (142,147 )     (115,870 )
 
   
     
 
Cash flows from financing activities:
               
 
Proceeds from GameStop initial public offering
    346,112        
 
Net decrease in revolving credit facility
    (5,450 )     (191,800 )
 
Proceeds from issuance of long-term debt
          300,000  
 
Proceeds from exercise of common stock options
    6,825       37,885  
 
Purchase of treasury shares through repurchase program
    (64,014 )      
 
   
     
 
   
Net cash flows from financing activities
    283,473       146,085  
 
   
     
 
Net increase (decrease) in cash and cash equivalents
    34,353       (906 )
Cash and cash equivalents at beginning of period
    108,218       26,003  
 
   
     
 
Cash and cash equivalents at end of period
  $ 142,571       25,097  
 
   
     
 
Changes in operating assets and liabilities, net:
               
 
Receivables, net
  $ (9,787 )     (34,517 )
 
Merchandise inventories
    (542,892 )     (352,965 )
 
Prepaid expenses and other current assets
    (18,056 )     (346 )
 
Accounts payable and accrued liabilities
    277,621       205,196  
 
   
     
 
   
Changes in operating assets and liabilities, net
  $ (293,114 )     (182,632 )
 
   
     
 
Supplemental cash flow information:
               
 
Cash paid during the period for:
               
   
Interest
  $ 19,574       27,132  
   
Income taxes
  $ 76,060       42,540  
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 39 weeks ended November 2, 2002 and November 3, 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 November 2, 2002 and the results of its operations and its cash flows for the 39 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 39 weeks ended November 2, 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 77 percent, 76 percent and 81 percent of the Company’s merchandise inventories as of November 2, 2002, November 3, 2001 and February 2, 2002, respectively. Merchandise inventories of GameStop Corp. (GameStop) stores and Calendar Club L.L.C. (Calendar Club) represent 17 percent, 16 percent and 11 percent of merchandise inventories as of November 2, 2002, November 3, 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 November 2, 2002, November 3, 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 39 weeks ended November 2, 2002 and November 3, 2001 are based upon management’s estimate of the Company’s annualized effective tax rate.

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Table of Contents

BARNES & NOBLE, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
For the 39 weeks ended November 2, 2002 and November 3, 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   39 weeks ended
       
 
        November 2, 2002   November 3, 2001   November 2, 2002   November 3, 2001
       
 
 
 
Net income (loss)
  $ 3,829       (6,806 )     (11,063 )     (19,988 )
Other comprehensive income (loss):
                               
 
Unrealized gains (losses) on available-for-sale securities:
                               
   
Unrealized holding gains (losses) arising during the period
          (4,938 )     (1,823 )     (7,077 )
   
Less: reclassification adjustment
                14,806       556  
 
   
     
     
     
 
 
Unrealized gains (losses), net of deferred income tax expense (benefit) of $0, ($3,503), $9,195 and ($5,020), respectively
          (4,938 )     12,983       (6,521 )
 
   
     
     
     
 
 
Unrealized gain (loss) on derivative instrument, net of deferred income tax expense (benefit) of ($3), ($384), $472 and ($930), respectively
    (4 )     (544 )     688       (1,311 )
 
   
     
     
     
 
Total comprehensive income (loss)
  $ 3,825       (12,288 )     2,608       (27,820 )
 
   
     
     
     
 

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BARNES & NOBLE, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
For the 39 weeks ended November 2, 2002 and November 3, 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:

                                 
    13 weeks ended   39 weeks ended
   
 
    November 2, 2002   November 3, 2001   November 2, 2002   November 3, 2001
   
 
 
 
Equity in net losses of iUniverse.com (a) (b)
  $       (2,414 )     (8,489 )     (4,307 )
Equity in net losses of BOOK® magazine (b) (c)
          (750 )     (5,081 )     (1,700 )
Equity in net losses of enews, inc. (b) (d)
          (1,648 )     (2,351 )     (2,353 )
Other
                (577 )     335  
 
   
     
     
     
 
Total other expense
  $       (4,812 )     (16,498 )     (8,025 )
 
   
     
     
     
 


(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 November 2, 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.

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BARNES & NOBLE, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
For the 39 weeks ended November 2, 2002 and November 3, 2001
(thousands of dollars, except per share data)
(unaudited)

(6) Net Earnings (Loss) Per Share

     Following is a reconciliation of net earnings (loss) and weighted average common shares outstanding for purposes of calculating basic and diluted earnings per share:

                                                           
              For the 13 weeks ended   For the 13 weeks ended
              November 2, 2002   November 3, 2001
             
 
              Income   Shares   Per Share   Income   Shares   Per Share
              (Numerator)   (Denominator)   Amount   (Numerator)   (Denominator)   Amount
Basic EPS
                                                       
 
Net income (loss)
          $ 3,829       66,207       0.06       (6,806 )     67,021       (0.10 )
 
                           
                     
 
Effect of dilutive securities
                                                       
 
Options
                    1,720                                
 
Convertible debt (a)
                                                   
 
           
                     
                 
 
            3,829                       (6,806 )                
 
           
                     
                 
Effect of GameStop dilutive EPS (b)
                                                       
 
GameStop net income less minority interest
            6,195                                        
 
           
                     
                 
 
            (2,366 )                     (6,806 )                
 
GameStop diluted EPS
    0.16                                                  
 
GameStop shares owned by Barnes & Noble
    36,009       5,761                                        
 
   
     
                     
                 
 
          $ 3,395       67,927       0.05       (6,806 )     67,021       (0.10 )
 
           
     
     
     
     
     
 
                                                           
              For the 39 weeks ended   For the 39 weeks ended
              November 2, 2002   November 3, 2001
             
 
              Income   Shares   Per Share   Income   Shares   Per Share
              (Numerator)   (Denominator)   Amount   (Numerator)   (Denominator)   Amount
Basic EPS
   
 
Net loss
          $ (11,063 )     66,957       (0.17 )     (19,988 )     66,133       (0.30 )
 
                           
                     
 
Effect of dilutive securities
                                                       
 
Options
                                                   
 
Convertible debt
                                                   
 
           
                     
                 
 
            (11,063 )                     (19,988 )                
 
           
                     
                 
Effect of GameStop dilutive EPS (b)
                                               
GameStop net income less minority interest
            13,321                                        
 
           
                     
                 
 
            (24,384 )                     (19,988 )                
 
GameStop diluted EPS
    0.34                                                  
 
GameStop shares owned by Barnes & Noble
    36,009       12,243                                        
 
   
     
                     
                 
 
          $ (12,141 )     66,957       (0.18 )     (19,988 )     66,133       (0.30 )
 
           
     
     
     
     
     
 
(a)   The inclusion of the interest add back of $2,538 and the increase in shares of 9,227,000 as if the debt were converted into equity has an anti-dilutive effect for the period ended November 2, 2002.
 
(b)   In February 2002, GameStop completed an initial public offering (IPO). Prior to the IPO, GameStop was a consolidated wholly-owned subsidiary of Barnes & Noble, Inc.

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BARNES & NOBLE, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
For the 39 weeks ended November 2, 2002 and November 3, 2001
(thousands of dollars, except per share data)
(unaudited)

(7)  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 620 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 281 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.

     Video-Game and Entertainment-Software Stores
      This segment includes 345 Video Game & Entertainment Software stores under the Babbage’s and Software Etc. names, 841 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 39 weeks ended November 2, 2002 and November 3, 2001 is as follows:

                                   
    13 weeks ended   39 weeks ended

 
 
Sales   November 2, 2002   November 3, 2001   November 2, 2002   November 3, 2001

 
 
 
 
Bookstores
  $ 844,157       796,594       2,590,830       2,448,073  
Video Game & Entertainment Software stores
    286,728       199,011       832,395       607,187  
 
   
     
     
     
 
 
Total
  $ 1,130,885       995,605       3,423,225       3,055,260  
 
   
     
     
     
 

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BARNES & NOBLE, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
For the 39 weeks ended November 2, 2002 and November 3, 2001
(thousands of dollars, except per share data)
(unaudited)

                                   
    13 weeks ended   39 weeks ended

 
 
Operating profit   November 2, 2002   November 3, 2001   November 2, 2002   November 3, 2001

 
 
 
 
Bookstores*
  $ 8,367       9,637       13,158       47,148  
Video Game & Entertainment Software stores
    15,982       5,691       34,558       (1,812 )
 
   
     
     
     
 
 
Total
  $ 24,349       15,328       47,716       45,336  
 
   
     
     
     
 
*   Operating profit of the 39 weeks ended November 2, 2002 is net of a non-cash impairment charge of $25,328.

     Bookstores operating profit includes Calendar Club operating losses of approximately $3,454 and $3,217 for the 13 weeks ended November 2, 2002 and November 3, 2001, respectively, and $8,531 and $7,956 for the 39 weeks ended November 2, 2002 and November 3, 2001, respectively.

     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 39 weeks ended November 2, 2002 and November 3, 2001 is as follows:

                                   
    13 weeks ended   39 weeks ended

 
 
    November 2, 2002   November 3, 2001   November 2, 2002   November 3, 2001

 
 
 
 
Reportable segments operating profit
  $ 24,349       15,328       47,716       45,336  
Interest, net
    (5,604 )     (8,285 )     (15,970 )     (29,392 )
Equity in net loss of Barnes & Noble.com
    (6,323 )     (13,865 )     (21,227 )     (42,086 )
Other expense
          (4,812 )     (16,498 )     (8,025 )
 
   
     
     
     
 
 
Consolidated income (loss) before income taxes and minority interest
  $ 12,422       (11,634 )     (5,979 )     (34,167 )
 
   
     
     
     
 

(8)  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

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BARNES & NOBLE, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
For the 39 weeks ended November 2, 2002 and November 3, 2001
(thousands of dollars, except per share data)
(unaudited)

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.

(9)  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 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.

(10)  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

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BARNES & NOBLE, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
For the 39 weeks ended November 2, 2002 and November 3, 2001
(thousands of dollars, except per share data)
(unaudited)

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 November 2, 2002, the net carrying amount of goodwill was $341,081. As required by SFAS No. 142, the Company completed its initial impairment test on the goodwill in the second quarter of fiscal 2002 and as a result no impairment charge was deemed necessary.

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

                                 
    13 weeks ended   39 weeks ended
   
 
    November 2, 2002   November 3, 2001   November 2, 2002   November 3, 2001
   
 
 
 
Reported net income (loss)
  $ 3,829       (6,806 )     (11,063 )     (19,988 )
Add back: Amortization of goodwill
          3,113             9,333  
 
   
     
     
     
 
Net income (loss), as adjusted
  $ 3,829       (3,693 )     (11,063 )     (10,655 )
 
   
     
     
     
 

     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 No. 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

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BARNES & NOBLE, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
For the 39 weeks ended November 2, 2002 and November 3, 2001
(thousands of dollars, except per share data)
(unaudited)

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.

(11)  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 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.

(12)  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. During the third quarter of fiscal 2002, the Company

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BARNES & NOBLE, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
For the 39 weeks ended November 2, 2002 and November 3, 2001
(thousands of dollars, except per share data)
(unaudited)

repurchased 2,998,000 shares at a cost of $64,014. Under the repurchase program, the Company has remaining authorization to purchase up to $68,609 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.

     In October 2002, the Company announced its intention to purchase up to $10,000 of Barnes & Noble.com’s Class A Common Stock (B&N.com Stock) in the open market or through privately negotiated transactions. During the third quarter of fiscal 2002, the Company bought 729,000 shares of B&N.com Stock at an average share price of approximately $0.90. The purchase of B&N.com Stock did not have an impact on the percentage ownership interest held by the Company in the third quarter of fiscal 2002.

(13)  Subsequent Events

     On December 12, 2002, Barnes & Noble, Inc. announced that it had reached an agreement to purchase Sterling Publishing Co., Inc., a privately held company that is one of the top 25 publishers in the United States and a leading publisher of how-to books. The purchase price was in the $100,000 range. The acquisition is expected to close within 45 days and is subject to Hart-Scott-Rodino clearance.

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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 November 2, 2002, the Company had $616.8 million of property and equipment, net of accumulated depreciation, and $341.1 million of goodwill, net of amortization, accounting for approximately 29.9% 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 completed its initial impairment test on the goodwill in the second quarter of fiscal 2002 and as a result no impairment charge was 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.

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Table of Contents

The Company’s cash and cash equivalents were $142.6 million as of November 2, 2002 compared with $25.1 million as of November 3, 2001. The increase was primarily attributable to cash received by GameStop as a result of the GameStop IPO. During the 39 weeks ended November 2, 2002, retail earnings before interest, taxes, depreciation and amortization (EBITDA) increased $12.0 million to $177.4 million from $165.4 million during the comparable prior year period.

Merchandise inventories increased to $1,827.9 million as of November 2, 2002, compared with $1,591.6 million as of November 3, 2001, partially due to the Company’s distribution center in Reno, Nevada becoming fully operational. The increase supported the Company’s 12.0% sales growth, the opening of 50 Barnes & Noble stores and 193 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 $135.4 million and $100.6 million during the 39 weeks ended November 2, 2002 and November 3, 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 42.8% to $443.6 million as of November 2, 2002 from $775.1 million as of November 3, 2001. Average combined borrowings under the Company’s senior credit facility and subordinated notes were $372.2 million and $723.2 million during the 39 weeks ended November 2, 2002 and November 3, 2001, respectively, and peaked at $480.0 million and $870.0 million during the same periods. The ratio of debt to equity decreased to 0.48:1.00 as of November 2, 2002 compared with 0.97:1.00 as of November 3, 2001, primarily due to decreased borrowings under the Company’s senior credit facility. The reduced debt, which was accomplished during a period of 12.0% sales growth and a 14.8% increase in merchandise inventories, was primarily attributable to the proceeds received from the GameStop IPO.

As of November 2, 2002, the Company had an aggregate receivable of $40.6 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 $74.0 million as of its third quarter ended September 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 39-week periods ended November 2, 2002 and November 3, 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 November 2, 2002 compared with the 13 weeks ended November 3, 2001

Sales

During the 13 weeks ended November 2, 2002, the Company’s sales increased $135.3 million, or 13.6%, to $1,130.9 million from $995.6 million during the 13 weeks ended November 3, 2001. Contributing to this improvement was an increase of $87.7 million from Video Game & Entertainment Software stores. During the third quarter, Barnes & Noble bookstore sales rose 7.8% to $780.9 million from $724.6 million during the same period a year ago and accounted for 69.1% of total Company sales or 92.5% of total bookstore sales.

During the third quarter, the 7.8% increase in Barnes & Noble bookstore sales was primarily attributable to the opening of 50 new stores opened since November 3, 2001 which contributed to a 7.9% increase in square footage. Barnes & Noble bookstore comparable store sales were up 1.6% for the third quarter.

During the third quarter, B. Dalton sales declined 17.8% and represented 4.6% of total Company sales. The decrease was primarily a result of 47 store closings and a 13.4% reduction in its square footage since November 3, 2001. In addition, B. Dalton’s comparable store sales declined 6.5% during the third quarter.

GameStop sales during the third quarter increased 44.3%. This increase in sales was primarily attributable to the 30.3% growth in the GameStop comparable store sales and sales from the 193 new GameStop stores opened since November 3, 2001.

During the third quarter, the Company opened 18 Barnes & Noble stores and closed four, bringing its total number of Barnes & Noble bookstores to 620 with 14.9 million square feet. During the third quarter, the Company closed five B. Dalton stores, ending the period with 281 B. Dalton stores and 1.1 million square feet. During the third quarter, the Company opened 63 GameStop stores and closed five, bringing its total to 1,186 stores with 1.8 million square feet. As of November 2, 2002, the Company operated 2,087 stores in fifty states, the District of Columbia, Puerto Rico and Guam.

Cost of Sales and Occupancy

During the 13 weeks ended November 2, 2002, cost of sales and occupancy increased $103.2 million, or 14.1%, to $837.0 million from $733.8 million during the 13 weeks ended November 3, 2001, primarily due to growth in the Video Game & Entertainment Software segment. As a percentage of sales, cost of sales and occupancy increased to 74.0% from 73.7% during the same period one year ago. This increase was primarily attributable to the lower gross margins in the Video Game & Entertainment Software segment.

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Selling and Administrative Expenses

Selling and administrative expenses increased $20.8 million to $227.5 million during the 13 weeks ended November 2, 2002 from $206.7 million during the 13 weeks ended November 3, 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 November 3, 2001. During the third quarter, selling and administrative expenses decreased as a percentage of sales to 20.1% from 20.8% during the prior year period.

Depreciation and Amortization

During the 13 weeks ended November 2, 2002, depreciation and amortization increased $1.5 million, or 4.1%, to $38.0 million from $36.5 million during the same period last year. The increase was primarily the result of the increase in depreciation related to the 50 new Barnes & Noble bookstores opened since November 3, 2001. This increase was partially offset by 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.

Pre-opening Expenses

Pre-opening expenses increased to $4.1 million during the 13 weeks ended November 2, 2002 from $3.3 million for the 13 weeks ended November 3, 2001. The increase in pre-opening expenses was primarily the result of opening 18 new Barnes & Noble bookstores and 63 new GameStop stores during the 13 weeks ended November 2, 2002, compared with 18 new Barnes & Noble bookstores, one new B. Dalton store and 23 new GameStop stores during the 13 weeks ended November 3, 2001.

Operating Profit

The Company’s consolidated operating profit increased to $24.3 million during the 13 weeks ended November 2, 2002 from $15.3 million during the 13 weeks ended November 3, 2001.

Interest Expense, Net and Amortization of Deferred Financing Fees

Net interest expense and amortization of deferred financing fees decreased to $5.6 million during the 13 weeks ended November 2, 2002 from $8.3 million during the 13 weeks ended November 3, 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

The Company did not have any other expense in the third quarter of fiscal 2002 due to the write-off of certain of its equity investments in the second quarter of fiscal 2002. Other expense of $4.8 million in the third quarter of fiscal 2001 was due to $2.4 million in equity losses in iUniverse.com, $0.8 million in equity losses in BOOK® magazine and $1.6 million in equity losses in enews, inc.

Income Taxes

Income taxes during the 13 weeks ended November 2, 2002 were $5.0 million compared with an income tax benefit of $4.8 million during the 13 weeks ended November 3, 2001. Taxes were based upon management’s

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estimate of the Company’s annualized effective tax rates. The Company’s effective tax rate was 40.25% for the third quarter of fiscal 2002 and 41.5% for the third quarter of fiscal 2001.

Minority Interest

During the third quarter of fiscal 2002, minority interest for GameStop was $3.6 million based on a 36.8% basic weighted average.

Net Income (Loss)

As a result of the factors discussed above, the Company reported consolidated net income of $3.8 million (or $0.05 per share) during the 13 weeks ended November 2, 2002, compared with a net loss of ($6.8) million (or ($0.10) per share) during the 13 weeks ended November 3, 2001. Components of earnings per share were as follows:

                   
      13 weeks ended
     
      November 2, 2002   November 3, 2001
     
 
Retail Earnings Per Share
 
 
Retail EPS
  $ 0.14       0.09  
EPS Impact of Investing Activities
 
 
Share of net losses of Barnes & Noble.com
  $ (0.06 )     (0.12 )
 
Share of net losses from other investments
    (0.03 )     (0.07 )
 
   
     
 
Total Investing Activities
  $ (0.09 )     (0.19 )
 
   
     
 
Consolidated EPS
  $ 0.05       (0.10 )
 
   
     
 

Results of Operations

39 weeks ended November 2, 2002 compared with the 39 weeks ended November 3, 2001

Sales

During the 39 weeks ended November 2, 2002, the Company’s sales increased $367.9 million, or 12.0%, to $3,423.2 million from $3,055.3 million during the 39 weeks ended November 3, 2001. Contributing to this improvement was an increase of $225.2 million from Video Game & Entertainment Software stores. During the 39 weeks ended November 2, 2002, Barnes & Noble bookstore sales rose 7.5% to $2,403.4 million from $2,235.7 million during the same period a year ago and accounted for 70.2% of total Company sales or 92.8% of total bookstore sales.

During the 39 weeks ended November 2, 2002, the 7.5% increase in Barnes & Noble bookstore sales was primarily attributable to the opening of 50 new stores opened since November 3, 2001 which contributed to a 7.9% increase in square footage. Barnes & Noble bookstore comparable store sales were up 1.4% for the 39 weeks ended November 2, 2002.

B. Dalton sales declined 13.6% and represented 5.0% of total Company sales for the 39 weeks ended November 2, 2002. The decrease was primarily a result of 47 store closings and a 13.4% reduction in its square footage since

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November 3, 2001. In addition, B. Dalton’s comparable store sales declined 3.6% during the 39 weeks ended November 2, 2002.

GameStop sales during the 39 weeks ended November 2, 2002 increased 37.1%. This increase in sales was primarily attributable to the 27.2% growth in the GameStop comparable store sales and sales from the 193 new GameStop stores opened since November 3, 2001.

During the 39 weeks ended November 2, 2002, the Company opened 34 Barnes & Noble stores and closed five, bringing its total number of Barnes & Noble bookstores to 620 with 14.9 million square feet. The Company closed 24 B. Dalton stores, ending the period with 281 B. Dalton stores and 1.1 million square feet. The Company opened 163 GameStop stores and closed 15, bringing its total to 1,186 stores with 1.8 million square feet. As of November 2, 2002, the Company operated 2,087 stores in fifty states, the District of Columbia, Puerto Rico and Guam.

Cost of Sales and Occupancy

During the 39 weeks ended November 2, 2002, cost of sales and occupancy increased $284.5 million, or 12.6%, to $2,543.6 million from $2,259.1 million during the 39 weeks ended November 3, 2001, primarily due to growth in the Video Game & Entertainment Software segment. As a percentage of sales, cost of sales and occupancy increased to 74.3% from 73.9% during the same period one year ago. This increase was primarily attributable to the combination of lower gross margins in the Video Game & Entertainment Software segment and 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 $56.6 million to $688.1 million during the 39 weeks ended November 2, 2002 from $631.5 million during the 13 weeks ended November 3, 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 November 3, 2001. During the 39 weeks ended November 2, 2002, selling and administrative expenses decreased as a percentage of sales to 20.1% from 20.6% during the prior year period.

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 39 weeks ended November 2, 2002, depreciation and amortization increased $0.6 million, or 0.5%, to $110.4 million from $109.8 million during the same period last year. The increase was primarily the result of the increase in depreciation related to the 50 new Barnes & Noble bookstores opened since November 3, 2001. This increase was partially offset by 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.

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Pre-opening Expenses

Pre-opening expenses increased to $8.1 million during the 39 weeks ended November 2, 2002 from $5.0 million for the 39 weeks ended November 3, 2001. The increase in pre-opening expenses was primarily the result of opening 34 new Barnes & Noble bookstores and 163 new GameStop stores during the 39 weeks ended November 2, 2002, compared with 24 new Barnes & Noble bookstores, one new B. Dalton store and 44 new GameStop stores during the 39 weeks ended November 3, 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. The investment in Gemstar was sold in the second quarter of fiscal 2002.

Operating Profit

The Company’s consolidated operating profit increased to $47.7 million during the 39 weeks ended November 2, 2002 from $45.3 million during the 39 weeks ended November 3, 2001. Operating profit increased to $73.0 million, before the effect of the $25.3 million impairment charge during the 39 weeks ended November 2, 2002, from $49.8 million, before the effect of the $4.5 million legal settlement expense during the 39 weeks ended November 3, 2001.

Interest Expense, Net and Amortization of Deferred Financing Fees

Net interest expense and amortization of deferred financing fees decreased to $16.0 million during the 39 weeks ended November 2, 2002 from $29.4 million during the 39 weeks ended November 3, 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 $16.5 million during the 39 weeks ended November 2, 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

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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 $8.0 million for the 39 weeks ended November 3, 2001 was due to $4.3 million in equity losses in iUniverse.com, $1.7 million in equity losses in BOOK® magazine and $2.3 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 39 weeks ended November 2, 2002 was $2.4 million compared with $14.2 million during the 39 weeks ended November 3, 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 39 weeks ended November 2, 2002 and 41.5% for the 39 weeks ended November 3, 2001.

Minority Interest

During the 39 weeks ended November 2, 2002, minority interest for GameStop was $7.5 million based on a 35.7% basic weighted average.

Net Loss

As a result of the factors discussed above, the Company reported a consolidated net loss of ($11.1) million (or ($0.18) per share) during the 39 weeks ended November 2, 2002, compared with a net loss of ($20.0) million (or ($0.30) per share) during the 39 weeks ended November 3, 2001. Components of earnings per share were as follows:

                   
      39 weeks ended
     
      November 2, 2002   November 3, 2001
     
 
Retail Earnings Per Share
 
 
Retail EPS
  $ 0.46       0.25  
EPS Impact of Investing Activities
 
 
Share of net losses of Barnes & Noble.com
  $ (0.19 )     (0.36 )
 
Share of net losses from other investments
    (0.22 )     (0.15 )
 
   
     
 
Total Investing Activities
  $ (0.41 )     (0.51 )
Other Adjustments
 
 
Impairment charge
  $ (0.23 )      
 
Legal and settlement expense
          (0.04 )
 
   
     
 
Total Other Adjustments
  $ (0.23 )     (0.04 )
 
   
     
 
Consolidated EPS
  $ (0.18 )     (0.30 )
 
   
     
 

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Item 3: Quantitative and Qualitative Disclosures About Market Risk

The Company’s exposure to market risks results 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.

Item 4: Controls and Procedures

(a)  Evaluation of Disclosure Controls and Procedures.

Within the 90-day period prior to the date of this report, the Company carried out an evaluation of the effectiveness of the design and operation of its disclosure controls and procedures pursuant to the requirements of the Securities Exchange Act of 1934 (the “Exchange Act”), under the supervision and with the participation of the Company’s Chief Executive Officer and Chief Financial Officer. Based on that evaluation, the Company’s Chief Executive Officer and Chief Financial Officer concluded that the Company’s disclosure controls and procedures are effective. Disclosure controls and procedures are controls and procedures designed to ensure that information required to be disclosed in the Company’s reports filed or submitted pursuant to the Exchange Act is recorded, processed, summarized and reported within the appropriate time periods.

(b)  Changes in Internal Controls.

There have been no significant changes to the Company’s internal controls or in other factors that could significantly affect these controls subsequent to the date of the Company’s evaluation.

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 6. Exhibits and Reports on Form 8-K

    (a) Exhibits filed with this Form 10-Q:

      10.1 Amendment No. 1 dated August 29, 2002 to Revolving Credit Agreement, dated as of May 22, 2002, among Barnes & Noble, Inc., Fleet National Bank, as Administrative Agent, and the Banks party thereto.
 
      99.1 Certification Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, executed by Stephen Riggio, Chief Executive Officer of Barnes & Noble, Inc.
 
      99.2 Certification Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, executed by Lawrence S. Zilavy, Chief Financial Officer of Barnes & Noble, Inc.

    (b) Reports on Form 8-K:

      On September 13, 2002, the Company filed a Form 8-K under Items 7 and 9 announcing that its Chief Executive Officer, Stephen Riggio, and Chief Financial Officer, Lawrence S. Zilavy submitted their statements under oath in response to the order of the Securities and Exchange Commission pursuant to Section 21(a)(1) of the Securities Exchange Act of 1934 (SEC File No. 4-460) and submitted certifications pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 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

Lawrence S. Zilavy
Chief Financial Officer
(principal financial officer)
  By: /s/Joseph J. Lombardi

Joseph J. Lombardi
Vice President, Controller
(principal accounting officer)

December 16, 2002

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CERTIFICATION

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;
 
4.   The registrant’s other certifying officer and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-14 and 15d-14) for the registrant and we have:

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

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

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

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

Date: December 16, 2002

     
    /s/Stephen Riggio
 
     
 
    Stephen Riggio
Chief Executive Officer

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CERTIFICATION

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;
 
4.   The registrant’s other certifying officer and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-14 and 15d-14) for the registrant and we have:

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

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

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

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

Date: December 16, 2002

     
    /s/Lawrence S. Zilavy
 
     
 
    Lawrence S. Zilavy
Chief Financial Officer

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