SECURITIES AND EXCHANGE COMMISSION

FORM 10-Q

Quarterly Report Pursuant To Section 13 or 15(d)
of the Securities Exchange Act of 1934

For the Quarterly Period Ended September 30, 2004

Commission File Number 0-18927

TANDY BRANDS ACCESSORIES, INC.

690 East Lamar Boulevard, Suite 200, Arlington, TX 76011
(Address of principal executive offices and zip code)

(817) 548-0090
(Registrant’s telephone number, including area code)

Former name, former address and former fiscal year, if changed since last report:

Not Applicable

     Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.

Yes [X]    No [  ]

     Indicate by check mark whether the registrant is an accelerated filer (as defined in Rule 12b-2 of the Exchange Act).

Yes [  ]    No [X]

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

TANDY BRANDS ACCESSORIES, INC. AND SUBSIDIARIES

Form 10-Q
Quarter Ended September 30, 2004

TABLE OF CONTENTS

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TANDY BRANDS ACCESSORIES, INC. AND SUBSIDIARIES
File Number 0 -18927
Form 10-Q

Condensed Consolidated Statements of Income
(Dollars in thousands, except per share amounts)
(Unaudited)

The accompanying notes are an integral part of these condensed financial statements.

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TANDY BRANDS ACCESSORIES, INC. AND SUBSIDIARIES
File Number 0 -18927
Form 10-Q

Condensed Consolidated Balance Sheets
(Dollars in thousands)
(Unaudited)

The accompanying notes are an integral part of these condensed financial statements.

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TANDY BRANDS ACCESSORIES, INC. AND SUBSIDIARIES
File Number 0 -18927
Form 10-Q

Condensed Consolidated Statements of Cash Flows
(Dollars in thousands)
(Unaudited)

The accompanying notes are an integral part of these condensed financial statements.

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TANDY BRANDS ACCESSORIES, INC. AND SUBSIDIARIES

Notes to Condensed Consolidated Financial Statements
(Unaudited)

Note 1 - Accounting Principles

     The accompanying unaudited condensed consolidated financial statements have been prepared in accordance with generally accepted accounting principles for interim financial information and with the instructions to Form 10-Q and Article 10 of Regulation S-X. Accordingly, they do not include all of the information and footnotes required by generally accepted accounting principles for complete financial statements. In the opinion of management, all adjustments (consisting of normal recurring accruals) considered necessary for a fair presentation have been included. Our first and second quarter sales and net income normally reflect a seasonal increase compared to the third and fourth quarters of our fiscal year. Consequently, operating results for the three-month period ended September 30, 2004 are not necessarily indicative of the results that may be expected for the year ended June 30, 2005. For further information, refer to the consolidated financial statements and footnotes thereto included in our 2004 Annual Report.

     Certain prior year amounts have been reclassified to conform to the fiscal 2005 presentation.

Note 2 – Impact of New Accounting Standards

     On October 13, 2004, the Financial Accounting Standards Board (“FASB”) announced that Statement of Financial Accounting Standards (“SFAS”) No. 123R, “Share-Based Payment,” would become effective for most publicly owned companies for interim or annual periods beginning after June 15, 2005. This Statement would require companies to record compensation expense for all share-based payments, such as employee stock options, at fair value. We would be required to adopt this statement on July 1, 2005 for fiscal 2006. The disclosures in Note 6 present the pro-forma effects on our financial statements of the application of the fair value method to the stock options issued to our employees and our non-employee directors during fiscal 2005. The FASB plans to issue SFAS No. 123R in its final form on or around December 15, 2004.

     Note 3 – Comprehensive Income

     The following table illustrates the components of comprehensive income, net of related tax, for the three months ended September 30, 2004 and 2003 (in thousands).

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TANDY BRANDS ACCESSORIES, INC. AND SUBSIDIARIES

Notes to Condensed Consolidated Financial Statements
(Unaudited)

Note 4 – Earnings Per Share

     The following table sets forth the computation of basic and diluted earnings per share (in thousands, except per share amounts).

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TANDY BRANDS ACCESSORIES, INC. AND SUBSIDIARIES

Notes to Condensed Consolidated Financial Statements
(Unaudited)

Note 5 – Disclosures about Segments of an Enterprise and Related Information

     We sell our products to a variety of retail outlets, including mass merchants, national chain stores, major department stores, men’s and women’s specialty stores, catalog retailers, grocery stores, drug stores, golf pro shops, sporting goods stores and the retail exchange operations of the United States military. Our company and our corresponding customer relationships are organized along men’s and women’s product lines. As a result, we have two reportable segments: (1) men’s accessories, consisting of belts, wallets, suspenders, neckwear, other small leather goods, and gift accessories, and (2) women’s accessories, consisting of belts, wallets, handbags, socks, scarves, hats and hair accessories. Our men’s accessories segment includes the operating results of Superior Merchandise Company, which we acquired on July 1, 2004 (See Note 9). General corporate expenses are allocated to each segment based on the respective segment’s asset base. Depreciation and amortization expense related to assets recorded on our corporate accounting records are allocated to each segment as described above. Management measures profit or loss on each segment based upon income or loss before taxes utilizing the accounting policies consistent in all material respects with those described in Note 1 of our 2004 Annual Report. No inter-segment revenue is recorded.

     The following table sets forth information regarding operations and assets by reportable segment (in thousands).

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TANDY BRANDS ACCESSORIES, INC. AND SUBSIDIARIES

Notes to Condensed Consolidated Financial Statements
(Unaudited)

Note 6 – Stock-Based Compensation

     We may, with the approval of our board of directors, grant stock options for a fixed number of shares to employees with an exercise price equal to the fair value of the shares at the date of grant. We account for stock option grants using the intrinsic value method in accordance with the Accounting Principles Board Opinion No. 25, “Accounting for Stock Issued to Employees,” and, accordingly, we recognize no compensation expense for the stock option grants. The following table reflects the impact on net income if we had applied the fair value recognition provisions of SFAS No. 123, “Accounting for Stock Based Compensation,” to stock-based employee compensation for the three-month period ended September 30, 2004 and 2003:

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TANDY BRANDS ACCESSORIES, INC. AND SUBSIDIARIES

Notes to Condensed Consolidated Financial Statements
(Unaudited)

Note 6 – Stock-Based Compensation (continued)

     Pro forma information regarding net income and earnings per share is required by SFAS No. 123, “Accounting for Stock-Based Compensation,” and has been determined as if we had accounted for our stock options under the fair value method of SFAS No. 123. The fair value for these options was estimated at the date of grant using the Black-Scholes option-pricing model with the following weighted-average assumptions for fiscal 2005 and 2004: dividend yield of 1.0% for 2005 and 2004; expected volatility of .210% and .238% for 2005 and 2004, respectively; a risk-free interest rate of 3.25% for 2005 and 5.25% for 2004; and an expected holding period of seven years. Using these assumptions for the options granted during the first three months of fiscal 2005 and 2004, the weighted-average fair value of such options on the date of grant ranged from $3.53 to $5.27.

     The Black-Scholes valuation models are used in estimating the fair value of traded options that have no vesting restrictions and are fully transferable. In addition, option valuation models require the input of highly subjective assumptions, including the expected stock price volatility and the average life of options. Because our stock options have characteristics significantly different from those of traded options, and because changes in the subjective input assumptions can materially affect the fair value estimate, in management’s opinion, the existing models do not necessarily provide a reliable single measure of the fair value of our stock options.

     On August 12, 2004, 1,800 shares of restricted stock and stock options to purchase 3,500 shares of our common stock at an exercise price of $13.625 per share were awarded to a new director who was elected on that date. The restricted shares will become fully vested on August 12, 2007, with one-third of the shares vesting on each anniversary of the date of grant, and the stock options will become fully vested six months after the date of the grant. In addition, an aggregate of 5,770 shares of restricted stock were awarded to the non-employee members of the board of directors on October 14, 2004. These restricted shares will become fully vested on October 14, 2007, with one-third of the shares vesting on each anniversary of the date of grant. Generally, upon the death, disability, resignation, or termination of a director, that director’s shares become fully vested. These shares of stock, while not transferable, bear rights of ownership, including voting and dividend rights, during the vesting period. Unearned compensation of $24,500 and compensation expense of approximately $4,500 related to the restricted shares awarded on August 12, 2004 were recorded during the quarter ended September 30, 2004. Unearned compensation of $68,350 and compensation expense of approximately $22,800 related to the restricted shares awarded on October 14, 2004 will be recorded during the second quarter of fiscal 2005. The non-employee members of our board of directors were also awarded stock options to purchase an aggregate of 10,386 shares of our common stock at an exercise price of $14.33 per share on October 14, 2004.

     On July 1, 2004, our executive officers were awarded a total of 22,800 shares of restricted stock, which will become fully vested on July 1, 2007. These shares of stock, while not transferable, bear rights of ownership, including voting and dividend rights, during the three-year vesting period. There are no performance requirements related to vesting, only continued employment through the vesting date. Unearned compensation in the amount of $302,328 was recorded during the quarter ended September 30, 2004. Compensation expense of approximately $25,000 per quarter will be recorded through June 30, 2007. Our executive officers were also awarded stock options to purchase a total of 56,100 shares of our common stock on July 1, 2004. Other key employees were awarded stock options to purchase a total of 90,500 shares of our common stock on July 1, 2004 as well. These stock options vest in one-third increments on each anniversary of the date of grant.

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TANDY BRANDS ACCESSORIES, INC. AND SUBSIDIARIES

Notes to Condensed Consolidated Financial Statements
(Unaudited)

Note 7– Employee Benefit Plans

     During the quarter ended September 30, 2004 we recorded expense of $79,000 related to our Supplemental Executive Retirement Plan for certain of our key executive officers. Based on the actuarial calculation for our year ended June 30, 2004, we anticipate that we will recognize approximately $330,000 in expense related to this plan during fiscal 2005.

Note 8 – Credit Facility

     On August 26, 2004, we amended our committed secured revolving credit facility with certain financial institutions. The amendment extended the expiration of our agreement from November 30, 2006, to November 30, 2007, and increased the facility from $60,000,000 to $85,000,000. Of this amount, $10,000,000 is a sub-limit of the credit facility (“swing line”) which may be used for same day advances to be provided solely by the administrative agent (a financial institution) of the credit facility. Both the credit facility and swing line bear interest at variable rates with short-term durations. The credit facility may be used for borrowings and letters of credit. The amended facility contains an accordion feature to increase the facility by up to an additional $25,000,000 by adding a financial institution at a later date. Although the previous credit facility was secured by substantially all of our assets and the assets of our subsidiaries, the amended facility is unsecured. The amended facility requires the maintenance of certain financial covenants which, if not met, could adversely impact our liquidity. Our amended credit facility permits the payment of dividends and does not require us to enter into an interest rate swap agreement against the borrowings under the credit facility. The credit facility also includes a commitment fee based on certain financial performance objectives ranging from 20 to 37.5 basis points on the unused balance. Principal payments on the credit facility are due on the expiration date. The amended credit facility is guaranteed by all of our subsidiaries, except our Canadian subsidiary.

Note 9 – Acquisitions

     On July 1, 2004, we completed our acquisition of all the equity interest in Superior Merchandise Company (“Superior”). The total purchase price was $10,000,000 and was funded entirely with cash, drawing on our existing credit line. In addition, we retired all of Superior’s outstanding debt totaling approximately $806,000. Superior, which also operates under the name of ETON®, primarily markets and distributes men’s and women’s gift accessories under both the ETON® and the licensed totes® brands. The pro forma effects of this acquisition are not material.

     The operating results of Superior are included under our men’s accessories reporting segment (see Note 5) for the first quarter of fiscal 2005. Estimated goodwill in the amount of $7,700,000 related to the purchase of Superior is included in our balance sheet as of September 30, 2004. The purchase price allocation for goodwill is preliminary pending receipt of appraisals for certain assets. We anticipate the purchase price allocation will be completed by the end of the second quarter of fiscal 2005.

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TANDY BRANDS ACCESSORIES, INC. AND SUBSIDIARIES

ITEM 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations

OVERVIEW

     Tandy Brands Accessories, Inc. is a leading designer, manufacturer and marketer of branded men’s, women’s and children’s accessories, including belts and small leather goods, such as wallets. Our product line also includes handbags, socks, scarves, gloves, hats, hair accessories, suspenders, cold weather accessories, sporting goods, neckwear and gift accessories. Our merchandise is marketed under a broad portfolio of nationally recognized licensed and proprietary brand names, including DOCKERS®, LEVI’S®, LEVI STRAUSS SIGNATURE™, JONES NEW YORK®, TOTES®, ROLFS®, HAGGAR®, WOOLRICH®, JORDACHE®, BUGLE BOY®, CANTERBURY®, PRINCE GARDNER®, PRINCESS GARDNER®, AMITY®, COLETTA®, STAGG®, ACCESSORY DESIGN GROUP®, TIGER® and ETON®, as well as private brands for major retail customers. We sell our products through all major retail distribution channels throughout the United States and Canada, including mass merchants, national chain stores, department stores, men’s and women’s specialty stores, catalog retailers, grocery stores, drug stores, golf pro shops, sporting goods stores and the retail exchange operations of the United States military.

     The first quarter of fiscal 2005 presented many challenges and opportunities for us. We experienced a decline in sales of women’s accessories compared to the first quarter of last year due to reduced sales to mass merchant customers as a result of continued downward pressure on women’s accessories replenishment, competitive market pressures and weakened trends in fashion accessories. However, we have experienced higher than anticipated first quarter sales of gift accessories by our recently acquired ETON division (Superior) and continued strong performance by our core men’s belt business. We see opportunities in a number of new programs and the introduction of a new product line in our women’s accessories division and we anticipate continued strong performance by our ETON gift division. In addition, on August 16, 2004 we announced an increased dividend of $.0275 per share payable to stockholders of record as of September 30, 2004. This dividend was paid on October 19, 2004.

RESULTS OF OPERATIONS

Three Months Ended September 30, 2004 Compared to the Three Months Ended September 30, 2003

Net Sales and Gross Margins

     The following table illustrates sales and gross margin data from our reportable segments for the three months ended September 30, 2004 compared to the same period last year.

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TANDY BRANDS ACCESSORIES, INC. AND SUBSIDIARIES

     For the three-month period ended September 30, 2004, net sales decreased by $3.8 million, or 5.9%, compared to net sales for the same period last year. Net sales of men’s accessories increased by $5.7 million dollars, or 19.1%, for the quarter compared to the same period last year due to strong sales in our men’s core business as well as higher than planned shipments of gift accessories by the recently acquired ETON (Superior). $4.3 million of the increase in men’s accessories sales are attributable to ETON. Net sales of women’s accessories decreased by $9.4 million, or 27.4%, for the quarter compared to the same period last year, primarily due to lower than planned sales in both the mass merchant and department store categories. The shortfall in our women’s accessories category was primarily due to reduced sales to mass merchant customers as a result of continued downward pressure on women’s accessories replenishment, competitive market pressures and weakened trends in fashion accessories.

     As a percentage of sales, gross margins increased 2.8% for the three-month period ended September 30, 2004 compared to the same period last year due primarily to a higher sales mix of men’s accessories, which includes the higher margin gift accessories’ business, and improved experience related to customer allowances in our women’s mass merchant business. We anticipate our ETON gift accessories business will generate sales with gross margins that are approximately 250 to 500 basis points above our core men’s accessories business. Nevertheless, any material changes in sales mix, such as higher mass merchant accessory sales or direct shipments, could lower our gross margin percentages during a particular season.

Operating Expenses

     Selling, general and administrative expenses for the three months ended September 30, 2004, increased compared to the same period last year due to the planned integration costs related to the operation of an additional facility in New Orleans, such as rent, wages, and other operating costs, resulting from our acquisition of Superior, as well as higher variable costs in our men’s core business due to higher sales during the first quarter of fiscal 2005. As a percentage of sales, selling, general and administrative expenses for the quarter increased due to the negative leveraging off of lower women’s sales compared to the same period last year.