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UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-K

(Mark One)

For the fiscal year ended February 1, 2004

OR

For the transition period from            to            

Commission file number 0-8550

PCA International, Inc.

(Exact name of registrant as specified in its charter)

Registrant’s telephone number, including area code: (704) 588-4351

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

Securities registered pursuant to Section 12(g) of the Act: None

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§ 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 Rule 12b-2 of the Act).    Yes  ¨    No  x

The aggregate market value of the voting and non-voting common equity held by non-affiliates as of August 3, 2003, was $5,624,350. This value was based on a price per share of Common Stock of $19.70 on such date.

The number of shares of $0.20 par value Common Stock outstanding as of April 22, 2004 was 2,294,352.

Documents Incorporated by Reference: None.

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PCA INTERNATIONAL, INC.

FORM 10-K

FISCAL YEAR ENDED FEBRUARY 1, 2004

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PART I

ITEM 1.    BUSINESS

Overview

We are a rapidly growing professional photography business serving the needs of the Wal-Mart customer. With 2,201 permanent studios and modular traveling portrait studios reaching approximately 1,000 additional locations, we are currently the sole operator of portrait studios in Wal-Mart stores. Wal-Mart is the world’s largest retailer. Consistent with Wal-Mart’s everyday low price strategy, we offer our customers convenient, high quality photography services at substantially lower price points than are offered by our principal industry competitors. We have added over 200 portrait studios in each of the past three years. We believe we are one of the fastest-growing photography companies operating nationally within large host retailers, and the largest company in the highly fragmented $8.0 billion domestic professional portrait studio industry based on number of permanent studio locations.

For our fiscal year ended February 1, 2004, we photographed over 7 million customers and generated sales of $324.8 million. Of our total sales, 95.3% were derived from our Wal-Mart locations worldwide and 90.5% were derived from Wal-Mart and other locations in the United States (“U.S.”). Outside of the U.S., we operate 283 permanent portrait studios in Wal-Mart locations in Mexico and Canada and serve 18 additional Wal-Mart stores in the United Kingdom (“U.K.”) and Germany, where we are currently testing portrait studio operations. Under the trade name PCA International, we also serve other retail channels such as Meijer stores, military bases (including Camp Lejeune, Fort Bragg and Pearl Harbor) and, through a modular traveling portrait platform, institutional channels, such as church congregations and schools.

During the past three fiscal years, we have increased our net sales at a compounded annual growth rate of 12.1% — from $258.4 million to $324.8 million. Over the same period, we increased operating income from $27.3 million to $34.2 million, representing a compounded annual growth rate of 11.8%. New studio openings and increasing same studio sales have fueled this growth. During the past three fiscal years, we have increased same studio sales in Wal-Mart by 3.3% per year, on average, and improved average annual sales per permanent studio in Wal-Mart from approximately $132,000 to $138,000. Our growth from new studio openings is largely a result of Wal-Mart’s own success in building its retail store base. In April 2002, we executed a five year U.S. Master License Agreement with Wal-Mart, renewable for an additional five years. As part of this agreement, Wal-Mart committed to provide us a minimum of 150 new studios per year for four years and, thereafter, to use its best efforts to provide 150 new studios per year. Since executing the Wal-Mart License Agreement, we have opened 335 new Wal-Mart studios in the U.S. through the end of fiscal 2003. Currently a Wal-Mart Portrait Studio operated by us is included by Wal-Mart in the blueprint of each new store of 100,000 square feet or larger and each new supercenter over 145,000 square feet.

Our business model differentiates us from other specialty retailers. Unlike most specialty retailers,

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Industry

We compete in the large and highly fragmented professional portrait photography industry. The primary markets within this $8.0 billion industry are pre-school children, school age children (including graduation portraits), adults, families/groups, weddings, passports, churches and others, such as cruise ships, conventions/events, glamour and executive portraits. From 2001 to 2003, sales in the domestic professional portrait photography industry grew from $7.6 billion to $8.0 billion, representing a compounded annual growth rate of 2.2%. With net sales growth of 12.1% over the same period, PCA has grown at a rate well in excess of the industry. Our competitors in the domestic professional portrait photography industry include large studio chains located in national retailers, other national free-standing portrait studio companies, national school and church photographers and a myriad of independent portrait photography providers. The majority of the industry is comprised of small, independent photography companies and individual photographers that use various independent processing labs. While the industry is highly competitive and fragmented, there are four portrait photography companies operating within large host retailers on a national basis: PCA (Wal-Mart), Olan Mills (Kmart), CPI Corporation (Sears) and LifeTouch (JCPenney and Target).

Competitive Strengths

Our principal competitive strengths include the following:

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Growth Strategy

Our growth strategy is to capitalize on our strengths by implementing the following initiatives:

In addition, working with Walmart.com, we have expanded our Internet presence. We have developed e-mail marketing programs to support our studio business by increasing the frequency of direct communication with our target customers and outreach marketing to new customers. We will also utilize our new institutional telemarketing group to spearhead our effort to service more church congregations.

The Portrait Photography Experience

We provide our photography services in permanent studios in our retail hosts. We also service certain retail hosts and institutional customers through modular traveling locations.

Permanent Studios.    The typical permanent studio occupies an average of 331 square feet and consists of a camera area, a portrait viewing and sales area, and a reception area with a point-of-sale system. Generally, the

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permanent studio is staffed by one to three studio associates who perform both the photography and sales functions. The majority of our professional portrait photography studios are open from 10:00 a.m. to 7:00 p.m., seven days a week.

Our permanent portrait studios are equipped with an integrated photography and sales system and point-of-sale system. The photographic system integrates a professional film camera and digital imaging capability. As the subject is photographed, each pose is captured on film and presented digitally on a computer monitor for the customer to preview and approve before proceeding to the next pose. The digital photographic images are then sent electronically to a sales computer in an adjacent area, where a studio associate presents the digital portrait images and, prompted by our software sales program, explains the portrait packages available. Guided by the studio associate, each customer customizes their order by choosing the poses, sizes and quantities desired. A portrait order receipt is printed with black and white thumbnails of the selected poses. The studio associate completes the transaction at the point-of-sale system and the customer either pays in full or makes a deposit and returns in approximately three weeks to pick up the finished portraits. Customers are not obligated to accept finished products.

Our principal products sold through our studio operations are portraits and ancillary products produced from the photography images we create. Our portraits are printed on photographic paper and are available in a variety of sizes from wallet-size to wall portraits as large as 20 inches by 24 inches. Our ancillary products include all-occasion greeting cards, large format canvas portraits, and portraits on disks. Portrait and ancillary products account for substantially all of our sales.

Modular Traveling Locations.    We service Wal-Mart stores and supercenters where we do not have a permanent studio with a modular traveling studio location. These modular traveling locations operate in designated Wal-Mart stores for a period of approximately five days every seven to twelve weeks. Several days prior to the scheduled arrival of one of our photographers at the host store, we advertise our traveling promotions by offering an assortment of color portraits at a special price. A modular traveling location in Wal-Mart occupies approximately 100 square feet and consists of a table, camera, lights, and portable backdrops. These modular traveling locations utilize a non-digital photographic and sales system, in which the photography session occurs separately from the sales process. Approximately three weeks after photographs are taken, a sales associate sets up a temporary sales area in the host store and for one to five days assists customers in selecting portraits for purchase. Given the non-digital nature of this system, customers in our modular traveling locations may purchase only portraits in the sizes and quantities produced; no ancillary products are available for purchase. Photographers and sales associates transport by personal vehicle all requisite camera, studio equipment and sales materials.

Our institutional business is conducted on a traveling basis and utilizes our integrated digital photography and sales system. We contract with institutions, primarily church congregations and schools, to photograph and sell individual and family portraits. We do not pay commissions to the host institutions, but we do provide a free photo directory to all members who agree to be photographed. Approximately three weeks after the photography session, the finished portraits are sent to the host institution or directly to the consumer.

Distribution Channels

We have the following two primary distribution channels:

Retail:

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Institutional:

Technology, Manufacturing and Software Development

Our technology, manufacturing and software development groups design, develop and implement advanced systems and technologies to support our vertically integrated operation. From photographic and digital image capture and customizable order creation in our studios through manufacturing and product fulfillment, these groups continually explore the application of advanced systems and technologies that allow us to reduce costs while offering customers high quality products at low price points.

Leveraging our proprietary digital imaging system, we are one of the few companies in the professional portrait photography industry to have built a vertically integrated operation where our technology is fully scalable. As we continue our rapid expansion plans and add new outlets or channels to our infrastructure, new studios will be integrated seamlessly with our automated production processes with minimal incremental expenditures.

Our digital imaging system allows customers to view a digital proof of each pose during the photography session and to select the desired images from which to make a purchase decision. Immediately after the photography session, customers customize their portrait purchases using a computerized sales system, guided by studio associates, that enables customers to select specific poses, portrait sizes, and quantities for purchase. Customers return to the studio approximately three weeks later to pick up the finished portraits. We believe the increased flexibility and choice provided to customers by the digital system has improved customer satisfaction and increased average purchases. As a result of our digital imaging system, we print only portraits ordered by customers in our permanent studios, eliminating waste associated with traditional photography sales. Furthermore, the integration of our digital studio infrastructure with our automated production system allows us to minimize production and processing costs, provide prompt, automated service and grow with a minimal incremental capital commitment as we leverage our existing infrastructure.

Leveraging our digital imaging system, we have augmented our product offerings with digital portraits on a CD or disk, the Portrait Gallery^™ available immediately after the portrait session. The Portrait Gallery^™ is sold with PhotoParade^®, a companion software enabling customers to take home images to view on a computer, email to family and friends, and create screensavers. We believe this is a unique product offering in the industry. We license this product under an exclusive arrangement with Callisto Corporation, the owner of the PhotoParade^® trademark.

We have 600 employees in our two state-of-the art manufacturing production operations. Our technology group, which consists of 12 engineers and technicians, designs, develops, tests, and implements camera

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technologies, studio equipment such as lighting and background systems, and production and automation systems used in our film processing, portrait production labs, and digital fulfillment center. We continue to expand our digital fulfillment center with computer technology and printing equipment for production of e-commerce orders, large-format portrait production on canvas, and novelty products. Our information technology group consists of 52 employees who design and develop studio and lab software and systems, manage systems architecture and quality, integrate technologies, support infrastructure and maintain both corporate and studio systems. Within this group we have a team dedicated to the advancement of our integrated studio systems by incorporating evolving digital imaging and camera technologies, and enhancing sales and point of sale systems and studio infrastructure. Our software group also provides system configuration for changes to our portrait offer and package contents driven by marketing campaigns.

Marketing and Sales

Our marketing group’s responsibilities include the creation and cost-effective production and placement of all in-store advertising, in-studio displays and general multi-media advertising. The marketing group performs all strategic marketing functions including, but not limited to, cross-promotion development, media planning and analysis, studio sales support, and customer/market research. Our marketing group also manages the daily working relationships with external advertising agencies and free-lance support and our proprietary customer database. This database allows us to apply targeted advertising strategies.

We attract customers to our studios with a variety of advertising methods including in-store, point-of-sale merchandising, newspaper advertising, direct mail to prior and prospective customers, in-store cross-promotional efforts and internet marketing campaigns. We advertise under the name of our retail host and include the name PCA International and our logo on all promotional and advertising materials. We seek to maintain an advertising presence throughout the year in all geographic markets where we operate permanent studios.

Training and development of our studio associates are critical to customer acquisition and retention and building sales at the studio level. Studio associates participate in a certification program that develops their technical and retail management skills and ensures consistent portrait quality. This program permits studio associates to progress from Portrait Specialists to Portrait Artists and eventually leads to the Master Photographer designation. Studio associates learn the photographic, retail management and customer service skills to provide quality service and customer satisfaction. Studio associates are supported by a technical Help Desk and a customer support center with a toll-free customer service line. Production and headquarters personnel also participate in training specifically designed to enhance the customer’s total portrait experience. We also provide an annual portrait competition among our studio associates to encourage them to develop their photography skills and enhance their composition using creative ideas for new poses and props.

In addition, working with Wal-Mart.com, we have expanded our internet presence. We have developed ongoing e-mail marketing programs to support our studio business by increasing the frequency of direct communication with our target customers and outreach marketing to new customers. In fiscal 2002, we established an e-commerce initiative, www.moreportraits.com (a PCA-owned and operated web site), where customers are able to reorder portraits and other select products online. We continue to expand the number of participating studios in this program. Our company web site, www.pcaintl.com, provides information about each of our portrait photography businesses including our specialty retail concept, GoPortraits Digital Destination, in the Charlotte, North Carolina metropolitan area.

Raw Materials and Suppliers

Agfa Corporation is our principal supplier of photographic film, paper and processing chemistry and has been our supplier for over 30 years. Our current relationship with Agfa is governed by a contract dated February 4, 2002. The contract has a five-year term that the parties agreed to negotiate in good faith to renew six months prior to the expiration date. The terms of the contract require us to purchase substantially all of our

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requirements in North America for photographic film, paper and processing chemistry and in exchange we receive certain discounts on purchases made. Agfa can terminate the sales contract if we breach the contract in any way and fail to cure such breach within 30 days after notice. Agfa has the right to terminate upon shorter notice or immediately in the event of bankruptcy or insolvency relating to us and a violation of the trademark provisions of the sales contract.

Our management believes the available alternative sources of such supplies are adequate. Additionally, we have not found it necessary to carry significant amounts of inventory to ensure a continuous allotment of raw materials.

We build our own cameras and believe we have an adequate supply of cameras and camera components. The computer and digital equipment used by us in our integrated digital imaging system consists of standard components that are readily available from multiple suppliers.

Employees

At February 1, 2004, we had approximately 7,700 full-time and part-time employees. As of February 1, 2004, none of our employees were covered by a collective bargaining agreement. We believe employee relations are satisfactory.

Governmental Regulations

We are subject to various federal and state laws and regulations, including the Occupational Safety and Health Act and federal and state environmental laws. We are not aware of any material violation of such laws and regulations. Continued compliance is not expected to have a material effect upon our competitive position, financial condition, or results of operations.

Licenses and Leases

Wal-Mart Licenses

United States.    Within the U.S. our relationship with Wal-Mart Stores, Inc. is governed by a master license agreement dated April 4, 2002. This agreement has a five-year term that automatically renews for an additional five-year term with respect to each individual location covered thereby unless either party gives notice of its intent to terminate the relationship at least 180 days prior to the end of the term.

The terms of the master license agreement require us to pay a fee to Wal-Mart based upon our gross sales. The license allows us to use the trade name “Wal-Mart Portrait Studio” and to use Wal-Mart designated space within its stores. The license prohibits Wal-Mart from licensing a permanent portrait studio to any other person in the stores in which we operate but not in stores where we do not operate.

Wal-Mart can terminate the license with respect to a studio if we breach the agreement as it relates to such studio in any way and fail to cure such breach within fifteen days after notice. Certain events give Wal-Mart the right to terminate upon shorter notice or immediately. These events are (1) our failure to pay the license fee or deliver financial information within the time periods specified under the agreement, (2) certain events of bankruptcy or insolvency relating to us, (3) our causing liens on Wal-Mart’s property that are not discharged in the manner required under the agreement, (4) our vacating or injuring the licensed premises or (5) us or any of our employees, licensees, agents, officers, suppliers or contractors violating any law or committing any illegal act associated with the licensed premises.

Termination provisions also apply if we open certain competing businesses near Wal-Mart stores where we have existing studios or in the event of governmental property condemnations. These default provisions relate only to individual locations affected by the violation. Wal-Mart can terminate the agreement with respect to all

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locations if we are in default of the license with respect to one-third or more of our locations. Finally, Wal-Mart can temporarily suspend the agreement with respect to an individual location in the event of certain other events.

Studios that began operations after the execution of the license on April 4, 2002, have a five-year term that commences upon their opening date and renew for an additional period of five years unless either party gives notice of termination on or before 180 days prior to the end of the term. As of February 1, 2004, in the U.S., we operated in 1,900 Wal-Mart permanent studios and approximately 1,000 modular traveling locations. Since the execution of the Wal-Mart license agreement on April 4, 2002, through February 1, 2004, we opened 335 portrait studios in U.S. Wal-Marts. The licenses with respect to our U.S. Wal-Mart studios expire as follows: 1,608 studios in 2007, 245 studios in 2008, and 47 studios in 2009.

Canada.    Within Canada, our relationship with Wal-Mart Canada, Inc. is governed by a license agreement dated February 9, 1996. This agreement has a five-year term and Wal-Mart Canada has an option to renew for one renewal period of two years. Studios that began operations on and after the execution of the license on February 9, 1996, have a five-year term that commences upon their opening date and can be renewed at the option of Wal-Mart Canada. As of February 1, 2004, we operated in 208 Canadian Wal-Mart permanent studios. To date, all studios that have completed their initial five-year term have been renewed by Wal-Mart Canada. The terms of the license agreement are similar to our U.S. license agreement. Termination rights are generally similar to those under the U.S. license agreement except that Wal-Mart also has the right to terminate with respect to an individual studio if we sell substantially all of the assets of our Canadian subsidiary or fail to own majority voting control in such subsidiary or operate a competing business within a 25-mile radius of a Wal-Mart store. Wal-Mart can terminate the agreement with respect to all locations, subject to 180 days notice, if one-third or more of the licensed stores are susceptible to termination, or have been terminated, under the agreement or if 5% or more of our Wal-Mart Canada Studios generate annual gross sales of less than $90,000 each.

The licenses with respect to our Canadian Wal-Mart studios expire as follows: 46 studios in fiscal 2004, 79 studios in fiscal 2005, 32 studios in fiscal 2006, 25 studios in fiscal 2007, 16 studios in fiscal 2008, and 10 studios in fiscal 2009.

Mexico.    Within Mexico, our relationship with Nueva Wal-Mart De Mexico, S.A. de R.L. de C.V. (“Nueva Wal-Mart De Mexico”) is governed by an agreement dated as of June 1, 2002 for an undefined period of time. Either we or Nueva Wal-Mart De Mexico may terminate this agreement at any time upon 30 days written notice after May 31, 2003. Under this agreement, Nueva Wal-Mart De Mexico is compensated based upon our total net sales in all Wal-Mart stores in Mexico. As of February 1, 2004, we operated in 75 Nueva Wal-Mart De Mexico permanent studios. When these studios complete their initial one-year term they will continue until terminated pursuant to the agreement’s notice provisions.

Germany.    Within Germany, our relationship with Wal-Mart Germany GmbH & CO.KG (“Wal-Mart Germany”) is governed by lease agreements with a two year term beginning at the commencement of operations for each studio. The first lease is dated as of August 28, 2002. The leases expire after 2 years, but will automatically renew for successive periods of 6 months each if not terminated by either party. Either party can terminate this agreement at the end of any term upon three months notice. This agreement allows us to use Wal- Mart designated space within its stores. Under this agreement, Wal-Mart Germany is compensated based upon our total net sales in all Wal-Mart stores in Germany. As of February 1, 2004, we operated in 15 Wal-Mart Germany permanent studios.

United Kingdom.    Within the U.K., our relationship with ASDA Stores Limited (“Wal-Mart U.K.”) is governed by separate leases for each studio with the first one dated as of February 5, 2003. One lease expires after 10 years and two leases expire after 5 years. Under these agreements, Wal-Mart U.K. is compensated based upon our total net sales in all Wal-Mart stores in the U.K. As of February 1, 2004, we operated in 3 Wal-Mart U.K. permanent studios. Commencing in 2005 and for each year thereafter, Wal-Mart U.K. may terminate any license agreement if it sends us a termination notice by January 31 of such year, with termination effective on April 30 of such year.

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Other Licenses and Concessions

Meijer.    As of February 1, 2004, we operated in 24 Meijer permanent studios. Our relationship with Meijer, Inc. is governed by two master in-store license agreements dated June 25, 2001. These agreements give us the ability to operate a portrait studio in select Meijer stores. The term of the license for each studio begins on the earlier of the projected start date for each Meijer location and the date we commence operations in such location, and ends on the last day of the third license year. A license year is defined as the 12-month period from August 1 to July 31. Under this agreement, our licenses for 18 Meijer studios will terminate on July 31, 2004, the licenses for 5 Meijer studios will terminate on July 31, 2005, and the license for 1 Meijer studio will terminate on July 31, 2007.

The terms of our master in-store license agreements with Meijer require us to pay, on a monthly basis with respect to each location, a base license fee and a supplemental license fee based upon our gross receipts in our Meijer permanent studios. The license agreements permit us to use our designated space within Meijer’s locations solely for the purpose of operating a portrait studio and selling select portrait related products.

These license agreements can be terminated by us or Meijer with respect to any or all of licensed Meijer locations at any time upon 90 days prior written notice. In addition, Meijer has the right to terminate the agreement upon shorter notice periods or without notice in the event of (1) our failure to perform our obligations under the license agreement or pay license fees as required by the agreement, (2) our default in the performance of any non-financial covenants contained in the agreement, (3) any of the Meijer studios not being open for business during the hours specified in the agreement, (4) certain events of bankruptcy or insolvency relating to us, or (5) our abandonment of any studios covered by the agreement.

Navy.    We currently operate a studio within the Navy Exchange Naval Station Norfolk and a portrait studio at Camp LeJeune, North Carolina pursuant to an agreement that expires on April 30, 2004 and contains the possibility of three extensions of 12 months each upon mutual agreement of the parties. We pay a fee to Navy Exchange Norfolk and Camp LeJeune based upon our total gross sales in these studios. The items to be sold as well as the prices charged by us are subject to the approval of the Navy Exchange Norfolk and Camp LeJeune general managers.

In addition, we operate a studio within the Navy Exchange, Pearl Harbor, Hawaii, pursuant to an agreement that commenced October 25, 2002 and expires on October 24, 2004. We pay a fee to Hawaii District Navy Exchange based upon our total gross sales in this studio. The items sold as well as the prices charged by us are subject to the approval of the Technical Representative for the Hawaii District Navy Exchange.

In the Camp LeJeune location we operate, under a separate agreement that expires in May 2005, a one-hour processing facility for customers’ film and pictures.

Army/Air Force.    We have an agreement with the Army & Air Force Exchange Service (“AAFES”) that governs our sale of professional photography services in select AAFES exchanges in the United States. This agreement expires July 31, 2005. As of February 1, 2004, we operated 11 studios in AAFES exchanges.

The terms of the contract require us to pay a fee to AAFES based upon our total gross sales at AAFES exchanges. This contract allows us to operate our portrait studios during similar hours of operation as the AAFES exchanges governed by this contract and to use designated space within such exchanges.

This contract may be terminated in whole or in part by AAFES or us for any reason upon 90 days written notice and immediately upon written notice in the event of (1) our failure to pay license fees under the agreement, (2) certain events of bankruptcy or insolvency relating to us, or (3) our failure to perform our obligations under the agreement. In addition, this contract will automatically terminate, with respect to an AAFES exchange, upon the dispatch of written notice to us that such AAFES exchange is inactivated or the Army or Air Force base at which such exchange is located has been inactivated.

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Callisto (PhotoParade^®).    Under our arrangement with Callisto Corporation, we agree to pay to Callisto a royalty based on gross retail sales derived from the sale of each Portrait Gallery^™ disk. We have agreed to sell the Portrait Gallery^™ disk only as a bundled product with Callisto’s PhotoParade^® screen saver CD. Furthermore, Callisto has agreed to pay PCA a royalty based on internet sales generated from customers who link to Callisto’s web site from the PhotoParade^® CD sold in our studios.

Other.    We own other patents, trademarks and licenses we do not believe are material to our business.

Risk Factors

We wish to caution readers that in addition to the important factors described elsewhere in this Annual Report on Form 10-K, the following important factors, among others, sometimes have affected, or in the future could affect, our actual results and could cause our actual consolidated results during fiscal 2004, and beyond, to differ materially from those expressed in any forward-looking statements made by us or on our behalf.

Risks Related to Our Business

We are materially dependent on Wal-Mart

Approximately 95% of our sales for fiscal 2003 were derived from sales in Wal-Mart stores. Therefore, we are materially dependent upon our relationship with Wal-Mart, the continued goodwill of Wal-Mart and the integrity of the Wal-Mart brand name in the retail marketplace. Any deterioration in our Wal-Mart relationship would have a material adverse effect on us.

Because we represent only a small fraction of Wal-Mart’s sales, any deterioration of our relationship with Wal-Mart would have a far greater affect on us than on Wal-Mart.

Furthermore, because of the demands on us from our current business model of opening studios in all new Wal-Mart stores 100,000 square feet or larger and each new supercenter over 145,000 square feet, we have not been able to diversify our business. This could adversely affect us in the event our Wal-Mart business declines. In addition, our competitive posture could be weakened with negative changes in Wal-Mart’s competitive posture.

Our business practices and operations need to be acceptable to Wal-Mart

Because of the importance of our Wal-Mart relationship to us, our business practices and procedures must at all times be acceptable to Wal-Mart. Consequently, in the future, we may make changes to our business practices and procedures, including with regards to advertising and promotions, pricing, product offerings, studio facilities, technology, management and employment practices in response to Wal-Mart’s requests that would not be in our best interests and could materially and adversely affect our sales, costs, margins, business development or other aspects of our business. In addition, under our license agreements Wal-Mart has substantial contractual rights, which it can exercise in a manner that can have a material adverse effect on us.

Among other things, pursuant to our license agreements we must

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and we are not permitted to

Wal-Mart may terminate, breach or otherwise limit our license or lease agreements.

Our Wal-Mart permanent studios in the U.S. and Canada are operated pursuant to license agreements while our permanent studios in Mexico, Germany and the U.K. are operated pursuant to lease agreements. These license and lease agreements can be terminated or suspended by Wal-Mart for various reasons, some of which are beyond our control. Our license and lease agreements with various Wal-Mart entities have the following expiration dates: (1) for our 1,569 U.S. Wal-Mart studios that were open when the U.S. Wal-Mart agreement was entered into, April, 2007; for each of our 331 Wal-Mart studios subsequently opened, the fifth anniversary of the opening of that studio, in each case if no renewal option is exercised; (2) for each of our 208 Canadian Wal-Mart studios, various expiration dates, ranging from fiscal 2004 to 2009, depending upon the date the relevant studio commenced operations; (3) for each of our 75 Mexican Wal-Mart studios, terminable at will by either party following a studio’s first year of operation; (4) for each of our 15 German Wal-Mart studios, two years from its opening date with automatic renewals for successive periods of 6 months each if not terminated by either party (either party can terminate at the end of any term upon three months notice); and (5) for our three U.K. Wal-Mart studios, 2008 for two studios and 2013 for the third. These agreements are more fully described in “Business—Licenses, Trademarks and Patents—Wal-Mart Licenses.”

Wal-Mart is under no obligation to renew existing locations. We do not have the right to close any poorly performing locations prior to the expiration of the term of the license or lease for such locations. Although our license and lease agreements prohibit Wal-Mart from licensing or leasing permanent portrait studios to any other person in the stores in which we operate, they do not make us the exclusive provider for all Wal-Mart stores. In addition, our license and lease agreements do not prohibit Wal-Mart from selling many of the tangible goods we sell, or from developing film, in other departments within its stores. Furthermore, there is always the risk that Wal-Mart might breach one or more of our license or lease agreements. The loss or breach of any license or lease from Wal-Mart could have a material adverse effect on us. An adverse change in any other aspects of our business relationship with Wal-Mart, the reduction of the number of studios operated pursuant to such arrangements, a decision by Wal-Mart to license or lease studios to other persons or changes in Wal-Mart’s expansion plans could have a material adverse effect on us. See “Business—Licenses, Trademarks and Patents—Wal-Mart Licenses.”

An economic downturn, a reduction in consumer spending or decreased customer traffic in our host stores could materially adversely affect our business.

Portrait photography services may be affected by negative trends in the general economy. Any reduction in consumer confidence or disposable income in general may affect companies in this specialty retail service industry. In addition, the portrait studios in Wal-Mart stores and Meijer stores rely largely on customer traffic generated by the host stores. The host stores, as part of the retail industry, may be affected by a downturn in the economy and a decrease in discretionary income of potential customers. For example, we previously provided

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portrait photography services in Kmart host stores. During the term of our relationship with Kmart, Kmart’s business was not growing, and this negatively impacted our own performance. There is no assurance that Wal-Mart or any other host stores in which we may operate will not suffer similar financial difficulties. A reduction in host store traffic would adversely affect us.

In addition, we have substantial fixed costs due to our two production facilities in the Charlotte, North Carolina area. These fixed costs make us vulnerable in the event of an economic downturn or other inability to generate sufficient cash flow.

We have experienced a history of net losses and deficiencies of earnings to fixed charges.

For fiscal 2003, 2002 and 2001, we had net income of $1.4 million and $14.4 million and a net loss of $19.3 million, respectively. For fiscal 2003, earnings exceeded fixed charges by $3.5 million and we had an earnings to fixed charge coverage ratio of 1.1 to 1. However, for fiscal 2002 and 2001, fixed charges exceeded earnings by, $0.5 million and $17.4 million, respectively. For this purpose, “earnings” and “fixed charges” included non-cash items, as described in note (9) in “Selected Financial Data.” Future net losses and/or deficiencies of earnings to fixed charges may prevent us from pursuing our strategies for growth and could cause us to be unable to meet our debt obligations, capital expenditure requirements or working capital needs.

We may not be able to finance the rapid growth we may experience.

Under our United States license agreement with Wal-Mart, which was signed in 2002 and expires in 2007 unless extended, Wal-Mart must license us 150 net new stores in each of the first four years of the license agreement and use its best efforts to do so in each year thereafter during the term of the agreement. Further, Wal-Mart has agreed to use its best efforts to include our studios in the blueprint for all new Wal-Mart stores of 100,000 square feet or larger. We anticipate opening a studio in all new Wal-Mart stores where our studios are incorporated into the blueprint. This will require us to make substantial capital expenditures. To accomplish this, as well as to maintain and increase our sales base and to respond to shifts in customer demand and changes in industry trends, we will need to generate sufficient cash flow or obtain sufficient capital for purposes of, among other things, financing capital expenditures, infrastructure growth and acquisitions. There is no assurance that we will be able to generate sufficient cash flow or that financing on acceptable terms will be available and permitted to be incurred under the terms of our current and any future indebtedness to fund our future growth. Our failure to generate sufficient cash flow or obtain sufficient financing to fund our future growth could materially adversely affect us. The rapid growth of portrait studios within Wal-Mart could limit our ability to fund growth outside of Wal-Mart.

Our inability to raise prices could limit our growth.

Because of competitive pressures, we are unlikely to be able to increase profitability on a sustained basis by raising our prices. Rather, our ability to increase profitability over the longer term will depend on our ability to open new studios, to increase our customer volumes in our existing studios and to manage expanding operations effectively.

If we lose our key personnel, our business may be adversely affected.

Our continued success depends upon, to a large extent, the efforts and abilities of our key employees, particularly Barry J. Feld, our President, Chief Executive Officer and Chairman of the Board. See “Item 10. Directors and Executive Officers of the Registrant.” Mr. Feld’s departure would result in a loss of leadership and a strong contact person with Wal-Mart. We cannot assure you of the continued employment of Mr. Feld or any other members of management. Competition for qualified management personnel is intense. Mr. Feld’s

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employment agreement is terminable at will by either party and, while he would forfeit certain stock option benefits if he chose to compete with us, he is not prohibited from doing so. The loss of the services of our key employees or the failure to retain qualified employees when needed could materially adversely affect us.

Our business would be adversely affected if we cannot manage the growth of our operations.

It is essential to our relationship with Wal-Mart that we open new studios in all stores in which Wal-Mart wants us to do so. Our resources are not as great as Wal-Mart’s, however, and it could be difficult for us to keep pace with Wal-Mart’s rapid expansion plans. Our future growth will require us to manage our expanding domestic and international operations and to adapt our operational, manufacturing, financial and management systems to respond to changes in our business environment while maintaining a competitive cost structure. The expansion of our business will continue to place significant demands on us to improve our operational, manufacturing, financial and management systems, to develop further the management skills of our managers and supervisors, and to continue to retain, train, motivate and effectively manage our employees. Our failure to manage any future growth effectively and to adequately expand these systems in response to such growth could materially adversely affect us by limiting our ability to continue to expand or to continue our current level of service to customers in our existing studios.

Our expansion into geographic areas we already serve could adversely affect our business.

We have experienced reduced sales at existing studios when we have opened new studios in close proximity to existing studios. Success of our growth strategy will somewhat depend on our ability to minimize this effect. In addition, our license agreement with Wal-Mart prohibits us from opening a new non-Wal-Mart studio within a certain distance of any store where we operate a Wal-Mart portrait studio. This prohibition could negatively impact our non-Wal-Mart expansion plans.

Our fourth quarter sales and income are disproportionately high and we are vulnerable to downturns in consumer holiday spending that can adversely affect our business.

Our business is highly seasonal. The holiday season accounts for a high percentage of our sales and operating income, and our fourth fiscal quarter, typically late October/early November through late January/early February, generally produces a large percentage of annual sales and operating income. The fourth quarters in fiscal 2003, 2002, and 2001 have accounted for approximately 33%, 33%, and 35%, respectively, of our annual sales and approximately 66%, 62%, and 78%, respectively, of our annual operating income. Our operations can be adversely affected by inclement weather or other factors that reduce consumer holiday spending in our host stores, especially during the important fiscal fourth quarter.

If our competitors initiate price-cutting or changes in package configurations or introduce new technology, we may experience lower sales or higher costs.

The professional portrait photography industry is highly competitive. Certain of our competitors and potential competitors are more established, benefit from greater name recognition and have significantly greater capital and resources than we do. Moreover, evolving technology and business relationships may make it easier and cheaper for our competitors and potential competitors to develop products or services similar to ours or to sell competing products or services in our markets.

The companies in our industry compete on the basis of value, price, quality, access, service, package size, technology and convenience of retail distribution channel. The major professional portrait studio companies, including CPI Corporation, Lifetouch and Olan Mills, operate permanent studios in retail chains and independent locations. To compete successfully, we must continue to remain competitive in areas of value, price, quality, access, service, package size, technology and convenience of distribution and we must do so on terms and at prices that are compatible with the Wal-Mart philosophy.

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The evolution of digital portrait technology has introduced additional competition from companies, such as Picture People, which operate independent locations specializing in such portrait technology. Although we have not experienced a significant decline in the discount retail distribution channel due to such technology or companies, there is no assurance that such technology, or companies specializing in such technology, will not take significant business from us, resulting in either lower sales or higher cost of operation for us.

Furthermore, consumer products, particularly those that are value-priced, are subject to significant price competition. There is no assurance we will not be forced to engage in price-cutting initiatives to respond to competitive and consumer pressures. The failure of our sales volumes to grow sufficiently to improve overall sales and income as a result of a competitive price reduction could materially adversely affect us. See “—Competition.”

We may not be able to keep pace with the evolution of technology and develop and invest in new technologies as required to compete effectively.

The evolution of digital portrait technology, computer technology, manufacturing technology and information technology may make it difficult for us to continue using our current technologies and require us to invest in new technologies. There can be no assurance that we can generate sufficient capital from operations or outside financing sources to invest in such evolving technologies. To the extent we do invest in such technology, there is no assurance our investment will lead to increased sales or profits. In addition, our ability to develop digital technology, e-commerce capabilities and other new information and distribution technologies may affect our position in the marketplace. As digital photography and processing systems evolve and the costs associated with such systems continue to decline, it may impair our ability to compete in the marketplace as we may no longer be able to produce our products at low costs.

We are dependent upon a key supplier.

We are contractually dependent upon Agfa Corporation as our key supplier of photographic film, paper and processing chemistry, all of which Agfa manufactures in Germany. Any disruption in the business of Agfa or in the delivery of supplies from Agfa could have a material adverse impact on our business. Our current relationship with Agfa is governed by a contract that terminates in 2007 and can be terminated earlier in the event of breach or non-performance of the agreement.

Our international expansion may not be successful and may expose us to additional risks that could adversely affect our business.

International operations in Canada, Mexico, Germany and the U.K. accounted for approximately 9% of sales during fiscal 2003. We expect international sales to increase in the future as we continue to grow in Canada and Mexico and, potentially, as we expand operations in Europe (we currently only operate studios in Germany and the U.K.). To the extent that our international operations increase, we will become more vulnerable to risks involving the geographic distance of operations, differences in language or culture, changes in business regulations and taxation, currency fluctuations and political instability. Further, there is no proven market for portrait photography services in retail studio locations in Europe. Therefore, our in-store studio model may not perform well in Europe.

Any disruption in our manufacturing process could have a material adverse impact on our business.

We are dependent upon the efficient operation of our portrait processing facilities to maintain our portrait quality, timeliness of delivery and low cost operation. These facilities are located in a single city, Charlotte, North Carolina and serve primarily all of our operations worldwide. Any disruption of our processing systems for any reason could adversely impact us.

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Risks Related to Our Indebtedness

Our substantial indebtedness could materially adversely affect our business and prevent us from fulfilling our debt obligations.

As of February 1, 2004, we had outstanding indebtedness of approximately $229.9 million, including $20.0 million of borrowings under our senior secured credit facility and approximately $209.5 million in debt securities issued by our subsidiaries and guaranteed by us. We also had $13.2 of additional borrowing capacity under our senior secured credit facility and may have the ability to make additional borrowings in the future. As of February 1, 2004, our total liabilities ($289.8 million) exceeded our total assets ($165.0 million). Substantially all of our assets are subject to a lien in favor of our le