UNITED STATES
SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, DC 20549

FORM 10-Q

(Mark One)

þ		QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

o		TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

Commission file number 0-21296

PACIFIC SUNWEAR OF CALIFORNIA, INC.

(Exact name of registrant as specified in its charter)

California (State of incorporation)		95-3759463 (I.R.S. Employer Identification No.)

3450 East Miraloma Avenue, Anaheim, CA 92806
(Address of principal executive offices and zip code)

(714) 414-4000
(Registrant’s telephone number)

•		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 þ No o
•		Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). Yes o No o
•		Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer,” and “smaller reporting company” in Rule 12b-2 of the Exchange Act. (Check one):

•

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes o No þ

On December 6, 2010 the registrant had 66,080,970 shares of Common Stock outstanding.

 

 

PACIFIC SUNWEAR OF CALIFORNIA, INC.
FORM 10-Q
For the Quarter Ended October 30, 2010

Index

						Page #
PART I. FINANCIAL INFORMATION
Item 1.				Financial Statements (unaudited)			3
				Condensed Consolidated Balance Sheets—October 30, 2010 and January 30, 2010			3
				Condensed Consolidated Statements of Operations and Comprehensive Operations—Third quarter (13 weeks) and three quarters (39 weeks) ended October 30, 2010 and October 31, 2009			4
				Condensed Consolidated Statements of Cash Flows—Three quarters (39 weeks) ended October 30, 2010 and October 31, 2009			5
				Notes to Condensed Consolidated Financial Statements			6
Item 2.				Management’s Discussion and Analysis of Financial Condition and Results of Operations			11
Item 3.				Quantitative and Qualitative Disclosures about Market Risk			20
Item 4.				Controls and Procedures			20
PART II. OTHER INFORMATION
Item 1.				Legal Proceedings			21
Item 1A.				Risk Factors			21
Item 2.				Unregistered Sales of Equity Securities and Use of Proceeds			21
Item 3.				Defaults upon Senior Securities			21
Item 4.				Reserved			21
Item 5.				Other Information			21
Item 6.				Exhibits			21
				SIGNATURE PAGE			22
EX-31.1
EX-32.1

PART I — FINANCIAL INFORMATION

		ITEM 1. Financial Statements.

PACIFIC SUNWEAR OF CALIFORNIA, INC.
CONDENSED CONSOLIDATED BALANCE SHEETS
(unaudited, all amounts in thousands except share and per share amounts)

		October 30, 2010				January 30, 2010
ASSETS
CURRENT ASSETS:
Cash and cash equivalents		$	43,975			$	93,091
Merchandise inventories			166,300				89,665
Prepaid expenses			11,712				10,801
Other current assets			4,575				5,365
Total current assets			226,562				198,922
PROPERTY AND EQUIPMENT, NET:
Gross property and equipment			634,140				641,127
Less accumulated depreciation and amortization			(422,020	)			(392,127	)
Total property and equipment, net			212,120				249,000
Deferred income taxes			4,024				4,024
Other assets			25,927				25,272
TOTAL ASSETS		$	468,633			$	477,218
LIABILITIES AND SHAREHOLDERS’ EQUITY
CURRENT LIABILITIES:
Accounts payable		$	77,237			$	38,481
Other current liabilities			34,826				43,742
Total current liabilities			112,063				82,223
LONG-TERM LIABILITIES:
Deferred lease incentives			31,551				39,207
Deferred rent			20,230				21,396
Mortgage debt			29,223				—
Other long-term liabilities			27,156				27,714
Total long-term liabilities			108,160				88,317
Commitments and contingencies (Note 10)
SHAREHOLDERS’ EQUITY:
Preferred stock, $.01 par value; 5,000,000 shares authorized; none issued			—				—
Common stock, $.01 par value; 170,859,375 shares authorized; 66,073,810 and 65,748,069 shares issued and outstanding, respectively			661				657
Additional paid-in capital			10,477				7,294
Retained earnings			237,272				298,727
Total shareholders’ equity			248,410				306,678
TOTAL LIABILITIES AND SHAREHOLDERS’ EQUITY		$	468,633			$	477,218

See accompanying footnotes

PACIFIC SUNWEAR OF CALIFORNIA, INC.
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
AND COMPREHENSIVE OPERATIONS

(unaudited, in thousands except share and per share amounts)

		For the Third Quarter Ended								For the Three Quarters Ended
		October 30, 2010				October 31, 2009				October 30, 2010				October 31, 2009
Net sales		$	257,904			$	268,280			$	666,548			$	734,539
Cost of goods sold, including buying, distribution and occupancy costs			193,527				194,839				508,947				542,116
Gross margin			64,377				73,441				157,601				192,423
Selling, general and administrative expenses			71,093				89,365				218,192				245,477
Operating loss			(6,716	)			(15,924	)			(60,591	)			(53,054	)
Other expense, net			420				17				497				180
Loss before income taxes			(7,136	)			(15,941	)			(61,088	)			(53,234	)
Income tax (benefit)/provision			(173	)			(5,036	)			367				(19,431	)
Net loss		$	(6,963	)		$	(10,905	)		$	(61,455	)		$	(33,803	)
Comprehensive loss		$	(6,963	)		$	(10,905	)		$	(61,455	)		$	(33,803	)
Net loss per share:
Basic		$	(0.11	)		$	(0.17	)		$	(0.93	)		$	(0.52	)
Diluted		$	(0.11	)		$	(0.17	)		$	(0.93	)		$	(0.52	)
Weighted average shares outstanding:
Basic			66,056,822				65,563,721				65,948,679				65,380,726
Diluted			66,056,822				65,563,721				65,948,679				65,380,726

See accompanying footnotes

PACIFIC SUNWEAR OF CALIFORNIA, INC.
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(unaudited, in thousands)

		For the Three Quarters Ended
		October 30, 2010				October 31, 2009
CASH FLOWS FROM OPERATING ACTIVITIES:
Net loss		$	(61,455	)		$	(33,803	)
Adjustments to reconcile net loss to net cash from operating activities:
Depreciation and amortization			41,910				53,326
Asset impairment			8,209				16,538
Loss on disposal of property and equipment			710				555
Non-cash stock based compensation			3,082				5,030
Tax benefit deficiencies related to stock-based compensation			—				(1,702	)
Change in operating assets and liabilities:
Merchandise inventories			(76,869	)			(61,212	)
Other current assets			932				43,428
Other assets			334				(12,968	)
Accounts payable			38,756				18,035
Other current liabilities			(8,466	)			(8,049	)
Deferred lease incentives			(7,656	)			(10,084	)
Deferred rent			(1,166	)			(1,136	)
Other long-term liabilities			(520	)			(1,730	)
Net cash (used in)/provided by operating activities			(62,199	)			6,228
CASH FLOWS FROM INVESTING ACTIVITIES:
Purchases of property and equipment			(15,544	)			(19,540	)
Proceeds from sale of land			—				3,705
Proceeds from sale of property and equipment			—				28
Net cash used in investing activities			(15,544	)			(15,807	)
CASH FLOWS FROM FINANCING ACTIVITIES:
Proceeds from mortgage borrowings			29,800				—
Payments for mortgage borrowings costs			(1,154	)			—
Principal payments under mortgage borrowings			(80	)			—
Proceeds from exercise of stock options			298				373
Principal payments under capital leases			(237	)			(6	)
Net cash provided by financing activities			28,627				367
NET DECREASE IN CASH AND CASH EQUIVALENTS			(49,116	)			(9,212	)
CASH AND CASH EQUIVALENTS, beginning of period			93,091				24,776
CASH AND CASH EQUIVALENTS, end of period		$	43,975			$	15,564
SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION:
Cash paid for interest		$	435			$	—
Cash refunded for income taxes		$	268			$	28,061
SUPPLEMENTAL DISCLOSURES OF NON-CASH TRANSACTIONS:
Property and equipment purchases accrued at end of period		$	578			$	2,145
Capital lease transactions for property and equipment		$	283			$	—

See accompanying footnotes

PACIFIC SUNWEAR OF CALIFORNIA, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(unaudited)

1. NATURE OF BUSINESS

Pacific Sunwear of California, Inc. and its subsidiaries (collectively, the “Company”) is a leading specialty retailer rooted in the action sports, fashion and music influences of the California lifestyle. The Company sells a combination of branded and proprietary casual apparel, accessories and footwear designed to appeal to teens and young adults. The Company operates a nationwide, primarily mall-based chain of retail stores, under the names “Pacific Sunwear” and “PacSun.” In addition, the Company operates an e-commerce website at www.pacsun.com which sells PacSun merchandise online, provides content and community for its target customers, and provides information about the Company.

2. BASIS OF PRESENTATION

The accompanying Condensed Consolidated Financial Statements are unaudited and have been prepared in accordance with accounting principles generally accepted in the United States of America (“GAAP”) for interim financial information and pursuant to the rules and regulations of the Securities and Exchange Commission (“SEC”). Accordingly, they do not include all of the information and footnotes required by GAAP for complete financial statements. The Condensed Consolidated Financial Statements include the accounts of Pacific Sunwear of California, Inc. and its subsidiaries (Pacific Sunwear Stores Corp. and Miraloma Borrower Corporation). All intercompany transactions have been eliminated in consolidation.

In the opinion of management, all adjustments consisting only of normal recurring entries necessary for a fair presentation have been included. The preparation of Condensed Consolidated Financial Statements in conformity with GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and the disclosure of contingent assets and liabilities at the date of the Condensed Consolidated Financial Statements as well as the reported revenues and expenses during the reporting period. Actual results could differ from these estimates. The results of operations for the first three quarters ended October 30, 2010 are not necessarily indicative of the results that may be expected for the fiscal year ending January 29, 2011 (“fiscal 2010”). For further information, refer to the Consolidated Financial Statements and notes thereto included in the Company’s Annual Report on Form 10-K for the fiscal year ended January 30, 2010 (“fiscal 2009”).

3. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

Information regarding significant accounting policies is contained in Note 1, “Nature of Business and Summary of Significant Accounting Policies,” of the Consolidated Financial Statements in the Company’s Annual Report on Form 10-K for fiscal 2009. Presented below in the following notes is supplemental information that should be read in conjunction with “Notes to Consolidated Financial Statements” included in that Report.

Income Taxes

The Company calculates its interim income tax provision in accordance with Financial Accounting Standards Board (“FASB”) Accounting Standards Codification (“ASC”) Topic 270, “Interim Reporting,” and ASC Topic 740, “Accounting for Income Taxes” (“ASC 740”). At the end of each interim period, the Company estimates the annual effective tax rate and applies that rate to its ordinary quarterly earnings. The tax expense or benefit related to significant, unusual, or extraordinary items is recognized in the interim period in which those items occur. In addition, the effect of changes in enacted tax laws, rates or tax status is recognized in the interim period in which the change occurs. The computation of the annual estimated effective tax rate at each interim period requires certain estimates and significant judgment including the expected operating income for the year, permanent and temporary differences as a result of differences between amounts measured and recognized in accordance with tax laws and financial accounting standards, and the likelihood of recovering deferred tax assets generated in the current year. The accounting estimates used to compute the provision for income taxes may change as new events occur, additional information is obtained or as the tax environment changes.

Recent Accounting Pronouncements

In April 2010, the FASB issued Accounting Standards Update (ASU) No. 2010-17, “Milestone Method of Revenue Recognition—a consensus of the FASB Emerging Issues Task Force,” which amends the guidance in ASC Topic 695 “Revenue Recognition.” ASU No. 2010-17 provides guidance on defining a milestone and determining when it is appropriate to utilize the milestone method of revenue recognition in research and development arrangements. In addition, this ASU requires new disclosures for companies that have research and development arrangements that are accounted for using the milestone method. ASU No. 2010-17 will be effective on a prospective basis for milestones achieved during interim and annual periods beginning on or after June 15, 2010 and early adoption is permitted. The Company’s adoption of ASU No. 2010-17 is not expected to have any impact on the Company’s financial position or results of operations.

4. FAIR VALUE OF LONG LIVED ASSETS

The Company’s long-lived assets (primarily property and equipment) are measured and reported on a fair value basis, if lower than carrying value, in the period that any impairment is determined in accordance with ASC Topic 820, “Fair Value Measurements and Disclosures” (“ASC 820”). ASC 820 defines fair value, establishes a framework for measuring fair value in accordance with GAAP, and expands disclosure about fair value measurements. ASC 820 enables the reader of the financial statements to assess the inputs used to develop those measurements by establishing a hierarchy for ranking the quality and reliability of the information used to determine fair values. ASC 820 requires that assets and liabilities carried at fair value be classified and disclosed in one of the following three categories:

	•		Level 1: Quoted market prices in active markets for identical assets or liabilities
	•		Level 2: Observable market-based inputs that are corroborated by market data
	•		Level 3: Unobservable inputs that are not corroborated by market data

The following table represents the fair value hierarchy for assets measured at fair value on a non-recurring basis (in millions):

		October 30, 2010								January 30, 2010
						Significant								Significant
						Unobservable Inputs								Unobservable Inputs
		Total				(Level 3)				Total				(Level 3)
Long-lived assets held and used		$	212			$	212			$	249			$	249

The Company evaluates the recoverability of the carrying amount of long-lived assets for all stores whenever events or changes in circumstances indicate that the carrying amount of an asset may not be fully recoverable. As a result of continued declines in comparable store net sales and gross margin, the Company recorded non-cash impairment charges of approximately $2 million and $8 million within selling, general and administrative expenses for underperforming stores during the fiscal third quarter and first three quarters ended October 30, 2010, respectively, to write down certain long-lived store assets to their fair value. Fair value is determined using a discounted cash flow model. The estimation of future cash flows from operating activities requires significant estimates of factors that include future sales and gross margin performance. If the Company’s sales or gross margin performance or other estimated operating results are not achieved at or above the forecasted level, the carrying value of certain store assets may prove unrecoverable and the Company may incur additional impairment charges in the future.

5. CREDIT FACILITY

The Company has an asset-backed credit agreement with a syndicate of lenders (the “Credit Facility”), which expires on April 29, 2013, and provides for a secured revolving line of credit of up to $150 million that can be increased to up to $225 million subject to lender approval. Extensions of credit under the Credit Facility are limited to a borrowing base consisting of specified percentages of eligible categories of assets, primarily cash and inventory (generally, 75% of inventories). The Credit Facility is available for direct borrowing and, subject to borrowing base availability ($114 million at October 30, 2010), up to $75 million is available for the issuance of letters of credit and up to $15 million is available for swing-line loans. The Credit Facility is secured by cash, cash equivalents, deposit accounts, securities accounts, credit card receivables and inventory. Direct borrowings under the Credit Facility bear interest at the administrative agent’s alternate base rate (as defined, 3.5% at October 30, 2010) or at optional interest

rates that are primarily dependent upon LIBOR or the federal funds effective rate for the time period chosen. Based on current forecasts and plans for the year, the Company believes that cash flows from operating activities, working capital, borrowing availability under the Credit Facility, borrowings resulting from the mortgage transactions discussed in Note 7 and other available sources of financing will be sufficient to meet its operating and capital expenditure needs for at least the next twelve months. At October 30, 2010, the Company had no direct borrowings and $19 million in letters of credit outstanding under the Credit Facility. The remaining availability at October 30, 2010 was $95 million.

The Company is not subject to any financial covenant restrictions under the Credit Facility unless total remaining borrowing availability under the facility falls below $15 million at any point in time, or 10% of the aggregate lender commitments in the event the facility is increased beyond $150 million. The Company is restricted from incurring additional indebtedness or liens in excess of certain levels specified by the Credit Facility. With certain exceptions, the Company is not allowed to incur additional secured indebtedness, but can obtain unsecured indebtedness outside of the Credit Facility up to $150 million. Additionally, the Credit Facility contains specific limits on particular kinds of indebtedness, as defined in the Credit Facility agreement, and such agreement contains other typical affirmative and negative covenants, such as obligations to deliver financial statements, provide certain notices, comply with laws, and not enter into certain transactions or make certain payments without the consent of the lenders.

6. OTHER CURRENT LIABILITIES

As of the dates presented, other current liabilities consisted of the following (in thousands):

		October 30, 2010				January 30, 2010
Accrued gift cards		$	7,751			$	12,617
Accrued compensation and benefits			7,640				12,362
Sales taxes payable			3,586				4,444
Accrued capital expenditures			578				1,802
Other			15,271				12,517
Total other current liabilities		$	34,826			$	43,742

7. MORTGAGE DEBT

On August 20, 2010, the Company, through its wholly-owned subsidiaries, Miraloma Borrower Corporation, a Delaware corporation (“Miraloma”), and Pacific Sunwear Stores Corp., a California corporation (“PacSun Stores”), executed two promissory notes pursuant to which borrowings in an aggregate amount of $29.8 million from American National Insurance Company (“Anico”) were incurred. The note executed by Miraloma (the “Miraloma Note”) is in the amount of $16.8 million and bears interest at the rate of 6.50% per annum. Monthly principal and interest payments under the Miraloma Note commenced on October 1, 2010, and are $113,435. The principal and interest payments are based on a 25-year amortization schedule. The remaining principal balance of the Miraloma Note, and any accrued but unpaid interest thereon (estimated to be $14.4 million), will be due in full on September 1, 2017. The Miraloma Note is secured by a deed of trust on the building and land comprising the Company’s principal executive offices in Anaheim, California and is non-recourse to the Company. In connection with the Miraloma Note, the Company transferred the building and related land securing the note to Miraloma and entered into a lease for the building and land with Miraloma. Miraloma paid a prepayment fee to Anico equal to 1% of the principal amount of the note on the closing date of the transaction. As a result, Miraloma may prepay the note, in whole, but not in part, at any time without penalty upon 30 days prior written notice to Anico.

The note executed by PacSun Stores (the “PacSun Stores Note”) is in the amount of $13.0 million and bears interest at the rate of 6.50% per annum. Monthly principal and interest payments under the PacSun Stores Note commenced on October 1, 2010, and are $87,777. The principal and interest payments are based on a 25-year amortization schedule. The remaining principal balance of the PacSun Stores Note, and any accrued but unpaid interest thereon (estimated to be $11.2 million), will be due in full on September 1, 2017. The PacSun Stores Note is secured by a mortgage on the building and land comprising the Company’s distribution center in Olathe, Kansas, and is unconditionally guaranteed by the Company. PacSun Stores paid a prepayment fee to Anico equal to 1% of the principal amount of the note on the closing date of the transaction. As a result, PacSun Stores may prepay the note, in whole, but not in part, at any time without penalty upon 30 days prior written notice to Anico.

These transactions generated net proceeds to the Company of approximately $28 million in additional cash. As of October 30, 2010, remaining aggregate principal payments required under these mortgage debt borrowings are as follows (in thousands):

Fiscal year ending:
January 29, 2011		$	81
February 3, 2012			546
February 2, 2013			539
February 2, 2014			576
January 31, 2015			561
Thereafter			27,417
			29,720
Less current portion			497
Mortgage debt, long-term		$	29,223

8. INCOME TAXES

The provisions codified within ASC 740 require companies to assess whether valuation allowances should be established against their deferred tax assets based on consideration of all available evidence using a “more likely than not” standard. In accordance with ASC 740, a full valuation allowance was established by the Company during the fourth quarter of 2009 and continues to be maintained on all federal and the majority of state net deferred tax assets. Remaining state net deferred tax assets of $4 million were not reserved as the Company concluded it is more likely than not that these net deferred tax assets would be utilized before expiration. The Company has discontinued recognizing federal and certain state income tax benefits until it is determined that it is more likely than not that the Company will generate sufficient taxable income to realize the net deferred tax assets.

9. STOCK-BASED COMPENSATION

Stock-based compensation expense for the first three quarters of each of fiscal 2010 and 2009 was included in cost of goods sold for buying and distribution employees ($0.9 million and $1.6 million, respectively) and in selling, general and administrative expenses for all other employees ($2.2 million and $3.4 million, respectively).

Stock Options

The Company granted options to purchase 466,500 and 2,116,150 common shares under the 2005 Performance Incentive Plan during the first three quarters of each of fiscal 2010 and 2009, respectively, at a weighted average grant-date fair value of $2.81 and $1.53 per share, respectively. The Company records compensation expense for employee stock options based on the estimated fair value of the options on the date of grant using the Black-Scholes option-pricing model. The table below summarizes the weighted average Black-Scholes fair value assumptions used in the valuation of stock options granted during the first three quarters of each of fiscal 2010 and 2009:

		For the First Three Quarters Ended
		October 30, 2010				October 31, 2009
Expected life		4 years				4 years
Expected volatility			79.4% — 81.0	%			69.4% — 75.6	%
Risk-free interest rate			1.0% — 2.0	%			1.5% — 2.0	%
Dividend yield			—				—

Non-Vested Stock Awards

The Company granted 431,250 and 424,336 non-vested stock awards during the first three quarters of each of fiscal 2010 and 2009, respectively, at a weighted average grant-date fair value of $4.31 and $3.04, respectively.

As of October 30, 2010, the Company had approximately $5 million of compensation expense related to non-vested stock options and non-vested stock awards, net of estimated forfeitures, not yet recognized. This compensation expense is expected to be recognized over a weighted-average period of approximately 2.5 years. The amount of unrecognized compensation expense noted above does not necessarily represent the amount that will ultimately be realized by the Company in its financial statements due to actual forfeitures.

10. COMMITMENTS AND CONTINGENCIES

Litigation

Ned Nelson, as an individual and on behalf of others similarly situated, vs. Pacific Sunwear of California, Inc., Los Angeles Superior Court Case No. BC 436947. On April 30, 2010, the plaintiff filed a putative class action lawsuit against the Company alleging various violations of California’s wage and hour, overtime, meal break and rest break rules and regulations. The complaint seeks class certification, the appointment of the plaintiff as class representative and an unspecified amount of damages and penalties. The Company will file an answer denying all allegations regarding any claims and asserting various defenses. As the ultimate outcome is uncertain, no amounts have been accrued by the Company as of October 30, 2010. Depending on the actual outcome of this litigation, provisions could be recorded in the future which may have an adverse effect on the Company’s operating results.

The Company is also involved from time to time in other litigation incidental to its business. The Company believes that the outcome of such litigation will not likely have a material adverse effect on its results of operations or financial condition and, from time to time, it may make provisions for probable litigation losses. Depending on the actual outcome of pending litigation, charges in excess of any provisions could be recorded in the future, which may have an adverse effect on the Company’s operating results.

Letters of Credit

The Company has issued guarantees in the form of commercial letters of credit, of which there were approximately $19 million outstanding at October 30, 2010 that are primarily used as security for merchandise shipments from overseas suppliers. All in-transit merchandise covered by letters of credit is accrued for in accounts payable.

11. SEGMENT REPORTING

The Company operates exclusively in the retail apparel industry in which the Company distributes, designs and produces clothing and related products catering to teens and young adults through its primarily mall-based PacSun retail stores. The Company has three operating segments: PacSun stores, PacSun Outlet stores and pacsun.com. The three operating segments have been aggregated into one reportable segment based on the similar nature of products sold, production, merchandising and distribution processes involved, target customers, and economic characteristics among the three operating segments.

12. EARNINGS PER SHARE

Basic earnings per common share is computed using the weighted-average number of shares outstanding for the period. Diluted earnings per common share is computed using the weighted-average number of shares outstanding for the period adjusted for the incremental shares attributed to outstanding options to purchase common stock and non-vested stock awards. Options with an exercise price in excess of the average market value of the Company’s common stock during the period have been excluded from the calculation as their effect would be anti-dilutive. Options to purchase 2,849,978 and 1,785,317 shares of common stock in the third quarter of fiscal 2010 and 2009, respectively, and 2,975,667 and 2,169,645 shares of common stock in the first three quarters of fiscal 2010 and 2009, respectively, were excluded from the computation of diluted earnings per share as their effect would have been anti-dilutive. In periods when a net loss is reported, the weighted-average number of shares outstanding in the basic and diluted earnings per common share calculations will be the same.

ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS.

The following management’s discussion and analysis of financial condition and results of operations (“MD&A”) should be read in conjunction with our Condensed Consolidated Financial Statements and notes thereto included elsewhere in this Quarterly Report on Form 10-Q.

Cautionary Note Regarding Forward-Looking Statements

This Quarterly Report on Form 10-Q contains “forward-looking statements” within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended (the “Exchange Act”), and we intend that such forward-looking statements be subject to the safe harbors created thereby. In Item 1A, Risk Factors, in our Annual Report on Form 10-K for the year ended January 30, 2010 and in our Quarterly Report on Form 10-Q for the period ended July 31, 2010, we provide cautionary statements identifying important factors that could cause our actual results to differ materially from those projected in the forward-looking statements contained herein. Any statements that express, or involve discussions as to, expectations, beliefs, plans, objectives, assumptions, future events or performance (often, but not always, identifiable by the use of words or phrases such as “will result,” “expects to,” “will continue,” “believes,” “can,” “continue,” “could,” “anticipates,” “plans,” “intends,” “estimated,” “projects” and “outlook”) are not historical facts and may be forward-looking and, accordingly, such statements involve estimates, assumptions and uncertainties which could cause actual results to differ materially from those expressed in the forward-looking statements. Statements concerning current conditions may also be forward-looking if they imply a continuation of current conditions. Examples of forward-looking statements in this report include, but are not limited to, the following categories of expectations about:

	•		the sufficiency of operating cash flows, working capital and available credit to meet our operating and capital expenditure requirements,
	•		our capital expenditure plans for fiscal 2010,
	•		forecasts of future store closures for fiscal 2010, and
	•		future changes in occupancy expenses.

All forward-looking statements included in this report are based on information available to us as of the date hereof, and are subject to risks and uncertainties that could cause actual results to differ materially from those expressed in the forward-looking statements. See Part I, Item 1A, Risk Factors, in our Annual Report on Form 10-K for the year ended January 30, 2010, and Part II, Item 1A, Risk Factors, in our Quarterly Report on Form 10-Q for the period ended July 31, 2010, which are hereby incorporated by reference in this Quarterly Report on Form 10-Q, for a discussion of these risks and uncertainties. You are cautioned, therefore, not to place undue reliance on these forward-looking statements, which are made only as of the date of this report. We assume no obligation to update or revise any such forward-looking statements to reflect events or circumstances that occur after such statements are made.

Executive Overview

We consider the following items to be key performance indicators in evaluating our performance:

Comparable (or “same store”) sales. Stores are deemed comparable stores on the first day of the month following the one-year anniversary of their opening or expansion/relocation. We consider same store sales to be an important indicator of current Company performance. Same store sales are important in achieving operating leverage of certain expenses such as store payroll, store occupancy, depreciation, general and administrative expenses, and other costs that are somewhat fixed. Positive same store sales generate greater operating leverage of expenses while negative same store sales negatively impact operating leverage. Same store sales also have a direct impact on our total net sales, cash, and working capital. Company same store sales for our fiscal third quarter ended October 30, 2010 declined 3% continuing the trend of quarter-to-quarter sequential improvement since the beginning of the fiscal year. Same store sales for

our Men’s business (formerly referred to by us as “Young Men’s”) increased 4% in the third quarter of fiscal 2010 continuing the trend of sequential same-store sales improvement over the past five quarters. Same store sales for our Women’s business (formerly referred to by us as “Juniors”) declined 10% in the third quarter of fiscal 2010 compared to declines in excess of 20% for the past five quarters. However, Company same store sales for the first three weeks of November 2010 declined 10% and declined 2% on Black Friday, November 26, 2010. Improving our same store sales is critical for us to return to profitability in the future.

Net merchandise margins. We analyze the components of net merchandise margins, specifically initial markups and markdowns as a percentage of net sales. Any inability to obtain acceptable levels of initial markups or any significant increase in our use of markdowns could have an adverse impact on our gross margin results and results of operations. We are currently anticipating that increased product sourcing costs from the combination of cotton prices, labor costs and foreign currency values will adversely affect our net merchandise margins for fiscal 2011. See “Inflation” in this section.

Operating margin. We view operating margin, or earnings before interest and income taxes as a percentage of net sales, as a key indicator of our success. The key drivers of operating margins are comparable store net sales, net merchandise margins, and our ability to control operating expenses. For a discussion of the changes in the components comprising operating margins, see “Results of Operations” in this section.

Store sales trends. We evaluate store sales trends in assessing the operational performance of our stores. Important store sales trends include average net sales per store and average net sales per square foot.

Cash flow and liquidity (working capital). We evaluate cash flow from operations, liquidity and working capital to determine our short-term operational financing needs. Based on current forecasts and plans for the year, we believe that our cash flows from operating activities, working capital, credit facility availability, the borrowings discussed below under the caption “Mortgage Transactions,” and other available sources of financing will be sufficient to meet our operating and capital expenditure requirements for at least the next twelve months. We have not borrowed under our Credit Facility since November 2008 and do not currently project any borrowings under such Facility over the next twelve months. For a discussion of the changes in operating cash flows and working capital, see “Liquidity and Capital Resources” in this section.

Critical Accounting Policies

There have been no material changes to our critical accounting policies and estimates from the information provided in Item 7, “Management’s Discussion and Analysis of Financial Condition and Results of Operations” included in our Annual Report on Form 10-K for the fiscal year ended January 30, 2010.

Results of Operations

The following table sets forth selected income statement data expressed as a percentage of net sales for the fiscal periods indicated. The discussion that follows should be read in conjunction with the following table:

		Third Quarter Ended								First Three Quarters Ended
		October 30, 2010				October 31, 2009				October 30, 2010				October 31, 2009
Net sales			100.0	%			100.0	%			100.0	%			100.0	%
Cost of goods sold, including buying, distribution and occupancy costs			75.0				72.6				76.4				73.8
Gross margin			25.0				27.4				23.6				26.2
Selling, general and administrative expenses			27.6				33.4				32.7				33.4
Operating loss			(2.6	)			(6.0	)			(9.1	)			(7.2	)
Other expense, net			0.2				0.0				0.1				0.0
Loss before income taxes			(2.8	)			(6.0	)			(9.2	)			(7.2	)
Income tax (benefit)/provision			(0.1	)			(1.9	)			0.0				(2.6	)
Net loss			(2.7	)%			(4.1	)%			(9.2	)%			(4.6	)%
Number of stores open at end of period			877				904
Total square footage (in 000s)			3,400				3,494

The third quarter (13 weeks) ended October 30, 2010, as compared to the third quarter (13 weeks) ended October 31, 2009

Net Sales

Net sales decreased to $258 million for the third quarter of fiscal 2010 from $268 million for the third quarter of fiscal 2009. The components of this $10 million decrease in net sales are as follows:

$ millions				Attributable to
$	(7	)		3% decline in comparable store net sales in the third quarter of fiscal 2010, compared to the third quarter of fiscal 2009, due to a mid-single digit percentage decline in total transactions, partially offset by a low-single digit percentage improvement in the average sale transaction. The improvement in the average sale transaction was driven by a low-single digit percentage increase in units per transaction.
	(6	)		Decrease in sales due to store closures.
	3			Other non-comparable sales including sales from new, expanded or relocated stores not yet included in the comparable store base and e-commerce sales.
$	(10	)		Total

Total comparable store sales of Men’s merchandise increased 4% in the third quarter of fiscal 2010 compared to the third quarter of fiscal 2009, continuing the sequential improvement in the trending of our Men’s business over the past five quarters. The improvement was driven by our renewed focus on featuring our heritage brands and improved product presentation in the stores. Total comparable store sales of Women’s merchandise declined 10% versus the third quarter of fiscal 2009. During the second and third quarters of fiscal 2010, we started modifying our Women’s merchandise assortment to target a slightly older and more fashion-driven teen customer with the goal of improving the sales trending of this business.

Gross Margin

Gross margin, after buying, distribution and occupancy costs, was $64 million for the third quarter of fiscal 2010 versus $73 million for the third quarter of fiscal 2009. As a percentage of net sales, gross margin was 25.0% for the third quarter of fiscal 2010 compared to 27.4% for the third quarter of fiscal 2009. The components of this 2.4% decrease in gross margin as a percentage of net sales were as follows:

%				Attributable to
	(2.5	)		Decrease in merchandise margin as a percentage of sales primarily due to a decrease in initial markups and increases in markdowns, particularly within denim and wovens.
	(0.3	)		Deleverage of occupancy costs as a result of the negative 3% same-store sales for the third quarter of fiscal 2010. Occupancy costs were $47 million in the third quarter of fiscal 2010 compared to $48 million in the third quarter of fiscal 2009.
	0.4			Decrease in buying and distribution costs to $10 million in the third quarter of fiscal 2010 compared to $11 million in the third quarter of fiscal 2009.
	(2.4	)		Total

Selling, General and Administrative Expenses

Selling, general and administrative expenses (“SG&A”) decreased to $71 million for the third quarter of fiscal 2010 from $89 million for the third quarter of fiscal 2009, a decrease of $18 million, or 20%. These expenses decreased to 27.6% as a percentage of net sales in the third quarter of fiscal 2010 from 33.4% in the third quarter of fiscal 2009. The components of this 5.8% decrease in SG&A as a percentage of net sales were as follows:

%				Attributable to
	(2.8	)		Decrease in non-cash asset impairment charges to $2 million in the third quarter of fiscal 2010 from $9 million in the third quarter of fiscal 2009.
	(1.6	)		Decrease in payroll and payroll-related expenses as a percentage of sales. Payroll and payroll-related expenses were $40 million in the third quarter of fiscal 2010 and $46 million in the third quarter of fiscal 2009 due to managing these expenses to a lower sales base.
	(1.4	)		Decrease in all other SG&A expenses as a percentage of sales. In dollars, all other SG&A expenses were $29 million in the third quarter of fiscal 2010 compared to $34 million in the third quarter of fiscal 2009, primarily due to lower depreciation.
	(5.8	)		Total

We evaluate the recoverability of the carrying amount of long-lived assets (primarily store property and equipment) whenever events or changes in circumstances indicate that the carrying amount of an asset may not be fully recoverable. Should comparable store net sales and gross margin continue to decline, we may record additional non-cash impairment charges within selling, general and administrative expenses for underperforming stores in future quarters.

Income Taxes

We recognized income tax benefits of $0.2 million and $5 million for the third quarters of fiscal 2010 and 2009, respectively. The effective income tax rate was 2.4% in the third quarter of fiscal 2010 versus 31.6% in the third quarter of fiscal 2009. The difference in the effective income tax rate was primarily attributable to maintaining the valuation allowance against our deferred tax assets in the third quarter of fiscal 2010, which was initially established in the fourth quarter of fiscal 2009. For further information, see Note 8 to the Condensed Consolidated Financial Statements included in this Quarterly Report on Form 10-Q.

Net Loss and Net Loss Per Share

Our net loss for the third quarter of fiscal 2010 was $7.0 million, or $(0.11) per share, versus a net loss of $10.9 million, or $(0.17) per share, for the third quarter of fiscal 2009. Amounts for the third quarter of fiscal 2010 include a $2.6 million valuation allowance against our deferred tax assets. On a non-GAAP basis, excluding the impact of this valuation allowance and using a normalized 39% income tax rate, our net loss for the third quarter of fiscal 2010 was $4.3 million, or $(0.07) per share.

About Non-GAAP Financial Measures

The preceding paragraph contains non-GAAP financial measures, including non-GAAP net loss and non-GAAP net loss per share for the third quarter of fiscal 2010. Non-GAAP financial measures should not be considered as a substitute for, or superior to, measures of financial performance prepared in accordance with GAAP. These non-GAAP financial measures do not reflect a comprehensive system of accounting, differ from GAAP measures with the same names, and may differ from non-GAAP financial measures with the same or similar names that are used by other companies. We compute non-GAAP financial measures using a consistent methodology from quarter to quarter and year to year. We may consider whether other significant items that arise in the future should be excluded from the non-GAAP financial measures.

We excluded a deferred tax asset valuation allowance charge in presenting a non-GAAP net loss amount and per share amount above under the caption “Net Loss and Net Loss Per Share.” We believe that these non-GAAP financial measures provide meaningful supplemental information regarding our operating results primarily because

they exclude amounts that are not considered part of ongoing operating results when planning and forecasting and when assessing the performance of the organization, individual operating segments or our senior management. In addition, we believe that non-GAAP financial information is used by analysts and others in the investment community to analyze our historical results and to provide estimates of future performance versus the results and estimates of others. We believe that failure to report these non-GAAP measures excluding the impact of the valuation allowance could result in confusion among investors and analysts by creating a misplaced perception that our results have underperformed or exceeded expectations.

The first three quarters (39 weeks) ended October 30, 2010, as compared to the first three quarters (39 weeks) ended October 31, 2009

Net Sales

Net sales decreased to $667 million for the first three quarters of fiscal 2010 from $735 million for the first three quarters of fiscal 2009. The components of this $68 million decrease in net sales are as follows:

$ millions				Attributable to
$	(60	)		9% decline in comparable store net sales in the first three quarters of fiscal 2010, compared to the first three quarters of fiscal 2009, due to a low-teens percentage decline in total transactions, partially offset by a mid-single digit percentage improvement in the average sale transaction. The improvement in the average sale transaction was driven by a mid-single digit percentage increase in average unit retail prices as a result of improved full-price selling.
	(17	)		Decrease in sales due to store closures.
	9			Other non-comparable sales including sales from new, expanded or relocated stores not yet included in the comparable store base and e-commerce sales.
$	(68	)		Total

Total comparable store sales of Men’s merchandise increased 2% in the first three quarters of fiscal 2010 compared to the first three quarters of fiscal 2009. The improvement was driven by our renewed focus on featuring heritage brands and improved product presentation in the stores. Total comparable store sales of Women’s merchandise declined 19% in the first three quarters of 2010 versus the same period in fiscal 2009. During the second and third quarters of fiscal 2010, we have started modifying our Women’s merchandise assortment to target a slightly older and more fashion-driven teen customer with the goal of improving the sales trending of this business.

Gross Margin

Gross margin, after buying, distribution and occupancy costs, was $158 million for the first three quarters of fiscal 2010 versus $192 million for the first three quarters of fiscal 2009. As a percentage of net sales, gross margin was 23.6% for the first three quarters of fiscal 2010, compared to 26.2% for the first three quarters of fiscal 2009. The components of this 2.6% decrease in gross margin as a percentage of net sales were as follows:

%				Attributable to
	(1.9	)		Deleverage of occupancy costs as a result of the negative 9% same-store sales for the first three quarters of fiscal 2010. Occupancy costs were $142 million in the first three quarters of fiscal 2010 and $143 million in the first three quarters of fiscal 2009.
	(0.8	)		Decrease in merchandise margins as a percentage of sales primarily due to decreased initial markups.
	0.1			Decrease in buying and distribution costs to $28 million in the first three quarters of fiscal 2010 compared to $31 million in the first three quarters of fiscal 2009 due to reduced activity associated with lower sales.
	(2.6	)		Total

Selling, General and Administrative Expenses

SG&A decreased to $218 million for the first three quarters of fiscal 2010 from $245 million for the first three quarters of fiscal 2009, a decrease of $27 million, or 11%. These expenses decreased to 32.7% as a percentage of net sales in the first three quarters of fiscal 2010 from 33.4% in the first three quarters of fiscal 2009. The components of this 0.7% decrease in SG&A as a percentage of net sales were as follows:

%				Attributable to
	(1.0	)		Decrease in non-cash asset impairment charges to $8 million in the first three quarters of fiscal 2010 compared to $17 million in the first three quarters of fiscal 2009.
	0.5			Increase in payroll and payroll-related expenses as a percentage of sales. In dollars, payroll and payroll-related expenses were $124 million in the first three quarters of fiscal 2010 compared to $133 million in the first three quarters of fiscal 2009 due to managing these expenses to a lower sales base.
	(0.2	)		Decrease in all other SG&A expenses as a percentage of sales. In dollars, all other SG&A expenses declined to $85 million in the first three quarters of fiscal 2010 from $95 million in the first three quarters of fiscal 2009, primarily due to lower depreciation.
	(0.7	)		Total

We evaluate the recoverability of the carrying amount of long-lived assets (primarily store property and equipment) whenever events or changes in circumstances indicate that the carrying amount of an asset may not be fully recoverable. Should comparable store net sales and gross margin continue to decline, we may record additional non-cash impairment charges within selling, general and administrative expenses for underperforming stores in future quarters.

Income Taxes

We recognized income tax expense of $0.4 million and income tax benefit of $19 million for the first three quarters of fiscal 2010 and 2009, respectively. The effective income tax rate was (0.6)% in the first three quarters of fiscal 2010, versus 36.5% in the first three quarters of fiscal 2009. The difference in the effective income tax rate was primarily attributable to maintaining the valuation allowance against our deferred tax assets in the first three quarters of fiscal 2010, which was initially established in the fourth quarter of fiscal 2009. As a result of recording income tax provisions for certain state and local tax jurisdictions against our pre-tax operating losses, the effective income tax rate was negative in the first three quarters of fiscal 2010. For further information, see Note 8 to the Condensed Consolidated Financial Statements included in this Quarterly Report on Form 10-Q.

Net Loss and Net Loss Per Share

Our net loss for the first three quarters of fiscal 2010 was $61.5 million, or $(0.93) per share, versus a net loss of $33.8 million, or $(0.52) per share, for the first three quarters of fiscal 2009. Amounts for the first three quarters of fiscal 2010 include a $22.9 million valuation allowance against our deferred tax assets. On a non-GAAP basis, excluding the impact of this valuation allowance and using a normalized 37% income tax rate, our net loss for the first three quarters of fiscal 2010 was $38.5 million, or $(0.58) per share.

About Non-GAAP Financial Measures

The preceding paragraph contains non-GAAP financial measures, including non-GAAP net loss and non-GAAP net loss per share for the first three quarters of fiscal 2010. Non-GAAP financial measures should not be considered as a substitute for, or superior to, measures of financial performance prepared in accordance with GAAP. These non-GAAP financial measures do not reflect a comprehensive system of accounting, differ from GAAP measures with the same names, and may differ from non-GAAP financial measures with the same or similar names that are used by other companies. We compute non-GAAP financial measures using a consistent methodology from quarter to quarter and year to year. We may consider whether other significant items that arise in the future should be excluded from the non-GAAP financial measures.

We excluded a deferred tax asset valuation allowance charge in presenting a non-GAAP net loss amount and per share amount above under the caption “Net Loss and Net Loss per Share.” We believe that these non-GAAP financial measures provide meaningful supplemental information regarding our operating results primarily because they exclude amounts that are not considered part of ongoing operating results when planning and forecasting and when assessing the performance of the organization, individual operating segments or our senior management. In addition, we believe that non-GAAP financial information is used by analysts and others in the investment community to analyze our historical results and to provide estimates of future performance versus the results and estimates of others. We believe that failure to report these non-GAAP measures excluding the impact of the

valuation allowance could result in confusion among investors and analysts by creating a misplaced perception that our results have underperformed or exceeded expectations.

Liquidity and Capital Resources

We have historically financed our operations primarily from internally generated cash flow, with occasional short-term borrowings. Our primary capital requirements have historically been for the financing of inventories and store construction. Based on current forecasts and plans for the year, we believe that our cash flows from operating activities, working capital, credit facility availability, the borrowings discussed below under the caption “Mortgage Transactions,” and other available sources of financing will be sufficient to meet our operating and capital expenditure requirements for at least the next twelve months. We have not borrowed under our Credit Facility since early November 2008 and do not currently project any borrowings under such Facility over the next twelve months.

(In thousands)
THREE QUARTERS ENDED		October 30, 2010				October 31, 2009
Net cash (used in)/provided by operating activities		$	(62,199	)		$	6,228
Net cash used in investing activities			(15,544	)			(15,807	)
Net cash provided by financing activities			28,627				367
Net decrease in cash and cash equivalents		$	(49,116	)		$	(9,212	)

Operating Cash Flows

Net cash used in operating activities for the first three quarters of fiscal 2010 was $62 million. We used $8 million of cash in operations (net of non-cash charges), before changes in operating assets and liabilities. In addition, operating cash flows decreased $54 million from changes in operating assets and liabilities primarily due to increases in merchandise inventories of $38 million (net of accounts payable) due to the seasonal variation between the peak Holiday selling season and the annual low point for inventories at the end of the fiscal year. Additionally, operating cash flows decreased $16 million primarily due to a reduction in other current liabilities of $8 million and amortization of deferred lease incentives of $8 million.

Net cash provided by operating activities for the first three quarters of fiscal 2009 was $6 million. Cash provided by operations (net of non-cash charges), before changes in operating assets and liabilities, was $40 million. Operating cash flows decreased $34 million from changes in operating assets and liabilities primarily due to increases in merchandise inventories of $43 million (net of accounts payable) due to the seasonal variation between the peak Holiday selling season and the annual low point for inventories at the end of the fiscal year. Additionally, operating cash flows decreased $19 million primarily due to amortization of deferred lease incentives of $10 million and a reduction of other current liabilities of $9 million. Offsetting these cash flow decreases was a receipt of a $28 million federal tax refund.

Working Capital

Working capital at October 30, 2010 was $114 million compared to $117 million at January 30, 2010, a decrease of $3 million. The changes in working capital were as follows:

$ millions				Description
$	117			Working capital at January 30, 2010
	(49	)		Decrease in cash and cash equivalents (see Condensed Consolidated Statements of Cash Flows).
	38			Increase in merchandise inventories, net of accounts payable, from fiscal year end due to planned receipt flows.
	8			Decrease in other current liabilities, primarily accrued liabilities.
$	114			Working capital at October 30, 2010

Investing Cash Flows

Net cash used in investing activities in the first three quarters of both fiscal 2010 and fiscal 2009 was $16 million. Investing cash flows for the first three quarters of fiscal 2010 were comprised entirely of capital expenditures. Investing cash flows for the first three quarters of fiscal 2009 were comprised of capital expenditures of $20 million offset by proceeds from the sale of land of approximately $4 million. We expect total capital expenditures for fiscal 2010 to be approximately $20 million.

Financing Cash Flows

Net cash provided by financing activities in the first three quarters of fiscal 2010 was $29 million compared to $0.4 million in the first three quarters of fiscal 2009. In fiscal 2010, cash flows from financing were primarily comprised of proceeds received from the mortgage debt transactions discussed in Note 7 to the Condensed Consolidated Financial Statements included in this Quarterly Report on Form 10-Q. In fiscal 2009, cash flows from financing activities were comprised primarily of proceeds from the exercise of stock options.

Credit Facility

Information regarding our credit facility is contained in Note 5 to the Condensed Consolidated Financial Statements and is incorporated herein by reference.

Mortgage Transactions

On August 20, 2010, through our wholly-owned subsidiaries, Miraloma Borrower Corporation, a Delaware corporation, and Pacific Sunwear Stores Corp., a California corporation, we executed two promissory notes pursuant to which borrowings in an aggregate amount of $29.8 million from American National Insurance Company were incurred. Additional information regarding these transactions is contained in Note 7 to the Condensed Consolidated Financial Statements and is incorporated herein by reference.

Contractual Obligations

We have minimum annual rental commitments under existing store leases as well as a minor amount of equipment leases. We lease all of our retail store locations under operating leases. We lease primarily computer equipment under both capital and operating leases. From time to time, we also enter into agreements to license trademarks and are required to pay guaranteed minimum royalties. In addition, at any time, we are contingently liable for commercial letters of credit with foreign suppliers of merchandise. At October 30, 2010, our future financial commitments under all existing contractual obligations were as follows:

						Payments Due by Period (in $ millions)
						Less												More
						than 1				1-3				3-5				than 5
Contractual Obligations		Total				year				years				years				years
Operating lease obligations		$	456			$	90			$	149			$	110			$	107
Mortgage debt			30				1				1				1				27
Letters of credit			19				19				—				—				—
Guaranteed minimum royalties			5				<1				3				2				—
Capital lease obligations			<1				<1				<1				—				—
Uncertain tax contingencies ASC 740 (FIN 48)			<1				—				<1				—				—
Total		$	512			$	111			$	154			$	113			$	134

Over the next three fiscal years through 2013, we will have approximately 50% of our store leases reach the end of their original lease term. These leases will either be renewed or extended, potentially at different rates, or be allowed to expire. Generally, lease renewals for stores with lower sales volumes are for one to three years while lease renewals for stores with higher sales volumes are for five to ten years. As a result, depending on market conditions, actual future rental commitments and the time frame of such commitments may differ significantly from those shown in the table above.

The contractual obligations table above does not include common area maintenance (“CAM”) charges, which are also a required contractual obligation under our store operating leases. In many of our leases, CAM charges are not fixed and can fluctuate significantly from year to year for any particular store. Total store rental expenses, including CAM, for fiscal 2009 were $164 million. Total CAM expenses may continue to fluctuate significantly from year to year as long-term leases come up for renewal at current market rates in excess of original lease terms and as we continue to close stores.

We lease our retail stores and certain equipment under operating lease agreements expiring at various dates through April 2021. Substantially all of our retail store leases require us to pay minimum rent, CAM charges, insurance, property taxes and additional percentage rent based on sales volumes exceeding certain minimum sales levels. The initial terms of such leases are typically seven to ten years for new stores, many of which contain renewal options exercisable at our discretion. Most leases also contain rent escalation clauses that come into effect at various times throughout the lease term. Rent expense is recorded under the straight-line method over the life of the lease. Other rent escalation clauses can take effect based on changes in primary mall tenants throughout the term of a given lease. Most leases also contain cancellation or kick-out clauses in our favor that relieve us of any future obligation under a lease if specified sales levels are not achieved by a specified date. None of our retail store leases contain purchase options.

We review the operating performance of our stores on an ongoing basis to determine which stores, if any, to expand, relocate or close. We closed 19 stores in the first three quarters of fiscal 2010. We currently anticipate closing approximately 45 stores for all of fiscal 2010.

The uncertain tax contingencies ASC 740 (FIN 48) shown in the table above represent uncertain tax positions related to temporary differences. The years for which the temporary differences related to the uncertain tax positions will reverse have been estimated in scheduling the obligations within the table.

Indemnifications

In the ordinary course of business, we may provide indemnifications of varying scope and terms to customers, vendors, lessors, business partners and other parties with respect to certain matters, including, but not limited to, losses arising out of our breach of such agreements, services to be provided by us, or intellectual property infringement claims made by third parties. In addition, we have entered into indemnification agreements with our directors and certain of our officers that will require us, among other things, to indemnify them against certain liabilities that may arise by reason of their status or service as directors or officers. We maintain director and officer insurance, which may cover certain liabilities arising from our obligation to indemnify our directors and officers in certain circumstances.

It is not possible to determine our maximum potential liability under these indemnification agreements due to the limited history of prior indemnification claims and the unique facts and circumstances involved in each particular agreement. Such indemnification agreements may not be subject to maximum loss clauses. Historically, we have not incurred material costs as a result of obligations under these agreements.

Off-Balance Sheet Arrangements

We have not entered into any transactions with unconsolidated entities whereby we have financial guarantees, subordinated retained interests, derivative instruments, or other contingent arrangements that expose us to material continuing risks, contingent liabilities, or any other obligation under a variable interest in an unconsolidated entity that provides financing, liquidity, market risk, or credit risk support to us.

Recent Accounting Pronouncements

Information regarding recent accounting pronouncements is contained in Note 3 to the Condensed Consolidated Financial Statements and is incorporated herein by reference.

Inflation

We do not believe that inflation has had a material effect on our results of operations in the recent past. However, we are currently anticipating that product sourcing costs will increase during 2011 due to a combination of increases in cotton, labor and currency costs. We currently estimate that these cost increases will adversely affect our net merchandise margins in fiscal 2011. We intend to at least partially mitigate this through a combination of initiatives such as better product assortments, refined pricing strategies, localization initiatives, and detailed reviews of product specifications.

Seasonality and Quarterly Results

Our business is seasonal by nature. Our first quarter historically accounts for the smallest percentage of annual net sales with each successive quarter contributing a greater percentage than the last. In recent years, approximately 45% of our net sales have occurred in the first half of the fiscal year and 55% have occurred in the second half, with the Back-to-School and Holiday selling periods accounting for approximately 30-35% of our annual net sales. Our quarterly results of operations may also fluctuate significantly as a result of a variety of factors, including variability in same-store sales; the timing and level of markdowns; the timing of store closings, expansions and relocations; competitive factors; and general economic conditions.

ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK.

We are exposed to interest rate risk from the Credit Facility (see Note 5 to the Condensed Consolidated Financial Statements). Direct borrowings under the Credit Facility bear interest at the administrative agent’s alternate base rate (as defined, 3.5% at October 30, 2010) or at optional interest rates that are primarily dependent upon LIBOR or the federal funds effective rate for the time period chosen. At October 30, 2010, we had no direct borrowings outstanding under the Credit Facility.

A sensitivity analysis was performed to determine the impact of unfavorable changes in interest rates on our cash flows. The sensitivity analysis quantified that the estimated potential cash flow impact would be less than $10,000 in additional interest expense (for each $1 million borrowed) if interest rates were to increase by 10% over a three-month period. Actual interest charges incurred may differ from those estimated because of changes or differences in market rates, differences in amounts borrowed, timing and other factors. We are not a party with respect to derivative financial instruments.

ITEM 4. CONTROLS AND PROCEDURES.

Under the supervision and with the participation of our management, including our principal executive officer and principal financial officer, we conducted an evaluation of our disclosure controls and procedures, as such term is defined under Rule 13a-15(e) and 15d-15(e) promulgated under the Exchange Act. These disclosure controls and procedures are designed to provide reasonable assurance that the information required to be disclosed by us in the reports that we file or submit under the Exchange Act is recorded, processed, summarized and reported within the time periods specified by the Securities and Exchange Commission’s rules and forms. Our disclosure controls and procedures are also designed to provide reasonable assurance that information required to be disclosed in the reports that we file or submit under the Exchange Act is accumulated and communicated to our management, including our principal executive officer and principal financial officer, as appropriate to allow timely decisions regarding required disclosures. Based on this evaluation, our principal executive officer and our principal financial officer concluded that our disclosure controls and procedures were effective at a reasonable assurance level as of October 30, 2010.

No change in our internal control over financial reporting occurred during the most recent fiscal quarter that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting.

PART II — OTHER INFORMATION

Item 1. Legal Proceedings.

For information on legal proceedings see “Litigation” within Note 10 to the Condensed Consolidated Financial Statements, which information is incorporated herein by reference.

Item 1A. Risk Factors.

We have included in Part I, Item 1A of our Annual Report on Form 10-K for the year ended January 30, 2010, and Part II, Item 1A of our Quarterly Report on Form 10-Q for the period ended July 31, 2010, a description of certain risks and uncertainties that could affect our business, future performance or financial condition (the “Risk Factors”). We believe there are no material changes from the disclosure provided in such Reports with respect to the Risk Factors. Investors should consider the Risk Factors prior to making an investment decision with respect to the Company’s stock.

Item 2. Unregistered Sales of Equity Securities and Use of Proceeds.

None.

Item 3. Defaults Upon Senior Securities.

None.

Item 4. Reserved.

Item 5. Other Information.

None.

Item 6. Exhibits.

				Incorporated by
				Reference
Exhibit #		Exhibit Description		Form		Filing Date
3.1		Third Amended and Restated Articles of Incorporation of the Company		10-Q		8/31/04
3.2		Certificate of Determination of Preferences of Series A Junior Participating Preferred Stock of the Company		8-K		12/24/98
3.3		Fifth Amended and Restated Bylaws of the Company		8-K		4/3/09
31.1+		Written statements of Gary H. Schoenfeld and Michael L. Henry pursuant to section 302 of the Sarbanes-Oxley Act of 2002
32.1+		Written statement of Gary H. Schoenfeld and Michael L. Henry pursuant to section 906 of the Sarbanes-Oxley Act of 2002

SIGNATURES

Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.