Cato Corporation
Annual Report 2002

Plain-text annual report

The Cato Corporation A N N U A L R E P O R T 2 0 0 2 The Cato Corporation is a leading specialty retailer of value-priced women’s fashion apparel operating two divisions, “Cato” and “It’s Fashion!”. The Company currently operates over 1,030 apparel specialty stores principally in the Southeast. Cato, the core division, primarily offers exclusive merchandise with fashion and quality comparable to mall specialty stores at low prices, every day. Most Cato stores range from 4,000 to 6,000 square feet and are located primarily in strip shopping centers anchored by national discounters or market- dominant grocery stores. It’s Fashion!, the off-price division, provides family fashion apparel and accessories with stores ranging from 3,000 to 4,000 square feet. The Company is headquartered in Charlotte, North Carolina. Fiscal Year (Dollars in thousands, except per share data) F O R T H E Y E A R E N D E D Retail sales Total revenues Comparable store sales increase Income before income taxes Net income Net income as a percent of retail sales Cash dividends paid per share Basic earnings per share Diluted earnings per share Number of stores Number of stores opened Number of stores closed Net increase in number of stores F I N A N C I A L H I G H L I G H T S 2002 2001 2000 1999 1998 $ 732,742 748,331 $ 685,653 699,321 $ 648,482 662,537 $ 585,085 598,240 $ 524,381 538,153 0% 71,839 45,833 6.3% .585 1.80 1.77 1,022 90 5 85 1% 66,286 43,086 6.3% .53 1.71 1.66 937 85 7 78 3% 60,042 39,027 6.0% .425 1.56 1.53 859 65 15 50 4% 2% 51,975 33,931 5.8% .28 1.28 1.26 809 83 6 77 36,795 23,917 4.6% .19 .87 .85 732 52 13 39 AT Y E A R E N D Cash, cash equivalents and investments $ 106,936 162,609 Working capital 2.7 Current ratio 383,410 Total assets 270,164 Stockholders’ equity $ 84,695 139,633 2.7 332,041 234,698 $ 83,112 125,724 2.4 310,742 207,757 $ 87,275 124,988 2.5 285,789 188,780 $ 86,209 124,024 2.7 258,513 172,234 3 3 7 6 $ 8 6 8 $ 4 6 $ 5 8 5 $ 4 2 5 $ 6 4 3 $ 4 9 $ 3 $ 4 3 $ 4 2 $ 7 7 . 1 $ 6 6 . 1 $ 3 5 . 1 $ 6 2 . 1 $ 5 8 . $ 98 99 00 01 02 Retail Sales (in millions) 98 99 00 01 02 Net Income (in millions) 98 99 00 01 02 Earnings (Diluted) per share For Cato customers, it has been another exciting year of new fashions, high quality and exceptional value. For Cato shareholders, it has been another successful year of solid earnings, continued expansion and consistent growth. Some things you can always count on from Cato. TA B L E O F C O N T E N T S Financial Highlights Inside Cover Consolidated Financial Statements 14 Letter to our Shareholders Operations Selected Financial Data Management’s Discussion and Analysis of Financial Condition and Results of Operations 2 4 10 11 Notes to Consolidated Financial Statements Independent Auditors’ Report Management Executive Group and Board of Directors Corporate Information 18 27 28 29 T H E C AT O C O R P O R AT I O N PA G E 1 a message to our shareholders Last year was challenging for Cato as well as most retailers. However, through the efforts of our 8,800 associates, Cato increased earnings and achieved record results in this difficult year. In fact, 2002 was the Company’s fourth consecutive year of record earnings and sixth consecutive year of earnings growth. Earnings improved to $45.8 million and $1.77 per share, a 6% increase in net income and a 7% increase in EPS over 2001. Cato remains financially strong with a debt-free balance sheet and $107 million in cash and short-term investments. Our earnings improvement in 2002 and a number of other significant accomplishments provide strong insight into what makes Cato a consistent performer. Shareholders can count on Cato to execute its strategies to deliver consistent growth, improve earnings, and increase shareholder value over the long term, and deliver fashion, quality, and value to our customers every day. Cato has returned a portion of its profits to shareholders through dividends for each of the last 11 years. In 2002, we continued to deliver value to shareholders by distributing $14.9 million in dividends and repurchasing shares under our stock repurchase program. Our current annualized dividend of $.60 per share has more than tripled since 1997. In 2002, we opened 90 new stores, relocated 26 stores, remodeled 24 stores, and closed five stores under our store development program. We opened new stores in our current geography as well as new markets. We expanded into Iowa and Arizona and now have stores in 26 states. T H E C AT O C O R P O R AT I O N PA G E 2 The Company reached a significant milestone in 2002 by opening its 1,000th store in Charleston, South Carolina, not far from where the first Cato stores opened fifty-six years ago. We finalized a new store prototype that improves the customer shopping experience and makes our stores a more inviting place to shop. We simplified the design and added natural wood elements to create a timeless look that will transcend fashion trends. We implemented an enterprise-wide system that integrates our merchandising and financial systems and will provide better information. This system will allow us to continue to improve our overall inventory management and store merchandise allocations. During 2002, the Company moved to the New York Stock Exchange. Our shareholders benefit from greater visibility in the financial community and increased liquidity in the trading of our stock. Cato’s core strategies have not changed. We continue to offer our customers a broad assortment of high quality, fashionable merchandise at low prices every day. We build our stores with an easy-to- shop format in convenient strip shopping centers. Our assortment appeals to a broad demographic profile and requires a minimum trade area of only 20,000 people. This allows us to serve communities in small, middle, and metropolitan markets. We adhere to a disciplined real estate approach that helps ensure that every store, regardless of the market size, is profitable. We continually work to refine these strategies, improve our execution, and strengthen our business over the long term. Our strong financial position and a focused approach allow us to leverage our existing infrastructure to further improve earnings. Our goal is to deliver consistent value in everything we do, whether it is in the merchandise we offer our customers or the return we provide our shareholders. During 2003, we expect to open 90 stores in our new prototype to drive sales and further enhance our customers’ shopping experience by relocating and remodeling stores. We remain committed to our long-term goal of growing both earnings and dividends at an annual rate of 10%. Delivering value – whether you are a customer or a shareholder, you can count on it at Cato. 9 5 $ . 3 5 . $ 3 4 . $ 8 2 . $ 9 1 . $ 98 99 00 01 02 Dividends per share John P. Derham Cato President, Vice Chairman of the Board and Chief Executive Officer T H E C AT O C O R P O R AT I O N PA G E 3 Style you can count on. Providing our customers fashionable merchandise at an exceptional value and delivering friendly service in an inviting place to shop – that’s Cato style. Our merchandising and product development teams work together to identify styles, colors, and fabrics that appeal to our customer. They seek out the latest fashions from across the U.S. and around the world and then adapt these global trends to her needs. The merchandise we offer not only meets her fashion and quality expectations, but by using fabrics that are long lasting and easy to care for, it also meets the demands of today’s fast-paced world. We deliver new merchandise to every store on a weekly basis, so our customer can see new fashions and styles each time she visits the store. The construction of our garments is tightly controlled to provide our customer with an assurance that they will find a reliable fit no matter what selection they make. We use live models to develop standardized sizes across all of our assortments. If a customer finds a size 10 skirt that fits her, she can be assured that fit will be consistent in any size 10 item she selects to complete her outfit. Our new store prototype was created to increase customer awareness of Cato as a leading fashion apparel and accessory store. We simplified the design and added natural wood elements to create a timeless look that will transcend fashion trends. We increased the sales floor unit capacity while giving our customer a better place to shop. We are known for our wide assortment of fashionable casual, work, and weekend apparel. By shopping fashion markets in New York, Los Angeles, Montreal, and Europe, we gather valuable trend and fashion insights for exciting new products. And this dress is no exception. T H E C AT O C O R P O R AT I O N PA G E 5 Synergy – Our sportswear is designed to be completely interchangeable and versatile. Many of the patterns we produce are exclusively ours and give our customers fashion magazine looks at a fraction of the price. Value you can count on. We provide value every day. From product development and sourcing, to our low price policy and how we run our stores, everything we do is designed to provide value to our customers. Several years ago, we adopted a low price every day strategy that continues to provide our customers exceptional value. We work hard to maintain an efficient, low cost structure to keep prices low for our customers and increase earnings for our shareholders. With low prices every day, we save money by not needing to advertise. Instead, our customer knows she pays the lowest price every day on every item and never has to wait for a sale. And, we use those savings to further improve the quality of our merchandise and deliver it at great prices every day. We offer exceptional value through a combination of fashion, quality, and price. We save our customers time and money. 0 7 2 $ 5 3 2 $ 8 0 2 9 $ 8 1 2 $ 7 1 $ 98 99 00 01 02 Shareholders’ Equity (in millions) T H E C AT O C O R P O R AT I O N PA G E 7 Performance you can count on. Consistent growth and profitability is something shareholders have come to count on from Cato. In robust economic times, many businesses can generate profits. However, during tough economic times, sound strategies and superior execution are required to succeed and improve performance. Even in the current economic downturn, Cato has continued to reward both associates and shareholders. Over the last three years, earnings have increased over 10% per year on average, the annual dividend has increased over 100%, 2.3 million shares have been repurchased, and we have opened 240 new stores. During this period, cash and short-term investments increased by $20 million to $107 million at the end of 2002. Our long-term goal remains a 10% annual growth rate in earnings and dividends while building a national chain. 2 2 0 1 , 7 3 9 9 5 8 9 0 8 2 3 7 98 99 00 01 02 Number of Stores (at year end) You can count on Cato to bring the latest trends in style, fabric, and color to our customers at low prices every day. Our garments are well made and our colors coordinate across all styles and fabrics. We use live fit models so our customers can be assured that the fit will always be right. T H E C AT O C O R P O R AT I O N PA G E 9 S E L E C T E D F I N A N C I A L D ATA 2002 2001 2000 1999 1998 $ 732,742 15,589 748,331 496,345 236,397 $ 685,653 13,668 699,321 466,366 219,287 $ 648,482 14,055 662,537 445,407 203,075 $ 585,085 13,155 598,240 403,655 181,430 $ 524,381 13,772 538,153 371,005 153,376 32.3% 168,914 32.0% 162,082 31.3% 154,150 31.0% 140,741 29.2% 128,207 23.1% 14,913 (3,680) 71,839 26,006 23.6% 10,886 (6,299) 66,286 23,200 23.8% 9,492 (6,554) 60,042 21,015 24.0% 8,639 (6,770) 51,975 18,191 24.4% 7,638 (5,492) 36,795 12,878 45,833 43,086 39,027 33,784 23,917 – 45,833 1.80 1.77 .585 $ $ $ $ – $ 43,086 1.71 $ 1.66 $ .53 $ – $ 39,027 1.56 $ 1.53 $ .425 $ 147 $ 33,931 1.28 $ 1.26 $ .28 $ – $ 23,917 .87 $ .85 $ .19 $ Fiscal Year (Dollars in thousands, except per share data and selected operating data) S TAT E M E N T O F O P E R AT I O N S D ATA : Retail sales Other income Total revenues Cost of goods sold Gross margin Gross margin percent Selling, general and administrative Selling, general and administrative percent of retail sales Depreciation Interest and other income, net Income before income taxes and cumulative effect of accounting change Income tax expense Income before cumulative effect of accounting change Cumulative effect of accounting change, net of taxes Net income Basic earnings per share Diluted earnings per share Cash dividends paid per share S E L E C T E D O P E R AT I N G D ATA : Stores open at end of year Average sales per store Average sales per square foot of selling space Comparable store sales increase 1,022 $ 753,000 184 $ 937 $ 767,000 186 $ 859 $ 781,000 187 $ 809 $ 756,000 177 $ 732 $ 740,000 169 $ 0% 1% 3% 4% 2% B A L A N C E S H E E T D ATA : Cash, cash equivalents and investments Working capital Total assets Total stockholders’ equity $ 106,936 162,609 383,410 270,164 $ 84,695 139,633 332,041 234,698 $ 83,112 125,724 310,742 207,757 $ 87,275 124,988 285,789 188,780 $ 86,209 124,024 258,513 172,234 T H E C AT O C O R P O R AT I O N PA G E 1 0 M A N A G E M E N T ’ S D I S C U S S I O N A N D A N A LY S I S OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS R E S U LT S O F O P E R AT I O N S marily from the Company’s write-down of a $1.8 million decline in mar- ket value on investments deemed to be other than temporary. The table below sets forth certain financial data of the Company expressed as a percentage of retail sales for the years indicated: Fiscal Year Ended Retail sales Other income Total revenues Cost of goods sold Selling, general and administrative Depreciation Interest and other income, net Income before income taxes Net income February 1, 2003 100.0% 2.1 102.1 67.7 February 2, 2002 100.0% 2.0 102.0 68.0 February 3, 2001 100.0% 2.1 102.1 68.7 23.1 2.0 (0.5) 9.8 6.3% 23.6 1.6 (0.9) 9.7 6.3% 23.8 1.4 (1.1) 9.3 6.0% F I S C A L 2 0 0 2 C O M P A R E D T O F I S C A L 2 0 0 1 Retail sales increased by 7% to $732.7 million in fiscal 2002 from $685.7 mil- lion in fiscal 2001. Total revenues, comprised of retail sales and other income (principally finance charges and late fees on customer accounts receivable and layaway fees), increased by 7% to $748.3 million in fiscal 2002 from $699.3 million in fiscal 2001. The Company operated 1,022 stores at February 1, 2003 compared to 937 stores operated at February 2, 2002. The increase in retail sales in fiscal 2002 resulted from the Company’s con- tinuation of an everyday low pricing strategy, improved merchandise offerings, and an increase in store development activity. In fiscal 2002, the Company opened 90 new stores, relocated 26 stores, remodeled 24 stores and closed 5 stores. Other income, as included in total revenues in fiscal 2002, increased $1.9 million or 14% over fiscal 2001. The increase resulted primarily from increased earnings from finance and layaway charges. Cost of goods sold was $496.3 million, or 67.7% of retail sales, in fiscal 2002 compared to $466.4 million, or 68.0% of retail sales, in fiscal 2001. The decrease in cost of goods sold as a percent of retail sales resulted primarily from maintaining timely and aggressive markdowns on slow moving merchandise and improving inventory flow and sourcing. Total gross margin dollars (retail sales less cost of goods sold) increased by 8% to $236.4 million in fiscal 2002 from $219.3 million in fiscal 2001. Selling, general and administrative expenses (SG&A) were $168.9 million in fiscal 2002 compared to $162.1 million in fiscal 2001, an increase of 4%. As a percent of retail sales, SG&A was 23.1% compared to 23.6% in the prior year. The overall increase in SG&A resulted prima- rily from increased selling-related expenses and increased infrastructure expenses attributable to the Company’s store development activities. Depreciation expense was $14.9 million in fiscal 2002 compared to $10.9 million in fiscal 2001. The 37% increase in fiscal 2002 resulted pri- marily from the Company’s store development and the implementation of an enterprise-wide information system. Interest and other income, net was $3.7 million in fiscal 2002 compared to $6.3 million in fiscal 2001. The 41% decrease in fiscal 2002 resulted pri- F I S C A L 2 0 0 1 C O M P A R E D T O F I S C A L 2 0 0 0 Retail sales increased by 6% to $685.7 million in fiscal 2001 from $648.5 million in fiscal 2000. The 2001 fiscal year contained 52 weeks versus 53 weeks in fiscal year 2000. On a comparable 52 week basis, total sales increased 7%, and comparable store sales increased 1% from the prior year. Total revenues increased by 6% to $699.3 million in fiscal 2001 from $662.5 million in fiscal 2000. The Company operated 937 stores at February 2, 2002 compared to 859 stores operated at February 3, 2001. The increase in retail sales in fiscal 2001 resulted from the Company’s adoption of an everyday low pricing strategy, improved merchandise offer- ings, and an increase in store development activity. In fiscal 2001, the Company increased its number of stores 9% by opening 85 new stores, relocating 24 stores while closing 7 existing stores. Other income in fiscal 2001 decreased $.4 million or 3% over fiscal 2000. The decrease resulted primarily from decreased earnings from late fee income and lower credit sales. Cost of goods sold was $466.4 million, or 68.0% of retail sales, in fiscal 2001 compared to $445.4 million, or 68.7% of retail sales, in fiscal 2000. The decrease in cost of goods sold as a percent of retail sales resulted pri- marily from maintaining timely and aggressive markdowns on slow moving merchandise and improving inventory flow. Total gross margin dollars increased by 8% to $219.3 million in fiscal 2001 from $203.1 million in fiscal 2000. SG&A expenses were $162.1 million in fiscal 2001 compared to $154.2 million in fiscal 2000, an increase of 5%. As a percent of retail sales, SG&A was 23.6% compared to 23.8% in the prior year. The overall increase in SG&A resulted primarily from increased selling-related expenses and increased infrastructure expenses attributable to the Company’s store development activities. Depreciation expense was $10.9 million in fiscal 2001 compared to $9.5 million in fiscal 2000. The 15% increase in fiscal 2001 resulted pri- marily from the Company’s store development. C R I T I C A L A C C O U N T I N G P O L I C I E S The Company’s accounting policies are more fully described in Note 1 to the Consolidated Financial Statements. As disclosed in Note 1 of Notes to Consolidated Financial Statements, the preparation of the Company’s financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions about future events that affect the amounts reported in the financial statements and accompanying notes. Future events and their effects can- not be determined with absolute certainty. Therefore, the determination of estimates requires the exercise of judgment. Actual results inevitably will differ from those estimates, and such differences may be material to the financial statements. The most significant accounting estimates inherent in the preparation of the Company’s financial statements include the allowance for doubtful accounts receivable, reserves relating to workers’ compensation, general and auto insurance liabilities and reserves for inventory markdowns. T H E C AT O C O R P O R AT I O N PA G E 1 1 M A N A G E M E N T ’ S D I S C U S S I O N A N D A N A LY S I S OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS The Company evaluates the collectibility of accounts receivable and records allowances for doubtful accounts based on estimates of actual write-offs and the relative age of accounts. The Company’s self-insurance liabilities related to worker’s compensation, general and auto insurance lia- bilities are based on estimated costs of claims filed and claims incurred but not reported and data provided by outside actuaries. Merchandise invento- ries are stated at the lower of cost (first-in, first-out method) or market as determined by the retail method. Management makes estimates regarding markdowns based on customer demand which can impact inventory valu- ations. Historically, actual results have not significantly deviated from those determined using the estimates described above. L I Q U I D I T Y, C A P I TA L R E S O U R C E S A N D M A R K E T R I S K The Company believes that its cash, cash equivalents and short-term investments, together with cash flows from operations and borrowings available under its revolving credit agreement, will be adequate to fund the Company’s proposed capital expenditures and other operating require- ments over the next twelve months. At February 1, 2003, the Company had working capital of $162.6 million compared to $139.6 million at February 2, 2002. Net cash provided by operating activities was $63.7 million in fiscal 2002 compared to $47.1 million in fiscal 2001. The increase in net cash provided by operating activ- ities in fiscal 2002 is primarily the result of an increase in net income of $2.7 million which included a non-cash charge of $1.8 million of losses taken on investments and an increase in depreciation expense of $4.0 mil- lion due to store expansion and an enterprise-wide merchandise and finance system; a reduction in accounts receivable from weak fourth quar- ter sales and strong collection efforts of $4.6 million; and an increase in accounts payable, accrued expenses and other liabilities of $13.3 million primarily due to timing of payments. Offsetting these increases in net cash provided by operating activities was an increase in merchandise inventory to meet our store growth of $11.8 million. Net cash used in investing activities was $61.5 million in fiscal 2002 com- pared to $10.4 million in fiscal 2001. The increase in net cash used in investing activities in fiscal 2002 was primarily due to a reduction of cash provided by sales of short-term investments of $37.5 million as well as increased purchases of short-term investments of $10.4 million. Net cash used in financing activities was $11.9 million in fiscal 2002 com- pared to $20.1 million in fiscal 2001. The decrease in net cash used in financing activities in fiscal 2002 was primarily due to a reduction in treas- ury stock purchases of $10.5 million offset by an increase in dividends paid of $1.5 million. At February 1, 2003, the Company had $106.9 million in cash, cash equivalents and short-term investments, compared to $84.7 million at February 2, 2002. Additionally, the Company had $1.7 million invested in privately managed investment funds at February 1, 2003, which are reported under other assets of the consolidated balance sheets. maintenance of specific financial ratios with which the Company was in compliance. There were no borrowings outstanding under the agreement during the fiscal year ended February 1, 2003 or February 2, 2002. The Company had approximately $6.5 million and $4.3 million at February 1, 2003 and February 2, 2002, respectively, of outstanding irrevocable letters of credit relating to purchase commitments. Expenditures for property and equipment totaled $29.0 million, $25.7 million and $27.2 million in fiscal 2002, 2001 and 2000, respec- tively. The expenditures for fiscal 2002 were primarily for store development, store remodels and investments in new technology for an enterprise-wide information system for merchandising and finance. In fis- cal 2003, the Company is planning to invest approximately $25 million for capital expenditures. This includes expenditures to open 90 new stores, relocate 25 stores and close 10 stores. In addition, the Company plans to remodel 30 stores and has planned for additional investments in technol- ogy scheduled to be implemented over the next 12 months. During 2002, the Company repurchased 66,000 shares of Class A Common Stock for $1.2 million, or an average price of $17.98 per share. Additionally, for the fiscal years ended February 1, 2003 and February 2, 2002, the Company accepted in an option transaction from an officer for payment of an option exercise, 48,681 mature shares of Class A Common Stock for $1,144,500 or $23.51 per share, the average fair market value on the date of exchange and 92,600 mature shares of Class A Common Stock for $1,825,000 or $19.71 per share, the average fair market value on the date of exchange, respectively. During fiscal 2002, the Company increased its quarterly dividend by 11% from $.135 per share to $.15 per share. Over the course of 2001, the Board of Directors increased the quarterly dividend by 8% from $.125 per share to $.135 per share. The Company does not use derivative financial instruments. At February 1, 2003, the Company’s investment portfolio was invested in governmen- tal and other debt securities with maturities of up to 36 months. These securities are classified as available-for-sale and are recorded on the balance sheet at fair value with unrealized gains and temporary losses reported as accumulated other comprehensive income. Other than temporary declines in fair value of investments are recorded as a reduction in the cost of invest- ments in the accompanying Consolidated Balance Sheets and a reduction of interest and other income, net in the accompanying Statements of Consolidated Income. R E C E N T A C C O U N T I N G P R O N O U N C E M E N T S In June 1998, the Financial Accounting Standards Board (FASB) issued Statement of Financial Accounting Standards (SFAS) No. 133, “Accounting for Derivative Instruments and Hedging Activities”. In June 2000, the FASB issued SFAS No. 138, which amended certain provisions of SFAS 133. The Company adopted SFAS 133 and the corresponding amendments under SFAS 138 on February 4, 2001, and the adoption of this statement had no impact on the Company’s consolidated results of operations and financial position. At February 1, 2003, the Company had an unsecured revolving credit agreement which provided for borrowings of up to $35 million. The revolving credit agreement is committed until October 2004. The credit agreement contains various financial covenants and limitations, including In July 2001, the FASB issued Statement of Financial Standards (SFAS) No. 142, “Goodwill and Other Intangible Assets”. SFAS 142 includes requirements to test goodwill and indefinite lived intangible assets for impair- ment rather than amortize them. The Company adopted SFAS No. 142 T H E C AT O C O R P O R AT I O N PA G E 1 2 M A N A G E M E N T ’ S D I S C U S S I O N A N D A N A LY S I S OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS on February 3, 2002, and the adoption of this statement had no impact on the Company’s consolidated results of operations and financial position, as the Company had no goodwill or other indefinite lived intangible assets. In August 2001, the FASB issued Statement of Financial Standards (SFAS) No. 144, “Accounting for the Impairment or Disposal of Long-Lived Assets”. SFAS No. 144 supercedes SFAS No. 121, “Accounting for Impairment of Long-Lived Assets to be Disposed Of ” and Accounting Principles Bulletin (APB) No. 30, “Reporting the Results of Operations – Reporting the Effects of Disposal of a Segment of Business, and Extraordinary, Unusual and Infrequently Occurring Events and Transactions”. Along with establishing a single accounting model, based on the framework established in SFAS No. 121 for impairment of long-lived assets, this standard retains the basic provisions of APB No. 30 for the pres- entation of discontinued operations in the income statement, but broadens that presentation to include a component of the entity. The Company adopted SFAS No. 144 on February 3, 2002, and the adoption of this statement had no impact on the Company’s consolidated results of opera- tions and financial position. In April 2002, the FASB issued SFAS No. 145, “Rescission of FASB Statements No. 4, 44 and 64, Amendment of FASB Statement No. 13, and Technical Correction”. SFAS No. 145 rescinds SFAS No. 4, “Reporting Gains and Losses from Extinguishment of Debt”, and an amendment of that statement, SFAS No. 64, “Extinguishment of Debt Made to Satisfy Sinking-Fund Requirements”. Because of the rescission of SFAS No. 4, the gains and losses from the extinguishments of debt are no longer required to be classified as extraordinary items. SFAS No. 145 amends SFAS No. 13, “Accounting for Leases”, to require sale-leaseback accounting for certain lease modifications that have economic effects that are similar to sale-lease- back transactions. The amendment of SFAS No. 13 is effective for transactions occurring after May 15, 2002. There has been no impact to the Company due to the Amendment of SFAS No. 13. Lastly, SFAS No. 145 makes various technical corrections to existing pronouncements that are not substantive in nature. The Company adopted SFAS No. 145 in fis- cal 2002 and the impact on its financial position and results of operations of the adoption was not material. In July 2002, the FASB issued SFAS No. 146, “Accounting for Costs Associated with Exit or Disposal Activities”. This Statement is effective for exit or disposal activities initiated after December 31, 2002. Liabilities for costs associated with an exit activity should be initially measured at fair value, when incurred. This statement applies to costs associated with an exit activity that does not involve an entity newly acquired in a business combination, or a disposal activity covered by SFAS No. 144. The Company adopted SFAS No. 146 on December 31, 2002, and the adop- tion of this statement had no impact on the Company’s consolidated results of operations and financial position. On November 25, 2002 the FASB issued Interpretation No. 45, “Guarantor’s Accounting and Disclosure Requirements for Guarantees, Including Indirect Guarantees of Indebtedness of Others”, which elabo- rates on the disclosures to be made by a guarantor about its obligations under certain guarantees issued. It also clarifies that a guarantor is required to recognize, at the inception of a guarantee, a liability for the fair value of the obligation undertaken in issuing the guarantee. The interpretation expands on the accounting guidance of SFAS No. 5 “Accounting for Contingencies”, SFAS No. 57, “Related Party Disclosures”, and SFAS No. 107 “Disclosures about Fair Value of Financial Instruments”. The interpre- tation also incorporates, without change, the provisions of FASB Interpretation No. 34, “Disclosure of Indirect Guarantees of Indebtedness of Others”, which it supersedes. The initial recognition and measurement provisions of Interpretation No. 45 apply on a prospective basis to guaran- tees issued or modified after December 31, 2002, regardless of the guarantor’s fiscal year-end. The disclosures are effective for financial state- ments of interim or annual periods ending after December 31, 2002. Although the Company has some guarantees with its subsidiaries, the Company does not believe the impact of this Interpretation on its financial position or result of operations will be material or that additional disclosure is required. On December 31, 2002, the FASB issued SFAS No. 148, “Accounting for Stock-Based Compensation – Transition and Disclosure”. SFAS No. 148 amends SFAS No. 123, “Accounting for Stock-Based Compensation”, to provide for alternative methods of transition to SFAS No. 123’s fair value method of accounting for stock-based employee compensation. SFAS No. 148 also amends the disclosure provisions of SFAS No. 123 and APB Opinion No. 28, “Interim Financial Reporting”, to require disclosure in the summary of significant policies of the effects of an entity’s accounting policy with respect to stock-based employee compensation on reported net income and earnings per-share in annual and interim financial statements. While SFAS No. 148 does not amend SFAS No. 123 to require companies to account for employee stock options using the fair value method, the dis- closure provisions of SFAS No. 148 are applicable to all companies with stock-based compensation, regardless of whether they account for that compensation using the fair value method of SFAS No. 123 or the intrin- sic value method of APB Opinion No. 25, “Accounting for Stock Issued to Employees”. SFAS No. 148’s amendment of the transition and annual dis- closure requirements of SFAS No. 123 are effective for fiscal years ending after December 15, 2002. The implementation of this Statement did not materially affect the Company’s financial position or results of operations. In 2002, the Emerging Issues Task Force (EITF) reached a consensus on Issue No. 02-16, “Accounting by a Customer (Including a Reseller) for Cash Considerations Received from a Vendor”. EITF Issue No. 02-16 provides guidance on how cash considerations received by a customer or reseller should be classified in the customer’s statement of earnings. EITF Issue No. 02-16 is effective for all transactions with vendors after December 31, 2002. The adoption of EITF Issue No. 02-16 did not have a material impact on our consolidated financial position or results of operations. In January 2003, the FASB issued Interpretation No. 46 “Consolidation of Variable Interest Entities, an Interpretation of Accounting Research Bulletin No. 51, Consolidated Financial Statements”. This interpretation applies immediately to variable interest entities created after January 31, 2003 and to variable interest entities in which an enterprise obtains an interest after that date. It applies in the first fiscal year or interim period beginning after June 15, 2003, to variable interest entities in which an enterprise holds a variable interest it acquired before February 1, 2003. This interpretation may be applied prospectively with a cumulative- effect adjustment as of the date on which it is first applied or by restating previously issued financial statements for one or more years with a cumu- lative- effect adjustment as of the beginning of the first year restated. The implementation of this interpretation will not materially affect the Company’s financial position or results of operations. The Annual Report includes “forward-looking statements” within the meaning of Section 27A of the Securities Act and Section 21E of the Exchange Act. All statements other than statements of historical facts included in the Annual Report and located elsewhere herein regarding the Company’s financial position and business strategy may constitute for- ward-looking statements. Although the Company believes that the expectations reflected in such forward-looking statements are reasonable, it can give no assurance that such expectations prove to be correct. T H E C AT O C O R P O R AT I O N PA G E 1 3 C O N S O L I D AT E D S TAT E M E N T S O F I N C O M E Fiscal Year Ended (Dollars in thousands, except per share data) February 1, 2003` February 2, 2002 February 3, 2001 R E V E N U E S Retail sales Other income (principally finance charges, late fees and layaway charges) $ 732,742 15,589 $ 685,653 13,668 $ 648,482 14,055 Total revenues 748,331 699,321 662,537 C O S T S A N D E X P E N S E S , N E T Cost of goods sold Selling, general and administrative Depreciation Interest and other income, net Income before income taxes Income tax expense Net income Basic earnings per share Basic weighted average shares Diluted earnings per share 496,345 168,914 14,913 (3,680) 466,366 162,082 10,886 (6,299) 445,407 154,150 9,492 (6,554) 676,492 633,035 602,495 71,839 66,286 26,006 23,200 $ $ 45,833 1.80 $ $ 43,086 1.71 $ $ 60,042 21,015 39,027 1.56 25,465,543 25,193,610 24,988,844 $ 1.77 $ 1.66 $ 1.53 Diluted weighted average shares 25,947,457 25,888,636 25,465,232 Dividends per share $ .585 $ .53 $ .425 See notes to consolidated financial statements. T H E C AT O C O R P O R AT I O N PA G E 1 4 C O N S O L I D AT E D B A L A N C E S H E E T S (Dollars in thousands) February 1, 2003 February 2, 2002 A S S E T S Current Assets: Cash and cash equivalents Short-term investments Accounts receivable, net of allowance for doubtful accounts of $6,099 at February 1, 2003 and $5,968 at February 2, 2002 Merchandise inventories Deferred income taxes Prepaid expenses Total Current Assets Property and equipment - net Other assets Total Assets L I A B I L I T I E S A N D S T O C K H O L D E R S ’ E Q U I T Y Current Liabilities: Accounts payable Accrued expenses Accrued income taxes Total Current Liabilities Deferred income taxes Other noncurrent liabilities (primarily deferred rent) Commitments and contingencies Stockholders’ Equity: Preferred stock, $100 par value per share, 100,000 shares authorized, none issued Class A common stock, $.033 par value per share, 50,000,000 shares authorized; 25,218,678 and 25,011,732 shares issued at February 1, 2003 and February 2, 2002, respectively Convertible Class B common stock, $.033 par value per share, 15,000,000 shares authorized; 6,085,149 and 5,812,649 shares issued at February 1, 2003 and February 2, 2002, respectively Additional paid-in capital Retained earnings Accumulated other comprehensive gains (losses) Unearned compensation – restricted stock awards Less Class A common stock in treasury, at cost (5,741,179 and 5,626,498 shares at February 1, 2003 and February 2, 2002, respectively) Total Stockholders’ Equity Total Liabilities and Stockholders’ Equity See notes to consolidated financial statements. $ 32,065 74,871 $ 41,772 42,923 54,116 93,457 1,392 4,990 260,891 113,307 9,212 $ 383,410 $ 66,620 28,776 2,886 98,282 6,310 8,654 52,293 80,407 777 5,036 223,208 100,137 8,696 $ 332,041 $ 57,495 25,260 820 83,575 5,177 8,591 – 840 203 94,947 235,904 253 (2,375) 329,772 – 833 194 86,948 204,961 (567) (394) 291,975 (59,608) 270,164 $ 383,410 (57,277) 234,698 $ 332,041 T H E C AT O C O R P O R AT I O N PA G E 1 5 C O N S O L I D AT E D S TAT E M E N T S O F C A S H F L OW S Fiscal Year Ended (Dollars in thousands) February 1, 2003 February 2, 2002 February 3, 2001 O P E R AT I N G A C T I V I T I E S Net income Adjustments to reconcile net income to net cash provided by operating activities: $ 45,833 $ 43,086 $ 39,027 Depreciation Amortization of investment premiums Provision for doubtful accounts Write-down of investments Deferred income taxes Compensation expense related to restricted stock awards Loss on disposal of property and equipment Changes in operating assets and liabilities which provided (used) cash: Accounts receivable Merchandise inventories Prepaid and other assets Accrued income taxes Accounts payable, accrued expenses and other liabilities 14,913 66 4,764 1,800 70 750 870 (6,587) (13,050) (470) 2,066 12,704 10,886 160 5,913 – 422 295 480 (11,234) (1,246) 367 (1,525) (547) 9,492 126 5,292 – 1,600 295 1,257 (6,806) (9,664) (3,971) 2,025 5,420 Net cash provided by operating activities 63,729 47,057 44,093 I N V E S T I N G A C T I V I T I E S Expenditures for property and equipment Purchases of short-term investments Sales of short-term investments (28,953) (46,281) 13,735 (25,684) (35,878) 51,194 (27,230) (11,906) 12,166 Net cash used in investing activities (61,499) (10,368) (26,970) F I N A N C I N G A C T I V I T I E S Dividends paid Purchases of treasury stock Proceeds from employee stock purchase plan Proceeds from stock options exercised (14,890) (1,187) 509 3,631 (13,400) (11,729) 443 4,568 (10,633) (15,449) 448 3,323 Net cash used in financing activities (11,937) (20,118) (22,311) Net increase (decrease) in cash and cash equivalents Cash and cash equivalents at beginning of year Cash and cash equivalents at end of year See notes to consolidated financial statements. (9,707) 41,772 32,065 $ 16,571 25,201 41,772 $ (5,188) 30,389 25,201 $ T H E C AT O C O R P O R AT I O N PA G E 1 6 C O N S O L I D AT E D S TAT E M E N T S O F S T O C K H O L D E R S ’ E Q U I T Y (Dollars in thousands) Balance – January 29, 2000 *Comprehensive income: Net income Unrealized gains on available-for-sale securities, net of deferred income taxes of $494 Dividends paid ($.425 per share) Class A common stock sold through employee stock purchase plan – 44,590 shares Class A common stock sold through stock option plans – 425,350 shares Income tax benefit from stock options exercised Purchase of treasury shares – 1,468,800 shares Unearned compensation – restricted stock awards Balance – February 3, 2001 *Comprehensive income: Net income Unrealized gains on available-for-sale securities, net of deferred income taxes of $171 Dividends paid ($.53 per share) Class A common stock sold through employee stock purchase plan – 38,463 shares Class A common stock sold through stock option plans – 329,850 shares Class B common stock sold through stock option plans – 448,332 shares Income tax benefit from stock options exercised Purchase of treasury shares – 774,750 shares Surrender of shares for stock options – 92,600 shares Unearned compensation – restricted stock awards Balance – February 2, 2002 *Comprehensive income: Net income Unrealized gains on available-for-sale securities, net of deferred income taxes of $448 Dividends paid ($.585 per share) Class A common stock sold through employee stock purchase plan – 32,487 shares Class A common stock sold through stock option plans – 171,600 shares Class B common stock sold through stock option plans – 172,500 shares Income tax benefit from stock options exercised Purchase of treasury shares – 66,000 shares Surrender of shares for stock options – 48,681 shares Restricted stock awards – 100,000 shares Unearned compensation – restricted stock awards Balance – February 1, 2003 Class A Common Stock Convertible Class B Common Stock Additional Paid-in Capital Accumulated Unearned Other Compensation Total Retained Comprehensive Restricted Treasury Stockholders’ Earnings Income (Loss) Stock Awards Stock Equity $ 805 $ 179 $ 71,974 $146,881 $ (1,801) $ (984) $ (28,274) $ 188,780 39,027 (10,633) 917 2 14 446 3,309 1,049 821 179 76,778 175,275 (884) (15,449) (43,723) 295 (689) 43,086 (13,400) 317 1 11 442 2,961 3,406 3,361 15 833 194 86,948 204,961 (567) (11,729) (1,825) (57,277) 295 (394) 45,833 (14,890) 820 39,027 917 (10,633) 448 3,323 1,049 (15,449) 295 207,757 43,086 317 (13,400) 443 2,972 3,421 3,361 (11,729) (1,825) 295 234,698 45,833 820 (14,890) 509 1,553 1 6 508 1,547 1,310 1,906 2,728 6 3 $ 840 $ 203 $ 94,947 $235,904 $ 253 (1,187) (1,144) 1,316 1,906 (1,187) (1,144) – 750 $ (59,608) $ 270,164 (2,731) 750 $ (2,375) See notes to consolidated financial statements. *Total comprehensive income for the years ended February 1, 2003, February 2, 2002 and February 3, 2001 was $46,653, $43,403 and $39,944, respectively. T H E C AT O C O R P O R AT I O N PA G E 1 7 N O T E S T O C O N S O L I D AT E D F I N A N C I A L S TAT E M E N T S 1 . S U M M A R Y O F S I G N I F I C A N T A C C O U N T I N G P O L I C I E S : Principles of Consolidation: The consolidated financial statements include the accounts of The Cato Corporation and its wholly- owned subsidiaries (“the Company”). All significant intercompany accounts and transactions have been eliminated. Description of Business and Fiscal Year: The Company has two busi- ness segments — the operation of women’s fashion specialty stores and a credit card division. The apparel specialty stores operate under the names “Cato”, “Cato Fashions”, “Cato Plus” and “It’s Fashion!” and are located primarily in strip shopping centers in the Southeast. The Company’s fiscal year ends on the Saturday nearest January 31. Fiscal years 2002 and 2001 each included 52 weeks. Fiscal year 2000 included 53 weeks. Use of Estimates: The preparation of the Company’s financial state- ments in conformity with accounting principles generally accepted in the United States requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates. Significant accounting estimates reflected in the Company’s financial statements include the allowance for doubtful accounts receivable, reserves relating to workers’ compen- sation, general and auto insurance liabilities and reserves for inventory markdowns. Cash and Cash Equivalents and Short-Term Investments: Cash equiva- lents consist of highly liquid investments with original maturities of three months or less. Investments with original maturities beyond three months are classified as short-term investments. The fair val- ues of short-term investments are based on quoted market prices. The Company’s short-term investments are classified as available-for- sale. As they are available for current operations, they are classified in consolidated balance sheets as current assets. Available-for-sale securi- ties are carried at fair value, with unrealized gains and temporary losses, net of income taxes, reported as a component of accumulated other comprehensive income. Other than temporary declines in fair value of investments are recorded as a reduction in the cost of the investments in the accompanying Consolidated Balance Sheets and a reduction of interest and other income, net in the accompanying Statements of Consolidated Income. The cost of debt securities is adjusted for amortization of premiums and accretion of discounts to maturity. The amortization of premiums, accretion of discounts and realized gains and losses are included in other income. Concentration of Credit Risk: Financial instruments that potentially subject the Company to a concentration of credit risk principally consist of cash equivalents and accounts receivable. The Company places its cash equivalents with high credit qualified institutions and, by practice, limits the amount of credit exposure to any one institution. Concentrations of credit risks with respect to accounts receivable are limited due to the dispersion across different geogra- phies of the Company’s customer base. Supplemental Cash Flow Information: Income tax payments, net of refunds received, for the fiscal years ended February 1, 2003, February 2, 2002 and February 3, 2001 were $21,982,000, $24,841,000 and $17,435,000, respectively. Additionally, for the fiscal years ended February 1, 2003 and February 2, 2002, the Company accepted in an option transaction from an officer for pay- ment of an option exercise, 48,681 mature shares of Class A Common Stock for $1,144,500 or $23.51 per share, the average fair market value on the date of exchange and 92,600 mature shares of Class A Common Stock for $1,825,000 or $19.71 per share, the average fair market value on the date of exchange, respectively. Inventories: Merchandise inventories are stated at the lower of cost (first-in, first-out method) or market as determined by the retail method. Property and Equipment: Property and equipment are recorded at cost. Maintenance and repairs are charged to operations as incurred; renewals and betterments are capitalized. The Company accounts for its software development costs in accordance with the American Institute of Certified Public Accountants Statement of Position (“SOP”) 98-1, “Accounting for the Costs of Computer Software Developed or Obtained for Internal Use”. Depreciation is provided on the straight-line method over the estimated useful lives of the related assets, as follows: Classification Land improvements Buildings Leasehold improvements Fixtures, equipment and software Estimated Useful Lives 10 years 30-40 years 5-10 years 3-10 years Retail Sales: Revenues from retail sales, net of returns, are recognized upon delivery of the merchandise to the customer and exclude sales taxes. Advertising: Advertising costs are expensed in the period in which they are incurred. Advertising expense was $5,299,000, $4,563,000 and $5,812,000 for the fiscal years ended February 1, 2003, February 2, 2002 and February 3, 2001, respectively. T H E C AT O C O R P O R AT I O N PA G E 1 8 N O T E S T O C O N S O L I D AT E D F I N A N C I A L S TAT E M E N T S Earnings Per Share: Basic earnings per share excludes dilution of stock options and is computed by dividing net earnings by the weighted-average number of Class A and Class B common shares outstanding for the respective periods. The weighted-average number of shares used in the basic earnings per share computations was 25,465,543, 25,193,610 and 24,988,844 for the fiscal years ended February 1, 2003, February 2, 2002 and February 3, 2001, respectively. The weighted-average number of shares representing the dilutive effect of stock options was 481,914, 695,026 and 476,388 for the fiscal years ended February 1, 2003, February 2, 2002 and February 3, 2001, respectively. The weighted-average number of shares used in the diluted earnings per share computa- tions was 25,947,457, 25,888,636 and 25,465,232 for the fiscal years ended February 1, 2003, February 2, 2002 and February 3, 2001, respectively. Vendor Allowances: The Company receives certain allowances from vendors primarily related to purchase discounts and markdown allowances. These allowances are reflected in gross margin at the time they are earned. Income Taxes: The Company files a consolidated federal income tax return. Income taxes are provided based on the asset and liability method of accounting, whereby deferred income taxes are provided for temporary differences between the financial reporting basis and the tax basis of the Company’s assets and liabilities. Store Opening and Closing Costs: Costs relating to the opening of new stores or the relocating or expanding of existing stores are expensed as incurred. The Company evaluates all long-lived assets for impairment. Impairment losses are recognized when expected future cash flows from the use of the asset groups are less than the asset groups’ carrying values. Closed Store Lease Obligations: At the time stores are closed, provi- sions are made for the rentals required to be paid over the remaining lease terms. Rentals due the Company under non-cancelable sub- leases are offset against the related obligations in the year the sublease is signed. There is no offset for assumed sublease revenues. Insurance: The Company is self-insured with respect to employee health, workers compensation and general liability claims. Employee health claims are funded through a VEBA trust to which the Company makes periodic contributions. The Company has stop-loss insurance coverage for individual claims in excess of $250,000. Fair Value of Financial Instruments: The Company’s carrying values of financial instruments, such as cash and cash equivalents, approx- imate their fair values due to their short terms to maturity and/or their variable interest rates. Stock-based Compensation: The Company applies APB Opinion No. 25, “Accounting for Stock Issued to Employees”, and related inter- pretations in accounting for its stock option plans. Accordingly, no compensation expense has been recognized for stock-based com- pensation where the option price of the stock approximated the fair market value of the stock on the date of grant. Had compensation expense for fiscal 2002, 2001 and 2000 stock options granted been determined consistent with SFAS No. 123, “Accounting for Stock- Based Compensation”, the Company’s net income and basic and diluted earnings per share amounts for fiscal 2002, 2001 and 2000 would approximate the following proforma amounts (dollars in thousands, except per share data): Stock-Based Employee Compensation Cost* $ (740) $ (0.03) $ (0.03) As Reported $ 45,833 1.80 $ 1.77 $ Proforma $ 45,093 1.77 $ 1.74 $ Net income – Fiscal 2002 Basic earnings per share Diluted earnings per share Net income – Fiscal 2001 Basic earnings per share Diluted earnings per share $ 43,086 1.71 $ 1.66 $ $ (1,593) $ (0.06) $ (0.06) $ 41,493 1.65 $ 1.60 $ Net income – Fiscal 2000 Basic earnings per share Diluted earnings per share $ 39,027 1.56 $ 1.53 $ $ (1,596) $ (0.06) $ (0.06) $ 37,431 1.50 $ 1.47 $ * determined using fair value method Recent Accounting Pronouncements: In June 1998, the Financial Accounting Standards Board (FASB) issued Statement of Financial Accounting Standards (SFAS) No. 133, “Accounting for Derivative Instruments and Hedging Activities”. In June 2000, the FASB issued SFAS No. 138, which amended certain provisions of SFAS 133. The Company adopted SFAS 133 and the corresponding amendments under SFAS 138 on February 4, 2001, and the adop- tion of this statement had no impact on the Company’s consolidated results of operations and financial position. In July 2001, the FASB issued Statement of Financial Standards (SFAS) No. 142, “Goodwill and Other Intangible Assets”. SFAS 142 includes requirements to test goodwill and indefinite lived intangible assets for impairment rather than amortize them. The Company T H E C AT O C O R P O R AT I O N PA G E 1 9 N O T E S T O C O N S O L I D AT E D F I N A N C I A L S TAT E M E N T S adopted SFAS No. 142 on February 3, 2002, and the adoption of this statement had no impact on the Company’s consolidated results of operations and financial position, as the Company had no good- will or other indefinite lived intangible assets. In August 2001, the FASB issued Statement of Financial Standards (SFAS) No. 144, “Accounting for the Impairment or Disposal of Long-Lived Assets”. SFAS No. 144 supercedes SFAS No. 121, “Accounting for Impairment of Long-Lived Assets to be Disposed Of ” and Accounting Principles Bulletin (APB) No. 30, “Reporting the Results of Operations – Reporting the Effects of Disposal of a Segment of Business, and Extraordinary, Unusual and Infrequently Occurring Events and Transactions”. Along with establishing a sin- gle accounting model, based on the framework established in SFAS No. 121 for impairment of long-lived assets, this standard retains the basic provisions of APB No. 30 for the presentation of discon- tinued operations in the income statement, but broadens that presentation to include a component of the entity. The Company adopted SFAS No. 144 on February 3, 2002, and the adoption of this statement had no impact on the Company’s consolidated results of operations and financial position. In April 2002, the FASB issued SFAS No. 145, “Rescission of FASB Statements No. 4, 44 and 64, Amendment of FASB Statement No. 13, and Technical Correction”. SFAS No. 145 rescinds SFAS No. 4, “Reporting Gains and Losses from Extinguishment of Debt”, and an amendment of that statement, SFAS No. 64, “Extinguishment of Debt Made to Satisfy Sinking-Fund Requirements”. Because of the rescission of SFAS No. 4, the gains and losses from the extinguish- ments of debt are no longer required to be classified as extraordinary items. SFAS No. 145 amends SFAS No. 13, “Accounting for Leases”, to require sale-leaseback accounting for certain lease modi- fications that have economic effects that are similar to sale-leaseback transactions. The amendment of SFAS No. 13 is effective for trans- actions occurring after May 15, 2002. There has been no impact to the Company due to the Amendment of SFAS No. 13. Lastly, SFAS No. 145 makes various technical corrections to existing pronounce- ments that are not substantive in nature. The Company adopted SFAS No. 145 in fiscal 2002 and the impact on its financial position and results of operations of the adoption was not material. In July 2002, the FASB issued SFAS no. 146, “Accounting for Costs Associated with Exit or Disposal Activities”. This statement is effec- tive for exit or disposal activities initiated after December 31, 2002. Liabilities for costs associated with an exit activity should be initially measured at fair value, when incurred. This statement applies to costs associated with an exit activity that does not involve the entity newly acquired in a business combination or a disposal activity cov- ered by SFAS No. 144. The Company adopted SFAS No. 146 on December 31, 2002, and the adoption of this statement had no impact on the Company’s consolidated results of operations and financial position. On November 25, 2002 the FASB issued Interpretation No. 45, “Guarantor’s Accounting and Disclosure Requirements for Guarantees, Including Indirect Guarantees of Indebtedness of Others”, which elaborates on the disclosures to be made by a guar- antor about its obligations under certain guarantees issued. It also clarifies that a guarantor is required to recognize, at the inception of a guarantee, a liability for the fair value of the obligation undertaken in issuing the guarantee. The interpretation expands on the accounting guidance of SFAS No. 5, “Accounting for Contingencies”, SFAS No. 57, “Related Party Disclosures”, and SFAS No. 107, “Disclosures about Fair Value of Financial Instruments”. The interpretation also incorporates, without change, the provisions of FASB Interpretation No. 34, “Disclosure of Indirect Guarantees of Indebtedness of Others”, which it super- sedes. The initial recognition and measurement provisions of Interpretation No. 45 apply on a prospective basis to guarantees issued or modified after December 31, 2002, regardless of the guar- antor’s fiscal year-end. The disclosures are effective for financial statements of interim or annual periods ending after December 31, 2002. Although the Company has some guarantees with its subsidiaries, the Company does not believe the impact of this Interpretation on its financial position or result of operations will be material or that additional disclosure is required. On December 31, 2002, the FASB issued SFAS No. 148, “Accounting for Stock-Based Compensation – Transition and Disclosure”. SFAS No. 148 amends SFAS No. 123, “Accounting for Stock-Based Compensation”, to provide for alternative methods of transition to SFAS No. 123’s fair value method of accounting for stock-based employee compensation. SFAS No. 148 also amends the disclosure provisions of SFAS No. 123 and APB Opinion No. 28, “Interim Financial Reporting”, to require disclosure in the sum- mary of significant policies of the effects of an entity’s accounting policy with respect to stock-based employee compensation on reported net income and earnings per-share in annual and interim financial statements. While SFAS No. 148 does not amend SFAS No. 123 to require companies to account for employee stock options using the fair value method, the disclosure provisions of SFAS No. 148 are applicable to all companies with stock-based compensation, regardless of whether they account for that compen- sation using the fair value method of SFAS No. 123 or the intrinsic T H E C AT O C O R P O R AT I O N PA G E 2 0 N O T E S T O C O N S O L I D AT E D F I N A N C I A L S TAT E M E N T S value method of APB Opinion No. 25, “Accounting for Stock Issued to Employees”. SFAS No. 148’s amendment of the transition and annual disclosure requirements of SFAS No. 123 are effective for fiscal years ending after December 15, 2002. The implementa- tion of this Statement did not materially affect the Company’s financial position or results of operations. Short-term investments at February 2, 2002 include the following (in thousands): Security Type Obligations of federal, state and political subdivisions Unrealized (Losses) Estimated Fair Value Cost $ 43,795 $ (872) $ 42,923 In 2002, the Emerging Issues Task Force (EITF) reached a consensus on Issue No. 02-16, “Accounting by a Customer (Including a Reseller) for Cash Considerations Received from a Vendor”. EITF Issue No. 02-16 provides guidance on how cash considerations received by a cus- tomer or reseller should be classified in the customer’s statement of earnings. EITF Issue No. 02-16 is effective for all transactions with vendors after December 31, 2002. The adoption of EITF Issue No. 02-16 did not have a material impact on our consolidated financial position or results of operations. In January 2003, the FASB issued Interpretation No. 46 “Consolidation of Variable Interest Entities, an Interpretation of Accounting Research Bulletin No. 51, Consolidated Financial Statements”. This interpretation applies immediately to variable interest entities created after January 31, 2003 and to variable inter- est entities in which an enterprise obtains an interest after that date. It applies in the first fiscal year or interim period beginning after June 15, 2003, to variable interest entities in which an enterprise holds a variable interest it acquired before February 1, 2003. This interpretation may be applied prospectively with a cumulative-effect adjustment as of the date on which it is first applied or by restating previously issued financial statements for one or more years with a cumulative-effect adjustment as of the beginning of the first year restated. The implementation of this interpretation will not materi- ally affect the Company’s financial position or results of operations. Reclassifications: Certain reclassifications have been made to the consolidated financial statements for prior fiscal years to conform with presentation for fiscal 2002. 2 . S H O R T- T E R M I N V E S T M E N T S : The accumulated unrealized gains in short-term investments at February 1, 2003 of $265,000 net of a deferred income tax liability of $149,000 offset by the accumulated unrealized losses in equity investments of $12,000 net of a deferred income tax benefit of $6,000 and the accumulated unrealized losses of February 2, 2002 of $567,000, net of a deferred income tax benefit of $305,000, are reflected in accumulated other comprehensive gains (losses) in the Consolidated Balance Sheets. In fiscal 2002, the Company recorded a write-down of $1.8 million in market value on investments with other than temporary declines in fair value. The amortized cost and estimated fair value of debt securities at February 1, 2003, by contractual maturity, are shown below (in thousands): Security Type Due in one year or less Due in one year through three years Total Cost $ 58,426 16,031 $ 74,457 Estimated Fair Value $ 58,483 16,388 $ 74,871 Additionally, the Company had $1.7 million invested in privately managed investment funds at February 1, 2003, which are reported under other assets in the Consolidated Balance Sheets. 3 . A C C O U N T S R E C E I VA B L E : Accounts receivable consist of the following (in thousands): Short-term investments at February 1, 2003 include the following (in thousands): Security Type Obligations of federal, state and political subdivisions Unrealized Gains Estimated Fair Value Cost $ 74,457 $ 414 $ 74,871 Customer accounts – principally deferred payment accounts Miscellaneous trade receivables Total Less allowance for doubtful accounts Accounts receivable - net T H E C AT O C O R P O R AT I O N PA G E 2 1 February 1, 2003 February 2, 2002 $ 56,853 3,362 60,215 6,099 $ 54,116 $ 53,012 5,249 58,261 5,968 $ 52,293 N O T E S T O C O N S O L I D AT E D F I N A N C I A L S TAT E M E N T S Finance charge and late charge revenue on customer deferred pay- ment accounts totaled $13,672,000, $12,951,000 and $13,689,000 for the fiscal years ended February 1, 2003, February 2, 2002 and February 3, 2001, respectively, and the provision for doubtful accounts was $4,764,000, $5,913,000 and $5,292,000, for the fiscal years ended February 1, 2003, February 2, 2002 and February 3, 2001, respectively. The provision for doubtful accounts is classi- fied as a component of selling, general and administrative expenses in the accompanying Consolidated Statements of Income. 4 . P R O P E R T Y A N D E Q U I P M E N T: Property and equipment consist of the following (in thousands): Land and improvements Buildings Leasehold improvements Fixtures, equipment and software Construction in progress Total Less accumulated depreciation Property and equipment - net $ February 1, 2003 2,019 $ February 2, 2002 2,019 17,751 30,546 100,138 23,333 173,787 73,650 $ 113,307 $ 100,137 17,751 34,697 143,080 2,246 199,793 86,486 As of February 1, 2003, the Company has capitalized $25.7 million for an enterprise-wide merchandise and finance system in accor- dance with SOP 98-1. Construction in progress primarily represents investments in tech- nology and ongoing store developement activities scheduled to be implemented over the next 12 months. 5 . A C C R U E D E X P E N S E S : Accrued expenses consist of the following (in thousands): Accrued bonus and retirement savings plan contributions Accrued payroll and related items Closed store lease obligations Property and other taxes Accrued health care plan Other Total February 1, 2003 February 2, 2002 $ 6,233 4,265 1,004 7,593 4,347 5,334 $ 28,776 $ 7,605 4,216 1,077 4,211 3,558 4,593 $ 25,260 6 . F I N A N C I N G A R R A N G E M E N T S : At February 1, 2003, the Company had an unsecured revolving credit agreement which provided for borrowings of up to $35 mil- lion. The revolving credit agreement is committed until October 2004. The credit agreement contains various financial covenants and limitations, including the maintenance of specific financial ratios with which the Company was in compliance. There were no borrowings outstanding during the fiscal year ended February 1, 2003 or February 2, 2002. The Company had approximately $6,496,000 and $4,314,000 at February 1, 2003 and February 2, 2002, respectively, of outstand- ing irrevocable letters of credit relating to purchase commitments. 7 . S T O C K H O L D E R S ’ E Q U I T Y: The holders of Class A Common Stock are entitled to one vote per share, whereas the holders of Class B Common Stock are entitled to ten votes per share. Each share of Class B Common Stock may be converted at any time into one share of Class A Common Stock. Subject to the rights of the holders of any shares of Preferred Stock that may be outstanding at the time, in the event of liquidation, dis- solution or winding up of the Company, holders of Class A Common Stock are entitled to receive a preferential distribution of $1.00 per share of the net assets of the Company. Cash dividends on the Class B Common Stock cannot be paid unless cash dividends of at least an equal amount are paid on the Class A Common Stock. The Company’s charter provides that shares of Class B Common Stock may be transferred only to certain “Permitted Transferees” con- sisting generally of the lineal descendants of holders of Class B Stock, trusts for their benefit, corporations and partnerships controlled by them and the Company’s employee benefit plans. Any transfer of Class B Common Stock in violation of these restrictions, including a transfer to the Company, results in the automatic conversion of the transferred shares of Class B Common Stock held by the transferee into an equal number of shares of Class A Common Stock. In October 1993, the Company registered 250,000 shares of Class A Common Stock available for issuance under an Employee Stock Purchase Plan (the “Plan”). In May 1998, the shareholders approved an amendment to the Plan to increase the maximum number of Class A shares of Common Stock authorized to be issued from 250,000 to 500,000 shares. In February 2003, the Board of Directors recommended a new plan be adopted effective October 2003 and that an additional 250,000 shares be registered, subject to T H E C AT O C O R P O R AT I O N PA G E 2 2 N O T E S T O C O N S O L I D AT E D F I N A N C I A L S TAT E M E N T S shareholder approval. Under the terms of the Plan, substantially all employees may purchase Class A Common Stock through payroll deductions of up to 10% of their salary. The Class A Common Stock is purchased at the lower of 85% of market value on the first or last business day of a six-month payment period. Additionally, each April 15, employees are given the opportunity to make a lump sum purchase of up to $10,000 of Class A Common Stock at 85% of market value. The number of shares purchased by participants through the plan were 32,487 shares, 38,463 shares and 44,500 shares for the years ended February 1, 2003, February 2, 2002 and February 3, 2001, respectively. The Company has an Incentive Stock Option Plan and a Non- Qualified Stock Option Plan for key employees of the Company. Total shares issuable under the plans are 3,900,000, of which 825,000 shares are issuable under the Incentive Stock Option Plan and 3,075,000 shares are issuable under the Non-Qualified Stock Option Plan. The purchase price of the shares under the option must be at least 100 percent of the fair market value of Class A Common Stock at the date of the grant. Options granted under these plans vest over a 5-year period and expire 10 years after the date of the grant unless otherwise expressly authorized by the Board of Directors. In August 1999, the Board of Directors adopted the 1999 Incentive Compensation Plan, of which 1,000,000 shares are issuable. No awards may be granted after July 31, 2004 and shares must be exer- cised within 10 years of the grant date unless otherwise authorized by the Board of Directors. In August 1999, the Board of Directors granted under the 1999 Incentive Compensation Plan, restricted stock awards of 100,000 shares of Class B Common Stock, with a per share fair value of $11.81 to a key executive. In May 2002, the Board of Directors approved and granted under the 1999 Incentive Compensation Plan restricted stock awards of 100,000 shares of Class B Common Stock, with a per share fair value of $27.31 to a key executive. These stock awards cliff vest after four years and the unvested por- tion is included in stockholders’ equity as unearned compensation in the accompanying financial statements. The charge to compen- sation expense for these stock awards was $750,000, $295,000 and $295,000 in fiscal 2002, 2001 and 2000, respectively. Option plan activity for the three fiscal years ended February 1, 2003 is set forth below: Range of Option Prices Weighted Average Price Options 2,972,782 46,250 (425,350) (56,300) $ 1.50 - $ 14.59 $ 9.59 - 14.38 4.94 - 13.44 6.94 - 13.44 9.39 11.66 7.82 10.23 2,537,382 21,750 (778,182) (25,700) 4.94 - 14.59 12.66 - 18.91 4.94 - 14.59 7.69 - 14.59 1,755,250 45,500 (344,100) (14,700) 4.94 - 18.91 18.05 - 26.76 4.94 - 17.63 8.25 - 12.28 9.68 16.17 8.20 11.61 10.39 20.89 8.11 11.27 1,441,950 $ 4.94 - $ 26.76 $ 11.20 Outstanding options, January 29, 2000 Granted Exercised Cancelled Outstanding options, February 3, 2001 Granted Exercised Cancelled Outstanding options, February 2, 2002 Granted Exercised Cancelled Outstanding options, February 1, 2003 The following tables summarize stock option information at February 1, 2003: Options Outstanding Weighted Average Remaining Contractual Life 2.37 years 4.72 years 6.73 years 6.22 years 5.60 years Options 93,600 493,400 418,150 436,800 1,441,950 Weighted Average Exercise Price 7.52 $ 8.28 $ $ 12.40 $ 14.14 $ 11.20 Options Exercisable Weighted Average Exercise Price 7.52 $ $ 8.26 $ 12.42 $ 13.35 $ 10.34 Options 93,600 483,600 211,750 275,450 1,064,400 Range of Exercise Prices $ 4.94 - $ 7.69 $ 8.00 - $ 9.59 $ 10.66 - $ 12.72 $ 13.06 - $ 26.76 $ 4.94 - $ 26.76 Range of Exercise Prices $ 4.94 - $ 7.69 $ 8.00 - $ 9.59 $ 10.66 - $ 12.72 $ 13.06 - $ 26.76 $ 4.94 - $ 26.76 T H E C AT O C O R P O R AT I O N PA G E 2 3 N O T E S T O C O N S O L I D AT E D F I N A N C I A L S TAT E M E N T S Outstanding options at February 1, 2003 covered 717,000 shares of Class B Common Stock and 724,950 shares of Class A Common Stock. Outstanding options at February 2, 2002 covered 889,500 shares of Class B Common Stock and 865,750 shares of Class A Common Stock. Options available to be granted under the option plans were 421,618 at February 1, 2003 and 452,418 at February 2, 2002. The Company applies APB Opinion No. 25, “Accounting for Stock Issued to Employees”, and related interpretations in accounting for its stock option plans. Accordingly, no compensation expense has been recognized for stock-based compensation where the option price of the stock approximated the fair market value of the stock on the date of grant. Had compensation expense for fiscal 2002, 2001 and 2000 stock options granted been determined consistent with SFAS No. 123, “Accounting for Stock-Based Compensation”, the Company’s net income and basic and diluted earnings per share amounts for fiscal 2002, 2001 and 2000 would approximate the following pro- forma amounts (dollars in thousands, except per share data): Stock-Based Employee Compensation Cost* $ (740) $ (0.03) $ (0.03) As Reported $ 45,833 1.80 $ 1.77 $ Proforma $ 45,093 1.77 $ 1.74 $ Net income – Fiscal 2002 Basic earnings per share Diluted earnings per share Net income – Fiscal 2001 Basic earnings per share Diluted earnings per share $ 43,086 1.71 $ 1.66 $ $ (1,593) $ (0.06) $ (0.06) $ 41,493 1.65 $ 1.60 $ Net income – Fiscal 2000 Basic earnings per share Diluted earnings per share $ 39,027 1.56 $ 1.53 $ $ (1,596) $ (0.06) $ (0.06) $ 37,431 1.50 $ 1.47 $ * determined using fair value method The weighted-average fair value of each option granted during fiscal 2002, 2001 and 2000 is estimated at $8.29, $8.19 and $5.45 per share, respectively. The fair value of each option grant is esti- mated using the Black-Scholes option-pricing model with the following assumptions for grants issued in 2002, 2001 and 2000, respectively: expected dividend yield of 3.29%, 2.62% and 2.42%; expected volatility of 57.06%, 59.84% and 60.34%, adjusted for expected dividends; risk-free interest rate of 2.60%, 4.36% and 4.71%; and an expected life of 5 years for 2002, 2001 and 2000. The effects of applying SFAS 123 in this proforma disclosure are not indicative of future amounts. In May 2002, the Board of Directors increased the quarterly divi- dend by 11% from $.135 per share to $.15 per share. Total comprehensive income for the years ended February 1, 2003, February 2, 2002 and February 3 2001 is as follows (in thousands): Fiscal Year Ended Net income Unrealized gains on available-for-sale securities Income tax effect Unrealized gains net of taxes Total comprehensive February 1, 2003 $ 45,833 February 2, 2002 $ 43,086 February 3, 2001 $ 39,027 1,268 (448) 820 488 (171) 317 1,411 (494) 917 income $ 46,653 $ 43,403 $ 39,944 8 . E M P L O Y E E B E N E F I T P L A N S : The Company has a defined contribution retirement savings plan (401(k)) which covers all employees who meet minimum age and service requirements. The 401(k) plan allows participants to contribute up to 60% of their annual compensation up to the max- imum elective deferral, designated by the IRS. The Company is obligated to make a minimum contribution to cover plan adminis- trative expenses. Further Company contributions are at the discretion of the Board of Directors. The Company’s contributions for the years ended February 1, 2003, February 2, 2002 and February 3, 2001 were approximately $1,906,000, $2,596,000 and $2,348,000, respectively. The Company has an Employee Stock Ownership Plan (ESOP), which covers substantially all employees who meet minimum age and service requirements. The Board of Directors determines contribu- tions to the ESOP. No contributions were made to the ESOP for the years ended February 1, 2003, February 2, 2002 or February 3, 2001. The Company is self-insured with respect to employee health, workers compensation and general liability claims. The Company has stop-loss insurance coverage for individual claims in excess of $250,000 for workers compensation and employee health and $100,000 for general liability. Employee health claims are funded through a VEBA trust to which the Company makes periodic contributions. Contributions to the VEBA trust were $8,970,000, $9,090,000 and $6,964,000 in fiscal 2002, 2001 and 2000, respectively. T H E C AT O C O R P O R AT I O N PA G E 2 4 N O T E S T O C O N S O L I D AT E D F I N A N C I A L S TAT E M E N T S 9 . L E A S E S : 1 1 . I N C O M E TA X E S : The Company has operating lease arrangements for store facilities and equipment. Facility leases generally are for periods of five years with renewal options and most provide for additional contingent rentals based on a percentage of store sales in excess of stipulated amounts. Equipment leases are generally for three to seven year periods. The minimum rental commitments under non-cancelable operating leases are (in thousands): Fiscal Year 2003 2004 2005 2006 2007 Total minimum lease payments $ 37,308 28,581 21,711 15,406 8,177 $ 111,183 The following schedule shows the composition of total rental expense for all leases (in thousands): Fiscal Year Ended Minimum rentals Contingent rent Total rental expense February 1, 2003 $ 37,848 389 $ 38,237 February 2, 2002 $ 37,117 471 $ 37,588 February 3, 2001 $ 34,449 479 $ 34,928 1 0 . R E L AT E D P A R T Y T R A N S A C T I O N S : The Company leases certain of its stores from entities in which Mr. George S. Currin, a director of the Company, has an ownership interest. Rent expense and related charges totaling $883,367, $785,936 and $523,853 were paid in fiscal 2002, 2001 and 2000, respectively, under these leases. During 2000, 2001, 2002 and the first quarter of 2003, the Company made payments totaling $59,017, $70,651, $115,069 and $92,122 for the benefit of entities in which Mr. Wayland H. Cato, Jr., Chairman of the Board, and Mr. Edgar T. Cato, Former Vice Chairman of the Board and Co-Founder and Director, have a material interest. These payments were charged to expense in the periods indicated. The Company subsequently determined these payments were unrelated to the business of the Company. In April 2003, $362,557, including interest of $25,698, was reimbursed to the Company. The provision for income taxes consists of the following (in thousands): Fiscal Year Ended Current income taxes: Federal State Total Deferred income taxes: Federal State Total Total income tax expense February 1, 2003 February 2, 2002 February 3, 2001 $ 24,572 1,364 25,936 $ 22,309 469 22,778 $ 18,461 954 19,415 63 7 70 $ 26,006 376 46 422 $ 23,200 1,319 281 1,600 $ 21,015 Significant components of the Company’s deferred tax assets and liabilities as of February 1, 2003 and February 2, 2002 are as fol- lows (in thousands): Deferred tax assets: Bad debt reserve Inventory valuation Write-down of short-term investments Restricted stock options Unrealized losses on short-term investments Other, net Total deferred tax assets Deferred tax liabilities: Tax over book depreciation Unrealized gains on short-term investments Other, net Total deferred tax liabilities Net deferred tax liabilities February 1, 2003 February 2, 2002 $ 2,338 1,739 669 407 $ 2,288 1,282 – 296 – 2,972 8,125 305 936 5,107 11,682 5,898 143 1,218 13,043 $ 4,918 – 3,609 9,507 $ 4,400 The reconciliation of the Company’s effective income tax rate with the statutory rate is as follows: Fiscal Year Ended Federal income tax rate State income taxes Other Effective income tax rate February 1, 2003 35.0% 1.2 0.0 36.2% February 2, 2002 35.0% 0.9 (0.9) 35.0% February 3, 2001 35.0% 1.6 (1.6) 35.0% T H E C AT O C O R P O R AT I O N PA G E 2 5 N O T E S T O C O N S O L I D AT E D F I N A N C I A L S TAT E M E N T S 1 2 . Q U A R T E R LY F I N A N C I A L D ATA ( U N A U D I T E D ) : Summarized quarterly financial results are as follows (in thousands, except per share data): Fiscal 2002 Retail sales Total revenues (1) Cost of goods sold Gross margin Income before income taxes Net income Basic earnings per share Diluted earnings per share Fiscal 2001 Retail sales Total revenues (2) Cost of goods sold Gross margin Income before income taxes Net income Basic earnings per share Diluted earnings per share First 196,617 200,491 124,460 72,157 28,683 18,300 .72 .71 First 180,347 183,946 116,391 63,956 24,485 15,916 .63 .61 $ $ $ $ $ $ Second 186,900 190,715 125,854 61,046 19,213 12,258 .48 .47 Second 172,444 175,790 118,093 54,351 16,867 10,963 .43 .42 $ $ $ $ $ $ Third $ 158,217 162,228 110,188 48,029 8,507 5,427 .21 .21 $ $ Third $ 147,619 151,043 101,743 45,876 7,746 5,035 .20 .20 $ $ Fourth 191,008 194,897 135,843 55,165 15,436 9,848 .39 .38 Fourth 185,243 188,542 130,139 55,104 17,188 11,172 .45 .43 $ $ $ $ $ $ (1) For the first three quarters of 2002, the Company reported interest and dividend income of $1,150, $1,673 and $1,147, respectively, as part of total revenues. Such amounts have been reclassified outside of total revenues. This reclassification had no impact on Income before income taxes or Net Income. (2) For the four quarters of 2001, the Company reported interest and dividend income of $1,784, $1,611, $1,827 and $1,115, respectively, as part of total revenues. Such amounts have been reclassi- fied outside of total revenues. This reclassification had no impact on Income before income taxes or Net Income. 1 3 . R E P O R TA B L E S E G M E N T I N F O R M AT I O N : The Company has two reportable segments: retail and credit. The Company operates its women’s fashion specialty retail stores in 26 states, principally in the Southeast. The Company offers its own credit card to its customers and all credit authorizations, payment processing, and collection efforts are performed by a separate sub- sidiary of the Company. Fiscal 2000 Revenues Depreciation Interest and other income, net Income before taxes Total assets Capital expenditures Retail $ 648,552 9,426 (6,554) 55,278 244,199 27,195 Credit $ 13,985 66 – 4,764 66,543 35 Total $ 662,537 9,492 (6,554) 60,042 310,742 27,230 The following schedule summarizes certain segment information (in thousands): Fiscal 2002 Revenues Depreciation Interest and other income, net Income before taxes Total assets Capital expenditures Retail $ 734,352 14,851 (3,680) 66,375 310,173 28,953 Fiscal 2001 Revenues Depreciation Interest and other income, net Income before taxes Total assets Capital expenditures Retail $ 686,092 10,821 (6,299) 62,786 263,909 25,684 Credit $ 13,979 62 – 5,464 73,237 – Credit $ 13,229 65 – 3,500 68,132 – Total $ 748,331 14,913 (3,680) 71,839 383,410 28,953 Total $ 699,321 10,886 (6,299) 66,286 332,041 25,684 The accounting policies of the segments are the same as those described in the summary of significant accounting policies. The Company evaluates performance based on profit or loss from operations before income taxes. The Company does not allocate certain corporate expenses or income taxes to the segments. 1 4 . C O M M I T M E N T S A N D C O N T I N G E N C I E S : Workers compensation and general liability claims are settled through a claims administrator and are limited by stop-loss insurance cover- age for individual claims in excess of $250,000 and $100,000, respectively. The Company paid claims of $1,652,000, $1,379,000 and $1,486,000 in fiscal 2002, 2001 and 2000, respectively. The Company had no outstanding letters of credit relating to such claims at February 1, 2003 or at February 2, 2002. See Note 6 for let- ters of credit related to purchase commitments, Note 8 for 401(k) plan contribution obligations and Note 9 for lease commitments. The Company is a defendant in legal proceedings considered to be in the normal course of business and none of which, singularly or col- lectively, are considered to be material to the Company as a whole. T H E C AT O C O R P O R AT I O N PA G E 2 6 I N D E P E N D E N T A U D I T O R S ’ R E P O R T T O T H E B O A R D O F D I R E C T O R S A N D S T O C K H O L D E R S O F T H E C AT O C O R P O R AT I O N We have audited the accompanying consolidated balance sheets of The Cato Corporation and subsidiaries (the Company) as of February 1, 2003 and February 2, 2002, and the related consolidated statements of income, stockholders’ equity, and cash flows for each of the three years in the period ended February 1, 2003. These financial statements are the responsibility of the Company’s management. Our responsibility is to express an opinion on these financial statements based on our audits. We conducted our audits in accordance with auditing standards generally accepted in the United States of America. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion. In our opinion, such consolidated financial statements present fairly, in all material respects, the financial position of the Company at February 1, 2003 and February 2, 2002 and the results of its operations and its cash flows for each of the three years in the period ended February 1, 2003, in conformity with accounting principles generally accepted in the United States of America. Charlotte, North Carolina April 21, 2003 T H E C AT O C O R P O R AT I O N PA G E 2 7 M A N A G E M E N T E X E C U T I V E G R O U P A N D B O A R D O F D I R E C T O R S M A N A G E M E N T E X E C U T I V E G R O U P B O A R D O F D I R E C T O R S John P. Derham Cato President, Vice Chairman of the Board and Chief Executive Officer Michael O. Moore Executive Vice President, Chief Financial Officer and Secretary B. Allen Weinstein Executive Vice President, Chief Merchandising Officer of the Cato Division David P. Kempert Executive Vice President, Chief Store Operations Officer of the Cato Division C. David Birdwell Executive Vice President, President and General Manager of the It’s Fashion! Division Howard A. Severson Executive Vice President, Chief Real Estate and Store Development Officer and Assistant Secretary Robert C. Brummer Senior Vice President, Human Resources and Assistant Secretary Wayland H. Cato, Jr. 1 Chairman of the Board John P. Derham Cato 1 President, Vice Chairman of the Board and Chief Executive Officer Edgar T. Cato 1 Former Vice Chairman of the Board and Co-Founder Michael O. Moore Executive Vice President, Chief Financial Officer and Secretary Clarice Cato Goodyear Special Assistant to the Chairman Thomas E. Cato Vice President, Divisional Merchandise Manager Robert W. Bradshaw, Jr. 1 Of Counsel - Robinson, Bradshaw & Hinson, P.A. George S. Currin 1,3 Chairman and Managing Director of The Fourth Stockton Company LLC and Chairman Currin-Patterson Properties LLC Grant L. Hamrick 1,2,3 Retired Senior Vice President, Chief Financial Officer, American City Business Journals James H. Shaw 2 Retired Chairman and Chief Executive Officer Ivey’s Department Stores A. F. (Pete) Sloan 1,2,3 Retired Chairman and Chief Executive Officer Lance, Inc. 1 Member of the Executive/Finance Committee 2 Member of the Compensation Committee 3 Member of the Audit Committee T H E C AT O C O R P O R AT I O N PA G E 2 8 C O R P O R AT E I N F O R M AT I O N A copy of the Company’s Annual Report to the Securities and Exchange Commission (Form 10-K) for the fiscal year ended February 1, 2003 is available to shareholders without charge upon written request to Mr. Michael O. Moore, Executive Vice President, Chief Financial Officer and Secretary, The Cato Corporation, P.O. Box 34216, Charlotte, North Carolina 28234. C O R P O R AT E H E A D Q U A R T E R S The Cato Corporation 8100 Denmark Road Charlotte, North Carolina 28273-5975 Telephone: (704) 554-8510 M A R K E T & D I V I D E N D I N F O R M AT I O N The Company’s Class A Common Stock trades on the New York Stock Exchange (NYSE) under the symbol CTR. Below is the market range and dividend information for the four quarters of 2002 and 2001. 2002 First quarter Second quarter Third quarter Fourth quarter 2001 First quarter Second quarter Third quarter Fourth quarter High $ 27.21 27.44 19.95 21.80 High $ 20.00 21.75 20.06 21.34 Price Low $ 19.91 18.00 14.18 17.33 Price Low $ 14.81 15.51 14.23 16.68 $ Dividend .135 .15 .15 .15 $ Dividend .125 .135 .135 .135 As of March 21, 2003 the approximate number of holders of the Company’s Class A Common Stock was 1,314 and there were 10 record holders of the Company’s Class B Common Stock. M A I L I N G A D D R E S S P.O. Box 34216 Charlotte, North Carolina 28234 I N D E P E N D E N T A U D I T O R S Deloitte & Touche LLP Charlotte, North Carolina 28202-1675 C O R P O R AT E C O U N S E L Robinson, Bradshaw & Hinson, P.A. Charlotte, North Carolina 28246 T R A N S F E R A G E N T A N D R E G I S T R A R Wachovia Bank, N.A. Securities Transfer Department, CMG-5 Charlotte, North Carolina 28288 A N N U A L M E E T I N G N O T I C E The Annual Meeting of Shareholders 11:00 a.m., Thursday, May 22, 2003 Corporate Office, 8100 Denmark Road, Charlotte, NC 28273-5975 T H E C AT O C O R P O R AT I O N PA G E 2 9 8 1 0 0 D E N M A R K R O A D C H A R L O T T E , N C 2 8 2 7 3 - 5 9 7 5 W W W. C A T O C O R P. C O M 

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