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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-K
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE
SECURITIES EXCHANGE ACT OF 1934
FOR THE FISCAL YEAR ENDED JANUARY 29, 2005
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE
SECURITIES EXCHANGE ACT OF 1934
FOR THE TRANSITION PERIOD FROM
_____________________________ TO ____________________________________
COMMISSION FILE NO. 0-28784
HOT TOPIC, INC.
(EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)
CALIFORNIA 77-0198182
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
18305 E. SAN JOSE AVE. 91748
CITY OF INDUSTRY, CALIFORNIA (Zip Code)
(Address of principal executive offices)
Registrant's telephone number, including area code: (626) 839-4681
Securities registered pursuant to Section 12(b) of the Act: None
Securities registered pursuant to Section 12(g) of the Act:
COMMON STOCK, NO PAR VALUE
(Title of Class)
Indicate by check mark whether the Registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
Registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. Yes [X] No [ ]
Indicate by check mark if disclosure of delinquent filers pursuant to
Item 405 of Regulation S-K (Section 229.405 of this chapter) is not contained
herein, and will not be contained, to the best of Registrant's knowledge, in
definitive proxy or information statements incorporated by reference in Part III
of this Form 10-K or any amendment to this Form 10-K. [ ]
Indicate by check mark whether the Registrant is an accelerated filer (as
defined in Exchange Act Rule 12b-2). Yes [X] No [ ]
The aggregate market value of Common Stock held by non-affiliates of the
Registrant as of July 30, 2004 was approximately $739,697,726 based on the
closing price on that date of the Registrant's Common Stock on the Nasdaq
National Stock Market. All outstanding shares of voting stock, except for shares
held by executive officers and members of the Board of Directors and their
affiliates are deemed to be held by non-affiliates. This determination of
affiliate status is not necessarily a conclusive determination for other
purposes.
The number of shares outstanding of the Registrant's Common Stock was
44,814,650 as of April 2, 2005.
DOCUMENTS INCORPORATED BY REFERENCE
Certain portions of the Registrant's Definitive Proxy Statement for the
Annual Meeting of Shareholders to be held on June 15, 2005 to be filed with the
Securities and Exchange Commission (the "SEC") no later than 120 days after
January 29, 2005, are incorporated by reference into Part III of this Form 10-K
(Items 10 through 13).
HOT TOPIC, INC.
ANNUAL REPORT ON FORM 10-K
FOR THE
YEAR ENDED JANUARY 29, 2005
TABLE OF CONTENTS
PART I PAGE
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Item 1. Business 3
Item 2. Properties 23
Item 3. Legal Proceedings 23
Item 4. Submission of Matters to a Vote of Security Holders 24
PART II
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Item 5. Market for Registrant's Common Equity, Related Shareholder
Matters and Issuer Purchases of Equity Securities 25
Item 6. Selected Financial Data 26
Item 7. Management's Discussion and Analysis of Financial Condition
and Results of Operations 28
Item 7A. Quantitative and Qualitative Disclosures About Market Risk 36
Item 8. Financial Statements and Supplemental Data 36
Item 9. Changes in and Disagreements with Accountants on Accounting
and Financial Disclosure 37
Item 9A. Controls and Procedures 37
Item 9B. Other Information 40
PART III
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Item 10. Directors and Executive Officers of the Registrant 40
Item 11. Executive Compensation 40
Item 12. Security Ownership of Certain Beneficial Owners and
Management and Related Shareholder Matters 40
Item 13. Certain Relationships and Related Transactions 40
Item 14. Principal Accountant Fees and Services 40
PART IV
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Item 15. Exhibits and Financial Statement Schedules 40
2.
CAUTIONARY STATEMENT REGARDING FORWARD-LOOKING DISCLOSURE
THIS REPORT CONTAINS VARIOUS FORWARD-LOOKING STATEMENTS WITHIN THE MEANING
OF SECTION 27A OF THE SECURITIES ACT OF 1933, AS AMENDED (THE "SECURITIES ACT"),
AND SECTION 21E OF THE SECURITIES EXCHANGE ACT OF 1934, AS AMENDED (THE
"EXCHANGE ACT"). THESE STATEMENTS INCLUDE, FOR EXAMPLE, STATEMENTS REGARDING OUR
EXPECTATIONS, BELIEFS, INTENTIONS OR STRATEGIES REGARDING THE FUTURE, SUCH AS
THE EXTENT AND TIMING OF FUTURE REVENUES AND EXPENSES AND CUSTOMER DEMAND, OTHER
EXPECTED FINANCIAL RESULTS AND INFORMATION, NEW STORE OPENINGS AND NEW STORE
CONCEPTS. ALL FORWARD-LOOKING STATEMENTS INCLUDED IN THIS REPORT ARE BASED ON
INFORMATION AVAILABLE TO US AS OF THE DATE OF THIS REPORT. WE WILL NOT
NECESSARILY UPDATE ANY FORWARD-LOOKING STATEMENTS. FORWARD-LOOKING STATEMENTS
INVOLVE KNOWN OR UNKNOWN RISKS, UNCERTAINTIES AND OTHER FACTORS WHICH MAY CAUSE
OUR ACTUAL RESULTS, PERFORMANCE OR ACHIEVEMENTS, OR INDUSTRY RESULTS TO BE
DIFFERENT FROM ANY FUTURE RESULTS, PERFORMANCE OR ACHIEVEMENTS EXPRESSED OR
IMPLIED. RISKS, UNCERTAINTIES AND OTHER FACTORS RELATED TO US ARE LOCATED, AMONG
OTHER PLACES, IN PART I, ITEM 1 UNDER THE CAPTION "CERTAIN RISKS RELATED TO THE
COMPANY'S BUSINESS" AND IN PART II, ITEM 7 UNDER THE CAPTION "MANAGEMENT'S
DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS."
PART I
ITEM 1. BUSINESS
GENERAL
We are a mall-based specialty retailer operating the Hot Topic and Torrid
store concepts. Hot Topic stores sell a selection of music/pop culture-licensed
and music/pop culture-influenced apparel, accessories and gift items for young
men and women principally between the ages of 12 and 22. Torrid stores sell
apparel, lingerie, shoes and accessories designed for various lifestyles for
plus-size females between the ages of 15 and 29. We opened our first Hot Topic
store in 1989 and our first Torrid store in 2001. At the end of fiscal 2004 (the
fiscal year ended January 29, 2005), we operated 592 Hot Topic stores throughout
the United States and Puerto Rico, and 76 Torrid stores. We also sell
merchandise on two websites, www.hottopic.com ("hottopic.com") and
www.torrid.com ("torrid.com"), which reflect the Hot Topic and Torrid store
concepts and carry merchandise similar to that sold in the respective stores.
Throughout this report, the terms "our", "we" and "us" refer to Hot Topic, Inc.
and its subsidiaries.
We opened 91 Hot Topic and 24 Torrid stores during fiscal 2004. We also
occasionally relocate, expand, or close existing stores. During fiscal 2004, we
expanded or relocated ten stores. We plan to open approximately 65 new Hot Topic
stores and 45 Torrid stores in the fiscal year ending January 28, 2006 ("fiscal
2005"). As of March 9, 2005, five of these new Hot Topic stores and one of these
new Torrid stores were open.
THE MARKET
The music-licensed apparel industry essentially began in the 1960s with
bootleggers selling tee shirts at concert venues. Over the next two decades,
artists began to realize the commercial potential of licensing their likenesses
and logos to tee shirt manufacturers and others who produced assorted
merchandise. We believe that during recent years, the music industry has been
significantly impacted by the availability and accessibility of Internet and
digital technology and the continuing success of MTV and other music television
networks. These media enable fans not only to listen to the latest music and
artists 24 hours a day, but also to experience a full sight and sound package of
appearance and attitude. This is in stark contrast to past decades when the
vinyl record cover and a few magazines of modest circulation were the primary
source of young people's information about their music and favorite bands. The
growing importance of the Internet is illustrated in a recent U.S. Census Bureau
report, stating that 80% of America's school-age children have Internet access
either at home or at school, regardless of their ethnic group or household
income. MTV music television reached 86 million households in the United States
in December 2003, according to Viacom International, Inc., MTV's parent company.
3.
As a result, both emerging and well-known artists, and the fashions they
inspire, are much more visible today than ever before. We believe that this
increased visibility has contributed to a rise in demand for music/pop
culture-licensed and music/pop culture-influenced apparel and accessories. We
believe teenagers throughout the United States have similar fashion preferences,
largely as a result of the nationwide influence of the Internet, MTV and other
music television networks, music distribution (including through the rapidly
growing avenue provided by digital music and "downloads"), movies and television
programs.
Hot Topic's target customers are young men and women between the ages of 12
and 22, who are passionate about music, music videos, pop culture trends and
music-inspired fashion. We believe our music/pop culture-influenced merchandise
appeals to teenagers from diverse socio-economic backgrounds and that our
customers are broadly representative of the teenage population in the United
States.
Teenagers represent both a growing part of the United States population and
an increasing source of purchasing power. The U.S. Census Bureau estimates that
the teenage population (ages 12-19) in the United States reached approximately
33 million in 2004, and by 2008, there are likely to be more teenagers in the
United States than at any other time in history. Teenage spending has also
increased annually. The average American teen spent approximately $91 a week in
2004 according to Teen Research Unlimited. In the past seven years, teenage
spending has grown an average of 5% per year, to $169 billion in 2004.
We developed the Torrid concept after analyzing customer feedback and
researching the market demographics. We concluded there was a significant
portion of young women consumers who were plus-size and unable to find and buy a
broad enough selection of "cool" fashion forward clothes in comparison to their
smaller sized friends. We launched Torrid in the first half of fiscal 2001, with
the opening of six locations across the country and a website, torrid.com.
Torrid's target customers are plus-size females ages 15 to 29, who are primarily
influenced by fashion trends, and also by pop culture. We believe the Torrid
assortment allows young customers wearing sizes 12 to 26 to match the style,
excitement and selection available at other non-plus-size junior retailers.
HOT TOPIC BUSINESS STRATEGY
Our goal for Hot Topic stores is to be a leading retailer of music/pop
culture-licensed and music/pop culture-influenced apparel, accessories and gift
items for young men and women. Elements of Hot Topic's business strategy
include:
o FOCUS ON UNIQUE MUSIC/POP CULTURE-ORIENTED MERCHANDISE
We believe that fashions and products associated with popular music artists
and pop culture trends have a significant influence on teenagers. We have
developed a unique strategy focused exclusively on offering music/pop
culture-licensed and music/pop culture-influenced merchandise in the mall
environment. Accordingly, we believe we are well positioned to capitalize on the
growing teenage population and demand for music/pop culture-influenced
merchandise.
o OFFER "EVERYTHING ABOUT THE MUSIC" AND POP CULTURE
Hot Topic stores are designed to serve as a headquarters for music/pop
culture-licensed and music/pop culture-influenced apparel, accessories and gift
items. Hot Topic's slogan, "Everything About The Music" and its ability to
relate and understand relevant pop culture trends are reflected in its broad
assortment of products. We believe Hot Topic's selection of music/pop
culture-licensed merchandise is the most extensive assortment available in a
single mall store. Hot Topic complements its licensed merchandise with a unique
and eclectic assortment of music/pop culture-influenced apparel and accessories,
and frequently responds to changes in trends and demand by introducing new items
and categories. We believe Hot Topic has a history of being the first to offer
the latest music/pop culture fashions, which has made Hot Topic a destination
store for teenagers.
4.
o PROMOTE MUSIC-INSPIRED CULTURE
Hot Topic is committed to addressing the music-inspired lifestyles of its
customers by building a culture throughout the organization that reflects a
passion for music. We diligently track alternative and rock music trends by
regularly monitoring new music, music video releases and radio station air play,
visiting nightclubs around the country, and attending concerts. We also actively
solicit feedback from our associates and customers. We believe these activities
allow us to react quickly to emerging trends, and provide a competitive
advantage over retailers who do not devote the time and resources necessary to
anticipate these trends.
o LISTEN TO THE CUSTOMER
Hot Topic does not dictate fashion trends, but rather seeks to identify
music artists, music and pop culture trends at their early stages and react
accordingly to keep its in-store product assortment current with those trends.
We have developed a disciplined approach to buying and a dynamic inventory
planning and allocation process to support our merchandise strategy. We
regularly test new merchandise in select Hot Topic stores before chain-wide
distribution. We also order a majority of our merchandise not more than 60 to 90
days before delivery, allowing us to respond quickly to emerging trends. We are
also aggressive in taking prompt markdowns to maintain a fresh merchandise mix.
By actively managing the mix of categories and products in Hot Topic stores, we
believe we are able to capitalize on emerging trends and minimize our dependence
on any one particular merchandise category. We believe this approach to managing
Hot Topic's merchandise mix has contributed to strong merchandise margins and
markdown rates that are lower than industry average.
o EMPHASIZE CUSTOMER SERVICE AND THE IN-STORE EXPERIENCE
Hot Topic store associates are trained to provide a value-added,
non-intrusive customer experience. Sales associates are encouraged to greet
customers, provide information about new music/fashion trends and suggest
merchandise that meets the customer's lifestyle and music preferences. Hot Topic
provides its teenage customers the same level of respect and attention that is
afforded to adult customers at other retail stores, while also providing
friendly and informed customer service for parents. We believe that a high level
of employee product knowledge and a commitment to music/fashion create
credibility and differentiate Hot Topic from other teenage-focused retailers.
We also seek to create an exciting and compelling shopping environment
focusing on the lifestyles of our core customer. Hot Topic stores are designed
with an industrial theme that incorporates dense merchandising and utilizes a
professional sound system playing alternative music to create a fun, high-energy
store that teens will consider "their place" to shop with friends. We believe
this atmosphere enhances Hot Topic's image as a source for music/pop
culture-inspired fashion while encouraging customers to shop in its stores for
longer periods of time.
TORRID BUSINESS STRATEGY
Our goal for Torrid stores is to become a leading specialty retailer of
fashion forward plus-size young women's apparel and accessories. Elements of
Torrid's business strategy include:
o FOCUS ON CURRENT FASHION TRENDS IN APPAREL AND ACCESSORIES THAT ALLOW
THE PLUS-SIZE CUSTOMER TO FEEL FEMININE, BEAUTIFUL, AND SEXY
5.
Our Torrid merchandising team focuses on providing a fashion forward
merchandise assortment that reflects the influence of cutting edge fashion
trends and pop culture. These influences provide the inspiration for hip, trendy
apparel and accessories that our plus-size customer relates to. We believe that
Torrid is the first mall concept to offer a complete store assortment of fashion
forward apparel for plus-size young women.
o LISTEN TO THE CUSTOMER
Torrid does not dictate fashion trends, but rather listens to customers and
emphasizes current fashion direction, as well as pop culture influences, to
identify and keep current with emerging trends. These trends dictate a fashion
forward merchandise selection with strong customer appeal. Torrid, like Hot
Topic, seeks direct feedback at the grass-roots level from Torrid store
associates and customers. This feedback has a direct influence on future
purchases of Torrid merchandise.
o EMPHASIZE CUSTOMER SERVICE AND THE IN-STORE EXPERIENCE
We train Torrid store associates to provide one-on-one service to
customers. Because we believe that the plus-size customer has been previously
unable to find sufficient quantities and selections of fashionable apparel in
line with current trends like her friends buy and wear, Torrid's customer
service approach focuses on suggesting outfits and ensuring the correct fit.
Through a focus on customer service and a trendy fashion merchandise
offering, Torrid seeks to create a compelling shopping environment that the
younger plus-size female customer is looking for. We believe that the warm
reception, trendy fashion offerings, and helpful customer service by Torrid
associates help to create a welcoming and exciting environment that will be
attractive to, and preferred by, the Torrid customer.
STORE LOCATIONS
As of January 29, 2005, we operated 592 Hot Topic stores throughout the
United States and Puerto Rico and 76 Torrid stores in 25 states in both
metropolitan and middle markets. Between January 30, 2005 and March 9, 2005, we
opened an additional five Hot Topic stores and one Torrid store. The following
chart shows, as of March 9, 2005, the number of Hot Topic and Torrid stores we
operate in each state in which those stores are located:
6.
HOT TOPIC, INC.
STORES BY STATE
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HOT TOPIC STORES TORRID STORES TOTAL COMPANY
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OPEN AT NEW HT OPEN AT OPEN AT NEW TORRID OPEN AT OPEN AT
1/29/2005 FY05 TO DATE 3/9/2005 1/29/2005 FY05 TO DATE 3/9/2005 3/9/2005
Alabama 6 6 6
Alaska 3 3 3
Arizona 14 14 4 4 18
Arkansas 2 2 2
California 66 2 68 29 29 97
Colorado 11 11 1 1 12
Connecticut 7 7 7
Delaware 2 2 2
Florida 37 37 2 2 39
Georgia 12 12 1 1 13
Hawaii 4 4 4
Idaho 3 3 3
Illinois 17 17 2 2 19
Indiana 12 12 1 1 13
Iowa 9 9 9
Kansas 5 5 5
Kentucky 7 7 7
Louisiana 8 8 8
Maine 2 2 2
Maryland 14 14 2 2 16
Massachusetts 15 15 3 3 18
Michigan 23 23 2 2 25
Minnesota 12 12 1 1 13
Mississippi 2 2 2
Missouri 13 13 2 2 15
Montana 3 3 3
Nebraska 4 4 1 1 5
Nevada 5 5 2 2 7
New Hampshire 4 4 1 1 5
New Jersey 16 16 3 1 4 20
New Mexico 7 7 1 1 8
New York 28 28 5 5 33
North Carolina 12 1 13 13
North Dakota 3 3 3
Ohio 26 26 1 1 27
Oklahoma 7 7 7
Oregon 7 7 2 2 9
Pennsylvania 28 1 29 1 1 30
Rhode Island 1 1 1
South Carolina 6 6 6
South Dakota 2 2 2
Tennessee 15 15 2 2 17
Texas 49 49 5 5 54
Utah 8 8 8
Vermont 2 2 2
Virginia 14 14 14
Washington 18 18 1 1 19
West Virginia 4 4 4
Wisconsin 11 11 1 1 12
Wyoming 1 1 1
Puerto Rico 5 1 6 6
TOTAL 592 5 597 76 1 77 674
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7.
EXPANSION STRATEGY
The following table provides a history of our store expansion:
FISCAL YEAR
------------------------------------------------
2000 2001 2002 2003 2004 2005
THROUGH
3-9-05
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(Number of stores)
Stores at beginning of year 212 274 352 445 554 668
Hot Topic stores opened 62 73 74 84 91 5
Hot Topic stores closed* (1) (2) (1)
Torrid stores opened 6 21 25 24 1
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Stores at end of year 274 352 445 554 668 674
------------------------------------------------
Hot Topic and Torrid stores
expanded or relocated 5 7 8 4 10 1
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* Victorville, CA store closed in fiscal 2001 and re-opened in the first
quarter of fiscal 2002, and is included in our current store count.
Parklane, NV and Bayfair, CA store leases expired in the fourth
quarter of fiscal 2002 and were not renewed. Cupertino, CA store lease
expired in the first quarter of fiscal 2004 and was not renewed.
Our expansion strategy is to open stores primarily in shopping malls and
selected entertainment centers in both new and existing markets throughout the
United States. We opened 91 new Hot Topic stores and 24 Torrid stores in fiscal
2004, and we also expanded or relocated ten existing stores. During fiscal 2005,
we plan to open approximately 65 new Hot Topic stores and 45 new Torrid stores.
Additionally, we plan to expand or relocate approximately 20 existing stores. We
have identified regional malls nationwide and in Puerto Rico for potential new
locations.
We evaluate potential store locations based on a variety of criteria
relevant to our merchandising strategy, including: the sales of the mall and
anchor stores, sales of teenage-oriented and plus-size stores, age demographics
in the trade area, median family income and other economic factors. We have a
real estate committee that meets regularly to evaluate and select store
locations. We generally seek potential store sites between 1,500 square feet and
2,000 square feet for Hot Topic stores, and between 2,200 square feet and 2,600
square feet for Torrid stores. Our Hot Topic stores currently average
approximately 1,700 square feet and our Torrid stores currently average
approximately 2,500 square feet.
STORE-LEVEL ECONOMICS
During fiscal 2004, we achieved average Hot Topic store net sales of
approximately $1,048,000 and average Hot Topic store net sales per square foot
of approximately $602. We cannot guarantee that these results will continue or
that future average store-level sales will not vary from historical results.
HOT TOPIC MERCHANDISING
Our Hot Topic stores serve as a headquarters for music/pop culture-licensed
and music/pop culture-influenced apparel, accessories and gift items. Music/pop
culture-licensed merchandise includes tee shirts, hats, posters, stickers,
patches, postcards, books, novelty accessories, compact discs and albums.
Music/pop culture-influenced merchandise includes woven and knit tops, skirts,
pants, shorts, jackets, shoes, costume jewelry, body jewelry, sunglasses,
cosmetics, leather accessories and gift items. Approximately half of Hot Topic's
products are music/pop culture-licensed and the other half are music/pop
culture-influenced products. A key strategy of our Hot Topic stores is to offer
a diverse product assortment. We have more than 20 distinct merchandise
categories or "departments." On average, over 120 different licensed band tee
8.
shirts are carried in each store, from current artists such as Green Day, AFI,
Slipknot, Good Charlotte, ICP and Linkin Park to classic rock artists such as
The Ramones, Nirvana, Bob Marley, The Rolling Stones, Metallica and Led
Zeppelin. New items and categories are regularly tested to stay current with
customer demand and new product trends.
During fiscal 2004, 53% of Hot Topic's net sales were generated in apparel
categories and 47% of Hot Topic's net sales were produced in non-apparel
categories (including accessories, gifts, intimate apparel and shoes).
Our Hot Topic merchandising staff consists of a General Merchandise
Manager, Divisional Merchandise Managers, and a staff of buyers and assistant
buyers who manage the various product categories. The merchandising staff
reflects our culture in that its decisions and actions are influenced by music
and pop culture. In determining which merchandise to buy, the staff spends
considerable time viewing music videos, reviewing industry music sales,
monitoring alternative radio station air play, consulting with sales associates
(to draw from their different experiences and perspectives), reviewing customer
requests, attending trade shows and reading music and fashion industry
periodicals. In addition, the merchandising staff regularly visits nightclubs
and attends concerts and other events that attract young people.
Hot Topic has several lines of private label merchandise to complement and
supplement current product offerings. We believe that Hot Topic brands play an
important part in differentiating its stores from those of its competitors and
provide us with higher margin opportunities as compared to other merchandise. We
estimate that in fiscal 2004 our Hot Topic brands accounted for approximately
25% of our sales, the same percentage as in fiscal 2003. Our proprietary brands
include Ugly Shirt, Morbid Metals (body jewelry), Morbid Threads (men's and
women's apparel and hosiery) and MT:2 (men's and women's apparel). Some shoes
are also sold under the Hot Topic label.
In order to reduce fashion risk and maintain the ability to respond quickly
to emerging trends, Hot Topic buys a majority of its merchandise not more than
60 to 90 days in advance of delivery. We also often begin with smaller test
purchases prior to chain-wide distribution. We regularly monitor store sales by
merchandise theme and classification, Stock Keeping Units (SKUs), color and size
to determine types and amounts of products to purchase, to detect products and
trends that are emerging or declining, and to manage the product mix in our
stores by responding to the spending patterns of our customers. We also develop
good relationships with our vendors because we understand their importance of
facilitating a quick response.
TORRID MERCHANDISING
Our Torrid stores serve a premier destination for current trends in fashion
apparel and accessories for plus-size young women. We believe that the Torrid
customer wants to wear the same types of merchandise as her smaller-sized peers.
Torrid's merchandise includes novelty tee shirts, fashion tops, pants, shorts,
skirts, dresses, jackets, swimwear, intimate apparel, shoes, hosiery,
accessories, gifts, and beauty products. Torrid apparel is sized 12 to 26. A
broad selection of merchandise comes from established branded vendors, including
Dickies, Paris Blues, Z Cavaricchi, LEI, Fine and Hot Kiss and more fashion
forward vendors, such as Tripp. Torrid works with these and other vendors to
monitor and maintain its own plus-size apparel fit specifications for young
women. We believe Torrid's selection of fashion items from these and similar
vendors gives the Torrid customer an opportunity to buy the same or similar
branded items that have been available to other young women of the same age who
are not plus-size. We research current fashion trends and customer requests and
then work with vendors to design and manufacture them for Torrid. The Torrid fit
specialist team works with the manufacturers' design teams to help ensure that
fit and quality standards are achieved and maintained.
During fiscal 2004, approximately 75% of Torrid's net sales were generated
in apparel categories and approximately 25% of Torrid's net sales were produced
in non-apparel categories (including accessories, gifts, intimate apparel and
shoes).
9.
Our Torrid merchandising staff consists of a General Merchandise Manager, a
Divisional Merchandise Manager, a fit specialist team, and a staff of buyers and
assistant buyers who manage all product categories. The Torrid merchandising
staff's decisions and actions are influenced by customer and store associate
feedback. The merchandising staff spends considerable time visiting trendy young
fashion shopping areas and nightclubs, researching international fashion trends,
and attending trade shows and other events that attract young people. We also
believe that emerging fashion trends in the junior market and pop culture
influence Torrid's merchandising direction. The range of pop culture and music
artists that influence Torrid fashion is much broader than at Hot Topic,
consistent with the broader target customer base of females ages 15 to 29.
Approximately 40% of Torrid merchandise is purchased from established
branded vendors. The remaining 60% is Torrid's private label merchandise that
provides the customer with unique, fashion forward merchandise, often at more
competitive prices than branded merchandise. Private label merchandise also
often provides Torrid with higher margin opportunities as compared to other
merchandise. In order to reduce fashion risk and maintain the ability to respond
quickly to emerging trends, Torrid buys a majority of its merchandise not more
than 120 days, and many times less than 75 days, in advance of delivery. We
often begin with small purchases for testing.
PLANNING AND ALLOCATION OF MERCHANDISE
Planning and allocation of our inventory is done at the store, merchandise
classification and SKU levels, using integrated third-party software. Most
merchandise is ordered in bulk and then allocated to each store based on store
inventory plans and SKU performance using JDA's Advanced Allocation software.
Buyers and inventory analysts determine SKU reorder quantities by using a
proprietary automated software program which considers sales history, projected
sales, planned inventories by store, store demographics, geographic preferences,
store openings and planned markdown dates.
Our headquarters and distribution facility located in the City of Industry,
California is approximately 250,000 square feet. Vendors deliver all merchandise
to this facility, where it is inspected, allocated, picked, prepared and boxed
for shipment to our stores and internet customers. We ship merchandise to stores
each weekday, providing our Hot Topic and Torrid stores with a steady flow of
new and reordered merchandise. Minimal back stock is maintained in our
distribution facility and at our stores, so that most of our merchandise is
available for sale on the selling floors of our stores. No single vendor
accounted for more than 7% of our merchandise purchases during fiscal 2004.
We have entered into a lease (with a purchase option) for an additional
distribution center facility in Tennessee, which we expect to be operational by
the end of the second quarter of fiscal 2005. We believe this second
distribution center will allow for us to accommodate our growth for many years.
We also expect improved delivery times to many of our stores, especially east
coast locations. The Tennessee distribution center will receive merchandise for
and ship merchandise primarily to stores in the eastern half of the country.
HOT TOPIC AND TORRID STORE OPERATIONS
Hot Topic and Torrid store operations are managed by separate teams of a
Vice President of Store Operations, regional directors and district managers. On
average, each district manager supervises approximately six to eight stores. A
store manager and two or three assistant managers manage individual stores. In
addition to managers and assistant managers, a typical store has approximately
six to ten part-time sales associates, depending on the season. The store
manager and district manager are responsible for the hiring and training of new
associates. We have established training and operating procedures to assist
field management in the supervision and training of all associates. We have also
designed a store manager training program, which is used to train externally
hired managers.
We strive to create a store environment that customers will consider "their
place" to shop with friends. We seek to hire sales associates who are like our
customers - energetic people who are knowledgeable and passionate about music
and pop culture-inspired fashion, as well as trendy fashion inspiration. We
10.
understand the importance of focusing on the preferences and opinions of our
target customers. So store associates, who have the closest and most frequent
contacts and interactions with our customers, from time to time accompany buyers
on buying trips. Additionally, in return for feedback on fashion and other
trends, we reimburse store associates for the cost of attending concerts. They
are also encouraged to directly communicate customer feedback as well as their
own merchandise and product ideas to the buyers and management. Our culture and
our direct interaction with and respect for sales associates are significant
factors in producing associate retention rates that we believe are higher than
the industry average.
The primary goal of the sales associate position is to provide superior,
informed customer service in order to maximize sales and minimize inventory
shrinkage. Store management receives daily store sales and category results so
that performance can be measured against set goals. Postage-paid "report cards"
are provided in all stores for customers to grade performance and make
recommendations to us. We train associates to greet each customer, to inform the
customer about new music and fashion trends and to suggest merchandise that
matches the customer's lifestyle, music and fashion preferences and/or trends.
We believe that our associates' high level of product knowledge and customer
service differentiates us from other specialty retailers.
District managers, along with all members of the store teams, have a base
pay rate and may qualify to receive certain bonus payouts. District managers may
also qualify to receive stock option grants. All of our employees who meet
certain eligibility criteria are eligible to participate in our Employee Stock
Purchase Plan. We believe that our continued success is dependent in part on our
ability to attract, retain and motivate qualified associates. In particular, the
success of our growth will be dependent on our ability to promote and/or recruit
talented district and store managers. In order to ensure new stores have a
capable pool of candidates, we have assigned dedicated field recruiters to work
with each region's management team.
MARKETING, PROMOTION AND INTERNET
We generally open stores in high traffic malls in areas of high teenage and
young adult population, and we rely on existing customers, associates, store
design and exciting music to attract new customers to our stores. To further
promote Hot Topic stores, we sponsor various music events and conduct periodic
contests. For example, since 2000, we have co-sponsored a major summer rock
tour, Ozzfest (headlined by Ozzy Osbourne). As an Ozzfest sponsor, our name has
been associated with promotional activities at each venue. Torrid enhances its
image through visual advertising and promotion, with an emphasis on lifestyle
photography illustrating a young plus-size woman in various lifestyle activities
and fashions representative of the feminine, beautiful and/or sexy essence of
the brand. In the fourth quarter of fiscal 2004, Torrid began testing in a small
number of stores a customer loyalty program called Divastyle. In addition to our
broad selection of merchandise for sale, including some Internet-only items, our
websites offer merchandise, tour dates, contests, job postings, store locations
and community features such as band reviews and advice columns. Our net sales
from Internet operations rose by 25% in fiscal 2004 compared to fiscal 2003 and
contributed approximately 2.8% of total sales in fiscal 2004.
In fiscal 2004, we established the Hot Topic Foundation. The Foundation's
objective is to support programs and organizations that specifically focus on
encouraging and educating youth in music, creative writing, painting,
photography, and filmmaking. The Foundation has been funded through donations
from our employees, our company, and our customers. As of January 29, 2005,
$339,000 has been raised for the benefit of the Foundation. We are pleased with
the meaningful contributions the Foundation has made to school music programs
and other initiatives, and we believe these activities have a positive influence
on young people.
INFORMATION TECHNOLOGY
Our information systems provide integration of store, merchandising,
distribution, financial, and human resources. Software licensed from GERS Retail
Systems is used for SKU and classification inventory tracking, purchase order
management, open-to-buy, merchandise distribution, automated ticket making, and
sales audit. Our financial systems are licensed from Lawson Software and are
used for general ledger, accounts payable, and asset management as integrated
11.
financials. Sales are updated daily in the merchandising reporting systems by
polling sales information from each store's point-of-sale, or POS, terminals.
Our POS system consists of registers providing price look-up, time and
attendance, e-mail and credit card/check/gift card authorization. Through
automated nightly two-way electronic communication with each store, sales
information and payroll hours are uploaded to the host system. The host system
downloads price changes, performs system maintenance and provides software
updates to the stores. We evaluate information obtained through nightly polling
to implement merchandising decisions, including product purchasing/reorders,
markdowns and allocation of merchandise on a daily basis. In June 2004, we
implemented our new warehouse management system in our California distribution
center, which is licensed from Manhattan Associates.
Our Wide Area Network ("WAN") is used to connect all locations with
real-time e-mail and several Intranet applications. In addition, this technology
has improved operating efficiency in such areas as credit card and gift card
authorization, store-to-store transfer, product lookup, product location and
several other applications to eliminate paper distribution and paperwork.
In 2005, we plan to open a new distribution center in Tennessee and
implement a new Internet order management software system and a customer loyalty
software system. We believe our enhancements to existing systems and additions
of new systems will help support our growth.
TRADEMARKS
We have registered on the Principal Register of the United States Patent
and Trademark Office our retail store service marks Hot Topic(R) and Torrid(R)
in various forms. We have also registered various other trademarks for
merchandise such as Morbid Make-Up(R), Morbid Scents(R), Morbid Metals(R),
Morbid Threads(R), Tragedy(R), Misery(R), and MT:2(R); and general marks such as
our slogan "Everything About the Music". Each federal registration is renewable
indefinitely if the mark is in use at the time of the renewal. We have several
trademark applications on file with the USPTO, for which we hope to obtain
registration in the future. In addition, we have common law trademark rights to
certain trademarks, service marks and trade names used in our business from time
to time. We are not aware of our use of any of our marks raising any claims of
infringement or other challenges to our right to use our marks in the United
States. We also have additional registrations and pending applications in
foreign jurisdictions. All other trademarks, trade names and service marks
referenced in this report and in our stores are the property of their respective
owners.
HOT TOPIC COMPETITION
We compete with other retailers for vendors, customers, suitable retail
locations and qualified associates. Hot Topic currently competes with street
alternative and vintage clothing stores located primarily in metropolitan areas
and with other mall-based teenage-focused retailers such as Abercrombie & Fitch,
Aeropostale, American Eagle Outfitters, Anchor Blue (Millers Outpost), Charlotte
Russe Inc., Claire's Stores, Inc., Forever 21, Old Navy (a division of Gap
Inc.), Pacific Sunwear of California, Inc., Spencer Gifts, Inc., The Buckle, Wet
Seal, Inc., and Urban Outfitters, Inc.; and, to a lesser extent, with music
stores. Some of our competitors are larger and have substantially greater
financial, marketing and other resources than us. The principal factors of
competition are merchandise selection, connection to the music industry,
customer service, store location and price.
TORRID COMPETITION
Based on direct customer research we have conducted, we believe that
plus-size female teens and young women have historically shopped for apparel at
department stores, discount stores such as Target and specialty stores such as
Lane Bryant. Though a source of competition, we believe such stores generally
target more mature customers, which is also reflected in their store
environments. We are not aware of other exclusively mall-based chains that are
specifically targeting younger plus-size fashion forward customers. Torrid
competes with traditional department stores, local specialty stores and junior
teen retailers that offer a combination of junior and plus-sizes, such as Deb
Shops. Torrid also competes with traditional plus-size catalogs and web sites,
as well as Delia's Corp. and Alloy, Inc. which carry both junior and junior
plus-sizes. Many companies compete for the junior customers and additional
competitors may enter into the plus-size female market.
12.
EMPLOYEES
We employed approximately 2,030 full-time and 5,940 part-time employees,
which we refer to as associates, as of March 9, 2005. Of our 7,970 associates,
approximately 600 were headquarters and distribution center personnel and the
remainder were field management and store associates. The number of part-time
associates changes with seasonal needs. None of our associates are covered by
collective bargaining agreements. We believe that our relationships with our
associates are good.
EXECUTIVE OFFICERS AND KEY EMPLOYEES
Our executive officers and key employees and their ages at March 9, 2005
are as follows:
NAME AGE POSITION
- ----------------------- ----- ------------------------------------------------------
Elizabeth McLaughlin 44 Chief Executive Officer and Director
Gerald Cook 52 President, Hot Topic
Patricia Van Cleave 57 President, Torrid
James McGinty 42 Chief Financial Officer
Tom Beauchamp 52 Senior Vice President and Chief Information Officer
Christopher Kearns 38 Senior Vice President, General Counsel and Secretary
Cindy Boden 50 Vice President, Torrid Store Operations
Christopher Daniel 47 Vice President, Torrid General Merchandise Manager
Ed Gusman 46 Vice President, Hot Topic Store Operations
Tricia Higgins 37 Vice President, Distribution
Darrell Kinsley 42 Vice President, Store Design and Visual Merchandising
Alain Krakirian 39 Vice President, Hot Topic Planning and Allocation
Cindy Levitt 44 Vice President, Hot Topic General Merchandise Manager
Sue McPherson-Spissu 37 Vice President, Logistics
John Neppl 48 Vice President, Real Estate and Construction
George Wehlitz, Jr. 44 Vice President, Finance
ELIZABETH MCLAUGHLIN has served as Chief Executive Officer and on the Board
of Directors since 2000. From 1996 through 2000, Ms. McLaughlin served as Senior
Vice President and General Merchandise Manager. From 1993 through 1996, Ms.
McLaughlin was our Vice President, Operations. Prior to joining us, Ms.
McLaughlin held various positions with Millers Outpost and The Broadway. Ms.
McLaughlin holds a B.A. degree in Economics from the University of California at
Irvine. Ms. McLaughlin is a Director of Noodles & Company, a privately held
quick casual restaurant concept. She is also a member of the Board of Visitors
for the Anderson School at UCLA.
13.
GERALD COOK has been President, Hot Topic since September 2003. From
February 2001 to September 2003, he was Chief Operating Officer. From February
1999 until joining us, he was the President and Chief Operating Officer of
Travel 2000, Inc. Subsequent to his departing Travel 2000, Inc., that company
filed for chapter 11 bankruptcy in March 2001. From 1995 to April 1998, Mr. Cook
was Senior Vice President, Operations for The Bombay Company, Inc. and from 1989
to 1995, Mr. Cook was the Vice President, Stores and the Vice President, General
Merchandising Manager of Woman's World Stores. Prior to 1989, he held management
positions with Barnes & Noble/B Dalton, The Gap Stores and the Limited, Inc. Mr.
Cook holds a B.S. degree in Business Administration from the University of
Minnesota.
PATRICIA VAN CLEAVE has been President, Torrid since September 2003. From
September 2002 to September 2003, she was Chief Merchandising Officer. From July
1998 to June 2001, she was the President and CEO of Sundance Catalog Company.
From May 1995 until joining Sundance, she was the President of Cherokee. Prior
to joining Cherokee, she was Executive Vice President of Merchandising for
apparel, fashion accessories and intimate apparel for The Broadway. She came to
The Broadway from The Bon Marche, a Seattle-based division of Federated
Department Stores where she was Senior Vice President, General Merchandise
Manager of Apparel. Prior to that she held management positions for The Broadway
Southwest, John Wanamaker, The May Company and Daytons. Ms. Van Cleave holds a
B.S. degree in Business and Textiles from the University of Minnesota.
JAMES MCGINTY has served as Chief Financial Officer since February 2001.
Mr. McGinty joined us in August 2000 as Vice President, Finance and was promoted
to Chief Financial Officer in February 2001. From July 1996 to July 2000, Mr.
McGinty was Vice President-Controller at Victoria's Secret Stores, the leading
brand and largest specialty retailer division of the Limited, Inc. From 1984 to
1996, he held various financial and accounting positions within the Structure
and Express divisions of the Limited, Inc. Mr. McGinty holds a B.S. degree in
Accounting from Miami University in Oxford, Ohio.
TOM BEAUCHAMP has been Senior Vice President and Chief Information Officer
since June 2004. Mr Beauchamp has over 30 years of Information technology
experience. From October 2001 until joining us, he was Chief Information Officer
for CMI Marketing, a provider of loyalty marketing programs. From January 2000
until June of 2001, Mr. Beauchamp was Chief Information Officer of Columbia
House. From June 1999 through January 2001, he was Senior Vice President, Chief
Information Officer for Oxford Health Plans. From March 1996 through June 1999,
he was Senior Vice President, Chief Information Officer for Woolworth
Corporation. Prior to 1996, Mr. Beauchamp held management positions with
Montgomery Ward, Limited, Inc., Millers Outpost, and The Broadway.
CHRISTOPHER KEARNS has served as Senior Vice President, General Counsel and
Secretary since April 2004. Prior to that, Mr. Kearns spent a decade as an
attorney in private practice, most recently as a Partner with the law firm
Cooley Godward LLP, which he joined in 1996. Mr. Kearns holds a B.A. degree in
History and a specialization in Business Administration from UCLA, and a J.D.
with honors from the University of California, Hastings College of the Law.
CINDY BODEN has been Vice President, Torrid Store Operations since October
2003. Prior to that, Ms. Boden held Regional Director positions with Hot Topic
both in the Northeast and the Midwest regions, beginning in 2000. From 1993 to
1997, Ms. Boden was a Regional Manager for County Seat stores. From 1990 to
1992, she held the position of Regional Manager for Millers Outpost stores.
Prior to Millers Outpost, she was a District Manager for Brookstone for five
years. Ms. Boden holds a B.S. degree in Textiles and Clothing with a minor in
Business Administration from the University of Minnesota at Mankato.
CHRISTOPHER DANIEL has served as Vice President, General Merchandise
Manager for Torrid since October 2004. From September 1996 until September 2004,
he was the Vice President of Design and Product Development for Mervyn's, a
division of Target Corporation. Prior to that, Mr. Daniel held management
positions in merchandising and product development with Structure, a division of
Limited, Inc., Charming Shoppes, a national women's specialty retailer, and
14.
Dayton-Hudson, the department store division of Target Corporation. Prior to
that, he held merchandising positions with Bullock's, a Los Angeles based
division of Federated Stores and Miller and Rhoads, a division of Allied stores
based in Richmond, Virginia. Mr. Daniel holds a B.A. degree in English
literature from the University of Richmond in Richmond, Virginia.
ED GUSMAN has served as Vice President, Hot Topic Store Operations since
January 2005. From January 2004 to January 2005, Mr. Gusman was the Senior
Regional Director for the Eastern United States. From March 2001 to December
2003, Mr. Gusman was the Regional Director for the Southeast. From September
1999 to February 2001, he was the district manager for Urban Outfitters for the
Mid Atlantic, Southeast. From May 1994 to August 1999, Mr. Gusman was a regional
director for Zany Brainy, heading up their expansion on the West Coast. From
1990 to 1994, he was regional director for Brentano's, Waldenbooks Super Store.
Prior to that, he held various management positions with Waldenbooks.
TRICIA HIGGINS has been Vice President, Distribution since October 2004 and
is responsible for the Distribution Center in the City of Industry. From
February 2004 to October 2004, she was Vice President, Internet. Before her
promotion to Vice President, Internet, she held the position of Director,
Internet, beginning in June 2002. Prior to joining us, she was Director, Contact
Center Operations for Cooking.com. From 1997 to August 2000, Ms. Higgins was
Director, Retail Operations for the Williams-Sonoma, Pottery Barn and Hold
Everything divisions of Williams-Sonoma, Inc. From 1994 to July 1997, she held
various positions with The Disney Stores, Inc. in Retail Operations and New
Business Development. Ms. Higgins holds a B.A. degree in Psychology from Indiana
University.
DARRELL KINSLEY was promoted to Vice President, Store Design and Visual
Merchandising, in January 2005. From February 2000 through December 2004, Mr.
Kinsley was Vice President, Hot Topic Store Operations. From June 1998 through
February 2000, Mr. Kinsley was Regional Director for the western United States.
From February 1997 through June 1998, he was Regional Director for the eastern
United States. Mr. Kinsley joined us in February 1995 as the District Manager
for the eastern United States and was responsible for the expansion into the
East Coast. Mr. Kinsley holds a business management leadership certificate from
the Anderson School of Business at the University of California, Los Angeles.
ALAIN KRAKIRIAN has been Vice President, Hot Topic Planning and Allocation
since February 2000. From July 1997 through February 2000, Mr. Krakirian was
Director of Planning and Allocation. Mr. Krakirian was a Planning Manager at
Disney Stores from December 1996 to July 1997 and the Director of Merchandise
Planning and Allocation at Kids Mart from February 1996 to December 1996. From
September 1991 to January 1996, Mr. Krakirian held various merchandise control
and planning positions at Clothestime Stores, including Director of Merchandise
Control and Information Office from October 1994 to January 1996. Mr. Krakirian
holds a B.S. degree in Finance from the University of LaVerne and an M.B.A.
degree from Pepperdine University.
CINDY LEVITT has been Vice President, Hot Topic General Merchandise Manager
since February 2000. From June 1996 to February 2000, she served as Divisional
Merchandise Manager, Apparel and Music. Ms. Levitt has held senior buying
positions since 1989. Prior to her career at Hot Topic, Ms. Levitt held buying
positions at The May Company. Ms. Levitt holds a degree in Fashion Merchandising
from Orange Coast College.
SUE MCPHERSON-SPISSU has been Vice President, Logistics since October 2004.
From October 2001 to October 2004, she was Vice President, Distribution Center
and E-Commerce. Ms. McPherson-Spissu was Vice-President, Distribution Center
from February 2001 to October 2001 and was Divisional Vice President of
Distribution Center from February 2000 to February 2001. From March 1995 to
February 2000, she was Director of the Distribution Center. Ms. McPherson-Spissu
joined us in 1989 as a store associate in our first store while attending the
University of Southern California. Ms. McPherson-Spissu holds a B.S. degree in
Business from the University of Southern California.
15.
JOHN NEPPL joined us in October 2001 as Vice President, Real Estate and
Construction. From January 1995 to September 2001, Mr. Neppl served as
Vice-President of Real Estate and Construction for Eastern Mountain Sports,
Inc., a specialty retailer based in New Hampshire. Mr. Neppl served as Director
of Real Estate at Miller's Outpost/Anchor Blue from October 1987 to December
1994. Mr. Neppl held various financial positions with Mervyn's department
stores, a division of Target Corporation, from October 1978 to September 1987.
Mr. Neppl received a B.S. degree in Accounting from Villanova University.
GEORGE WEHLITZ, JR. has been Vice President, Finance since August 2003. He
joined us in February 2002 as Vice President, Controller. From August 2000 to
February 2002, Mr. Wehlitz was Chief Financial Officer at The Popcorn Factory,
Inc., a catalog company for gourmet popcorn gifts. From 1987 to 2000 Mr. Wehlitz
held various financial-related positions, at the divisional and corporate level,
for The Bombay Company, Inc. Mr. Wehlitz holds a B.A. degree in Accounting from
Texas Christian University and is a Certified Public Accountant.
COMPLIANCE WITH ENVIRONMENTAL REGULATIONS
To our present knowledge, compliance with federal, state and local
provisions enacted or adopted for protection of the environment has had no
material effect upon our operations.
INTERNET WEBSITE
We make available free of charge through our investor relations website at
www.corporatewindow.com/fl/hott/frame.html our annual report on Form 10-K,
quarterly reports on Form 10-Q, current reports on Form 8-K, and amendments to
those reports filed or furnished pursuant to Section 13(a) or 15(d) of the
Exchange Act as soon as reasonably practicable after such material is
electronically filed with, or furnished to, the SEC. We also make available our
Standards of Business Ethics at www.corporatewindow.com/fl/hott/frame.html.
CERTAIN RISKS RELATED TO THE COMPANY'S BUSINESS
Before deciding to invest in Hot Topic, Inc. or to maintain or increase an
investment in Hot Topic, Inc., readers should carefully consider the risks
described below, in addition to the other information contained in this Annual
Report on Form 10-K and in other filings with the SEC, including our Quarterly
Reports on Form 10-Q and Current Reports on Form 8-K. The risks described below
are not the only risks we face. Additional risks that are not presently known to
us or that we currently deem immaterial may also affect our business. If any of
these known or unknown risks actually occur, our business, financial condition
and results of operations could be seriously harmed, and our stock price could
decline.
OUR AGGRESSIVE GROWTH STRATEGY ANTICIPATES A SIGNIFICANT NUMBER OF NEW
STORE OPENINGS, WHICH COULD CREATE CHALLENGES WE MAY NOT BE ABLE TO ADEQUATELY
MEET.
Our net sales have grown significantly during the past several years,
primarily as a result of the opening of new stores and, to a lesser extent, the
introduction of new products. Of our 668 stores opened as of January 29, 2005,
115 had been open for less than one full year. We intend to continue to pursue
an aggressive growth strategy for the foreseeable future, and our future
operating results will depend largely upon our ability to open and operate
stores successfully and to profitably manage a larger business. We currently
anticipate opening approximately 110 stores, consisting of 65 Hot Topic and 45
Torrid stores, during fiscal 2005, which will result in a significant increase
in the number of stores we operate. Five of these Hot Topic stores and one of
these Torrid stores were opened as of March 9, 2005. Operation of a greater
number of new stores and expansion into new markets may present competitive and
merchandising challenges that are different from those currently encountered by
us in our existing stores and markets. In addition, as the number of stores
increases, we may face risks associated with market saturation of our products
and concepts. There can be no assurance that our expansion will not adversely
affect the individual financial performance of our existing stores or our
overall results of operations, or that new stores will achieve sales and
profitability levels consistent with existing stores. Further, there can be no
assurance that we will successfully achieve our expansion targets or, if
achieved, that planned expansion will result in profitable operations.
16.
THIS GROWTH STRATEGY REQUIRES EFFECTIVE UPSCALING OF OUR OPERATIONS, AND WE
MAY NOT BE ABLE TO DO THIS SUFFICIENTLY TO EFFECTIVELY PREVENT NEGATIVE IMPACT
ON OUR OPERATIONS AND FINANCIAL RESULTS.
In order to manage our planned expansion, among other things, we will need
to locate suitable store sites; negotiate acceptable lease terms; obtain
adequate capital resources on acceptable terms; source sufficient levels of
inventory; hire and train store managers and sales associates; integrate new
stores into our existing operations; and maintain adequate distribution center
space and information technology and other operations systems.
We have entered into a lease (with a purchase option) for an additional
distribution center facility located in Tennessee, which we expect to be
operational in the second quarter of fiscal 2005, and we face challenges and
risks associated with establishing operations in this facility. In particular,
there are staffing and logistical concerns, as well as financial risks and other
risks associated with opening a significant facility in a site approximately
2,000 miles from our headquarters and current distribution center.
We also need to continually evaluate the adequacy of our management
information and distribution systems. Implementing new systems and changes made
to existing systems could present challenges we do not anticipate and could
impact our business (for example, we experienced some delay in product
distribution during our second quarter of fiscal 2004 upon implementing our new
warehouse management system). We cannot anticipate all of the changing demands
that our expanding operations will impose on our business, systems and
procedures, and our failure to adapt to such changing demands could have a
material adverse effect on our results of operations and financial condition.
Our failure to timely implement initiatives necessary to support our expanding
operations could also materially impact our business.
EXPANDING OUR OPERATIONS TO INCLUDE AN INCREASING NUMBER OF TORRID STORES
AND ANY OTHER NEW CONCEPTS PRESENTS RISKS WE HAVE FACED WITH THE HOT TOPIC
CONCEPT BUT ALSO NEW RISKS DUE TO DIFFERENCES IN CONCEPT OBJECTIVES AND
STRATEGIES.
Our ability to expand into new concepts, and in particular our Torrid
concept, has not been fully tested. Accordingly, the operation of Torrid stores
and the sale of Torrid merchandise over the Internet are subject to numerous
risks, including unanticipated operational problems; lack of experience; lack of
customer acceptance; new vendor relationships; competition from existing and new
retailers; and diversion of management's attention from the Hot Topic concept.
The Torrid concept involves implementation of a retail apparel concept which is
subject to most of the same risks as the Hot Topic concept, as well as
additional risks inherent in a concept that concentrates on apparel and fashion,
including risks of difficulty in merchandising, uncertainty of customer
acceptance, fluctuations in fashion trends and customer tastes, extreme
competition with a less differentiated product offering and attendant mark-down
risks. We may not be able to generate continued customer interest in Torrid
stores and products, and the Torrid concept may not be able to support the store
or Internet sales formats. Risks inherent in any new concept are particularly
acute with respect to Torrid, because this is our first significant new venture,
and the nature of the Torrid business differs in certain respects from that of
the Hot Topic business. There can be no assurance that the Torrid stores or
website will achieve sales and profitability levels that justify our investment.
THE SUCCESS OF OUR BUSINESS DEPENDS ON ESTABLISHING AND MAINTAINING GOOD
RELATIONSHIPS WITH MALL OPERATORS AND DEVELOPERS, AND PROBLEMS WITH THOSE
RELATIONSHIPS COULD MAKE IT MORE DIFFICULT FOR US TO EXPAND TO CERTAIN SITES OR
OFFER CERTAIN PRODUCTS.
Any restrictions on our ability to expand to new store sites or to offer a
broad assortment of merchandise could have a material adverse effect on our
business, results of operations and financial condition. If our relations with
mall operators or developers become strained, or we otherwise encounter
difficulties in leasing store sites, we may not grow as planned and may not
reach certain revenue levels and other operating targets. Risks associated with
these relationships are more acute given recent consolidation in that industry,
and we have seen certain increases in expenses as a result of such consolidation
that could continue.
17.
OUR COMPARABLE STORE SALES ARE SUBJECT TO FLUCTUATION RESULTING FROM
FACTORS WITHIN AND OUTSIDE OUR CONTROL, AND LOWER THAN EXPECTED COMPARABLE STORE
SALES COULD IMPACT OUR BUSINESS AND OUR STOCK PRICE.
A variety of factors affects our comparable store sales including, among
others, the timing of new music releases and music/pop culture-related products;
music and fashion trends; the general retail sales environment and the effect of
the overall economic environment; our ability to efficiently source and
distribute products; changes in our merchandise mix; and our ability to execute
our business strategy efficiently. Our comparable store sales results have
fluctuated significantly in the past and we believe that such fluctuations will
continue. The following table shows our comparable store sales results for
recent periods:
Fiscal Year 2004 2003 2002 2001
----------------------------------------------------------
(2.9)% 7.4% 5.0% 3.9%
FY 2004 FY 2003
-----------------------------------------------
1st Quarter 4.0% 2.6%
2nd Quarter (2.1)% 5.2%
3rd Quarter (4.2)% 10.8%
4th Quarter (6.0)% 8.5%
Past comparable store sales results are not an indicator of future results,
and there can be no assurance that our comparable store sales results will not
decrease in the future. Changes in our comparable store sales results could
cause our stock price to fluctuate substantially.
OUR SUCCESS RELIES ON POPULARITY WITH YOUNG PEOPLE OF MUSIC, POP CULTURE,
AND FASHION TRENDS, AND WE MAY NOT BE ABLE TO REACT TO TRENDS IN A WAY TO
PREVENT DECLINING POPULARITY AND SALES OF OUR PRODUCTS.
Our financial performance is largely dependent upon the continued
popularity of alternative and rock music, the Internet and digital music, music
videos, and MTV and other music television networks among teenagers and college
age adults; the emergence of new artists and the success of music releases and
music/pop culture-related products; the continuance of a significant level of
teenage spending on music/pop culture-licensed and music/pop culture-influenced
products; and our ability to anticipate and keep pace with the music, fashion
and merchandise preferences of our customers. The popularity of particular types
of music, artists, styles, trends and brands is subject to change. Our failure
to anticipate, identify and react appropriately to changing trends could lead
to, among other things, excess inventories and higher markdowns, which could
have a material adverse effect on our results of operations and financial
condition, and on our image with customers. There can be no assurance that our
new products will be met with the same level of acceptance as in the past or
that the failure of any new products will not have an adverse material effect on
our business, results of operations and financial condition.
ECONOMIC CONDITIONS COULD CHANGE IN WAYS THAT REDUCE OUR SALES OR INCREASE
OUR EXPENSES.
Certain economic conditions affect the level of consumer spending on
merchandise we offer, including, among others, employment levels; salary and
wage levels; interest rates; taxation; and consumer confidence in future
economic conditions. We are also dependent upon the continued popularity of
malls as a shopping destination, the ability of mall anchor tenants and other
attractions to generate customer traffic, and the development of new malls. A
slowdown in the United States economy or an uncertain economic outlook could
lower consumer spending levels and cause a decrease in mall traffic or new mall
development, each of which would adversely affect our growth, sales results and
financial performance.
CHANGES IN LAWS, INCLUDING EMPLOYMENT LAWS AND LAWS RELATED TO OUR
MERCHANDISE, COULD MAKE CONDUCTING OUR BUSINESS MORE EXPENSIVE OR CHANGE THE WAY
WE DO BUSINESS.
18.
In addition to increased regulatory compliance requirements, changes in
laws could make ordinary conduct of our business more expensive or require us to
change the way we do business. For example, changes in federal and state minimum
wage laws could raise the wage requirements for certain of our associates, which
would likely cause us to reexamine our entire wage structure for stores. Other
laws related to employee benefits and treatment of employees could also
negatively impact us such as by increasing benefits costs such as medical
expenses. Moreover, changes in product safety or other consumer protection laws
could lead to increased costs to us for certain merchandise, or additional labor
costs associated with readying merchandise for sale. It is often difficult for
us to plan and prepare for potential changes to applicable laws.
TIMING AND SEASONAL ISSUES COULD NEGATIVELY IMPACT OUR FINANCIAL
PERFORMANCE FOR GIVEN PERIODS.
Our quarterly results of operations may fluctuate materially depending on,
among other things, the timing of store openings and related pre-opening and
other startup expenses, net sales contributed by new stores, increases or
decreases in comparable store sales, releases of new music and music/pop
culture-related products, shifts in timing of certain holidays, changes in our
merchandise mix and overall economic and political conditions.
Our business is also subject to seasonal influences, with heavier
concentrations of sales during the back-to-school, Halloween and Holiday
(defined as the week of Thanksgiving through the first few days of January)
seasons, and other periods when schools are not in session. The Holiday season
has historically been our single most important selling season. We believe that
the importance of the summer vacation and back-to-school seasons (which affect
operating results in the second and third quarters, respectively) and to a
lesser extent, the spring break season (which affects operating results in the
first quarter) as well as Halloween (which affects operating results in the
third quarter), all reduce our dependence on the Holiday selling season, but
this may not always be the case to the same degree. As is the case with many
retailers of apparel, accessories and related merchandise, we typically
experience lower net sales in the first fiscal quarter relative to other
quarters.
WE HAVE MANY IMPORTANT VENDOR RELATIONSHIPS, AND OUR ABILITY TO GET
MERCHANDISE COULD BE HURT BY CHANGES IN THOSE RELATIONSHIPS AND EVENTS HARMFUL
TO OUR VENDORS COULD IMPACT OUR RESULTS OF OPERATION.
Our financial performance depends on our ability to purchase desired
merchandise in sufficient quantities at competitive prices. Although we may have
many sources of merchandise, substantially all of our music/pop culture-licensed
products are available only from vendors that have exclusive license rights. In
addition, certain of our products are supplied by small, specialized vendors,
some of which create unique products primarily for us. Our smaller vendors
generally have limited resources, production capacities and operating histories,
and some of our vendors have restricted the distribution of their merchandise in
the past. We generally have no long-term purchase contracts or other contractual
assurances of continued supply, pricing or access to new products. There can be
no assurance that we will be able to acquire desired merchandise in sufficient
quantities on acceptable terms in the future. Any inability to acquire suitable
merchandise, or the loss of one or more key vendors, may have a material adverse
effect on our business, results of operations and financial condition.
TECHNOLOGY AND OTHER RISKS ASSOCIATED WITH OUR INTERNET SALES COULD HINDER
OUR OVERALL FINANCIAL PERFORMANCE.
We sell merchandise over the Internet through the websites hottopic.com and
torrid.com. Our Internet operations are subject to numerous risks and pose risks
to our overall business, including, among other things: hiring; retention and
training of personnel to conduct the Internet operations; diversion of sales
from our stores; rapid technological change and the need to invest in additional
computer hardware and software to support sales, customer service and order
fulfillment; liability for online content; failure of computer hardware and
software, including computer viruses, telecommunication failures, online
security breaches and similar disruptions; governmental regulation; and credit
card fraud. There can be no assurance that our Internet operations will achieve
sales and profitability levels that justify our investment in them.
19.
WE HAVE MADE AND PLAN TO CONTINUE TO MAKE SIGNIFICANT CHANGES TO
INFORMATION SYSTEMS AND SOFTWARE USED IN OPERATION OF OUR BUSINESS, AND WE MAY
NOT BE ABLE TO EFFECTIVELY ADOPT CHANGES IN A WAY TO PREVENT FAILURES IN OUR
OPERATIONS OR NEGATIVE IMPACT ON OUR FINANCIAL PERFORMANCE AND REPORTING.
Over the past several years, we have made improvements to existing hardware
and software systems, as well as implemented new systems. For example, we have
invested approximately $6 million to enhance the functionality of our current
GERS Retail Systems software and to implement new financial system software from
Lawson. In addition, we are investing approximately $10 million in the
implementation of a new warehouse management software system, a new Internet
order management software system, and a new customer loyalty software system. We
expect to significantly increase our reliance on these systems in fiscal 2005.
If these information systems and software do not work effectively, we may
experience delays or failures in our operations. These delays or failures could
adversely impact the promptness and accuracy of our merchandise distribution,
transaction processing, financial accounting and reporting and ability to
properly forecast earnings and cash requirements. For example, in the second
quarter of 2004, we experienced some delay in product distribution upon
implementation of our new warehouse management system. To manage growth of our
operations and personnel, we may need to continue to improve our operational and
financial systems, transaction processing, and procedures and controls, and in
doing so, we could incur substantial additional expenses.
LOSS OF KEY PEOPLE OR AN INABILITY TO HIRE NECESSARY AND SIGNIFICANT
PERSONNEL COULD HURT OUR BUSINESS.
Our financial performance depends largely on the efforts and abilities of
senior management, especially Elizabeth McLaughlin, our Chief Executive Officer,
who has been with us since 1993. We have a $2,000,000 key-person life insurance
policy on Ms. McLaughlin. However, the sudden loss of Ms. McLaughlin's services
or the services of other members of our management team could have a material
adverse effect on our business, results of operations and financial condition.
Furthermore, there can be no assurance that Ms. McLaughlin and our existing
management team will be able to manage Hot Topic, Inc. or our growth or that we
will be able to attract and retain additional qualified personnel as needed in
the future.
OUR RELIANCE ON UNITED PARCEL SERVICE, TEMPORARY EMPLOYEES AND OTHER
MECHANICS OF SHIPPING OF OUR MERCHANDISE CREATES DISTRIBUTION RISKS AND
UNCERTAINTIES THAT COULD HURT OUR SALES AND BUSINESS.
We rely upon United Parcel Service for our product shipments, including
shipments to and from a significant number of our stores. Our reliance on this
source for shipments is subject to risks, including employee strikes and
inclement weather, associated with United Parcel Service's ability to provide
delivery services that adequately meet our shipping needs. We are also dependent
upon temporary associates to adequately staff our distribution facility,
particularly during busy periods such as the Holiday season and while multiple
stores are opening. There can be no assurance that we will continue to receive
adequate assistance from our temporary associates, or that there will continue
to be sufficient sources of temporary associates. Additionally, certain products
are imported and subject to delivery delays based on availability and ports
capacity.
THERE IS A RISK WE COULD ACQUIRE MERCHANDISE WITHOUT FULL RIGHTS TO SELL
IT, WHICH COULD LEAD TO DISPUTES OR LITIGATION AND HURT OUR FINANCIAL
PERFORMANCE AND STOCK PRICE.
We purchase licensed merchandise from a number of suppliers who hold
manufacturing and distribution rights under the terms of certain licenses. We
generally rely upon vendors' representations concerning manufacturing and
distribution rights and do not independently verify whether these vendors
legally hold adequate rights to licensed properties they are manufacturing or
distributing. If we acquire unlicensed merchandise, we could be obligated to
remove such merchandise from our stores, incur costs associated with destruction
of merchandise if the distributor is unwilling or unable to reimburse us, and be
subject to liability under various civil and criminal causes of action,
including actions to recover unpaid royalties and other damages. Any of these
results could have a material adverse effect on our business, results of
operations and financial condition.
20.
WE FACE INTENSE COMPETITION, AND AN INABILITY TO ADEQUATELY ADDRESS IT, OR
THE SUCCESS OF OUR COMPETITORS, COULD LIMIT OR PREVENT OUR BUSINESS GROWTH AND
SUCCESS.
The retail apparel and accessory industry is highly competitive. We compete
with other retailers for vendors, teenage and young adult customers, suitable
store locations and qualified associates and management personnel. Hot Topic
currently competes with street alternative stores located primarily in
metropolitan areas; with other mall-based teenage-focused retailers such as
Abercrombie & Fitch, Aeropostale, American Eagle Outfitters, Anchor Blue,
Charlotte Russe Inc., Claire's Stores, Inc., Forever 21, Pacific Sunwear of
California, Inc., Spencer Gifts, Inc., H&M, The Buckle, Wet Seal, Inc., and
Urban Outfitters, Inc.; and, to a lesser extent, with music stores and mail
order catalogs and websites. Torrid has additional competitors, such as Alloy,
Inc., Deb Shops, Delia's Corp., Old Navy (a division of Gap Inc.), Lane Bryant,
and plus-size departments in department stores and discount stores as well as
numerous potential competitors who may begin or increase efforts to market and
sell products competitive with Torrid's products. Some of our competitors are
larger and may have greater financial, marketing and other resources. Direct
competition with these and other retailers may increase significantly in the
future, which could require us, among other things, to lower our prices.
Increased competition could have a material adverse effect on our business,
results of operations and financial condition.
WAR, TERRORISM AND OTHER CATASTROPHES COULD NEGATIVELY IMPACT OUR
CUSTOMERS, PLACES WHERE WE DO BUSINESS, AND OUR EXPENSES, ALL OF WHICH COULD
HURT OUR BUSINESS.
The effects of war or acts of terrorism could have a material adverse
effect on our business, operating results and financial condition. The terrorist
attacks in New York and Washington, D.C. on September 11, 2001 disrupted
commerce and intensified the uncertainty of the U.S. economy, a condition which
has persisted due to recent military actions. The continued threat of terrorism
and heightened security and military action in response to this threat, or any
future acts of terrorism, may cause further disruptions and create further
uncertainties. To the extent that such disruptions or uncertainties negatively
impact shopping patterns and/or mall traffic, or adversely affect consumer
confidence or the economy in general, our business, operating results and
financial condition could be materially and adversely affected.
In addition, a few years ago, California experienced substantially
increased costs of electricity and gas caused by, among other things, disruption
in energy supplies. Our principal executive offices, distribution center and a
significant number of our stores are located in California. If we experience a
sustained disruption in energy supplies, or if electricity and gas costs in
California fluctuate dramatically, our results of operations could be materially
and adversely affected. California is also subject to natural disasters such as
earthquakes and floods. A significant natural disaster or other catastrophic
event affecting our facilities could have a material adverse impact on our
business, financial condition and operating results.
THERE ARE NUMEROUS RISKS THAT COULD CAUSE OUR STOCK PRICE TO FLUCTUATE
SUBSTANTIALLY.
Our common stock is quoted on the Nasdaq National Market, which has
experienced and is likely to experience in the future significant price and
volume fluctuations, which could adversely affect our stock price without regard
to our financial performance. In addition, we believe that factors such as
quarterly fluctuations in our financial results and comparable store sales;
announcements by other apparel, accessory and gift item retailers; the trading
volume of our stock; changes in estimates of our performance by securities
analysts; overall economic and political conditions; the condition of the
financial markets; and other events or factors outside of our control could
cause our stock price to fluctuate substantially.
21.
OUR CHARTER DOCUMENTS AND OTHER CIRCUMSTANCES COULD PREVENT A TAKEOVER OR
CAUSE DILUTION OF OUR EXISTING SHAREHOLDERS, WHICH COULD BE DETRIMENTAL TO
EXISTING SHAREHOLDERS AND HINDER BUSINESS SUCCESS.
Our Articles of Incorporation and Bylaws contain provisions that may have
the effect of delaying, deterring or preventing a takeover of Hot Topic, Inc.
For instance, our Articles of Incorporation include certain "fair price
provisions" generally prohibiting business combinations with controlling or
significant shareholders unless certain minimum price or procedural requirements
are satisfied, and our Bylaws prohibit shareholder action by written consent.
Additionally, our Board of Directors has the authority to issue, without
shareholder approval, up to 10,000,000 shares of "blank check" preferred stock
having such rights, preferences and privileges as designated by the Board of
Directors. The issuance of these shares could have a dilutive effect on certain
shareholders, and potentially prohibit a takeover of Hot Topic, Inc. by
requiring the preferred shareholders to approve such a transaction.
We also have a significant number of authorized and unissued shares of our
common stock available under our Articles of Incorporation. These shares provide
us with the flexibility to issue our common stock for future business and
financial purposes including stock splits, raising capital and providing equity
incentives to employees, officers and directors. However, the issuance of these
shares could result in dilution to our shareholders.
WE INCUR COSTS ASSOCIATED WITH REGULATORY COMPLIANCE, AND THIS COST COULD
BE SIGNIFICANT.
All companies are subject to laws and regulations, some of which require
certain actions to be taken (or not taken) and costs to be incurred relating to
business processes and risk management. There are additional requirements for
public companies, including the provisions of the Sarbanes-Oxley Act of 2002.
With regard to the Sarbanes-Oxley Act, we have and will continue to incur
significant expense as we continue to address the implications of applicable
rules and our operations relative thereto, and as we work to respond to and
comply with applicable requirements. Among other things, we have incurred and
will incur additional expenses as we implement Section 404 of the Sarbanes-Oxley
Act. Section 404 requires management to report on, and our independent auditors
to attest to, our internal controls. Compliance with these rules could also
result in continued diversion of management's time and attention, which could be
disruptive to normal business operations.
If we do not satisfactorily or timely comply with these requirements,
possible consequences could include sanction or investigation by regulatory
authorities such as the Securities and Exchange Commission or the Nasdaq
National Market, incomplete or late filing of our annual report on Form 10-K, or
civil or criminal liability. Our stock price and business could also be
adversely affected.
THERE ARE LITIGATION AND OTHER CLAIMS AGAINST US FROM TIME TO TIME, WHICH
COULD DISTRACT MANAGEMENT FROM OUR BUSINESS ACTIVITIES, AND COULD LEAD TO
ADVERSE CONSEQUENCES TO OUR BUSINESS AND FINANCIAL CONDITION.
As a growing company with expanding operations, we are increasingly
involved from time to time with litigation and other claims against us. These
arise primarily in the ordinary course of our business, and include employee
claims, commercial disputes, intellectual property issues and product-oriented
allegations. Often these cases raise complex factual and legal issues, which are
subject to risks and uncertainties and which could require significant
management time. Although we do not currently believe that the outcome of any
current litigation and claims against us will have a material adverse effect on
us, adverse settlements or resolutions may occur and negatively impact earnings,
injunctions against us could have an adverse effect on our business by requiring
us to do or prohibiting us from doing certain things, and other unexpected
events could have a negative impact on us.
22.
RECENT ACCOUNTING REGULATION CHANGES WILL REQUIRE THE EXPENSING OF STOCK
OPTIONS.
Recently effective accounting regulation changes require that all publicly
traded companies begin recording compensation expense related to all unvested
and newly granted stock options prospectively for interim or annual periods
beginning after June 15, 2005. Currently, we include such expenses on a pro
forma basis in the notes to our quarterly and annual financial statements in
accordance with accounting principles generally accepted in the United States of
America and do not include compensation expense related to stock options in our
reported earnings in the financial statements. When we begin expensing stock
options as provided above, our reported earnings will be negatively impacted and
our stock price could decline.
ITEM 2. PROPERTIES
We lease all of our existing store locations, with lease terms expiring
between 2005 and 2015. At January 29, 2005, we had a total of 1,214,424 leased
store square feet (Hot Topic and Torrid stores) with an average store size of
1,810 square feet (Hot Topic and Torrid stores). The leases for most of the
existing stores are for approximately ten-year terms and provide for contingent
rent based upon a percent of sales in excess of specified minimums. Leases for
future stores will likely include similar contingent rent provisions.
We lease our headquarters and distribution center facility, located in City
of Industry, California, which is approximately 250,000 square feet. Our lease
expires April 2014, and the annual base rent is approximately $1,110,000. We
have entered into a lease (with a purchase option) for an additional
distribution center facility in Tennessee, which is approximately 300,000 square
feet, which we expect to be operational by the end of the second quarter of
fiscal 2005.
ITEM 3. LEGAL PROCEEDINGS
On June 23, 2004, a non-profit corporation named Center for Environmental
Health filed a lawsuit in Federal district court in Alameda, California against
over two dozen retailers, large and small, including Hot Topic, Inc. Other
defendants include teen retailers like Claire's and Wet Seal, department stores
like Sears, Nordstrom, Macy's and J.C. Penney, and large retailers like Wal-Mart
and Target. Certain of the defendants, but not Hot Topic, were also named
defendants in a substantially similar lawsuit filed by the State of California.
The complaint in each case alleges, in general, that the defendant retailers
have violated certain California statutes by not providing sufficient warning
about an alleged potential for lead exposure relating to costume jewelry sold in
stores. The complaints do not contain allegations of personal injury. In August
2004, we were served another complaint, filed in the Circuit Court of Shelby
County, Tennessee, claiming we are liable due to alleged lead content in our
costume jewelry we allegedly target to children. This complaint is an alleged
class action, again excluding any personal injury claim, with counts of
negligence and breach of implied warranty. Similar claims had been made, prior
to service upon us, against other retailers in the same jurisdiction by
plaintiffs represented by the same law firm. Currently, a motion to dismiss is
under consideration by the court in a separate case against another retailer,
and the Tennessee case against us has been delayed pending the court's ruling on
that motion. We expect to file a similar motion to dismiss for our case. The
plaintiffs in the above California cases seek unspecified fines and penalties,
attorneys' fees and costs, and injunctive and other equitable relief; and the
plaintiff in the Tennessee case seeks unspecified money damages, punitive
damages, attorneys' fees and injunctive relief on behalf of the alleged class.
We continue to evaluate appropriate action in each of these cases with our
counsel. In each case, we believe we have meritorious defenses to the
plaintiff's claims and intend to defend against such claims; though it is
impossible to predict the outcome of the proceeding, and it is possible the
plaintiff will be awarded requested remedies or that we may determine it
appropriate to settle the lawsuit which could require us to take or not take
certain actions.
On September 17, 2004, a former Torrid employee filed a lawsuit against us
in Superior Court of Los Angeles County, on behalf of a purported class. The
lawsuit asserts claims for failure to provide adequate meal or rest breaks,
improper payment of overtime wages, failure to timely pay wages at end of
employment and unfair business practices. The lawsuit seeks compensatory
damages, statutory penalties, punitive damages, attorneys' fees and injunctive
relief. On October 21, 2004, we filed an answer denying the material allegations
of the complaint, and we intend to vigorously defend ourselves against the
various claims. Discovery has begun in connection with this matter but at the
present time we are unable to predict the outcome of this matter.
23.
On November 18, 2004, a former Torrid employee filed a lawsuit against us
in Superior Court of Los Angeles County, on behalf of a purported class. The
lawsuit asserts claims for, among other things, failure to pay overtime wages
and unfair business practices. The lawsuit seeks compensatory damages, statutory
penalties, restitution, interest and other costs, and attorneys' fees. We intend
to vigorously defend ourselves against the various claims, though at the present
time we are unable to predict the outcome of this matter.
Though significant litigation or awards against us could seriously harm our
business and financial results, we do not at this time expect any of the
above-described litigation to have a material adverse effect on us.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
Not applicable.
24.
PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY, RELATED SHAREHOLDER MATTERS AND
ISSUER PURCHASES OF EQUITY SECURITIES
Our Common Stock is traded on the Nasdaq National Market under the symbol
"HOTT." The following table shows, for the periods indicated, the high and low
end-of-day closing sales prices of our shares of Common Stock, as reported on
the Nasdaq National Market. Such quotations represent inter-dealer prices
without retail markup, markdown or commission and may not necessarily represent
actual transactions.
2004 FISCAL YEAR QUARTERS HIGH LOW
------------------------------------------------------
First Quarter $30.79 $21.78
Second Quarter $22.91 $14.87
Third Quarter $20.56 $14.49
Fourth Quarter $20.95 $15.46
2003 FISCAL YEAR QUARTERS HIGH LOW
------------------------------------------------------
First Quarter $16.35 $14.01
Second Quarter $19.67 $15.69
Third Quarter $29.25 $18.33
Fourth Quarter $31.85 $26.60
On August 12, 2003, we announced that our Board of Directors approved a
three-for-two stock split (in the form of a dividend) of our common stock. On
the effective date of September 2, 2003, shareholders received a dividend of one
additional share for every two shares they owned at the close of business on the
record date of August 21, 2003. The prices listed in the above table have been
adjusted for the split.
On March 9, 2005, the last sales price of our common stock as reported on
the Nasdaq National Market was $23.05 per share. As of March 9, 2005, there were
approximately 208 holders of record of our common stock. This number does not
reflect the actual number of beneficial holders of our common stock, which we
believe to be in excess of 25,000 holders.
On March 19, 2004, we announced that our Board of Directors approved the
repurchase of up to an aggregate of 2,000,000 shares of our common stock during
the period ending January 29, 2005. As of July 31, 2004 we had completed the
repurchase of 2,000,000 shares of our common stock at a cost of $46.8 million at
an average price of $23.41.
On August 18, 2004, we announced that our Board of Directors approved an
additional repurchase of up to an aggregate of 2,000,000 shares of our common
stock during the period ending January 29, 2005. As of January 29, 2005 we had
completed the repurchase of 2,000,000 shares of our common stock at a cost of
$32.8 million at an average price of $16.42. The following table summarizes
activity in the quarter ended January 29, 2005.
25.
ISSUER PURCHASES OF EQUITY SECURITIES
- -------------------------------------------------------------------------------------------------------------------------
TOTAL NUMBER OF
SHARES PURCHASED AS MAXIMUM NUMBER OF
PART OF PUBLICLY SHARES THAT MAY YET BE
TOTAL NUMBER OF AVERAGE PRICE PAID ANNOUNCED PLANS OR PURCHASED UNDER THE
FISCAL PERIOD SHARES PURCHASED PER SHARE PROGRAMS PLANS OR PROGRAMS
- ------------------------ ---------------- ------------------ ------------------- ----------------------
November 28, 2004 -
January 1, 2005 1,000,000 $15.98 2,000,000 -
---------------- ------------------ ------------------- ----------------------
Total 1,000,000 $15.98 2,000,000 -
================ ================== =================== ======================
We have not paid any cash dividends since inception and do not anticipate
paying any cash dividends in the foreseeable future.
Please see Item 12 for information about our equity compensation plans.
ITEM 6. SELECTED FINANCIAL DATA
The following table summarizes selected financial data for each of the five
fiscal years in the period ended January 29, 2005 and have been restated to
reflect adjustments that are discussed further in Note 2. "Restatement of
Financial Statements" in the Notes to Consolidated Financial Statements included
in Item 8. "Financial Statements and Supplementary Data" in this Form 10-K. This
data should be read in conjunction with "Management's Discussion and Analysis of
Financial Condition and Results of Operations" and the Consolidated Financial
Statements and Notes included elsewhere in this Annual Report on Form 10-K.
26.
Fiscal Year (as restated)
--------------------------------------------------------------
2004 2003 2002 2001 2000
--------- --------- --------- --------- ---------
(In thousands, except per share data, number of stores, comparable store
sales and sales per square foot)
Statement of Operations Data:
Net sales $ 656,468 $ 572,039 $ 443,250 $ 336,094 $ 257,187
Cost of goods sold, including buying, distribution
and occupancy costs 422,712 352,277 274,008 205,756 154,765
--------- --------- --------- --------- ---------
Gross margin 233,756 219,762 169,242 130,338 102,422
Selling, general and administrative expenses 170,384 143,952 115,634 86,950 67,917
--------- --------- --------- --------- ---------
Operating income 63,372 75,810 53,608 43,388 34,505
Interest income, net 919 1,318 1,371 1,884 1,925
--------- --------- --------- --------- ---------
Income before income taxes 64,291 77,128 54,979 45,272 36,430
Provision for income taxes 24,618 29,539 20,892 17,146 13,479
--------- --------- --------- --------- ---------
Net income $ 39,673 $ 47,589 $ 34,087 $ 28,126 $ 22,951
========= ========= ========= ========= =========
Net income per share:
Basic $ 0.86 $ 1.00 $ 0.72 $ 0.61 $ 0.52
Diluted $ 0.83 $ 0.96 $ 0.69 $ 0.56 $ 0.48
Weighted average shares outstanding:
Basic 46,379 47,479 47,027 46,467 44,502
Diluted 47,875 49,588 49,276 49,829 48,104
Selected Operating Data:
Number of stores at year end 668 554 445 352 274
Comparable stores sales (2.9)% 7.4% 5.0% 3.9% 16.7%
Average sales per square foot $ 571 $ 619 $ 619 $ 636 $ 669
Average sales per store $ 1,034 $ 1,106 $ 1,064 $ 1,036 $ 1,020
Balance Sheet Data:
Cash and short-term investments $ 66,339 $ 128,205 $ 83,418 $ 71,310 $ 51,288
Working capital 87,221 141,803 90,261 82,370 61,253
Total assets 278,395 296,082 215,854 169,904 123,317
Shareholders' equity $ 187,562 $ 221,279 $ 158,756 $ 133,738 $ 98,135
27.
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
The following discussion of our results of operations, financial condition
and liquidity, and other matters should be read in conjunction with our
Consolidated Financial Statements and Notes related thereto included in Item 8.
"Financial Statements and Supplementary Data" in this Form 10-K. These
statements have been prepared in conformity with accounting principles generally
accepted in the United States and require our management to make estimates and
assumptions that affect amounts reported and disclosed in the financial
statements and related notes. Actual results could differ from these estimates.
GENERAL
We are a mall-based specialty retailer operating the Hot Topic and Torrid
store concepts. Hot Topic stores sell a selection of music/pop culture-licensed
and music/pop culture-influenced apparel, accessories and gift items for young
men and women principally between the ages of 12 and 22. Torrid stores sell
apparel, lingerie, shoes and accessories designed for various lifestyles for
plus-size females between the ages of 15 and 29. We opened our first Hot Topic
store in 1989 and our first Torrid store in 2001. At the end of fiscal 2004 (the
fiscal year ended January 29, 2005), we operated 592 Hot Topic stores throughout
the United States and Puerto Rico, and 76 Torrid stores. We also sell
merchandise on two websites, www.hottopic.com ("hottopic.com") and
www.torrid.com ("torrid.com"), which reflect the Hot Topic and Torrid store
concepts and carry merchandise similar to that sold in the respective stores.
We consider a store comparable after it has been open for 15 full months.
If a store is relocated or expanded by more than 15% in total square footage, it
is removed from the comparable store base and, similar to new stores, becomes
comparable after 15 full months. At the end of fiscal 2004, 471 of the 592 Hot
Topic stores were included in the comparable store base, compared to 401 of the
502 stores open at the end of fiscal 2003. At the end of fiscal 2004, 46 of the
76 Torrid stores were included in the comparable store base, compared to 22 of
the 52 stores open at the end of fiscal 2003.
We operate on a 52 or 53-week fiscal year, which ends on the Saturday
nearest to January 31. Fiscal 2004, 2003 and 2002 were 52-week fiscal years.
See Note 2 to the Consolidated Financial Statements included in this report
for a summary of changes related to accounting of leases on our consolidated
balance sheet as of January 31, 2004, as well as our consolidated statements of
income and cash flows for the fiscal years ended January 31, 2004 and February
1, 2003. This Management's Discussion and Analysis gives effect to those
corrections.
28.
RESULTS OF OPERATIONS
The following table shows, for the periods indicated, certain selected
statement of operations data expressed as a percentage of net sales and certain
store data:
FISCAL YEAR
-------------------------------
2004 2003 2002
---- ---- ----
Net sales 100.0% 100.0% 100.0%
Cost of goods sold, including
buying, distribution & occupancy
costs 64.4% 61.6% 61.8%
----- ----- -----
Gross margin 35.6% 38.4% 38.2%
Selling, general and administrative expenses 25.9% 25.1% 26.1%
----- ----- -----
Operating income 9.7% 13.3% 12.1%
Interest income, net 0.1% 0.2% 0.3%
---- ---- ----
Income before income tax 9.8% 13.5% 12.4%
Provision for income taxes 3.8% 5.2% 4.7%
---- ---- ----
Net income 6.0% 8.3% 7.7%
==== ==== ====
Number of stores at year end 668 554 445
Comparable store sales (2.9)% 7.4% 5.0%
FISCAL 2004 COMPARED TO FISCAL 2003
Net sales increased approximately $84.4 million, or 14.8%, to $656.5
million in fiscal 2004 from $572.0 million in fiscal 2003. The components of
this $84.4 million increase in net sales are as follows:
AMOUNT
($ MILLIONS) DESCRIPTION
------------ -----------------------------------------------------------
$75.6 Net sales from new Hot Topic stores opened during fiscal
2004 and Hot Topic stores not yet qualifying as comparable
stores
19.2 Net sales from new Torrid stores opened during fiscal 2004
and Torrid stores not yet qualifying as comparable stores
(14.4) 2.9% decrease in comparable store net sales in fiscal 2004
compared to fiscal 2003
4.0 Increase in Internet sales (hottopic.com and torrid.com)
-----------
$84.4 TOTAL
===========
The annual average Hot Topic store volume decreased to $1.05 million in
fiscal 2004 from $1.13 million in fiscal 2003. Hot Topic sales of apparel
category merchandise, as a percentage of total net sales, were 53% in fiscal
2004 compared to 52% in fiscal 2003. The increase in apparel was primarily due
to increases in men's music-related tee shirts partially offset by decreases in
women's bottoms, men's fashion tops and men's bottoms.
29.
Gross margin increased approximately $14.0 million to $233.8 million in
fiscal 2004 from $219.8 million in fiscal 2003. As a percentage of net sales,
gross margin decreased to 35.6% in fiscal 2004 from 38.4% in fiscal 2003. The
significant components of this 2.8% decrease in gross margin, as a percentage of
net sales, are as follows:
% DESCRIPTION
------------ -----------------------------------------------------------
(2.1)% Decrease in merchandise margin, principally due to higher
markdown activity driven by lower comparable store sales
(0.5) Increase in occupancy and store depreciation expenses,
primarily due to deleveraging over lower comparable store
sales
(0.2) Increase in distribution expenses and buying costs,
primarily due to higher freight costs and deleveraging
payroll costs over lower comparable store sales
-----------
(2.8)% TOTAL
===========
Selling, general and administrative expenses increased approximately $26.4
million to $170.4 million during fiscal 2004 from $144.0 million during fiscal
2003. As a percentage of net sales, selling, general and administrative expenses
were 25.9% for fiscal 2004 compared to 25.1% in fiscal 2003. The total dollar
increase in selling, general and administrative expenses was primarily
attributable to an increase in the number of retail stores from 554 at the end
of fiscal 2003 to 668 at the end of fiscal 2004 and the corresponding additional
payroll and other expenses required to support these additional stores. The
significant components of this 0.8% increase in selling, general and
administrative expenses as a percentage of net sales are as follows:
% DESCRIPTION
------------ -----------------------------------------------------------
0.5% Increase in store payroll due to deleveraging of payroll
costs over lower comparable store sales, and increase in
payroll-related benefits costs, partially offset by lower
store bonus payouts
0.5% Increase in other store expenses as a result of
deleveraging expenses over lower comparable store sales
along with increases in store supply costs and expenses
related to our wide area network
0.1% Increase in depreciation and amortization as a result of
our new warehouse management software implemented during
2004 and higher marketing expenses to support new
advertising programs.
(0.3)% Decrease in other general and administrative expenses
primarily due to a decrease in performance based
compensation, partially offset by an increase in payroll
related benefits costs and an increase in professional
fees related to implementing Section 404 of the
Sarbanes-Oxley Act
------------
0.8% TOTAL
============
Operating income decreased approximately $12.4 million to $63.4 million
during fiscal 2004 from $75.8 million during fiscal 2003. As a percentage of net
sales, operating income was 9.7% in fiscal 2004 compared to 13.3% in fiscal
2003. Operating income on an average store basis was approximately $103,000 in
fiscal 2004 as compared to $151,000 in fiscal 2003.
30.
Net interest income decreased to $0.9 million in fiscal 2004 from $1.3
million in fiscal 2003, principally due to lower average cash balances, which
was primarily a result of cash used for purposes of common stock repurchases.
Our effective tax rate was 38.3% in both fiscal 2004 and 2003.
FISCAL 2003 COMPARED TO FISCAL 2002
Net sales increased approximately $128.8 million, or 29.1%, to $572.0
million in fiscal 2003 from $443.2 million in fiscal 2002. The components of
this $128.8 million increase in net sales are as follows:
AMOUNT
($ MILLIONS) DESCRIPTION
------------ -----------------------------------------------------------
$71.5 Net sales from new Hot Topic stores opened during fiscal
2003 and Hot Topic stores not yet qualifying as comparable
stores
20.3 Net sales from new Torrid stores opened during fiscal 2003
and Torrid stores not yet qualifying as comparable stores
29.1 7.4% increase in comparable store net sales in fiscal 2003
compared to fiscal 2002
7.9 Increase in Internet sales (hottopic.com and torrid.com)
------------
$128.8 TOTAL
============
The annual average Hot Topic store volume increased to $1.13 million in
fiscal 2003 from $1.07 million in fiscal 2002. Hot Topic sales of apparel
category merchandise, as a percentage of total net sales, were 52% in fiscal
2003 compared to 51% in fiscal 2002. The increase in apparel was primarily due
to increases in men's novelty tee shirts and men's music-re