Tilly’s Annual Report 2018

Plain-text annual report

To Our Stockholders: Tillys con(cid:2)nued its posi(cid:2)ve momentum during ﬁscal 2018, pos(cid:2)ng its strongest comparable store net sales result (+4.0%), including e-commerce, since ﬁscal 2011 and ﬁnishing the ﬁscal year with its strongest consecu(cid:2)ve three-quarter run of posi(cid:2)ve comps since the three-quarter period beginning with the fourth quarter of ﬁscal 2011. This growth has resulted in Tillys’ best opera(cid:2)ng margin (5.3%) since ﬁscal 2013’s 6.0%. Our strong cash ﬂow genera(cid:2)on allowed us to provide a special dividend to stockholders for the third consecu(cid:2)ve year in February 2019. We have made con(cid:2)nuous progress toward increasing the proﬁtability of the Tillys business in each ﬁscal year since I rejoined Tillys in October 2015. Our stated goals when I rejoined the Company were to return to mid-single-digit opera(cid:2)ng margins in the near term, with the goal of returning to high single-digit opera(cid:2)ng margins over the longer term driven by improved sales produc(cid:2)vity. To date, we have delivered on those stated goals and expect further progress in ﬁscal 2019. In a business like ours, the merchandise assortment must lead the way, and our mul(cid:2)-branded, diﬀeren(cid:2)ated assortment did just that during ﬁscal 2018. Our broad and diverse merchandise assortment, which serves young men, young women, boys and girls, includes over 200 brands that each achieved at least $100,000 in net sales for us during the year. The strength of our diversiﬁed por(cid:4)olio of brands resulted in the highest sales penetra(cid:2)on of third-party brands for us (75% of our net sales in ﬁscal 2018) since becoming a public company in May 2012. This result was led by high-proﬁle brands that we believe resonate with our target customers’ interests and lifestyles, such as Vans, adidas, Volcom, RVCA, Billabong, Champion, Salty Crew, and many others. In addi(cid:2)on, we had some meaningful success with our own proprietary brands during ﬁscal 2018 as well. Proprietary brands represented 25% of our total net sales for the year, including three of our top ﬁve brands overall – RSQ, Full Tilt, and our Sky and Sparrow brand – which further diﬀeren(cid:2)ates us from our compe(cid:2)- tors. Managing our por(cid:4)olio of brands is no diﬀerent than managing a diversiﬁed por(cid:4)olio of investments, and we are dedicated to ensuring that our por(cid:4)olio remains current and reﬂects what our customers tell us they want most. Poten(cid:2)al expansion opportuni(cid:2)es and real estate eﬃciencies will con(cid:2)nue to be signiﬁcant focuses for us. We plan to open approximately 10 to 15 new, full-size stores during ﬁscal 2019, but we will remain highly selec(cid:2)ve in execu(cid:2)ng on only those opportuni(cid:2)es in which we can obtain favorable lease economics that reﬂect the current retail environment. Our goal is to only open stores that we an(cid:2)cipate will drive accre(cid:2)ve growth to our bo(cid:6)om line. In addi(cid:2)on to unit growth, we have approximately 140 lease decisions to make during the period covering ﬁscal 2019 through ﬁscal 2021, with just over half of those due to occur this ﬁscal year. These decisions include lease extension op(cid:2)ons, nego(cid:2)ated lease renewals, and available kick-out clauses that will impact over 60% of our exis(cid:2)ng stores in the next three years. Our goal is to con(cid:2)nue to improve our bo(cid:6)om line, and our decision-making and nego(cid:2)a(cid:2)on process regarding these lease oppor- tuni(cid:2)es will con(cid:2)nue to reﬂect that goal, including poten(cid:2)ally closing stores if strategically appropriate. We believe that the number of ac(cid:2)on items within, and ﬂexibility of, our lease por(cid:4)olio gives us a compe(cid:2)(cid:2)ve advantage. Finally, despite the con(cid:2)nuing declining mall traﬃc environment aﬀec(cid:2)ng retail generally, we will con(cid:2)nue to focus on driving store traﬃc and convenience for our customers. We have successfully driven store traﬃc growth and increased comparable store net sales in physical stores in each of the last two ﬁscal years. We aim to con(cid:2)nue this trend in ﬁscal 2019. This eﬀort will include a strategic combina(cid:2)on of in-store events, co-branded promo(cid:2)ons, and contests to generate excitement at the store level. This approach will be further supplemented with con(cid:2)nuing technology investments in omni-channel and mobile capabili(cid:2)es to improve customer engagement and convenience through our direct-to-consumer program, enhanced loyalty program, mobile app and same-day delivery from certain stores. We also con(cid:2)nue to expect our recent and con(cid:2)nuing investments in e-commerce and omni-channel capabili(cid:2)es to con(cid:2)nue to drive meaningful growth in our online business in ﬁscal 2019 and beyond. Despite the con(cid:2)nued challenges facing retail generally, we con(cid:2)nued to deliver growth in revenue, store traﬃc, and opera(cid:2)ng margin. I’m proud of the progress we have made since I returned to Tillys, and I would like to take this opportu- nity to thank the en(cid:2)re Tillys team and our brand partners for their eﬀorts, and you, our stockholders, for your con(cid:2)nued support. We aim to con(cid:2)nue our posi(cid:2)ve progress in ﬁscal 2019, and we remain focused on driving improved stockhold- er value over the long term. We look forward to sharing our progress with you. Ed Thomas President and Chief Execu(cid:2)ve Oﬃcer UNITED STATESAA SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549 FORM 10-K (Mark One) ANNUAL REPORT PRR OF 1934 URSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT For the fiscal year ended February 2, 2019 OR TRANSITION REPORT PRR EXCHANGE ACT OF 1934 URSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES Commission File Number: 001-35535 LL TILLY’S, INC. (Exact name of registrant as specified in its charter) Delaware (State or other jurisdiction of incorporation or organization) 10 Whatney, Irvine, CA (Address of principal executive offices) 45-2164791 (I.R.S. Employer Identification No.) 92618 (Zip Code) (949) 609-5599 (Registrant’s telephone number, irr ncluding area code) Securities registered pursuant to Section 12(b) of the Act: Title of Each Class Class A Common Stock, $0.001 par value per share Name of Each Exchangeg on Which Register New York Stock Exchange g ed Securities registered pursuant to Section 12(g) of the Act: None Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act. Yes Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Act. Yes 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 Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted 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 Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a nonaccelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “small reporting company,”yy and "emerging growth company" in Rule 12b-2 of the Exchange Act: No ¨ No No No Large accelerated filer: Nonaccelerated filer: Accelerated filer: Smaller reporting company: Emerging growth company: If an emerging growth company, iyy ndicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Act). Yes No As of August 4, 2018, the last business day of the registrant's most recently completed second quarter, the aggregate market value of voting stock held by non-affiliates at August 3, 2018. of the registrant was $227,376,751 based on the closing price of the registrant's common stock of $15.34 per share ff As of March 26, 2019, the registrant had 21,757,948 shares of Class A common stock, par value $0.001 per share, outstanding, and 7,746,108 shares of Class B common stock, par value $0.001 per share, outstanding. Portions of the Proxy Statement for the registrant’s Annual Meeting of Stockholders to be held June 12, 2019 are incorporated by reference into Part III of this Annual Report on Form 10-K. DOCUMENTS INCORPORATEDAA BY REFERENCE TABLE OF CONTENTS PART I Item 1. Business Item 1A. Risk Factors Item 1B. Unresolved Staffff Comments Item 2. Item 3. Properties Legal Proceedings Item 4. Mine Safety Disclosures PART II Item 5. Market for Registrant’s Common Equity,yy Related Stockholder Matters and Issuer Purchases of Equity Securities Item 6. Selected Financial Data Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations Item 7A. Quantitative and Qualitative Disclosures About Market Risk Item 8. Financial Statements and Supplementary Data Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure Item 9A. Controls and Procedures Item 9B. Other Information PART III Item 10. Directors, Executive Officers ff Item 11. Executive Compensation and Corporate Governance Item 12. Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters Item 13. Certain Relationships and Related Transactions, and Director Independence Item 14. Principal Accounting Fees and Services PART IV Item 15. Exhibits, Financial Statement Schedules Item 16, Form 10-K Summary Signatures 5 16 27 27 28 29 30 31 33 44 45 70 70 73 73 73 73 73 73 73 73 77 2 Forward-Looking Statements This annual report contains forward-looking statements that are subject to risks and uncertainties. All statements other than statements of historical or current fact included in this annual report are forward-looking statements. Forward-looking statements refer to our current expectations and projections relating to our financial condition, results of operations, plans, objectives, strategies, future performance and business. You can identify forward-looking statements by the fact that they do not relate strictly to historical or current facts. These statements may include words such as “anticipate”, “estimate”, “expect”, “project”, “plan”, “intend”, “believe”, “may”, “might”, “will”, “should”, “can have”, “likely” and other words and terms of similar meaning in connection with any discussion of the timing or nature of future operating or financial performance or other events. For example, all statements we make relating to our estimated and projected earnings, revenues, comparable store sales, operating income, earnings per share, costs, expenditures, cash flows, growth rates and financial results, our plans and objectives for future operations, growth or initiatives, strategies or the expected outcome or impact of pending or threatened litigation are forward-looking statements. All forward-looking statements are subject to risks and uncertainties that may cause actual results to differ ff materially from those that we expected, including: • • • • • • • • • • • • • • • • • • • • • our ability to successfully open new stores and profitably operate our existing stores; our ability to attract customers to our e-commerce website; our ability to efficiently ff utilize our e-commerce fulfillment center; effectively ff adapting to new challenges associated with our expansion into new geographic markets; our ability to establish, maintain and enhance a strong brand image; generating adequate cash from our existing stores to support our growth; identifying and responding to new and changing customer fashion preferences and fashion-related trends; competing effectively ff in an environment of intense competition both in stores and online; containing the increase in the cost of mailing catalogs, paper and printing; the success of the malls, power centers, neighborhood and lifestyle centers, outlet centers and street-front locations in which our stores are located; our ability to attract customers in the various retail venues and geographies in which our stores are located; our ability to adapt to downward trends in trafficff for our stores and changes in our customers' purchasing patterns; adapting to declines in consumer confidence and decreases in consumer spending; our ability to adapt to significant changes in sales due to the seasonality of our business; our ability to compete in social media marketing platforms; price reductions or inventory shortages resulting from failure to purchase the appropriate amount of inventory in advance of the season in which it will be sold; natural disasters, unusually adverse weather conditions, boycotts and unanticipated events; changes in the competitive environment in our industry and the markets we serve, including increased competition from other retailers; our dependence on third-party vendors to provide us with sufficient increases in costs of energy,yy transportation or utility costs and in the costs of labor and employment; quantities of merchandise at acceptable prices; ff our ability to balance proprietary branded merchandise with the third-party branded merchandise we sell; • most of our merchandise is made in foreign countries, making price and availability of our merchandise susceptible to international trade conditions; • • • • • • • • • ff failure of our vendors and their manufacturing sources to use acceptable labor or other practices; our dependence upon key executive management or our inability to hire or retain the talent required for our business; our ability to effectively ff adapt to our rapid expansion in recent years and our planned expansion; of our information technology systems to support our current and growing business, before and after our planned failure ff upgrades; disruptions in our supply chain and distribution center; our indebtedness and lease obligations, including restrictions on our operations contained therein; our reliance upon independent third-party transportation providers for certain of our product shipments; our ability to increase comparable store sales or sales per square foot, which may cause our operations and stock price to be volatile; disruptions to our information systems in the ordinary course or as a result of systems upgrades; 3 • • • • • • our inability to protect our trademarks or other intellectual property rights; acts of war, terrorism or civil unrest; the impact of governmental laws and regulations and the outcomes of legal proceedings; our ability to secure the personal financial information of our customers and comply with the security standards for the credit card industry; our failure to maintain adequate internal controls over our financial and management systems; and continuing costs incurred as a result of being a public company. We derive many of our forward-looking statements from our operating budgets and forecasts, which are based upon detailed assumptions. While we believe that our assumptions are reasonable, we caution that it is very difficult known factors, and it is impossible for us to anticipate all factors that could affect to predict the impact of our actual results. ff ff See “Risk Factors” for a more complete discussion of the risks and uncertainties mentioned above and for discussion of other risks and uncertainties. All forward-looking statements attributable to us are expressly qualified in their entirety by these cautionary statements as well as others made in this annual report and hereafter in our other SEC filings and public communications. You should evaluate all forward-looking statements made by us in the context of these risks and uncertainties. We caution you that the risks and uncertainties identified by us may not be all of the factors that are important to you. Furthermore, the forward-looking statements included in this annual report are made only as of the date hereof. We undertake no obligation to publicly update or revise any forward-looking statement as a result of new information, future events or otherwise, except as otherwise required by law. 4 PART I Item 1. Business Tillys is a leading destination specialty retailer of casual apparel, footwear and accessories for young men, young women, boys and girls. We believe we bring together an unparalleled selection of iconic global, emerging and proprietary brands rooted in an active and outdoor lifestyle. Our stores and website are designed to be a seamless extension of our teen and young adult consumers' lifestyles in a stimulating environment. Tillys is headquartered in Irvine, California and we operated 229 stores, including four RSQ-branded pop-up stores, in 33 states as of February 2, 2019. Our stores are located in malls, lifestyle centers, ‘power’ centers, community centers, outlet centers, and street-front locations. Customers may also shop online, where we feature the same assortment of products as is carried in our brick-and-mortar stores, supplemented by additional online-only styles. We believe our success across a variety of real estate venues and geographies in the United States demonstrates Tillys' portability. Our goal is to serve as a destination for the most relevant merchandise and brands important to our customers. The Tillys concept began in 1982 when our co-founders, Hezy Shaked and Tilly Levine, opened their first store in Orange County,yy California. Tilly's, Inc., a Delaware corporation, conducted an initial public offering publicly-traded entity that operates the Tillys business through its wholly-owned subsidiary,yy World of Jeans & Tops, a California corporation. on May 2, 2012, becoming the ff Our fiscal year ends on the Saturday closest to January 31. For example, "fiscal 2018" refers to the fiscal year ended February 2, 2019; "fiscal 2017" refers to the fiscal year ended February 3, 2018; and "fiscal 2016" refers to the fiscal year ended January 28, 2017. As used in this annual report on Form 10-K, except where the context otherwise requires or where otherwise indicated, the terms "the Company", "WorldWW of Jeans and Tops", "WOJT", "we", "our", "us", and "Tillys" refer to World of Jeans & Tops before our initial public offering, and to Tilly's, Inc. and its subsidiary after our initial public offering. ff ff Our Strengths We believe that the following competitive strengths contribute to our success and distinguish us from our competitors: • • • ff ff assortment. We believe the combined depth and breadth of apparel, and differentiated rr at our stores exceeds the selection offered Destination retailer with a broadrr footwear and accessories offered an extensive selection of over 200 brands, including lifestyle and emerging third-party brands, as well as proprietary brands, that each generated at least $100,000 in annual net sales. Our merchandise includes a wide assortment of brands, styles, ff colors, sizes, and price points to ensure our customers have a variety of choices every time they visit our stores. We offer balanced mix of merchandise across the apparel, footwear and accessories categories serving young men, young women, boys, and girls. We believe that by combining proven and emerging fashion trends and core style products with a vibrant blend of carefully selected music and visuals, we provide an in-store experience that is authentic, fun, and engaging for our in-store environment, evolving selection of relevant brands, and broader core customers. We believe that our differentiated and deeper assortment positions us as a retail destination that appeals to a larger demographic than many other specialty retailers. at many other specialty retailers. We offer a ff ff ff rr several trends simultaneously,yy offer model. We believe our extensive selection of third-party and proprietary merchandise allows us to Dynamic merchandise identify and offer a greater range of price points, and manage our inventories more dynamically. By closely monitoring trends and shipping product to our stores multiple times per week, we are able to adjust our merchandise mix based on store size and location. We also keep our merchandise mix relevant by introducing emerging brands not available at many other retailers. Our merchandising capabilities enable us to adjust our merchandise mix with a frequency that promotes a current look to our stores and website. ff ff Flexible real estate strategy across different outlet centers and street-front locations across 85 markets in 33 states. We believe our success operating in these different retail venues and geographies demonstrates the portability of the Tillys brand. real estate venues and geographies. We operate stores in malls, power centers, neighborhood and lifestyle centers, real estate venues and geographies. Our stores have proven to be successful in rr ff rr rr marketing approach . We utilize a multi-pronged marketing strategy to connect with our customers and to our stores and online platforms. We distribute catalogs and postcards to potential and existing customers • Multi-pronged drive trafficff from our proprietary database to familiarize them with the Tillys brand, our products, and to drive trafficff website. We offer and when they like, and to drive further connection with them. We partner and collaborate with our vendors on exclusive, compelling in-store events and contests to build credibility with our target customers, actively involve them in our brands, and enhance the connection between Tillys and our customers' active lifestyle. We use social media to communicate directly with our customers while also encouraging customers to interact with one another and provide feedback on our an integrated digital platform between our online and mobile applications for our customers to shop how to our stores and ff 5 events and products. We also look to partner with social media stars and influencers to drive brand awareness. In addition, we have a customer loyalty program to further engage with our customers, build customer loyalty,yy reward our most loyal customers, and gain customer insights. All of these programs are complemented by digital and email marketing, as well as print advertising, to build customer awareness and loyalty,yy highlight key merchandise offerings, to our stores and online platforms, and promote the Tillys brand. Also, through our “WeWW Care Program”, we support and participate in various academic, art, and athletic programs at local schools and other organizations in communities surrounding our stores. drive trafficff ff Systems and distribution/fulfillment infrastructurerr to support growth. distribution, fulfillment and allocation infrastructure that we believe are adequate to support continued growth for several years. Our distribution center allows us to quickly sort and process merchandise and deliver it to our stores in a floor- ready format for immediate display. We also have a dedicated e-commerce fulfillment center to support our online growth potential. Our systems enable us to respond to changing fashion trends, manage inventory in real time, and provide a customized selection of merchandise at each location. We believe our distribution and fulfillment infrastructure can support significant growth in our stores and e-commerce platform with minimal incremental capital investment. We have previously made investments in rr management team. Our senior management team, led by Hezy Shaked and Edmond Thomas, has extensive EE Experienced experience across a wide range of disciplines in the specialty retail and direct-to-consumer industries, including store operations, merchandising, distribution, real estate, and finance. Mr. Shaked, our Co-Founder, Executive Chairman of the Board of Directors, and Chief Strategy Officer , plays an important role in developing our long-term growth initiatives and cultivating our unique culture. Mr. Thomas, our President and Chief Executive Officer with over 30 years of retail experience. He previously served as our President and Co-Chief Executive Officer September 2005 to October 2007. , rejoined Tillys in October 2015 from ff ff ff • • Growth Strategy We are pursuing several strategies to drive long-term sales and profitability,yy including: • • • Drive Comparable Storerr Sales. We seek to maximize our comparable store sales by consistently offering and relevant merchandise, including exclusive and proprietary branded merchandise, across a broad assortment of categories, increasing our brand awareness through our multi-pronged marketing approach, providing an authentic in-store and online experience for our core customers, and maintaining a high level of customer service. In fiscal 2019, we plan on enhancing our existing loyalty program to further reward our most loyal customers. We believe the combination of these factors, together with the operating strategies described below,ww will improve our comparable store sales results over time. new,ww on-trend ff r Our Operating Margins. We believe we have the opportunity to drive operating margin expansion through scale Increase rr efficiencies and continued process improvements. We believe comparable store sales increases will permit us to generate ff more favorable buying costs from larger volume purchases, and better leverage largely fixed occupancy costs, labor costs for store management and corporate overhead, as well as the fixed portion of shipping and handling costs over higher sales volumes. In addition, we expect to improve operating margins and support growth by leveraging previous investments in infrastructure, including our dedicated fulfillment center for e-commerce, and upgraded e-commerce platform and in-store point-of-sale system. We also will continue to use established business processes to identify and execute initiatives focused on lowering our unit costs and improving operational efficiency throughout our organization. ff ff rr Growing E-Commerce. in our brick-and-mortar stores, reach new customers, and build our brand in rr We believe our e-commerce platform is an extension of our brand and retail stores, Continue CC providing our customers a seamless shopping experience. Our e-commerce platform allows us to provide our customers with extensions of the same assortment offered markets where we currently do not have stores. For example, we generate e-commerce sales in all 50 states although we have physical stores in only 33 states. Our target customer regularly shops online and via mobile devices in addition to visiting stores, giving us a continued opportunity to grow our e-commerce platform over time. We recently implemented a new point-of-sale system in stores, upgraded our e-commerce website platform, and implemented a new order management system that is integrated with our stores and website to allow for certain omni-channel capabilities, including fulfilling e- commerce orders from stores when items are out of stock in our e-commerce distribution center and allowing customers to place orders online for in-store pickup. In fiscal 2019, we plan to upgrade our mobile application to provide an enhanced customer experience, and launch both a same-day delivery option from select stores and a ship-from-store ordering option for our e-commerce customers. Key factors we expect to drive growth include continuing our catalog, online and mobile and responsiveness of our digital capabilities, and supplementing application marketing efforts, the assortment available in our brick-and-mortar stores with additional online-only styles. We also expect to expand marketing efforts brick-and-mortar and e-commerce sales. and build brand awareness in the communities surrounding our existing stores to drive growth in both enhancing the efficiency ff ff ff • Inventory Management. We believe we can improve our operating results through improved micro-merchandising Improve rr based on specific store characteristics. We regularly update individual store profiles for every store to highlight the 6 in brand performance, gender penetrations, and customer interests that exist within our fleet of stores. By ff differences adapting allocation strategies to capitalize on these individual store differences, our existing store base. ff we believe we can improve sales results in • • • Develop Omni-Channel Capabilities. We have a direct-to-consumer program that allows online orders to be fulfilled and shipped directly to our customers from our brick-and-mortar stores when inventory is otherwise unavailable in our e- commerce fulfillment center. In addition, our omni-channel capabilities allow customer online orders to be picked up in stores at our customers' discretion, allowing us to satisfy an order from existing inventories within our stores as well as shipping product from our e-commerce fulfillment center to our stores. In fiscal 2019, we plan to further enhance our omni-channel capabilities by seeking to offer our e-commerce customers. We believe these omni-channel capabilities will drive additional trafficff increase sales opportunities with customers who come to the store to pick up their online orders. same-day delivery from select stores and a ship-to-store ordering option for to our stores and ff rr We believe that re-investing in our existing stores is strategically important to enhance Reinvest in Existing Stores. customer loyalty,yy elevate the customer experience and, in turn, drive additional comparable store sales. We have remodeled or refreshed approximately 90% of our stores in the last three years, and intend to continue to do so in the future to keep the physical representation of the Tillys brand updated and compelling for our customers. Real Estate Opportunities. With 229 total stores at the end of fiscal 2018, including four RSQ-branded pop-up stores, we believe there are numerous attractive opportunities for Tillys to continue to open new stores in the future. During fiscal 2019, we plan to open 10 to 15 new full-size stores, with a focus on clustering stores in promising markets to further enhance brand awareness. Additionally,yy we continue to evaluate opportunities to expand RSQ-branded pop-up stores to improve the brand awareness of both Tillys and our proprietary RSQ brand. With regard to existing stores, we have an aggregate of approximately 140 lease decisions to make over the course of fiscal 2019, 2020 and 2021, over half of which are during 2019, covering a range of stores across all markets. These lease decisions include lease extension options, lease kick-out options, and lease expirations that require negotiated renewals. In each case, our real estate decisions will be driven by the overarching goal of improving our profitability. As a result, we may likely close a limited number of stores from time to time if acceptable levels of profitability cannot be obtained through occupancy negotiations with landlords. Merchandising, Purchasing, and Planning and Allocation Merchandising ff We seek to be viewed by our customers as the destination for the apparel, footwear and accessories that best represent their an unparalleled selection of relevant brands, styles, colors, sizes and price active, connected lifestyle. We believe we offer points to ensure our customers have a variety of choices every time they visit our stores. Our extensive selection of third-party and proprietary merchandise allows us to identify and address trends more quickly,yy offer manage our inventories more dynamically. We offer girls across the apparel, footwear and accessories categories. We believe this category mix contributes to our broad demographic appeal. Our apparel merchandise includes branded, fashion, and core styles for tops, outerwear, bottoms, and dresses. Accessories merchandise includes backpacks, hats, sunglasses, headphones, handbags, watches, jewelry,yy and more. We focus on our merchandise presentation and vary the visual displays in our stores and windows throughout the month, presenting new looks and fashion combinations to our customers. a balanced mix of merchandise for young men, young women, boys and a greater range of price points, and ff ff The following table summarizes the percent of net sales by department: Mens Womens Accessories Footwear Boys Girls Total net sales February 2, 2019 Fiscal Year Ended February 3, 2018 January 28, 2017 35% 25% 18% 12% 6% 4% 100% 35% 25% 19% 11% 6% 4% 100% 33% 26% 19% 11% 6% 5% 100% Our ability to maintain an image consistent with our customers' lifestyle is important to our branded vendors and provides us better access to a wide assortment of products and styles. Our third-party and proprietary branded merchandise includes a selection of approximately 200 brands, including lifestyle and emerging third-party brands, that each generated at least 7 $100,000 in annual net sales during fiscal 2018. We strive to keep our merchandise mix current by continuously introducing emerging brands and styles not available at many other specialty retailers in order to identify and respond to the evolving desires of our customers. Our third-party brands represented approximately 75%, 74% and 72% of our total net sales in fiscal 2018, 2017 and 2016, respectively. No single third-party brand reached 10% of our total net sales in any year. Selected third-party brands include, in alphabetical order: • Adidas • Billabong • Brixton • Champion • Converse • Diamond Supply • Dickies • Ethika • G-Shock • Herschel Supply Co. • Hurley • HUF • Hydro Flask • Jansport • Levi’s • Neffff • Nike SB • Nixon • O’Neill • Primitive • RayBan • Riot Society • Rip Curl • Roxy • RVCA • Salty Crew • Santa Cruz • Spy • Stance • The North Face • Vans • Volcom ...and many more We supplement our third-party merchandise assortment with our own proprietary brands across many of our product categories. We utilize our own proprietary,yy branded merchandise to expand our price point range, identify and respond to changing fashion trends quickly,yy fill merchandise gaps and provide a deeper selection of styles and colors for proven fashion items. Our proprietary brands represented approximately 25%, 26% and 28% of our total net sales in fiscal 2018, 2017 and 2016, respectively. 8 Examples of our proprietary branded merchandise include: Brand Categoryg y Denim, apparel and fragrance brand for young men, young women and kids Apparel and accessories brand for young women and girls Apparel and accessories brand for young men and boys Apparel, beauty and fragrance brand for young women Apparel for young women Apparel for girls Apparel for young women (Destined) ELDON Apparel for young men Fragrance brand for young men We believe that our extensive selection of merchandise, from established and emerging third-party brands as well as our proprietary brands, caters to a wide demographic of core customers and enhances our store image as a destination that carries the most sought-after apparel, footwear and accessories. Merchandise Purchasing Our merchandising team is organized by category and product type under our Chief Merchandising Officer divisional merchandise managers, a technical design and fashion trend team, buyers, associate buyers and assistant buyers. We believe a key element of our success is our team’s ability to identify and source the proven and emerging fashion trends and core styles that are most relevant to our customers. and includes ff Our purchasing approach focuses on product relevance, quality,yy fit, availability,yy cost and speed of production in order to provide timely frequent delivery of merchandise to our stores. Our purchasing group and planning and allocation team are highly coordinated and maintain a disciplined buying strategy. To ensure a relevant assortment, our teams: • perform comprehensive analysis of sales trends for both stores and e-commerce; 9 • • • • constantly seek out new emerging brands, while maintaining close partnerships with existing brands; utilize trend and color forecasting services; attend trade shows and youth culture events; conduct store visits to gather feedback from our customers and staff;ff • maintain market and consumer insight through shopping trends of leading retailers, direct competitors and relevant social media influencers. We have developed and maintain strong and, in many cases, long-standing relationships with our third-party vendors and we have a history of identifying and growing with emerging brands. We believe the Tillys brand, shopping experience and core customer lifestyle is highly consistent with the image and philosophy of our key vendors. This, in addition to our customer connectivity,yy facilitates a partnership culture with our key vendors and provides us access to an extensive variety of products and styles, as well as certain merchandise that is exclusive to our stores and website. Our merchandise purchasing group also works closely with independent third parties who design and procure merchandise for our proprietary brands. Our proprietary brand capabilities enhance our ability to rapidly identify and respond to trends and consistently offer proven fashion items that provide a broader demographic appeal. We work with more than 100 vendors based in the United States to supply us with our proprietary branded product. These vendors source from both domestic and international markets and either have their own factories or contract with owners of factories to source finished product. By sourcing merchandise for our proprietary brands both domestically and internationally,yy we have the flexibility to benefit from shorter lead times associated with domestic manufacturing and lower costs associated with international manufacturing. ff Planning and Allocation We have developed inventory planning and allocation processes to support our merchandising strategies. Working closely with our merchandise purchasing team, the planning and allocation team utilizes a disciplined approach to buying, forecasting, inventory control and allocation processes. Our planning and allocation team continually analyzes inventory levels and sell- through data to regularly adjust the assortment at each store and the inventory levels for our company as a whole. Our broad third-party vendor base allows us to shift merchandise purchases to react quickly to changing consumer preferences and market conditions. Furthermore, the vendor base for our proprietary products provides us flexibility to develop our own branded products to quickly address emerging fashion trends and provide a deeper selection of styles, colors, and price points for proven fashion items. We modify our merchandising mix based upon store size, the season, and consumer preferences in different parts of the country. We are also able to react quickly to changing customer needs due to our shipment of merchandise to our stores multiple times per week. Finally,yy we coordinate closely with our visual merchandise managers and marketing group in order to manage inventory levels in connection with our promotions and seasonality. ff Stores As of February 2, 2019, we operated 229 stores in 33 states, comprised of 225 full-size stores averaging approximately 7,500 square feet and four RSQ-branded pop-up stores averaging approximately 2,700 square feet. Our stores are located in mall, off-mall ff 2018. and outlet locations. Our stores generated average net sales of $2.3 million per store, or $301 per square foot, in fiscal The table below shows our number of stores by type of retail center as of the end of each of the last three fiscal years: Regional Mall Off-Mall ff Outlet (1) 2018 2017 2016 131 83 15 229 119 85 15 219 114 90 19 223 (1) Includes power centers, neighborhood and lifestyle centers, and street-front locations. 10 The table below shows the total number of stores by state as of February 2, 2019: State Arizona California Colorado Delaware Florida Georgia Illinois Indiana Kansas Maryland Massachusetts Michigan Minnesota Missouri Nebraska New Hampshire Nevada Number of Stores 19 95 5 1 19 2 6 5 2 1 2 3 2 2 1 2 6 State New Jersey New Mexico New York North Carolina Ohio Oklahoma Oregon Pennsylvania Rhode Island R South Dakota Tennessee TT Texas TT Utah VirVV ginia Washington WW W Wisconsin Number of Stores 5 1 4 2 3 3 2 4 1 1 3 14 4 3 3 3 Distinctive Store Experience Tillys is a customer-driven lifestyle brand. We are energized and inspired by our customers’ individuality and passion for an active, connected lifestyle. Our stores bring these interests together in a vibrant, stimulating and authentic environment that is an extension of our customers’ multi-tasking lifestyle. We do this by blending the most relevant brands and styles with music videos, product-related visuals, and a dedicated team of store associates. Our associates share the same passion as our customers for action sports, music, art and fashion, enabling them to easily engage with our customers and make shopping at Tillys a fun, social experience. Outside of our stores, we connect with our consumers using the same authentic approach, including social media, community outreach and sponsorship of contests, demos, and other events. We believe the Tillys experience drives customer awareness, loyalty and repeat visits while generating excitement for our brand. Store Expansion Opportunities and Site Selection The following table shows the number of stores opened and closed in each of our last five fiscal years: Fiscal Year 2014 2015 2016 2017 2018 Stores Opened 19 15 3 2 16 55 Stores Closed 2 3 4 6 6 21 Total Number of Stores at End of Period 212 224 223 219 229 During fiscal 2019, we plan to open 10 to 15 new full-size stores, with a focus on clustering stores in promising markets to further enhance brand awareness. Additionally,yy we continue to evaluate opportunities to expand RSQ-branded pop-up stores to improve the brand awareness of both Tillys and our proprietary RSQ brand. We focus on opening new stores in locations that population with attractive demographics. Given the recent have above-average incomes and an ability to draw from a sufficient ff industry trends of declining customer trafficff in physical stores, we will remain opportunistic and selective about additional new store opportunities. We may also close a limited number of stores in any given year based on lease negotiations with landlords. 11 Store Management, Culture and Training We believe that a key to our success is our ability to attract, train, retain and motivate qualified employees at all levels of our organization. Each of our stores typically operates with a three to five member store management team. In addition, each store has 10 or more full time equivalent store associates who represent an active lifestyle and promote the Tillys brand not only inside the store, but also in their schools and communities. The number of store associates we employ generally increases during peak selling seasons, particularly the back-to-school and the winter holiday seasons, and will increase to the extent that we open new stores. We have developed a corporate culture that we believe empowers the individual store managers to make store-level business decisions and we reward them when they exceed sales targets. We are committed to improving the skills and careers of our workforce and providing advancement opportunities for employees. We evaluate our store associates weekly on measures such as sales per hour, units per transaction and dollars per transaction to ensure productivity,yy to recognize top performers and to identify potential training opportunities. We endeavor to design incentive programs for store associates that promote a competitive, yet fun, culture that is consistent with our image. We provide our managers with the knowledge and tools to succeed through comprehensive training programs, focusing on both operational expertise and supervisory skills. Our training programs and workshops are offered at the store, district and regional levels, allowing managers from multiple locations to interact with each other and exchange ideas to better operate stores. Store associates receive training from their managers to improve their product expertise and selling skills. ff E-Commerce Our e-commerce platform was established in 2004 and has grown significantly since inception, generating total sales of $90 million during fiscal 2018, or 15% of our total net sales. We believe our digital platform is an extension of our brand and retail stores, providing our customers a seamless shopping experience. We believe that our target customer regularly shops online through various digital channels in addition to visiting stores. Our website serves both as a sales channel and a marketing tool to our extended customer base, including those customers in markets where we do not currently have stores. In both fiscal 2018 and 2017, we sold merchandise to customers in all 50 states even though we have brick-and-mortar stores in only 33 states. We also believe our fully integrated digital platform reinforces the Tillys brand image and serves as an effective advertising vehicle for our retail stores. Our digital platform provides the same assortment available in our brick-and-mortar stores, supplemented by additional online-only styles. Similar to the merchandising approach in our stores, we frequently change the look of our website to highlight new brands and products. We utilize multiple tools to drive trafficff our catalog, postcards, marketing materials in our retail stores, search engine marketing, online ad placement, shopping site email marketing, digital marketing and direct mail. In addition, we utilize the website to partnerships, third-party affiliations, offer current information on our upcoming events, promotions and store locations. We recently implemented a new point-of- ff sale system in stores, upgraded our e-commerce website platform, and implemented a new order management system that is integrated with our stores and website to allow for certain omni-channel capabilities, including fulfilling e-commerce orders from stores when items are out of stock in our e-commerce distribution center and allowing customers to place orders online for in-store pickup. In fiscal 2019, we plan to upgrade our mobile application to provide an enhanced customer experience, and launch both a same-day delivery option from select stores and a ship-from-store ordering option for our e-commerce customers. online, including ff ff Marketing and Advertising Our marketing approach is designed to create an authentic connection with our customers by consistently generating excitement for our brand and the connected, active lifestyle we represent. We utilize a multi-pronged marketing strategy to connect with our customers and drive trafficff to our stores and online platform, comprised of the following: • • • rr During fiscal 2016, we launched an improved and re-branded customer loyalty program designed to Loyalty Program. interact with our customers in a more direct and targeted manner, and to provide more insight into their shopping behaviors and preferences. This program offers more frequent and compelling rewards to our most loyal customers than our previous program. We plan to further enhance this program during fiscal 2019. ff Email Marketing. We utilize email marketing to build awareness, drive trafficff promote local in-store promotions and events. We periodically send emails to the customers in our proprietary database to introduce new brands and products, offer promotions on select merchandise, highlight key events and announce new store openings. to our stores and online platform and to ff and Postcards. rr We view our catalog and postcards in print format and our digital-format catalog primarily as from both existing and new customers. We also believe our CC Catalog sales and marketing tools to drive online and store trafficff marketing materials reinforce the Tillys brand and showcase our comprehensive selection of products in settings designed to reflect our brand’s lifestyle image. We send these marketing materials, which include coupons that can be redeemed at stores or online, to the customers in our database several times a year, primarily around key shopping periods such as spring break, back-to-school, and the winter holidays. 12 • • • Social Media. We believe our core customers rely heavily on the opinions of their peers, often expressed through social media. Therefore, we use our website blog, as well as Facebook, Instagram, Twitter, and Snapchat posts, as a viral marketing platform to communicate directly with our customers while also allowing customers to interact with one another and provide feedback on our events and products. We also partner with social media stars and influencers to drive brand awareness. Brand Partnerships. We partner and collaborate with our vendors for exclusive events such as autograph signings, in-store performances, contests, demos, giveaways, shopping sprees and VIP trips. We organize a variety of events, many involving musicians, celebrities and athletes in the entertainment, music and action sports industries. Through brand partnerships such as these, we are able to connect with and engage our customers in an exciting, authentic experience. rr Through our “WeWW Care Program” and in partnership with our vendors, we support and participate in Community Outreach. various academic, art, and athletic programs at local schools and other organizations in communities surrounding our stores. We also support Tilly’s Life Center, a non-profit foundation started by our co-founder, Tilly Levine, which provides underprivileged youth a healthy and caring environment to help create a well-defined sense of self, cultivate community mindedness, and release negative emotional stress. Distribution We distribute all of our store merchandise through a 126,000 square foot distribution facility co-located with our headquarters in Irvine, California. Our lease expires in December 2027. Extensive investments have been made to the distribution-center infrastructure, focused around systems automation, material-handling equipment, radio frequency technologies, and automated sorters in order to enhance our processing speed and long term scalability in support of our planned growth. We also operate a dedicated e-commerce fulfillment center in Irvine, California to handle all e-commerce orders in a highly automated environment that leverages material handling equipment, automated systems and other technologies consistent with our current distribution facility. This investment supports our e-commerce growth initiatives. We ship merchandise to our stores multiple times per week, providing them with a steady flow of both new and replenishment products. Merchandise is shipped in a floor-ready format (carrying price tickets, sensor tags and with hangers where appropriate) which allows store employees to spend less time processing the merchandise and more time with our customers. We use our own fleet of trucks to ship merchandise to our Southern California stores and third-party distributors to ship merchandise to stores outside of our local area. We believe our distribution and fulfillment infrastructure can support additional growth of our e-commerce platform and additional stores with minimal incremental capital investment. Information Technology Our information technology systems provide a full range of business process support and information to our store, merchandising, financial, real estate and other business teams. We selected, customized and integrated our information systems to enable and support our dynamic merchandise model. We believe our systems provide us with improved operational efficiencies, ff our business. We believe that our information systems are scalable, flexible and have the capacity to accommodate our current growth plans. scalability,yy management control and timely reporting that allow us to identify and quickly respond to changes in We have recently implemented new point-of-sale, order management, and customer relationship management systems through an end-to-end, cloud-based suite of technology additions, which included a re-platforming of our e-commerce website to a cloud-based, more cost-effective solution, that will improve the customer experience wherever, whenever and however our customers engage with us. We believe that these improvements will improve customer engagement, increase sales opportunities, enhance our real-time inventory visibility and order management, facilitate seamless omni-channel execution integrated across mobile devices and stores, and allow for true customer relations management capabilities. We plan to further upgrade our mobile application during fiscal 2019. ff Competition The teenage and young adult retail apparel, accessories and footwear industry is highly competitive. We compete with other retailers for customers, store locations, store associates and management personnel. We currently compete with other teenage- focused retailers such as, but not limited to, Abercrombie & Fitch Co., Aeropostale, Inc., American Eagle Outfitters, Inc., The Buckle, Inc., Forever 21, Inc., Hot Topic, Inc., Pacific Sunwear of California, Inc., Urban Outfitters, Inc., and Zumiez, Inc. In addition, we compete with independent specialty shops, department stores, off-price Amazon, stores and websites operated by our third-party brands and direct marketers that sell similar lines of merchandise and target customers through catalogs and e-commerce. Further, we may face new competitors and increased competition from existing competitors as we expand into new markets and increase our presence in existing markets. Given the extensive retailers, online marketplaces such as ff 13 number and types of retailers with which Tillys competes for customers, we believe that our target market is highly fragmented and we do not believe we have a significant share of this market. Competition in our sector is based, among other things, upon merchandise offerings, identify with the customer. We believe that we compete favorably with many of our competitors based on our differentiated merchandising strategy,yy store environment, flexible real estate strategy and company culture. However, many of our competitors are larger, have significantly more stores, and have substantially greater financial, marketing and other resources than we do. Moreover, we recognize that we do not possess exclusive rights to many of the elements that comprise our in-store experience and product offerings. could result in a reduction of any competitive advantage or special appeal that we might possess. See Item 1A. “Risk Factors— Risks Related to Our Business. We face intense competition in our industry and we may not be able to compete effectively Our competitors can emulate facets of our business strategy and in-store experience, which store location, price and the ability to .” ff ff ff ff Trademarks “Ambitious”, “Blue Crown”, “Division 7”, “Eldon”, “Full Tilt”, “Full Tilt Sport”, “If it’s not here...it’s not happening”, “Infamous”, “RSQ”, “#RSQME”,“Tilly's”, “Vindicated”, Motion”, “The Tilly’s Hookup”, "Vaporize”, logos related to some of these names, are among our trademarks registered with the United States Patent and Trademark Office. We regard our trademarks as valuable and intend to maintain such marks and any related registrations. We are not aware of any claims of infringement or other challenges to our right to use our marks in the United States. We vigorously protect our trademarks. VV "Destined",“Tilly’s Clothing & Shoes”, ”Full Tilt Swim”, “Girl in “Ivy + Main”, "Sky and Sparrow", "WestWW of Melrose", and "White Fawn" and ff VV Employees As of February 2, 2019, we employed approximately 1,400 full-time and approximately 4,200 part-time employees, of which and distribution facility and approximately 5,200 were employed at approximately 400 were employed at our corporate office our store locations. However, the number of total employees, especially part-time employees, fluctuates depending upon our seasonal needs and, in fiscal year 2018, varied between approximately 4,800 and 7,100 employees. None of our employees are represented by a labor union and we consider our relationship with our employees to be good. ff Government Regulation We are subject to labor and employment laws, laws governing advertising and promotions, privacy laws, safety regulations, consumer protection regulations and other laws that regulate retailers and govern the promotion and sale of merchandise and the operation of stores and warehouse facilities. We monitor changes in these laws and believe that we are in material compliance with applicable laws. Insurance We use insurance to address or reduce our exposure to actual or potential enterprise risks, including but not limited to workers’ liability,yy cyber/data security risks, fiduciary liability,yy ff compensation claims, property damage or loss, directors' and officers' general liability claims, automobile liability,yy employment practices liability,yy and employee-related health care, a portion of which is paid by the employees. We evaluate our insurance requirements on an ongoing basis to maintain what we believe to be adequate levels of coverage for these risks. Seasonality Due to the seasonal nature of the retail industry,yy we have historically experienced and expect to continue to experience fluctuations in our revenues and net income. Net revenues are typically smallest in the first quarter of a given fiscal year followed by sequentially increased net revenues in each succeeding quarter within a fiscal year. Our net sales fluctuate significantly in relation to various holidays and other peak shopping periods, including but not limited to the Thanksgiving and year-end holiday season, the back-to-school season, spring break periods, and other holidays. If, for any reason, our revenues were below seasonal norms or expectations during these quarters, particularly during peak selling periods, our annual results of The level of our working capital reflects the seasonality of our business. We expect operations could be adversely affected. inventory levels, along with an increase in accounts payable and accrued expenses, generally to reach their highest levels in anticipation of the increased revenues during these periods. ff 14 Additional Information We make available free of charge on our internet website, www.tillys.com, copies of our Annual Reports on Form 10-K, Quarterly Reports on Form 10-Q, Current Reports on Form 8-K and all amendments to these reports filed or furnished pursuant to Section 13(a) or 15(d) of the Securities Exchange Act of 1934, as amended, or the Exchange Act, as soon as reasonably practicable after filing such material electronically with, or otherwise furnishing it to, the Securities and Exchange Commission, or the SEC. In addition, these materials may be obtained at the web site maintained by the SEC at www.sec.gov. The reference to our website address does not constitute incorporation by reference of the information contained on the website, and the information contained on the website is not part of this document. 15 Item 1A. Risk Factors rr financial condition and results of operations, any of which could subsequently have an adverse effect on Our business faces significant risks and uncertainties. Certain important factors may have a material adverse effect on our business, prospects, the trading price of our Class A common stock, and you should carefully business, we encourage you to consider the following discussion of risk factors in its entiretyrr rr contained in or incorporated by refere ence Additional risks not currently business, financial condition and results of operations in futurerr periods. into this Annual Report on Form 10-K and our other public filings with the SEC. ,yy in evaluating our ,yy in addition to other information deem to be immaterial also may materially adversely affect our known to us or that we currently consider them. Accordingly rr rr rr rr Risks Related to Our Business Our business depends upon identifying and responding to changing customer fashion preferences and fashion-related trends. If we cannot identify trends in advance or we select the wrong fashion trends, our sales could be adversely affected. ff Fashion trends in the apparel, footwear and accessories market can change rapidly. We need to anticipate, identify and respond quickly to changing trends and consumer demands in order to provide the merchandise our customers seek and maintain our brand image. If we cannot identify changing trends in advance, fail to react to changing trends or misjudge the market for a trend, our sales could be adversely affected and we may be faced with a substantial amount of unsold inventory or missed opportunities. As a result, we may be forced to mark down our merchandise in order to dispose of slow moving inventory,yy which may result in lower profit margins, negatively impacting our financial condition and results of operations. ff .yy We face intense competition in our industry and we may not be able to compete effectively ff ff retailers, online marketplaces such as Amazon, stores and websites operated by our third-party The retail industry is highly competitive. We currently compete with other retailers such as, but not limited to, Abercrombie & Fitch Co., Aeropostale, Inc., American Eagle Outfitters, Inc., The Buckle, Inc., Forever 21, Inc., Hot Topic, Inc., Pacific Sunwear of California, Inc., Urban Outfitters, Inc. and Zumiez, Inc. In addition, we compete with independent specialty shops, department stores, off-price brands and direct marketers that sell similar lines of merchandise and target customers through catalogs and e-commerce. Moreover, the internet and other new technologies facilitate competitive entry and comparison shopping in our retail market. a multichannel shopping experience and use social media as a way to interact with our customers and enhance While we offer their shopping experiences, multichannel retailing is rapidly evolving and we must keep pace with changing customer expectations and new developments by our competitors. Competition with some or all of these retailers noted above could require us to lower our prices or risk losing customers. In addition, significant or unusual promotional activities by our competitors may cause us to respond in-kind and adversely impact our operating cash flow. Because of these factors, current and future competition could have a material adverse effect on our financial condition and results of operations. ff ff Furthermore, many of our competitors have greater financial, marketing and other resources than we currently do, and therefore may be able to devote greater resources to the marketing and sale of their products, generate national brand recognition or adopt more aggressive pricing policies than we can, which would put us at a competitive disadvantage. Moreover, we do not possess exclusive rights to many of the elements that comprise our in-store experience and product offerings. may seek to emulate facets of our business strategy and in-store experience, which could result in a reduction of any competitive advantage or special appeal that we might possess. In addition, most of the third-party branded products we sell are sold to us on a non-exclusive basis. As a result, our current and future competitors may be able to duplicate or improve on some or all of our in-store experience or product offerings customers’ shopping experience. If our competitors were to duplicate or improve on some or all of our in-store experience or ff product offerings, . our competitive position and our business could suffer that we believe are important in differentiating our stores and our Our competitors ff ff ff ff Our sales could be severely impacted by declines in consumer confidence and decreases in consumer spending. We depend upon consumers feeling confident to spend discretionary income on our product offering Consumer spending may be adversely impacted by economic conditions such as consumer confidence in future economic conditions, interest and tax rates, employment levels, salary and wage levels, general business conditions, the availability of consumer credit and the level of housing, energy and food costs. In addition, consumer spending can be impacted by non- economic factors, including geopolitical issues, trade restrictions, unseasonable weather, and other factors that are outside of our control. These risks may be exacerbated for retailers like us who focus on specialty apparel and accessories. Our financial performance is particularly susceptible to economic and other conditions in regions or states where we have a significant number of stores, such as the southwestern and northeastern United States and Florida. If periods of decreased consumer spending persist, our sales could decrease and our financial condition and results of operations could be adversely affected. to drive our sales. ff ff 16 Our continued growth depends upon our ability to successfully open a significant number of new stores and improve the performance of our existing stores and our e-commerce platform. We have grown our store count rapidly in recent years and that has contributed to our growth in revenue. However, in fiscal 2017 and 2016 we slowed the pace of new store openings to focus our efforts on improving the performance of our existing stores. While we have begun to re-institute moderate store growth beginning in fiscal 2018, these stores may not be profitable, and we may not be able to grow our revenue as we have in years past, or at all. In addition, our e-commerce platform which was established in 2004, has grown significantly since inception, generating total sales of $90 million during fiscal 2018, or 15% of our total net sales, which has also contributed to revenue growth. However, the e-commerce retail market continues to rapidly evolve and new e-commerce competition arises, and there can be no assurances that we can continue to grow our e- commerce revenue. The failure to improve the performance of existing stores and our e-commerce platform could have a material adverse effect on our financial condition and results of operations. ff ff We may continue to experience comparable store sales or sales per square foot declines, which may cause our results of operations to decline. The investing public may use comparable store sales or net store sales per square foot projections or results, over a certain period of time, such as on a quarterly or yearly basis, as an indicator of our profitability growth. Our comparable store sales have declined in recent periods and can vary significantly from period to period for a variety of reasons, such as the age of stores, changing economic factors, unseasonable weather, continued declines in mall and retail foot traffic, trends, pricing, the timing of the release of new merchandise and promotional events and increased competition. These factors could cause comparable store sales or net store sales per square foot to decline period to period or fail to grow at expected rates, which could adversely affect our results of operations during such periods. changing fashion ff ff We may not be able to implement our new business strategies, including the implementation of our new suite of technology solutions, on the timelines we anticipate, in a cost-effective manner,rr or at all. ff ff both a same-day delivery option from select stores and a ship-from-store ordering option for our In fiscal 2017, we implemented new point-of-sale, order management, and customer relations management systems and re- platformed our website. In fiscal 2019, we plan on updating our mobile application to provide an enhanced customer experience, as well as offering e-commerce customers. However, these upgrades may not be completed in the expected timeframe or may result in unanticipated costs, delays or declines in revenue. For example, in late fiscal 2017, we encountered technical issues with our updates to our order management and our e-commerce website that we have since resolved, but negatively impacted our results during that period. We may decide not to complete these projects if it becomes apparent that they are no longer feasible. Even if implemented, we cannot assure these upgrades will meet our current and future business needs or that they will operate as designed. Implementing new systems involves risks inherent in the conversion to a new technology platform including loss of information, and there is no assurance that the implementation of these upgrades will not result in disruptions to our business. If the implementation of our new systems are not executed efficiently ,yy our business and our operating results could be adversely affected. and effectively ff ff ff Our business largely depends on a strong brand image, and if we are not able to maintain and enhance our brand, particularly in new markets where we have limited brand recognition, we may be unable to increase or maintain our level of sales. We believe that our brand image and brand awareness has contributed significantly to the success of our business. We also believe that maintaining and enhancing our brand image, particularly in new markets where we have limited brand recognition, is important to maintaining and expanding our customer base. As we execute our growth strategy,yy our ability to successfully integrate new stores into their surrounding communities, to expand into new markets or to maintain the strength and distinctiveness of our brand image in our existing markets will be adversely impacted if we fail to connect with our target customer. Maintaining and enhancing our brand image may require us to make substantial investments in areas such as merchandising, marketing, store operations, e-commerce, social-media, community relations, store graphics, catalog distribution and employee training, which could adversely affect ff Failure to successfully market our brand in new and existing markets could harm our business, results of operations and financial condition. our cash flow and which may not ultimately be successful. Our sales can significantly fluctuate based upon shopping seasons, which may cause our operating results to fluctuate disproportionately on a quarterly basis. Because of a traditionally higher level of sales during the back-to-school and winter holiday shopping seasons, our sales are typically higher in the third and fourth fiscal quarters than they are in the first and second fiscal quarters. Accordingly,yy the results of a single fiscal quarter, particularly the third and fourth fiscal quarters, should not be relied on as an indication of our annual results or future performance. In addition, any factors that harm our third and fourth fiscal quarter operating results could have a disproportionate effect on our results of operations for the entire fiscal year. ff 17 We buy and stock merchandise based upon seasonal weather patterns and therefore unseasonable weather could negatively impact our sales. We buy select merchandise for sale based upon expected weather patterns during the seasons of winter, spring, summer and fall. If we encounter untimely aberrations in weather conditions, such as warmer winters or cooler summers than would be considered typical, these weather variations could cause some of our merchandise to be inconsistent with what consumers wish to purchase, causing our sales to decline. Furthermore, extended unseasonable weather conditions in regions such as in the southwestern United States, particularly in California, Arizona, Nevada, Florida and the northeastern United States will likely have a greater impact on our sales because of our store concentration in those regions. We depend on cash generated from our operations to support our growth, which could strain our cash flow.ww We primarily rely on cash flows generated from existing stores to fund our current operations and our growth plans. An increase in our net cash outflow for new stores or remodels of existing stores could adversely affect the amount of cash available to address other aspects of our business. our operations by reducing ff ff cash flows from operations to fund these activities and sufficient In addition, as we expand our business, we will need significant amounts of cash from operations to pay our existing and future lease obligations, build out new store space, remodel existing stores, purchase inventory,yy create new marketing and advertising initiatives, fund the expansion of our e-commerce business, pay personnel, pay for the increased costs associated with operating as a public company,yy and, if necessary,yy further invest in our infrastructure and facilities. If our business does not generate sufficient revolving credit facility or future credit facilities, we may need additional equity or debt financing. If such financing is not available to us on satisfactory terms, our ability to operate and expand our business or to respond to competitive pressures would be limited and we could be required to delay,yy curtail or eliminate planned store openings or investment in existing stores. Moreover, if we raise additional capital by issuing equity securities or securities convertible into equity securities, your ownership may be diluted. Any debt financing we may incur may impose on us covenants that restrict our operations, and will require interest payments that would create additional cash demands and financial risk for us. funds are not otherwise available from our existing ff Our ability to attract customers to our stores depends significantly on the success of the retail centers where the stores are located. ff We have historically depended on the location of our stores to generate a large amount of trafficff well-known and popular malls, power centers, neighborhood and lifestyle centers, outlet centers and street-front locations, usually near prominent retailers, to generate trafficff at these retail centers, and consequently our stores, to our stores. Trafficff could be adversely affected by economic downturns nationally or regionally,yy competition from Internet retailers, changes in consumer demographics, the closing or decrease in popularity of other retailers in the retail centers in which our stores are located, our inability to obtain or maintain prominent store locations within retail centers or the selection by prominent retailers and businesses of other locations. Over the last few years, we have experienced periodic declines in trafficff consumer purchasing behaviors shifted toward online purchases and we may experience similar further declines in the future. A reduction in trafficff would likely lead to a decrease in our sales, and, if similar reductions in trafficff stores, this could have a material adverse effect on our financial condition and results of operations. for our stores. We try to select occur at a number of our to our stores as ff Our ability to successfully open and operate new stores is subject to a variety of risks and uncertainties. As we continue to open additional locations, our ability to successfully open and operate new stores is subject to a variety of risks and uncertainties, such as: ff levels of inventory; identifying suitable store locations, the availability of which is beyond our control; obtaining acceptable lease terms; sourcing sufficient selecting the appropriate merchandise that appeals to our customers; hiring and retaining store employees; assimilating new store employees into our corporate culture; effectively avoiding construction delays and cost overruns in connection with the build-out of new stores; • • • • • • • • • managing and expanding our infrastructure to accommodate growth; and • integrating the new stores with our existing buying, distribution and other support operations. marketing new stores’ locations; ff Additionally,yy some of our new stores may open in locations close enough to our existing stores that a segment of customers will stop shopping at our existing locations and prefer to shop at the new locations, and therefore sales and profitability at those existing stores may decline. 18 Our e-commerce platform subjects us to numerous risks that could have an adverse effect ff on our results of operations. We sell merchandise over the internet through our e-commerce website, www.tillys.com. Our e-commerce platform and its continued growth subject us to certain risks that could have an adverse effect on our results of operations, including: ff • • • • from our stores; diversion of trafficff liability for online content; government regulation impacting the Internet; and risks related to the computer systems that operate our website and related support systems, including computer viruses, electronic break-ins, system errors or failures, and similar disruptions. Our failure to address and respond to these risks successfully could reduce e-commerce sales, increase costs and damage the reputation of our brand. We purchase merchandise in advance of the season in which it will be sold and if we purchase too much inventory we may need to reduce prices in order to sell it, which may adversely affect our overall profitability.yy ff for sale. If there is a significant decrease in demand for our products or if we fail to accurately predict fashion We must actively manage our purchase of inventory. Generally,yy we order merchandise months in advance of it being received ff and offered trends or consumer demands, or unseasonable weather impacts the anticipated demand for certain product categories, we may be forced to rely on markdowns or promotional sales to dispose of excess inventory. In addition, seasonal fluctuations also affect our inventory levels, as we usually order and carry a significant amount of inventory before the back-to-school and ff winter holiday shopping seasons. If we are not successful in selling our inventory during these periods, we may be forced to rely on markdowns or promotional sales to dispose of the inventory,yy or we may not be able to sell the inventory at all, which could have an adverse effect on our margins and operating income. ff If we fail to maintain good relationships with our suppliers or if our suppliers are unable or unwilling to provide us with quantities of merchandise at acceptable prices, our business and operations may be adversely affected. sufficient ff ff Our business is largely dependent on continued good relations with our suppliers, including vendors for our third-party branded products and manufacturers for our proprietary branded products. We operate on a purchase order basis for our proprietary branded and third-party branded merchandise and do not have long-term contractual relationships with our suppliers. Accordingly,yy our suppliers can refuse to sell us merchandise, limit the type or quantity of merchandise they sell us or raise prices at any time, which can have an adverse impact on our business. Deterioration in our relationships with our suppliers or increased demand for their products could have a material adverse impact on our business, and there can be no assurance that we will be able to acquire desired merchandise in sufficient vendors are vertically integrated, selling products directly from their own retail stores, and therefore are in direct competition with us. These vendors may decide at some point in the future to reduce or discontinue supplying their merchandise to us, supply us less desirable merchandise or raise prices on the products they do sell us. If we lose key vendors or are unable to find alternative vendors to supply us with substitute merchandise for lost products, our business may be adversely affected. quantities on terms acceptable to us in the future. Also, some of our ff ff A rise in the cost of raw materials, labor and transportation could increase our cost of sales and cause our results of operations and margins to decline. Fluctuations in the price, availability and quality of fabrics or other raw materials used to manufacture our products, as well as the price for transportation and labor, including the impact of federal or state minimum wage rate increases, could have adverse impacts on our cost of sales and our ability to meet our customers’ demands. In particular, because a key component of our clothing is cotton, increases in the cost of cotton may significantly affect the cost of our products and could have an adverse impact on our cost of sales. We may not be able to pass all or a portion of these higher costs on to our customers, which could have a material adverse effect on our profitability. ff ff Any inability to balance merchandise bearing our proprietary brands with the third-party branded merchandise we sell may have an adverse effect on our sales and gross margin. ff Our proprietary branded merchandise represents a significant portion of our net sales. Our proprietary branded merchandise generally has a higher gross margin than the third-party branded merchandise we offer best for us to continue to hold or increase the penetration of our proprietary brands in the future. However, carrying our proprietary brands limits the amount of third-party branded merchandise we can carry and, therefore, there is a risk that the customers’ perception that we offer proprietary branded merchandise, we are also exposed to greater fashion risk, as we may fail to anticipate fashion trends correctly. These risks, if they occur, could have a material adverse effect ff many major brands will decline. By maintaining or increasing the amount of our on sales and profitability. . As a result, we may determine that it is ff ff 19 Most of our merchandise is produced in foreign countries, making the price and availability of our merchandise susceptible to international trade and other international conditions. ff Although we purchase our merchandise from domestic suppliers, these suppliers have a majority of their merchandise made in foreign countries. Some foreign countries can be, and have been, affected disasters, negatively impacting trade. The countries in which our merchandise currently is manufactured or may be manufactured in the future could become subject to new trade restrictions imposed by the United States or other foreign governments. Trade restrictions, including increased tariffsff or quotas, embargoes and customs restrictions, against apparel items, as well as United States or foreign labor strikes, work stoppages or boycotts, could increase the cost or reduce the supply of apparel available to us and have a material adverse effect on our business, financial condition and results of operations. In addition, our merchandise supply could be impacted if our suppliers’ imports become subject to existing or future duties and quotas, or if our suppliers face increased competition from other companies for production facilities, import quota capacity and shipping capacity. Any increase in the cost of our merchandise or limitation on the amount of merchandise we are able to purchase could have a material adverse effect on our financial condition and results of operations. by political and economic instability and natural ff ff If our vendors and manufacturing sources fail to use acceptable labor or other practices our reputation may be harmed, which could negatively impact our business. We purchase merchandise from independent third-party vendors and manufacturers. If any of these suppliers have practices that are not legal or accepted in the United States, consumers may develop a negative view of us, our brand image could be damaged and we could become the subject of boycotts by our customers and/or interest groups. Further, if the suppliers violate labor or other laws of their own country,yy these violations could cause disruptions or delays in their shipments of merchandise. For example, much of our merchandise is manufactured in China and Mexico, which have different United States. We do not independently investigate whether our suppliers are operating in compliance with all applicable laws and therefore we rely upon the suppliers’ representations set forth in our purchase orders and vendor agreements concerning the suppliers’ compliance with such laws. If our goods are manufactured using illegal or unacceptable labor practices in these countries, or other countries from which our suppliers source the product we purchase, our ability to supply merchandise for our stores without interruption, our brand image and, consequently,yy our sales may be adversely affected. labor practices than the ff ff If we lose key management personnel our operations could be negatively impacted. Our business and growth depends upon the leadership and experience of our key executive management team, including our co-founder, Hezy Shaked, who currently serves as our Chief Strategy Officer Directors, and Edmond Thomas, our President and Chief Executive Officer , and we may be unable to retain their services. We also may be unable to retain other existing management personnel that are critical to our success, which could result in harm to our vendor and employee relationships, loss of key information, expertise or know-how and unanticipated recruitment and training costs. The loss of services of any of our key personnel could have a material adverse effect prospects, and could be viewed in a negative light by investors and analysts, which could cause our Class A common stock price to decline. Except for Mr. Thomas, none of our employees has an employment agreement and we do not intend to purchase key person life insurance covering any employee. If we lose the services of any of our key personnel or we are not able to attract additional qualified personnel, we may not be able to successfully manage our business. and Executive Chairman of our Board of on our business and ff ff ff If we cannot retain or find qualified employees to meet our staffing fulfillment centers, or our corporate offices, our business could be adversely affected. ff ff ff needs in our stores, our distribution and e-commerce ff If we cannot attract and retain corporate employees, district managers, store managers and store associates Our success depends upon the quality of the employees we hire. We seek employees who are motivated, represent our corporate culture and brand image and, for many positions, have knowledge of our merchandise and the skill necessary to excel in a customer service environment. The turnover rate in the retail industry is high and finding qualified candidates to fill positions may be difficult. with the qualifications we deem necessary at requisite cost, our ability to effectively affected. ff time employees to provide incremental staffing holiday seasons. We cannot guarantee that we will be able to find adequate temporary or seasonal personnel to staffff our operations when needed, which may strain our existing personnel or increase costs, and negatively impact our operations. In addition, we rely on temporary personnel to staffff our distribution and fulfillment centers, as well as seasonal part- to our stores in busy selling seasons such as the back-to-school and winter operate and expand may be adversely ff ff Our corporate headquarters, distribution and e-commerce fulfillment centers and information technology systems are in Irvine, California, and if their operations are disrupted, we may not be able to operate our store support functions, ship merchandise to our stores, or fulfill e-commerce orders, which would adversely affect our business. ff Our corporate headquarters, distribution center and information technology systems are in two locations in Irvine, California. If we encounter any disruptions to our operations within these buildings or if they were to shut down for any reason, including by fire or other natural disaster, then we may be prevented from effectively ff merchandise and operating our e-commerce platform. Furthermore, the risk of disruption or shut down at these buildings is greater than it might be if they were located in another region, as southern California is prone to natural disasters such as operating our stores, shipping and processing our 20 earthquakes and wildfires. Any disruption or shut down at these locations could significantly impact our operations and have a material adverse effect on our financial condition and results of operations. ff Our stores are mostly located in the southwestern and northeastern United States and in Florida, with a significant number of stores located in California, putting us at risk to region-specific disruptions. The majority of our stores are located in California, Arizona, Nevada, Florida and the northeastern United States. Sales in these states could be more susceptible to disruptions than other parts of the country,yy such as from economic and weather conditions, demographic and population changes and changes in fashion tastes, and consequently,yy we may be more susceptible to these factors than more geographically diversified competitors. For example, because of the negative economic impact caused by the downturn in the housing market that occurred several years ago, sales in these states have slowed more than sales in other regions. Compared to the country as a whole, stores in California are exposed to a relatively high risk of damage from a major earthquake or wildfires, while stores in Florida are exposed to a relatively high risk from hurricane damage. Any negative impact upon or disruption to the operations of stores in these states could have a material adverse effect condition and results of operations. on our financial ff We are required to make significant lease payments for our store leases, corporate offices, e-commerce fulfillment centers, which may strain our cash flow.ww ff warehouses and distribution and We lease all of our retail store locations as well as our corporate headquarters, warehouses, distribution and e-commerce fulfillment centers. We do not own any real estate. Leases for our stores are typically for terms of ten years and many can be extended in five-year increments. Many of our leases have early cancellation clauses which permit us to terminate the lease if certain sales thresholds are not met in certain periods of time. Our costs under these leases are a significant amount of our expenses and are growing rapidly as we expand the number of locations and existing locations experience expense increases. We are required to pay additional rent under many of our lease agreements based upon achieving certain sales plateaus for each store location. In addition, we must make significant payments for common area maintenance and real estate taxes. Many of our lease agreements also contain provisions which increase the rent payments on a set time schedule, causing the cash rent paid for a location to escalate over the term of the lease. In addition, rent costs could escalate when multi-year leases are renewed at the expiration of their lease term. These costs are significant, recurring and increasing, which places a consistent strain on our cash flows. ff We depend on cash flows from operations to pay our lease expenses and to fulfill our other cash needs. If our business does not generate sufficient funds are not otherwise available to us from borrowings ff under our available revolving credit facility or from other sources, we may not be able to service our operating lease expenses, grow our business, respond to competitive challenges or to fund our other liquidity and capital needs, which would harm our business. cash flows from operating activities, and sufficient Additional sites that we lease are likely to be subject to similar long-term leases. If an existing or future store is not profitable, and we decide to close it, we may nonetheless be committed to perform our obligations under the applicable lease including, among other things, paying the base rent for the balance of the lease term. In addition, as our leases expire, we may fail to negotiate renewals, either on commercially acceptable terms or at all, which could cause us to close stores in desirable locations. If we are unable to enter into new leases or renew existing leases on terms acceptable to us or be released from our obligations under leases for stores that we close, our business, profitability and results of operations may be harmed. We rely on third parties to deliver merchandise to our stores located outside of southern California and therefore our business could be negatively impacted by disruptions in the operations of these third-party providers. We rely on third parties to ship our merchandise from our distribution center in Irvine, California to our stores located across the United States, as well as to ship e-commerce sales packages directly to our customers. Relying on these third-party delivery services puts us at risk from disruptions in their operations, such as employee strikes, inclement weather and their ability to meet our shipping demands. If we are forced to use other delivery services, our costs could increase and we may not be able to meet shipment deadlines. Moreover, we may not be able to obtain delivery terms as favorable as those received from the transportation providers we currently use, which would further increase our costs. These circumstances may negatively impact our financial condition and results of operations. We rely on print and online marketing services. We use the U.S. Postal Service to mail printed marketing materials several times each year to inform our customers about our products, acquire new customers, drive customers into our stores, and promote our website and stores. As a result, postal rate increases and paper and printing costs affect website and stores and to distribute promotions to attract new customers and encourage existing customers to purchase from us. Any significant or unanticipated increase in postage, reduction in postal service, or slow-down in postal delivery,yy increases in paper and printing costs, increases in the cost of our online marketing services or any service interruption or failure on the part of such service providers could impair our ability to deliver printed marketing materials or our online marketing in a timely or the cost of our mailings. We also use third-party online services to market our ff 21 ff manner. This could also adversely impact our sales and earnings if we are unable to pass such increases economically efficient on to our customers or are unable to implement more efficient printing, mailing, delivery and order fulfillment systems or, in the case of our online marketing, to find alternative providers in a timely manner and on terms that are not significantly more costly to us. ff If our information technology fail to operate or are unable to support our growth, our operations could be disrupted. We rely upon our management information systems in almost every aspect of our daily business operations. For example, our management information systems serve an integral part in enabling us to order merchandise, process merchandise at our distribution center and retail stores, perform and track sales transactions, manage personnel, pay vendors and employees, operate our e-commerce platform and report financial and accounting information to management. In addition, we rely on our management information systems to enable us to leverage our costs as we grow. If our management information systems fail to operate or are unable to support our growth, our store operations and e-commerce platform could be severely disrupted, and we could be required to make significant additional expenditures to remediate any such failure. Our business is subject to a variety of laws, rules, and other obligations regarding data protection, which could result in additional compliance costs, subject us to enforcement actions, or cause us to change our platform or business practices. We are subject to a complex array of federal, state, and international laws relating to the collection, use, retention, disclosure, security,yy and transfer of personal data. Many jurisdictions have passed laws in this area, and other jurisdictions are considering imposing additional restrictions, including regulating the level of notice and consent required to collect and process end-user data. The data protection landscape is rapidly evolving, and implementation standards and enforcement practices are likely to remain uncertain for the foreseeable future. Complying with emerging and changing laws and requirements may cause us to incur substantial costs or require us to change our business practices. For example, on June 28, 2018, California passed the California Consumer Privacy Act of 2018 (“CCPA”), California residents certain rights with respect to their personal information. Under the CCPA,PP expansive access, deletion and portability rights to consumers in the United States. The law may also impose burdensome retention and compliance obligations on publishers and advertising technology companies. The CCPAPP also provides for civil penalties for violations, as well as a private right of action for data breaches that is expected to increase data breach litigation. Interpretation of the requirements remains unclear due to the recent passage of the regulation. The law is expected to take effect in 2020. businesses are required to grant which grants PP ff The cost of compliance with these laws, regulations, policies, legal obligations and industry standards is high and is likely to increase in the future. If our privacy or data security measures fail or are perceived to fail to comply with current or future laws, regulations, policies, legal obligations or industry standards, or any changed interpretations of the foregoing, we may be subject to litigation, regulatory investigations, enforcement actions, inquiries, prosecutions, fines or other liabilities, as well as negative publicity and a potential loss of business. Moreover, if future laws, regulations, industry standards, or other legal obligations, or any changed interpretations of the foregoing, limit the ability of our customers, partners or service providers to use and share personally identifiable information or other data or our ability to store, process and share personally identifiable information or other data, our costs could increase and our business, financial condition and operating results could be harmed. Even the perception of privacy or data protection concerns, whether or not valid, may inhibit market adoption, effectiveness technology services that rely on consumer data. Any failure or perceived failure by us to comply with federal, state, or foreign laws or self-regulatory standards could result in negative publicity,yy significant fines and expenses for remediation, diversion of management time and effort and proceedings against us by governmental entities, individuals or others. or use of our ff ff Our internal operations, management information systems and databases containing the personal information of our employees and customers could be disrupted by system security or operational failures or breached by intentional attacks. These disruptions or attacks could negatively impact our sales, increase our expenses, and harm our reputation. Database privacy,yy network security and identity theft are matters of growing public concern. Hackers, computer programmers and internal users may be able to penetrate our network security and create system disruptions, cause shutdowns and misappropriate our confidential information or that of third parties, including our employees and customers. Therefore, we could incur significant expenses addressing problems created by security breaches to our network. This risk is heightened because we collect and store customer information for marketing purposes, and use credit card information to process transactions. We must, and do, take precautions to secure customer information and prevent unauthorized access to our database of confidential information. However, if unauthorized parties, including external hackers or computer programmers, gain access to our database, they may be able to steal this confidential information. Our failure to secure this information could result in costly litigation, adverse publicity or regulatory action that could have a material adverse effect condition and results of operations. In addition, sophisticated hardware and operating system software and applications that we procure from third parties may contain defects in design or manufacture that could unexpectedly interfere with our operations, including potentially unintentionally sharing personal information retained by us. The cost to alleviate security risks, defects in on our financial ff 22 software and hardware and address any problems that occur could negatively impact our sales, distribution and other critical functions, as well as our financial results. If we are unable to protect our intellectual property rights, our financial results may be negatively impacted. Our success depends in large part on our brand image. Our company’s name, logo, domain name and our proprietary brands and our registered and unregistered trademarks and copyrights are valuable assets that serve to differentiate competitors. We currently rely on a combination of copyright, trademark, trade dress and unfair competition laws to establish and protect our intellectual property rights. We cannot assure you that the steps taken by us to protect our proprietary rights will be adequate to prevent infringement of our trademarks and proprietary rights by others, including imitation and misappropriation of our brand. We cannot assure you that obstacles will not arise as we expand our product lines and geographic scope. The unauthorized use or misappropriation of our intellectual property could damage our brand identity and the goodwill we created for our company,yy which could cause our sales to decline. Moreover, litigation may be necessary to protect or enforce these intellectual property rights, which could result in substantial costs and diversion of our resources, causing a material adverse effect our intellectual property rights, our brand identity and the goodwill we created for our company may diminish, causing our sales to decline. on our business, financial condition, results of operations or cash flows. If we cannot protect us from our ff ff Most of our intellectual property has not been registered outside of the United States and we cannot prohibit other companies from using our unregistered trademarks in foreign countries. Use of our trademarks in foreign countries could negatively impact our identity in the United States and cause our sales to decline. We may be subject to liability if we, or our vendors, infringe upon the intellectual property rights of third parties. We may be subject to liability if we infringe upon the intellectual property rights of third parties. If we were to be found liable for any such infringement, we could be required to pay substantial damages and could be subject to injunctions preventing further infringement. Such infringement claims could harm our brand image. In addition, any payments we are required to make and any injunction with which we are required to comply as a result of such infringement actions could adversely affect ff our financial results. We purchase merchandise from vendors that may utilize design copyrights, or design patents, or that may otherwise incorporate protected intellectual property. We are not involved in the manufacture of any of the merchandise we purchase from our vendors for sale to our customers, and we do not independently investigate whether these vendors legally hold intellectual property rights to merchandise that they are manufacturing or distributing. As a result, we rely upon vendors’ representations set forth in our purchase orders and vendor agreements concerning their right to sell us the products that we purchase from them. If a third-party claims to have licensing rights with respect to merchandise we purchased from a vendor, or we acquire unlicensed merchandise, we could be obligated to remove such merchandise from our stores, incur costs associated with destruction of such merchandise if the distributor or vendor is unwilling or unable to reimburse us and be subject to liability under various civil and criminal causes of action, including actions to recover unpaid royalties and other damages and injunctions. Although our purchase orders and vendor agreement with each vendor require the vendor to indemnify us against such claims, a vendor may not have the financial resources to defend itself or us against such claims, in which case we may have to pay the costs and expenses associated with defending such claim. Any of these results could harm our brand image and have a material adverse effect on our business and growth. ff Our founders control a majority of the voting power of our common stock, which may prevent other stockholders from influencing corporate decisions and may result in conflicts of interest. Our common stock consists of two classes: Class A and Class B. Holders of Class A common stock are entitled to one vote per share, and holders of Class B common stock are entitled to 10 votes per share, on all matters to be voted on by our common stockholders. All of the shares of Class B common stock are beneficially owned by Hezy Shaked and Tilly Levine. As a result, Mr. Shaked and Ms. Levine own a significant economic interest in the company and substantial majority of the total voting power of our outstanding common stock. In addition, Mr. Shaked serves as Executive Chairman of the Board of Directors, and is the voting trustee, pursuant to a voting trust agreement, covering the shares owned by Ms. Levine. As a result, Mr. Shaked may dictate the outcome of most corporate actions requiring stockholder approval, including the election of directors and mergers, acquisitions and other significant corporate transactions. Mr. Shaked may delay or prevent a change of control from occurring, even if the change of control could appear to benefit the stockholders. Mr. Shaked may also have interests that differ ff from yours and may vote in a way with which you disagree and which may be adverse to your interests. This ownership concentration may adversely impact the trading of our Class A common stock because of a perceived conflict of interest that may exist, thereby depressing the value of our Class A common stock. War, terrorism, civil unrest or other violence could negatively affect ff our business. All of our stores are located in public areas where large numbers of people typically gather. Terrorist attacks, threats of terrorist attacks or civil unrest involving public areas could cause people not to visit areas where our stores are located. Further, armed 23 conflicts or acts of war throughout the world may create uncertainty,yy causing consumers to spend less on discretionary purchases, including on apparel and accessories, and disrupting our ability to obtain merchandise for our stores. Such decreases in consumer spending or disruptions in our ability to obtain merchandise would likely decrease our sales and materially adversely affect public areas, could lead to lower trafficff management from the mall or shopping center could close the mall or shopping center in response to security concerns. Such closures, as well as lower trafficff our financial condition and results of operations. Other types of violence, such as shootings in malls or in in shopping malls or centers in which we operate stores. In addition, local authorities or due to security concerns, could result in decreased sales. ff Litigation costs and the outcome of litigation could have a material adverse effect ff on our business. From time to time we may be subject to litigation claims through the ordinary course of our business operations regarding, but not limited to, employment matters, compliance with the Americans with Disabilities Act of 1990, apparel, footwear and accessory safety standards, security of customer and employee personal information, contractual relations with vendors, marketing and infringement of trademarks and other intellectual property rights. Litigation to defend ourselves against claims by third parties, or to enforce any rights that we may have against third parties, may be necessary,yy which could result in substantial costs and diversion of our resources, causing a material adverse effect operations or cash flows. on our business, financial condition, results of ff We may be subject to unionization, work stoppages, slowdowns or increased labor costs. Currently,yy none of our employees are represented by a union. However, our employees have the right under the National Labor Relations Act to form or affiliate collective bargaining agreement were significantly different costs and adversely impact our profitability. Moreover, participation in labor unions could put us at increased risk of labor strikes and disruption of our operations. with a union. If some or all of our workforce were to become unionized and the terms of the from our current compensation arrangements, it could increase our ff ff Violations of and/or changes in laws, including employment laws and laws related to our merchandise, could make conducting our business more expensive or change the way we do business. We are subject to numerous regulations, including labor and employment, customs, truth-in-advertising, consumer protection and zoning and occupancy laws and ordinances that regulate retailers generally and/or govern the importation, promotion and sale of merchandise and the operation of stores and warehouse facilities. If these regulations were violated by our management, employees or vendors, the costs of certain goods could increase, or we could experience delays in shipments of our goods, be subject to fines or penalties or suffer reputational harm, which could reduce demand for our merchandise and hurt our business and results of operations. Similarly,yy changes in laws could make operating our business more expensive or require us to change the way we do business. For example, changes in laws related to employee health care, hours, wages, job classification and benefits could significantly increase operating costs and adversely impact our results of operations. Furthermore, changes in product safety or other consumer protection laws could lead to increased costs for certain merchandise, or additional labor costs associated with readying merchandise for sale. It may be difficult and our actions needed to respond to changes in the law could be costly and may negatively impact our operations. for us to foresee regulatory changes impacting our business ff ff As a result of being a publicly traded company,yy our management is required to devote substantial time to complying with public company regulations. As a result of being a publicly traded company,yy we are obligated to file periodic reports with the SEC under the Exchange Act. We are also subject to other reporting and corporate governance requirements, including certain requirements of the New York Stock Exchange, or NYSE, Financial Industry Regulatory Authority,yy or FINRA, and certain provisions of the Sarbanes-Oxley Act of 2002, or SOX, and the regulations promulgated thereunder, which impose significant compliance obligations on us. SOX, as well as rules subsequently implemented by the SEC, NYSE and FINRA, have imposed increased regulation and disclosure and have required enhanced corporate governance practices of public companies. Our efforts evolving laws, regulations and standards result in increased administrative expenses and a diversion of management’s time and attention from revenue-generating activities. In addition, if we fail to implement or maintain the requirements with respect to our internal accounting and audit functions, our ability to continue to report our operating results on a timely and accurate basis could be impaired and we could be subject to sanctions or investigation by regulatory authorities, such as the SEC, NYSE or FINRA. Any such action could harm our reputation and the confidence of investors and customers in our company and could materially adversely affect to comply with our business. ff ff Our failure to maintain adequate internal controls over our financial and management systems may cause errors in our financial reporting, which could in turn cause a loss of investor confidence. Our public company reporting obligations and our anticipated growth will likely strain our financial and management systems, internal controls and our employees. In addition, pursuant to Section 404 of SOX, we are required to provide annually an assessment of the effectiveness accounting firm will be required to provide an attestation on our assessment of our internal controls over financial reporting. of our internal controls over financial reporting and our independent registered public ff 24 ff The process required to comply with Section 404 of SOX is time consuming and costly. If during this process we identify one or more material weaknesses in our internal controls, it is possible that our management may not be able to certify that our by the certification deadline. Moreover, if we identify any material weaknesses or significant internal controls are effective deficiencies in our internal controls we will have to implement appropriate changes to these controls, which may require specific compliance training for our directors, officers and other personnel, entail substantial costs to modify our existing accounting systems and take a significant period of time to in maintaining the adequacy of our internal controls, and any failure to complete. Such changes may not, however, be effective maintain that adequacy,yy or consequent inability to produce accurate financial statements on a timely basis, could increase our operating costs and could materially impair our ability to operate our business. Effective internal controls are necessary for us to produce reliable financial reports and are important to prevent fraud. As a result, our failure to satisfy the requirements of Section 404 on a timely basis could result in us being subject to regulatory action and a loss of investor confidence in the reliability of our financial statements, both of which in turn could cause the market value of our Class A common stock to decline. and employees, require the hiring of additional finance, accounting, legal ff ff ff The terms of our credit facility impose operating and financial restrictions on us that may impair our ability to respond to changing business and economic conditions. We maintain a credit facility with Wells Fargo Bank, National Association. The credit facility contains customary affirmative and negative covenants, including limitations on indebtedness; limitations on consolidations, mergers and sales of assets; and limitations on transactions with affiliates. certain levels of liquidity and profitability. These limitations and covenants may restrict our ability to respond to changing business and economic conditions, and may therefore have a material adverse effect on our business. Although we do not currently have any outstanding borrowings under credit facility,yy we may in the future. If we are unable to meet these limitations and covenants, we may be in default under the credit facility,yy which could also have a material adverse effect The credit facility also contains financial covenants setting forth requirements for on our business. ff ff ff ff We may engage in strategic transactions that could negatively impact our liquidity,yy increase our expenses and present significant distractions to our management. We may consider strategic transactions and business arrangements, including, but not limited to, acquisitions, asset purchases, partnerships, joint ventures, restructurings, divestitures and investments. Any such transaction may require us to incur non- recurring or other charges, may increase our near and long-term expenditures and may pose significant integration challenges or disrupt our management or business, which could harm our operations and financial results. Changes to accounting rules or regulations could significantly affect ff our financial results. Our consolidated financial statements are prepared in accordance with accounting principles generally accepted in the United States of America, or GAAP.PP New accounting rules or regulations and changes to existing accounting rules or regulations have occurred and may occur in the future. Future changes to accounting rules or regulations, such as changes as a requirement to convert to international financial reporting standards, could negatively affect our results of operations and financial condition through increased cost of compliance. ff We may incur substantial expenses related to our issuance of share-based compensation, which may have a negative impact on our operating results for future periods. Accounting Standards Codification, or ASC, 718, We follow the provisions of Financial Accounting Standards Board ("FASB") Compensation-Stock Compensation, for share-based compensation. Our share-based compensation expenses may be significant in future periods, which could have an adverse impact on our operating and net income. FASB ASC 718 requires the use of subjective assumptions, including the options’ expected lives and the price volatility of our Class A common stock. Changes in the subjective input assumptions can materially affect increase in the competitiveness of the market for qualified employees could result in an increased use of share-based compensation awards, which in turn would result in increased share-based compensation expense in future periods. the amount of our share-based compensation expense. In addition, an FF ff We may experience fluctuations in our tax obligations and effective ff tax rate. We are subject to income taxes in federal and applicable state and local tax jurisdictions in the U.S. We record tax expense based on our estimates of current and future payments. At any time, many tax years are subject to audit by various taxing jurisdictions. The results of these audits and negotiations with taxing authorities may impact the ultimate settlement of these tax positions. As a result, there could be ongoing variability in our tax rates as taxable events occur and exposures are re-evaluated. Further, our effective earnings. tax rate in any financial statement period may be materially affected by changes in the mix and level of ff ff On December 22, 2017, the President signed the Tax Cuts and Jobs Act (the "TaxTT Act") into law. The Tax Act has significantly changed the U.S. federal income taxation of U.S. corporations, including by reducing the U.S. corporate income tax rate, limiting interest deductions, permitting immediate expensing of certain capital expenditures, revising the rules governing net operating losses and the rules governing foreign tax credits, and introducing new anti-base erosion provisions. Many of these 25 ff immediately,yy without any transition periods or grandfathering for existing transactions. The Tax Act is changes are effective unclear in many respects and could be subject to potential amendments and technical corrections, as well as interpretations and implementing regulations by the Treasury and Internal Revenue Service, any of which could lessen or increase certain adverse impacts of the Tax Act. In addition, it is unclear how these U.S. federal income tax changes will affect state and local taxation, which often uses federal taxable income as a starting point for computing state and local tax liabilities. ff Risks Related to Ownership of Our Class A Common Stock We are a controlled company within the meaning of the NYSE rules, and, as a result, we may rely on exemptions from certain corporate governance requirements that provide protection to stockholders of other companies. Mr. Shaked controls more than 50% of the total voting power of our common stock and we are considered a controlled company under the NYSE corporate governance listing standards. As a controlled company,yy certain exemptions under the NYSE listing standards will exempt us from the obligation to comply with certain NYSE corporate governance requirements, including the requirements: • • • that a majority of our Board of Directors consist of independent directors, as defined under the rules of the NYSE; that we have a corporate governance and nominating committee that is composed entirely of independent directors with a written charter addressing the committee’s purpose and responsibilities; and that we have a compensation committee that is composed entirely of independent directors with a written charter addressing the committee’s purpose and responsibilities. Although we intend to continue to comply with these listing requirements even though we are a controlled company,yy there is no guarantee that we will not take advantage of these exemptions in the future. Accordingly,yy so long as we are a controlled company,yy holders of our Class A common stock may not have the same protections afforded are subject to all of the NYSE corporate governance requirements. to stockholders of companies that ff If securities or industry analysts publish inaccurate or unfavorable research about our business, the price and trading volume of our Class A common stock could decline. The trading market for our Class A common stock depends in part on the research and reports that securities or industry analysts publish about us or our business. If one or more of the analysts who covers us downgrades our Class A common stock or publishes inaccurate or unfavorable research about our business, the price of our Class A common stock would likely decline. If one or more of these analysts ceases coverage of us or fails to publish reports on us regularly,yy demand for our Class A common stock could decrease, which could cause the price of our Class A common stock and trading volume to decline. Financial forecasting by us and financial analysts who may publish estimates of our performance may differff materially from actual results. Given the dynamic nature of our business, the current uncertain economic climate and the inherent limitations in predicting the future, forecasts of our revenues, comparable sales, margins, net income and other financial and operating forecasts may differ materially from actual results. Such discrepancies could cause a decline in the trading price of our Class A common stock. ff We have a small public float and this may result in price swings in our Class A common stock or make it difficult or dispose of our Class A common stock. ff to acquire This small public float can result in large swings in our stock price with relatively low trading volume. In addition, a purchaser that seeks to acquire a significant number of shares may be unable to do so without increasing our common stock price, and conversely,yy a seller that seeks to dispose of a significant number of shares may experience a decreasing stock price. The price of our Class A common stock has been, and may continue to be volatile and may decline in value. The market for retail apparel stocks can be highly volatile. As a result, the market price of our Class A common stock is likely to be volatile and investors may experience a decrease in the value of the Class A common stock, unrelated to our operations. The price of our Class A common stock has, and could in the future, fluctuate significantly in response to a number of factors, as discussed in this “Risk Factors” section. Further, securities class action litigation has often been initiated against companies following periods of volatility in their stock price. This type of litigation could result in substantial costs and divert our management’s attention and resources, and could also require us to make substantial payments to satisfy judgments or to settle litigation. The threat or filing of class action litigation lawsuits could cause the price of our Class A common stock to decline. Future sales of our common stock by us or by existing stockholders could cause the price of our Class A common stock to decline. Any sales of a substantial number of shares of our common stock in the public market, or the perception that such sales might occur, may cause the market price for our Class A common stock to decline. Most of these are freely tradable without restriction under the Securities Act of 1933, as amended, or Securities Act. The shares of Class A common stock and Class B 26 common stock held by Mr. Shaked and Ms. Levine, and the shares of Class A common stock held by our directors, officers other affiliates, are restricted securities under the Securities Act, and may not be sold in the public market unless the sale is ff registered under the Securities Act or an exemption from registration is available. ff and Our corporate organizational documents and Delaware law have anti-takeover provisions that may inhibit or prohibit a takeover of us and the replacement or removal of our management. In addition to the concentration of ownership and voting power held by Mr. Shaked and Ms. Levine, the anti-takeover provisions under Delaware law,ww as well as the provisions contained in our corporate organizational documents, may make an acquisition of us more difficult. For example: ff • • • • • ff for a stockholder to acquire us; our certificate of incorporation includes a provision authorizing our Board of Directors to issue blank check preferred stock without stockholder approval, which, if issued, would increase the number of outstanding shares of our capital stock and could make it more difficult our certificate of incorporation provides that if all shares of our Class B common stock are converted into Class A common stock or otherwise cease to be outstanding, our Board of Directors will be divided into three classes in the manner provided by our certificate of incorporation. After the directors in each class serve for the initial terms provided in our certificate of incorporation, each class will serve for a staggered three-year term; our certificate of incorporation permits removal of a director only for cause by the affirmative majority of the voting power of the company once the Board of Directors is divided into three classes and provides that director vacancies can only be filled by an affirmative our amended and restated bylaws require advance notice of stockholder proposals and director nominations; and Section 203 of the Delaware General Corporation Law may prevent large stockholders from completing a merger or acquisition of us. vote of a majority of directors then in office; vote of the holders of a ff ff ff These provisions may prevent a merger or acquisition of us which could limit the price investors would pay for our common stock in the future. Our amended and restated bylaws designate the Court of Chancery of the State of Delaware as the sole and exclusive forum for certain types of actions and proceedings that may be initiated by our stockholders, which could limit our stockholders’ ability to obtain a favorable judicial forum for disputes with us or our directors, officers or other employees. ff Our amended and restated bylaws provide that, unless we consent in writing to an alternative forum, the Court of Chancery of the State of Delaware will be the sole and exclusive forum for (i) any derivative action or proceeding brought on our behalf, (ii) any action asserting a claim of breach of a fiduciary duty owed by any director, officer stockholders, (iii) any action asserting a claim arising pursuant to any provision of the Delaware General Corporation Law,ww or (iv) any action asserting a claim that is governed by the internal affairs doctrine. Any person purchasing or otherwise acquiring any interest in any shares of our capital stock shall be deemed to have notice of and to have consented to this provision of our amended and restated bylaws. This choice-of-forum provision may limit our stockholders’ ability to bring a claim in a judicial forum that it finds favorable for disputes with us or our directors, officers lawsuits. Alternatively,yy if a court were to find this provision of our amended and restated bylaws inapplicable or unenforceable with respect to one or more of the specified types of actions or proceedings, we may incur additional costs associated with resolving such matters in other jurisdictions, which could adversely affect or other employees, which may discourage such our business and financial condition. or other employee to us or our ff ff ff ff While we have paid dividends in February of 2019, 2018 and 2017 there can be no assurance that we will pay dividends in the future, which may make our Class A common stock less desirable to investors and decrease its value. We paid special cash dividends of $1.00 per share in February 2019, $1.00 per share in February 2018 and $0.70 per share in February 2017 to all holders of record of issued and outstanding shares of our common stock. However, there can be no assurance that we will pay additional cash dividends on our common stock in the future. We currently intend to retain all of our earnings to finance our operations and growth, and do not anticipate paying any additional cash dividends on our common stock at this time. Therefore, capital appreciation, if any,yy of our Class A common stock could be the sole source of gain for our Class A common stockholders for the foreseeable future. Item 1B. Unresolved Staff Comments None. Item 2. Properties We lease approximately 172,000 square feet for our corporate headquarters and retail support and distribution center located at 10 Whatney and 12 Whatney,yy Irvine, California. Our lease began on January 1, 2003 and terminates on December 31, 2027. We lease approximately 26,000 square feet of office began on September 2, 2011 and terminates on June 30, 2022. ff and warehouse space located at 11 Whatney,yy Irvine, California. The lease 27 We lease approximately 81,000 square feet for our e-commerce fulfillment center located at 17 Pasteur, Irvine, California. The lease began on November 1, 2011 and terminates on October 31, 2021. All of our 229 stores, encompassing a total of approximately 1.7 million total square feet as of February 2, 2019, are occupied under operating leases. The store leases generally have a base lease term of 10 years and many have renewal option periods, and we are generally responsible for payment of property taxes and utilities, common area maintenance and mall marketing fees. We consider all of our properties adequate for our present and anticipated future needs. Item 3. Legal Proceedings From time to time, we may become involved in lawsuits and other claims arising from our ordinary course of business. We establish loss provisions for matters in which losses are probable and can be reasonably estimated. For some matters, we are currently unable to predict the ultimate outcome, determine whether a liability has been incurred or make an estimate of the reasonably possible liability that could result from an unfavorable outcome because of the uncertainties related to the incurrence, amount and range of loss on any pending litigation or claim. Because of the unpredictable nature of these matters, we cannot provide any assurances regarding the outcome of any litigation or claim to which we are a party or that the ultimate outcome of any of the matters threatened or pending against us, including those disclosed below,ww will not have a material adverse effect Business. Litigation costs and the outcome of litigation could have a material adverse effect report. on our financial condition, results of operations or cash flows. See Item 1A. "Risk Factors- Risks Related to Our on our business" included in this ff ff Juan Carlos Gonzales, on behalf of himself and all others similarly situated, v. Tilly’s Inc. et al, Superior Court of California, County of Orange, Case No. 30-2017-00948710-CU-OE-CXC. In October 2017, the plaintiffff filed a putative class action against us, alleging various violations of California’s wage and hour laws. The complaint seeks class certification, unspecified damages, unpaid wages, penalties, restitution, interest, and attorneys’ fees and costs. In December 2017, we filed an answer to the complaint, denying all of the claims and asserting various defenses. In April 2018, the plaintiffff filed a separate action under the Private Attorneys General Act against us seeking penalties on behalf of himself and other similarly situated employees for the same alleged violations of California's wage and hour laws. We requested the plaintiffff to dismiss the class action claims based on an existing class action waiver in an arbitration agreement which plaintiffff signed with our co-defendant, BaronHR, the staffing ff dismissed. We have defended this case vigorously,yy and will continue to do so. company that employed plaintiffff to work at the Company. In June 2018, the plaintiff'sff class action complaint was PP In Specifically,yy the complaint asserted a .MM In January 2017, the plaintiffff filed a putative class action lawsuit against us, Laurenrr Minniti, on behalf of herself and all others similarly situated, v. Tilly’s, Inc., United States District Court, Southern District of Florida, Case No. 0:17-cv-60237-FAMFF alleging violations of the Telephone Consumer Protection Act of 1991 (the “TCPA”). violation of the TCPAPP for allegedly sending unsolicited automated messages to the cellular telephones of the plaintiffff and others. The complaint sought class certification and damages of $500 per violation plus treble damages under the TCPA.PP March 2017, we filed our initial response to this matter with the court. In June 2017, the parties attended a mediation. In July 2017, the parties reached an agreement in principle to settle this matter, subject to court approval, and we recorded an estimated loss provision of $6.2 million in connection with the proposed settlement during the second quarter of fiscal 2017. In March 2018, the parties executed a settlement agreement, subject to final court approval. In April 2018, the court preliminarily approved the settlement agreement and certified a class for settlement purposes. In May 2018, the class members were sent notice of the settlement and in August 2018, the court granted final approval of the settlement. As a result, we recorded a $1.5 million reduction in our original accrual estimate to reflect the final required cash payments to be made as part of this settlement which were subsequently paid in October 2018. Additionally,yy we were required to issue non-transferable discount coupons to approximately 612,000 existing Tillys customers not covered by the cash payments in early September 2018. As of February 2, 2019, approximately 1.5% of these coupons had been redeemed, representing less than 0.2% of total sale transactions and less than 0.5% of total net sales, since the coupons were issued. Consequently,yy these coupons had no material impact on our fiscal 2018 comparable store net sales or operating results as a whole. On a transactional basis, redemption transactions have produced an average sale that is approximately three times larger than non-redemption transactions during this same time period, but with a significantly lower margin rate. The net result has been an increase in net margin dollars produced per redemption transaction that is approximately 25% higher than non-redemption transactions. There can be no assurances that these results, or the level of redemptions, will remain consistent through the remaining six month redemption period. Although redemption activity has been low during the first six months of the redemption period, the potential impact through September 4, 2019 could be material and could adversely affect our financial condition and results of operations. ff Skylar Ward,dd on behalf of herself and all others similarly situated, v. Tilly’s, Inc., Superior Court of California, County of Los Angeles, Case No. BC595405. In September 2015, the plaintiffff filed a putative class action lawsuit against us alleging, among other things, various violations of California's wage and hour laws. The complaint sought class certification, unspecified damages, unpaid wages, penalties, restitution, and attorneys' fees. In June 2016, the court granted our demurrer to the plaintiff'sff 28 cause of action for reporting-time pay fails as a matter of law as the complaint on the grounds that the plaintiffff failed to state a cause of action against Tilly's and dismissed the complaint. Specifically,yy the court agreed with us that the plaintiff'sff plaintiffff and other putative class members did not "report for work" with respect to certain shifts on which the plaintiff'sff are based. In November 2016, the court entered a written order sustaining our demurrer to the plaintiff'sff complaint and dismissing all of plaintiff’ff s causes of action with prejudice. In January 2017, the plaintiffff filed an appeal of the order to the California Court of Appeal. In October 2017, the plaintiffff filed her opening appellate brief, and our responding appellate brief was filed in December 2017. In May 2018, the plaintiffff filed her reply appellate brief. Later in May 2018, an amicus brief was filed by Abercrombie & Fitch Stores, Inc., in support of Tilly’s position in this appeal. Oral argument was heard by the California Court of Appeal in November 2018. On February 4, 2019, the Court of Appeal issued an opinion overturning the trial court’s decision, holding that the plaintiff’ff s allegations stated a claim. In March 2019, we filed a petition for review with the California Supreme Court seeking its discretionary review of the Court of Appeal’s decision. We have defended this case vigorously,yy and will continue to do so. claims Vendor Matter.rr In June 2015, we and one of our vendors entered into a settlement arrangement with a plaintiffff who filed a copyright infringement lawsuit against the vendor and us related to certain vendor products we sell. The settlement required that the vendor pay $2.0 million to the plaintiffff over three years and we agreed to guarantee such payments in exchange for a security interest in the vendor's intellectual property. We concluded this matter with the final settlement payment in June 2018. The total settlement amount paid by us was not materially different from the amount previously accrued. ff Item 4. Mine Safety Disclosures Not applicable. 29 Item 5. Market for Registrant’s Common Equity,yy Related Stockholder Matters and Issuer Purchases of Equity Securities PART II Our Class A common stock is traded on the NYSE under the symbol “TLYS”. Class B common stock. As of March 26, 2019, we had approximately seven stockholders of record, five of whom were holders of our Class A common stock and two of whom were holders of our Class B common stock. The number of stockholders of record is based upon the actual number of stockholders registered at such date and does not include holders of shares in “street names” or persons, partnerships, associates, corporations or other entities identified in security position listings maintained by depositories. There is no established trading market for our LL Securities Authorized for Issuance under Equity Compensation Plans The information required by this Item is incorporated herein by reference to our Proxy Statement for the 2019 Annual Meeting of Stockholders, which will be filed with the SEC no later than 120 days after the end of the fiscal year ended February 2, 2019 (the "2019 Proxy Statement"). Stock Performance Graph The following graph compares the cumulative stockholder return on our Class A common stock for the five years ended February 2, 2019 to the cumulative return of (i) the S&P Midcap 400 Index and (ii) the S&P 400 Apparel Retail Index over the same period. This graph assumes an initial investment of $100 on February 1, 2014 in our Class A common stock, the S&P Midcap 400 Index and the S&P 400 Apparel Retail Index and assumes the reinvestment of dividends, if any. Comparison of 5-YearYY Cumulative Total Return as of February 2, 2019 Among Tilly's, Inc., the S&P Midcap 400 Index and the S&P 400 Apparel Retail Index $140 $120 $100 $80 $60 $40 02/01/14 01/31/15 01/30/16 01/28/17 02/03/18 02/02/19 Tilly's, Inc S&P Midcap 400 S&P 400 Apparel Retail Index 30 Recent Sales of Unregistered Securities We did not sell any unregistered equity securities or purchase any of our securities during the fiscal year ended February 2, 2019. Item 6. Selected Financial Data The following tables present selected consolidated financial and other data as of and for the periods indicated. The selected consolidated statement of income data for the fiscal year ended February 2, 2019, February 3, 2018 and January 28, 2017 and selected balance sheet data as of February 2, 2019 and February 3, 2018 are derived from our audited consolidated financial statements included in Part II, Item 8, "Financial Statements and Supplementary Data" of this Annual Report on Form 10-K. The selected consolidated statement of income data for the fiscal years ended January 30, 2016 and January 31, 2015 and the selected consolidated balance sheet data as of January 28, 2017, January 30, 2016 and January 31, 2015 are derived from our audited consolidated financial statements that have not been included elsewhere in this report. The historical results presented below are not necessarily indicative of the results to be expected for any future period. You should read this selected consolidated financial data in conjunction with the consolidated financial statements and accompanying notes and the information under “Management’s Discussion and Analysis of Financial Condition and Results of Operations” appearing elsewhere in this report. Consolidated Statements of Income Data: Net sales (2) Cost of goods sold (3) Gross profit Selling, general and administrative expenses Operating income Other income (expense), net Income before income taxes Income tax expense Net income Basic earnings per share of Class A and Class B common stock Diluted earnings per share of Class A and Class B common stock Cash dividends declared per share Weighted average basic shares outstanding Weighted average diluted shares outstanding Fiscal Year Ended (1) February 2, 2019 February 3, 2018 January 28, 2017 January 30, 2016 January 31, 2015 (in thousands, except per share data) $ $ $ $ $ $ $ $ $ $ 598,478 417,582 180,896 149,416 31,480 2,313 33,793 8,850 , 24,943 0.85 0.84 1.00 29,278 29,768 $ $ $ $ $ 576,899 401,529 175,370 151,384 23,986 1,223 25,209 10,509 , 14,700 0.51 0.51 1.00 28,804 29,074 $ $ $ $ $ 568,952 400,493 168,459 149,129 19,330 418 19,748 8,338 , 11,410 0.40 0.40 0.70 28,496 28,529 550,991 383,745 167,246 149,150 18,096 52 18,148 10,607 , 7,541 0.27 0.27 $ $ $ $ — $ 28,332 28,402 518,294 362,762 155,532 132,343 23,189 (14) 23,175 9,100 , 14,075 0.50 0.50 — 28,013 28,078 31 Operating Data (unaudited): Stores operating at beginning of period Stores opened during the period Stores closed during the period Stores operating at end of period Comparable store sales change (4) Total square feet at end of period Average square footage per store at end of period Average net sales per brick-and-mortar store (in thousands) (5) Average net store sales per square foot (5) Capital expenditures (in thousands) February 2, 2019 February 3, 2018 January 28, 2017 January 30, 2016 January 31, 2015 Fiscal Year Ended 219 16 6 229 4.0% 223 2 6 219 1.0% 224 3 4 223 0.5% 212 15 3 224 1.2% 195 19 2 212 (2.8)% 1,703,187 1,668,008 1,703,144 1,704,031 1,622,156 7,437 7,616 7,637 7,607 7,652 $ $ $ 2,263 301 14,923 $ $ $ 2,258 296 13,753 $ $ $ 2,188 287 17,047 $ $ $ 2,219 290 23,100 $ $ $ 2,250 292 23,636 Consolidated Balance Sheet Data: Cash, cash equivalents and marketable securities Working capital Total assets Total capital lease obligation (6) Stockholders’ equity February 2, 2019 February 3, 2018 January 28, 2017 January 30, 2016 January 31, 2015 As of (in thousands) $ 144,079 119,882 $ 135,952 107,423 $ 133,917 129,819 $ 100,952 110,965 293,168 290,111 290,506 270,751 $ 84,746 94,394 257,551 — $ 163,327 — $ 160,425 835 $ 189,220 1,693 $ 173,213 2,500 $ 158,686 (1) The fiscal years ended February 2, 2019, January 28, 2017, January 30, 2016 and January 31, 2015 each included 52 weeks. The fiscal year ended February 3, 2018, included 53 weeks. (2) Net sales for fiscal 2018 reflect the adoption of the new revenue recognition standard. Net sales for prior fiscal years have not been restated and reflect the revenue recognition standard in effect ff for those periods. (3) Includes buying, distribution and occupancy costs. (4) Comparable store sales are net sales from stores that have been open at least 12 full fiscal months as of the end of the current reporting period. A remodeled or relocated store is included in comparable store sales, both during and after construction, if the square footage of the store used to sell merchandise was not changed by more than 20% and the store was not closed for more than five days in any fiscal month. Comparable store sales include sales through our e- commerce platform but exclude gift card breakage income, deferred revenue from the loyalty program and e-commerce shipping and handling fee revenue. The comparable store sales change for the period ended February 3, 2018 includes the 53rd week in fiscal 2017. (5) The number of stores and the amount of square footage reflect the number of days during the period that new stores were open. E-commerce sales, e-commerce shipping revenue, and gift card breakage income are excluded from our sales in deriving net sales per store. (6) Comprised solely of a capital lease for our corporate headquarters and distribution center. 32 Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations You should read the following discussion in conjunction with the consolidated financial statements and the accompanying notes and the information contained in other sections of this report, Consolidated Financial Data” and “Business”. This discussion and analysis is based on the beliefs of our management, as well as assumptions made by,yy and information currently analysis concerning expectations regar rr ding historical statements in this discussion and analysis, arerr forward-looking These forward-looking statements arerr subject to numerous Factors”. Our actual results could differ materially fromrr risks and uncertainties, including those described under “Risk statements. those suggested or implied by any forward-looking our futurerr performance, liquidity and capital resources, rr available to, our management. The statements in this discussion and particularly under the headings “Risk Factors”, “Selected statements. See “Forward-Looking as well as other non- Statements”. e e rr rr rr rr rr rr We operate on a fiscal calendar widely used by the retail industry that results in a given fiscal year consisting of a 52- or 53- week period ending on the Saturday to the fiscal year ended February 2, 2019, refere rr ences 2018" refere ended February 3, 2018 and refere to "fiscal year 2016” or "fiscal 2016” refere rr ences Fiscal years 2018 and 2016 each consisted of a 52-week period. Fiscal year 2017 consisted of a 53-week period. to the fiscal year to the fiscal year ended January 28, 2017. closest to January 31 of the following year.rr References to "fiscal year 2017" or "fiscal 2017" refere to "fiscal year 2018" or "fiscal rr rr Overview Tillys is a leading destination specialty retailer of casual apparel, footwear and accessories for young men, young women, boys and girls. We believe we bring together an unparalleled selection of iconic global, emerging and proprietary brands rooted in an active and outdoor lifestyle. The Tillys concept began in 1982 when our co-founders, Hezy Shaked and Tilly Levine, opened our first store in Orange County,yy California. As of February 2, 2019, we operated 229 stores in 33 states, comprised of 225 full-size stores averaging 7,500 square feet and four RSQ-branded pop-up stores averaging 2,700 square feet. We also sell our products through our e-commerce website, www.tillys.com. Known or Anticipated Trends The retail industry has experienced a general downward trend in customer trafficff time. Conversely,yy online shopping has generally increased and resulted in sustained online sales growth. We believe these market trends will continue, despite the improvement in store trafficff can be no guarantee that our recent improvement in store trafficff will continue given the broader industry trends. We will continue to focus our efforts channel initiatives designed to provide a seamless shopping experience for our customers, whether in-store or online. on improving our existing stores, and expanding our online/digital capabilities through omni- that we experienced during fiscal 2018 and 2017. There to physical stores for an extended period of ff We opened 12 new full-size stores and four RSQ-branded pop-up stores, and closed six existing stores during fiscal 2018, increasing our year-end store count for fiscal 2018 to 225 full-size stores and four RSQ-branded pop-up stores. We will continue to leverage existing stores and new target markets where we believe our brand recognition can be enhanced with new stores that are planned to drive additional improvement to our operating income. In fiscal 2019, we expect to open up to 10 to 15 new,ww full-size stores, and we may open additional RSQ-branded pop-up stores, all assuming appropriate lease economics are obtained. We expect total capital expenditures for fiscal 2019 not to exceed $25 million, comprised of new store costs supplemented by continuing technology investments. Additionally during fiscal 2019, we expect the impact of legislated minimum wage increases, merit increases, new systems costs, and the adoption of the new lease accounting standard to result in an aggregate increase of approximately $6 million in our annualized operating costs in fiscal 2019 before consideration of any comparable store net sales assumptions, of which $2 million will be in occupancy expense within cost of goods sold and $4 million will be in selling, general and administrative costs. In the absence of any mitigating efforts we may undertake, we estimate that our fiscal 2019 comparable store net sales would need to increase by approximately 3% in order to absorb these anticipated cost increases without creating deleverage of operating expenses as a percentage of net sales. ff Pursuant to the settlement terms of a recently finalized legal matter, we were required to issue certain non-transferable discount coupons to approximately 612,000 existing Tillys customers in early September 2018 that allow for a one-time 50% discount on a single, future purchase transaction of up to $1,000. Any unused coupons will expire on September 4, 2019. As of February 2, 2019, approximately 1.5% of these coupons had been redeemed, representing less than 0.2% of total sale transactions and less than 0.5% of total net sales since the coupons were issued. Consequently,yy these coupons had no material impact on our fiscal 2018 comparable store net sales or operating results as a whole. On a transactional basis, redemption transactions have produced an average sale that is approximately three times larger than non-redemption transactions during this same time period, but with a significantly lower margin rate. The net result has been an increase in net margin dollars produced per redemption transaction that is approximately 25% higher than non-redemption transactions. There can be no assurances that these results, or the level of redemptions, will remain consistent through the remaining six month redemption period. Although redemption activity has been low during the first six months of the redemption period, the potential impact 33 through September 4, 2019 could be material and could adversely affect "Legal Proceedings" and "Risk Factors"). ff our financial condition and results of operations (see How We Assess the Performance of Our Business In assessing the performance of our business, we consider a variety of performance and financial measures. The key indicators of the financial condition and operating performance of our business are net sales, comparable store sales, gross profit, selling, general and administrative expenses and operating income. Net Sales Net sales reflect revenue from the sale of our merchandise at store locations and through e-commerce, net of sales taxes. Store sales are reflected in sales when the merchandise is received by the customer. For e-commerce sales, we recognize revenue, and the related cost of goods sold at the time the merchandise is shipped to the customer. Net sales also include shipping and handling fees for e-commerce shipments that have been shipped to the customer. Net sales are net of returns on sales during the period as well as an estimate of returns expected in the future stemming from current period sales. We recognize revenue from gift cards as they are redeemed for merchandise. Prior to redemption, we maintain a current liability for unredeemed gift card balances. Our gift cards do not have expiration dates and in most cases there is no legal obligation to remit unredeemed gift cards to relevant jurisdictions. Based on actual historical redemption patterns, we determined that a small percentage of gift cards are unlikely to be redeemed (which we refer to as gift card “breakage”). Based on our historical gift card breakage rate, we recognize breakage revenue over the redemption period in proportion to actual gift card redemptions. Our business is seasonal and as a result our revenues fluctuate from quarter to quarter. In addition, our revenues in any given quarter can be affected quarters of the fiscal year, which include the back-to-school and holiday sales seasons, have historically produced stronger sales and disproportionately stronger operating results than have the first two quarters of the fiscal year. by a number of factors including the timing of holidays and weather patterns. The third and fourth ff Comparable Store Sales Comparable store sales is a measure that indicates the change in year-over-year comparable store sales, which allows us to evaluate how our store base is performing. Numerous factors affect our comparable store sales, including: ff • • • • • • • • • • • • ff to our stores and online platform; to consumer preferences and fashion trends; overall economic trends; our ability to attract trafficff our ability to identify and respond effectively competition; the timing of our releases of new and seasonal styles; changes in our product mix; pricing; the level of customer service that we provide in stores; our ability to source and distribute products efficiently; ff calendar shifts of holiday or seasonal periods; the number and timing of store openings and the relative proportion of new stores to mature stores; and the timing and success of promotional and advertising efforts. ff Comparable store sales are sales from our e-commerce platform and stores open at least 12 full fiscal months as of the end of the current reporting period. A remodeled, relocated or refreshed store is included in comparable store sales, both during and after construction, if the square footage of the store used to sell merchandise was not changed by more than 20% and the store was not closed for more than five days in any fiscal month. We include sales from our e-commerce platform as part of comparable store sales as we manage and analyze our business on a single omni-channel and have substantially integrated our investments and operations for our stores and e-commerce platform to give our customers seamless access and increased ease of shopping. Comparable store sales exclude gift card breakage income and e-commerce shipping and handling fee revenue. than we do. As a result, Some of our competitors and other retailers may calculate comparable or “same store” sales differently data in this report regarding our comparable store sales may not be comparable to similar data made available by other retailers. ff Gross Profit Gross profit is equal to our net sales less our cost of goods sold. Cost of goods sold reflects the direct cost of purchased merchandise as well as buying, distribution and occupancy costs. Buying costs include compensation and benefit expense for our internal buying organization. Distribution costs include costs for receiving, processing and warehousing our store merchandise, and shipping of merchandise to or from our distribution and e-commerce fulfillment centers and to our e- commerce customers and between store locations. Occupancy costs include the rent, common area maintenance, utilities, property taxes, security and depreciation costs of all store locations. These costs are significant and can be expected to 34 continue to increase as our company grows. The components of our reported cost of goods sold may not be comparable to those of other retail companies. We regularly analyze the components of gross profit as well as gross profit as a percentage of net sales. Specifically we look at the initial markup on purchases, markdowns and reserves, shrinkage, buying costs, distribution costs and occupancy costs. Any inability to obtain acceptable levels of initial markups, a significant increase in our use of markdowns or a significant increase in inventory shrinkage or inability to generate sufficient sales leverage on the buying, distribution and occupancy components ff of cost of goods sold could have an adverse impact on our gross profit and results of operations. Gross profit is also impacted by shifts in the proportion of sales of proprietary branded products compared to third-party branded products, as well as by sales mix shifts within and between brands and between major product departments such as young men's and women's apparel, footwear or accessories. A substantial shift in the mix of products could have a material impact on our results of operations. In addition, gross profit and gross profit as a percent of sales have historically been higher in the third and fourth quarters of the fiscal year, as these periods include the back-to-school and winter holiday selling seasons. This reflects that various costs, including occupancy costs, generally do not increase in proportion to the seasonal sales increase. Selling, General and Administrative Expenses Our selling, general and administrative, or SG&A, expenses are comprised of store selling expenses and corporate-level general and administrative expenses. Store selling expenses include store and regional support costs, including personnel, advertising and debit and credit card processing costs, e-commerce receiving and processing costs and store supplies costs. General and administrative expenses include the payroll and support costs of corporate functions such as executive management, legal, accounting, information systems, human resources, impairment charges and other centralized services. Store selling expenses generally vary proportionately with net sales and store growth. In contrast, general and administrative expenses are generally not directly proportional to net sales and store growth, but will be expected to increase over time to support the needs of our growing company. SG&A expenses as a percentage of net sales are usually higher in lower volume periods and lower in higher volume periods. Operating Income Operating income equals gross profit less SG&A expenses. Operating income excludes interest income, interest expense and income taxes. Operating income percentage measures operating income as a percentage of our net sales. 35 Results of Operations The following tables summarize key components of our results of operations for the periods indicated, both in dollars and as a percentage of our net sales: Statements of Income Data: Net sales Cost of goods sold Gross profit Selling, general and administrative expenses Operating income Other income, net Income before income taxes Income tax expense Net income Percentage of Net Sales: Net sales Cost of goods sold Gross profit Selling, general and administrative expenses Operating income Other income, net Income before income taxes Income tax expense Net income The following table presents store operating data for the periods indicated: Store Operating Data: Stores operating at end of period Comparable store sales change (1) Total square feet at end of period (in thousands) Average net sales per brick-and-mortar store (in thousands) (2) Average net sales per square foot (2) E-commerce revenues (in thousands) (3) E-commerce revenues as a percentage of net sales February 2, 2019 Fiscal Year Ended February 3, 2018 (in thousands) January 28, 2017 598,478 417,582 180,896 149,416 31,480 2,313 33,793 8,850 24,943 $ $ 576,899 401,529 175,370 151,384 23,986 1,223 25,209 10,509 14,700 $ $ 568,952 400,493 168,459 149,129 19,330 418 19,748 8,338 11,410 100.0% 69.8% 30.2% 25.0% 5.3% 0.4% 5.6% 1.5% 4.2% 100.0% 69.6% 30.4% 26.2% 4.2% 0.2% 4.4% 1.8% 2.5% 100.0% 70.4% 29.6% 26.2% 3.4% 0.1% 3.5% 1.5% 2.0% Fiscal Year Ended February 2, 2019 February 3, 2018 January 28, 2017 229 4.0% 1,703 2,263 301 89,625 $ $ $ 219 1.0% 1,668 2,258 296 75,846 $ $ $ 223 0.5% 1,703 2,188 287 76,380 15.0% 13.1% 13.4% $ $ $ $ $ (1) Comparable store sales are net sales from stores that have been open at least 12 full fiscal months as of the end of the current reporting period. A remodeled or relocated store is included in comparable store sales, both during and after construction, if the square footage of the store used to sell merchandise was not changed by more than 20% and the store was not closed for more than five days in any fiscal month. Comparable store sales include sales through our e-commerce platform but exclude gift card breakage income, deferred revenue from the loyalty program and e-commerce shipping and handling fee revenue. The comparable store sales change for the period ended February 3, 2018 includes the 53rd week in fiscal year 2017. (2) E-commerce sales, e-commerce shipping and handling fee revenue and gift card breakage income are excluded from net sales in deriving average net sales per brick-and-mortar store. (3) E-commerce revenues include e-commerce sales and e-commerce shipping fee revenue. 36 Fiscal Year 2018 Compared to Fiscal Year 2017 Net Sales Net sales were $598.5 million in fiscal 2018 compared to $576.9 million in fiscal 2017, an increase of $21.6 million, or 3.7%, despite fiscal 2017 containing an extra week of net sales worth approximately $5.8 million. The components of our net sales increase were as follows: $ millions $22.2 (0.6) $21.6 Increase in comparable store net sales of 4.0% Decrease in non-comparable store net sales Total Attributable to Our comparable store net sales increased 4.0% during fiscal 2018. Comparable store net sales in physical stores increased 1.4% and represented approximately 85% of total net sales and comparable store net sales for e-commerce increased 21.7% and represented approximately 15% of total net sales. Our comparable store net sales growth was characterized by low double-digit growth in our Footwear department and low to mid single-digit percentage growth in our Mens, Girls, Womens, Accessories and Boys departments. rr Gross rr Profit Gross profit was $180.9 million in fiscal 2018 compared to $175.4 million in fiscal 2017, an increase of $5.5 million, or 3.2%, primarily due to the increase in net sales. Gross margin, or gross profit as a percentage of net sales, was 30.2% during fiscal 2018 compared to 30.4% during fiscal 2017. The 20 basis point decrease in gross margin was primarily attributable to a 50 basis point increase in distribution costs and a 30 basis point decrease in product margins, partially offset by a 70 basis point decrease in occupancy costs. Distribution costs increased primarily as a result of higher e-commerce shipping costs associated with e-commerce net sales growth. Product margins declined primarily due to lower initial markups associated with a product mix shift towards branded merchandise. Total occupancy expenses were approximately $0.4 million lower than last year, despite having 10 net new stores, primarily due to negotiated reductions in lease costs. ff Selling, General and Administrative Expenses ("SG&A") SG&A was $149.4 million in fiscal 2018 compared to $151.4 million in fiscal 2017. As a percentage of net sales, SG&A was 25.0% for fiscal 2018 and 26.2% for fiscal 2017. The components of the changes in SG&A, both in terms of percentage of net sales and total dollars, were as follows: % $ millions Attributable to (1.3)% $(7.6) (0.1)% (0.1)% 0.4% (0.1)% 0.3% 0.1% (0.4)% (1.2)% (0.9) (0.7) 2.6 1.9 1.7 0.7 0.3 $(2.0) Operating Income Aggregate reduction in legal matter impacts as a result of the $6.2 million loss provision established in the second quarter of fiscal 2017, which was subsequently reduced by $1.5 million during the second quarter of fiscal 2018 as a result of the court-approved terms of the final settlement of such legal matter Expense reductions related to negotiated resolutions of certain vendor disputes Decrease in store marketing spend Increase in online marketing and fulfillment costs of $1.7 million and $0.9 million, respectively,yy associated with e-commerce net sales growth Increase in store payroll and benefits primarily due to minimum wage increases and higher comparable store net sales Increase in corporate bonus provisions due to improved operating results Expenses associated with our secondary offering ff completed in early September 2018 Net change in all other SG&A expenses Total Operating income was $31.5 million in fiscal 2018 compared to $24.0 million for fiscal 2017, an increase of $7.5 million, or 31.2%. As a percentage of net sales, operating income was 5.3% for fiscal 2018 compared to 4.2% for fiscal 2017. The 110 basis point improvement in operating income was primarily due to the reduction in legal provisions compared to last year as described above. 37 Income Taxaa Expense Income taxes were $8.9 million for fiscal 2018 compared to $10.5 million for fiscal 2017. Our effective for fiscal 2018 and 41.7% for fiscal 2017. The reduction in this year's income tax rate was attributable to the new corporate in 2018 associated with the Tax Cuts and Job Act (the "TaxTT Act"). tax rates that went into effect tax rates were 26.2% ff ff Net Income and Earnings Per Sharerr Net income was $24.9 million for fiscal 2018 compared to $14.7 million for fiscal 2017, an increase of $10.2 million, or 69.7%. Diluted earnings per share were $0.84 for fiscal 2018 compared to $0.51 for fiscal 2017. Of the $0.33 improvement in year-over-year earnings per diluted share, approximately $0.18 was attributable to the aggregate impact of legal matters, expense reductions related to negotiated resolutions of certain vendor disputes and the secondary offering expenses noted above, and approximately $0.15 was attributable to improved operating results. ff Fiscal Year 2017 Compared to Fiscal Year 2016 Net Sales Net sales were $576.9 million in fiscal 2017 compared to $569.0 million in fiscal 2016, an increase of $7.9 million, or 1.4%. The components of our net sales increase were as follows: $ millions $5.8 2.1 $7.9 Increase in comparable store net sales of 1.0% Increase in non-comparable store sales Total Attributable to Our comparable store net sales increased 1.0%, driven by a 1.6% increase in store sales, partially offset e-commerce sales. Our comparable store net sales growth was characterized by high single-digit percentage growth in our Mens department and low single-digit percentage growth in our Boys department. This growth was partially offset by low single-digit percentage decreases in our Girls, Womens, Accessories and Footwear departments. E-commerce sales represented 13.1% of our total net sales, or $75.8 million, in fiscal 2017 as compared to 13.4%, or $76.4 million, in fiscal 2016. E- commerce net sales declined due to certain transitional issues we experienced during the fourth quarter associated with the implementation of our new omni-channel order management system. These transitional issues were corrected in the first half of fiscal 2018. by a 2.5% decrease in ff ff rr Gross rr Profit Gross profit was $175.4 million in fiscal 2017 compared to 168.5 million in fiscal 2016, an increase of $6.9 million, or 4.1%, primarily due to the increase in net sales. Gross margin, or gross profit as a percentage of net sales, was 30.4% and 29.6% during fiscal 2017 and fiscal 2016, respectively. The 0.8% increase in gross margin was primarily attributable to a decline in buying, distribution and occupancy costs. Product margins were flat. Selling, General and Administrative Expenses ("SG&A") SG&A expenses were $151.4 million in fiscal 2017 compared to $149.1 million in fiscal 2016. As a percentage of net sales, SG&A expenses were 26.2% for both fiscal 2017 and fiscal 2016. The components of the SG&A expense variances, both in terms of percentage of net sales and total dollars, were as follows: % 0.8% 0.5% 0.1% (0.6)% (0.2)% (0.2)% (0.4)% —% $ millions $4.4 2.8 2.0 (3.4) (1.5) (0.8) (1.2) $2.3 Attributable to Net increase in year over year legal provisions Increase in expenses associated with several information technology system implementations Increase in store payroll and benefits primarily due to minimum wage increases Decrease in marketing spend Decrease in non-cash store asset impairment charges Decrease in corporate payroll and benefits Decrease in all other SG&A expenses Total 38 Operating Income Operating income was $24.0 million in fiscal 2017 compared to $19.3 million for fiscal 2016, an increase of $4.7 million, or 24.1%. As a percentage of net sales, operating income was 4.2% and 3.4% for fiscal 2017 and fiscal 2016, respectively. The increase in operating income was primarily attributable to the increase in comparable store sales and reduction in buying, distribution and occupancy costs. Income Taxaa Expense Income taxes were $10.5 million and $8.3 million for fiscal 2017 and fiscal 2016, respectively. Our effective 41.7% and 42.2% for fiscal 2017 and fiscal 2016, respectively. Fiscal 2017 income tax expense includes a net charge of $0.2 million due to the impact of the Tax Act. tax rates were ff Net Income and Earnings Per Sharerr Net income was $14.7 million for fiscal 2017 compared to $11.4 million for fiscal 2016, an increase of $3.3 million, or 28.8%. Diluted earnings per share was $0.51 for fiscal 2017 compared to $0.40 for fiscal 2016. Liquidity and Capital Resources Our business relies on cash flows from operating activities as well as cash on hand as our primary sources of liquidity. We currently expect to finance company operations, store growth and remodels with existing cash on hand, marketable securities and cash flows from operations. In addition to cash and cash equivalents and marketable securities, the most significant components of our working capital are merchandise inventories, accounts payable and accrued expenses. We believe that cash flows from operating activities and our cash and marketable securities on hand will be sufficient expenditures for the next 12 months from the issuance of this Annual Report. If cash flows from operations are not sufficient or available to meet our capital requirements, then we will be required to obtain additional equity or debt financing in the future. There can be no assurance that equity or debt financing will be available to us when we need it or, if available, that the terms will be satisfactory to us and not dilutive to our stockholders. to cover working capital requirements and anticipated capital ff ff Working capital at February 2, 2019, was $119.9 million compared to $107.4 million at February 3, 2018, an increase of $12.5 million. The changes in our working capital during fiscal 2018 were as follows: $ millions $107.4 8.1 6.4 3.3 (2.8) (2.5) Working capital at February 3, 2018 Increase in cash, cash equivalents and marketable securities Decrease in legal loss contingencies Description Decrease in deferred revenue due to the adoption of Accounting Standards Codification ("ASC") 606, Revenue Recognition Increase in accrued compensation and benefits Net changes in all other assets and liabilities $119.9 Working capital at February 2, 2019 Cash Flow Analysis A summary of operating, investing and financing activities is shown in the following table: Net cash provided by operating activities Net cash used in investing activities Net cash (used in) provided by financing activities Net Cash Provided rr by Operating Activities Fiscal Year Ended February 2, 2019 February 3, 2018 January 28, 2017 $ 46,743 (6,259) (25,526) $ (in thousands) 32,708 (40,878) (17,622) $ 48,509 (21,658) 1,123 Operating activities consist primarily of net income adjusted for non-cash items that include depreciation, asset impairment write-downs, deferred income taxes and share-based compensation expense, plus the effect in our assets and liabilities. on cash of changes during the year ff 39 Net cash provided by operating activities increased in fiscal 2018 as compared to fiscal 2017 primarily due to an increase in net income, an increase in accrued compensation and benefits due to the timing of payroll and a decrease in deferred rent. Net cash provided by operating activities decreased in fiscal 2017 as compared to fiscal 2016 primarily due to a decrease in cash generated from working capital mainly due to the timing of inventory purchases, an increase in accrued legal loss contingencies, and timing of payments to vendors, partially offset Tax Act. by a decrease in deferred tax assets due to the impact of the ff Net Cash Used in Investing Activities Investing activities consist of capital expenditures for growth related to new store openings as well as for remodels and changes in fixtures and equipment at existing stores, investments in information technology,yy distribution center enhancements, expansion into the new e-commerce fulfillment center, assets at our corporate headquarters and the addition or replacement of company vehicles. Investing activities also consist of the purchase and sale of marketable securities. Net cash used in investing activities was $6.3 million in fiscal 2018. Capital expenditures totaled $14.9 million, primarily related to new and remodeled stores and other improvements in our existing stores and information technology systems. We purchased $136.2 million of marketable securities and received proceeds of $144.9 million from marketable securities during fiscal 2018. Net cash used in investing activities was $40.9 million in fiscal 2017. Capital expenditures totaled $13.8 million, primarily related to new and remodeled stores and other improvements in our existing stores and information technology systems. We purchased $152.4 million of marketable securities and received proceeds of $125.3 million from marketable securities during fiscal 2017. Net cash used in investing activities was $21.7 million in fiscal 2016. Capital expenditures totaled $17.0 million, primarily related to new and remodeled stores and other improvements in our existing stores and information technology systems. We purchased $99.7 million of marketable securities and received proceeds of $95.0 million from marketable securities during fiscal 2016. Capital expenditures during fiscal 2019 are expected to be approximately $25 million, primarily for construction of up to 10 to 15 new full-size stores and continuing information technology investments. These expenditures are expected to be funded from cash provided by operations. Net Cash (Used in) Provided rr by Financing Activities Financing activities consist of proceeds from the exercise of stock options, cash dividends paid and employee taxes paid in result of the net settlement of issued restricted stock. Net cash used in financing activities was $25.5 million in fiscal 2018. This included $29.1 million of cash dividends paid, partially offset by $3.7 million of proceeds from the exercise of stock options. ff Net cash used in financing activities was $17.6 million in fiscal 2017. This included $20.1 million of cash dividends paid, $0.8 million in payments towards our capital lease obligation, partially offset by $3.4 million of proceeds from the exercise of stock options. ff Net cash provided by financing activities was $1.1 million in fiscal 2016. This included $2.0 million of proceeds from the exercise of stock options and taxes paid in lieu of shares issued for share-based compensation, partially offset payments towards our capital lease obligation. ff by $0.9 million in Line of Credit rr Our amended and restated credit agreement with Wells Fargo Bank, N.A. ("Bank") provides for a $25.0 million revolving line of credit with a maturity date of January 26, 2020. The interest rate charged on borrowings is selected at our discretion at the time of draw between the London Interbank Offered Rate, plus 0.75%, or at the Bank’s prime rate. The agreement allows for the declaration and payment of dividends or distributions to stockholders, subject to certain limitations. On February 27, 2019 and February 20, 2018, we paid a special dividend of $1.00 per share. On February 24, 2017, we paid a special dividend of $0.70 per share, respectively. Refer to "Note 18: Stockholders' Equity", for further information. The line of credit is secured by substantially all of our assets. As a sub-feature under the revolving line of credit, the Bank may also issue stand-by and/or commercial letters of credit up to $15.0 million. ff We are required to maintain certain financial and non-financial covenants in accordance with the line of credit. The financial covenants require certain levels of leverage and profitability,yy such as (i) income before income taxes not to be less than $1 million (measured at the end of each fiscal quarter), (ii) a maximum ratio of 4.00 to 1.00 as of each quarter end for “Funded Debt to EBITDAR”, defined as the sum of total debt, capital leases and annual rent expense multiplied by 6 divided by the sum of net income, interest expense, taxes, depreciation, amortization and annual rent expense, and (iii) requires minimum eligible 40 inventory of $50 million as of the end of each quarter. In addition, maximum investment in fixed assets in any fiscal year of $50 million. In September 2018, we entered into an amendment to increase our standby letter of credit from $750,000 to $1,075,000. The letter of credit was established for security against insurance claims as required by our workers' compensation insurance policy. There has been no activity under this letter of credit since its inception. As of February 2, 2019, we had no outstanding borrowings under the credit facility. Contractual Obligations We enter into long-term contractual obligations and commitments in the normal course of business, primarily noncancellable operating leases. We lease approximately 172,000 square feet for our corporate headquarters and distribution center from a company that is owned by the co-founders of Tillys. These buildings are located at 10 and 12 Whatney,yy Irvine, California. The lease is accounted for as an operating lease and expires on December 31, 2027. We lease approximately 26,000 square feet of office founders of Tillys. This building is located at 11 Whatney,yy Irvine, California. The lease is accounted for as an operating lease and expires on June 30, 2022. and warehouse space with a company that is owned by one of the co- ff We lease approximately 81,000 square feet for our e-commerce distribution center from a company that is owned by one of the co-founders of Tillys. This building is located at 17 Pasteur, Irvine, California. The lease is accounted for as an operating lease and expires on October 31, 2021. Our leases are generally non-cancellable operating leases expiring at various dates through fiscal year 2027. Certain leases provide for additional rent based on a percentage of sales and annual rent increases based upon the Consumer Price Index. In addition, many of our store leases contain certain co-tenancy provisions that permit us to pay rent based on a pre-determined percentage of sales when the occupancy of the retail center falls below minimums established in such lease. As of February 2, 2019, our contractual cash obligations over the next several years are as follows: Payments Due by Period Total Less Than 1 Year 1-3 Years 3-5 Years More Than 5 Years Operating Lease Obligations (1) Purchase Obligations (2) Total $ $ 324,067 6,130 330,197 $ $ 63,893 2,603 66,496 (in thousands) 113,947 3,119 117,066 $ $ $ $ 79,282 408 79,690 $ $ 66,945 — 66,945 (1) Operating leases include minimum lease commitments, including fixed common area maintenance charges, if any,yy for our stores, and our corporate headquarters and distribution center and warehouse leases. Our store leases generally have initial lease terms of 10 years and many also include renewal options on substantially the same terms and conditions as the original lease. (2) Purchase obligations consist primarily of software maintenance commitments. Off-Balance Sheet Arrangements We are not a party to any off-balance credit facility as discussed above. ff sheet arrangements, except for the operating leases, purchase obligations and revolving Critical Accounting Policies and Estimates The preparation of financial statements in conformity with accounting principles generally accepted in the United States requires the appropriate application of accounting policies, some of which require us to make estimates and assumptions about future events and their impact on amounts reported in our consolidated financial statements. Since future events and their impact cannot be determined with absolute certainty,yy the actual results will inevitably differ from our estimates. ff We believe the application of our accounting policies, and the estimates inherently required therein, are reasonable. Our accounting policies and estimates are reevaluated on an ongoing basis and adjustments are made when facts and circumstances dictate a change. The policies and estimates discussed below involve the selection or application of alternative accounting policies that are material to our consolidated financial statements. With respect to critical accounting policies, even a relatively minor variance between actual and expected experience can potentially have a materially favorable or unfavorable impact on subsequent results of operations. However, our historical results for the periods presented in the consolidated financial statements have not been materially impacted by such variances. Our accounting policies are more fully described in "Note 2: Summary of 41 Significant Accounting Policies” in the notes to our consolidated financial statements. Management has discussed the development and selection of these critical accounting policies and estimates with our Board of Directors. We have certain accounting policies that require more significant management judgment and estimates than others. These include our accounting policies with respect to revenue recognition, loyalty program, merchandise inventories, long-lived assets, share-based compensation and accounting for income taxes, which are more fully described below. Revenue Recognition Revenue is recognized for store sales when the customer receives and pays for the merchandise at the register, net of estimated returns. Taxes collected from our customers are recorded on a net basis. For e-commerce sales, we recognize revenue, net of sales taxes and estimated sales returns, and the related cost of goods sold at the time the merchandise is shipped to the customer. Prior to the adoption of the new revenue recognition standard in fiscal 2018, we deferred e-commerce revenue for goods that were in-transit to the customer, typically within four days of shipment. Refer to "Accounting Standard Adopted in Fiscal 2018", for further information. Amounts related to shipping and handling that are billed to customers are reflected in net sales, and the related costs are reflected in cost of goods sold in the Consolidated Statements of Income. Our business is seasonal and as a result our revenues fluctuate from quarter to quarter. In addition, our revenues in any given quarter can be affected quarters of the fiscal year, which include the back-to-school and holiday sales seasons, have historically produced stronger sales and disproportionately stronger operating results than have the first two quarters of the fiscal year. by a number of factors including the timing of holidays and weather patterns. The third and fourth ff Loyalty Program We have a customer loyalty program wherein customers accumulate points based on purchase activity. Once a loyalty member achieves a certain point level, the member earns awards that may be redeemed for merchandise. Unredeemed awards and accumulated partial points are accrued as deferred revenue and awards redeemed by the member for merchandise are recorded as an increase to net sales. We expire unredeemed awards after 45 days from date of issuance and accumulated partial points 365 days after the last purchase activity. When a customer redeems an earned reward, we recognize revenue for the redeemed product and reduce the related loyalty program liability. Merchandise Inventories Merchandise inventories are stated at the lower of cost or net realizable value, which generally is the merchandise selling price. Cost is calculated using the retail inventory method. Under the retail inventory method, inventory is stated at its current retail selling value and then is converted to a cost basis by applying a cost-to-retail ratio based on beginning inventory and the fiscal year purchase activity. The retail inventory method inherently requires management judgments and estimates, such as the amount and timing of markdowns needed in order to sell through slow-moving inventories. Markdowns are recorded when the sales value of the inventory has diminished. Factors considered in the determination of markdowns include current and anticipated demand, customer preferences, age of the merchandise and fashion trends. When a decision is made to mark down merchandise, the resulting gross margin reduction is recognized in the period in which the markdown is recorded. During each accounting period we record adjustments to our inventories, which are reflected in cost of goods sold, if the cost of specific inventory items on hand exceeds the amount we expect to realize from the ultimate sale or disposal of the inventory. This adjustment calculation requires us to make assumptions and estimates, which are based on factors such as merchandise seasonality,yy historical trends and inventory levels, including estimated sell-through rates of remaining units. ff To the extent that management’s estimates differ from actual results, additional markdowns may be required that could reduce our gross margin, operating income and the carrying value of inventories. Our success is largely dependent upon our ability to anticipate the changing fashion tastes of our customers and to respond to those changing tastes in a timely manner. If we fail to anticipate, identify or react appropriately to changing styles, trends or brand preferences of our customers, we may experience lower sales, excessive inventories and more frequent and extensive markdowns, which would adversely affect results. our operating ff ff We also record an inventory shrinkage reserve calculated as a percentage of net sales for estimated merchandise losses for the period between the last physical inventory count and the balance sheet date. These estimates are based on historical percentages and can be affected by changes in merchandise mix and changes in shrinkage trends. We perform physical inventory counts at least once per year for the entire chain of stores and our distribution center and adjust the inventory shrinkage reserve accordingly. If actual physical inventory losses differ significantly from the estimate, our results of operations could be adversely impacted. The inventory shrinkage reserve reduces the value of total inventory and is a component of inventories on the Consolidated Balance Sheets. The inventory shrinkage reserve at February 2, 2019 and February 3, 2018 was not material. ff 42 Long-Lived Assets ff locations, for impairment whenever events or changes in We evaluate the carrying value of our long-lived assets, consisting largely of leasehold improvements, furniture and fixtures and equipment at store, distribution center and corporate office circumstances indicate that the carrying value of such assets may not be recoverable. Factors that are considered important that could result in the necessity to perform an impairment review include a current-period operating or cash flow loss combined with a history of operating or cash flow losses and a forecast that indicates continuing losses or insufficient income associated with the realization of a long-lived asset or asset group. Other factors include a significant change in the manner of the use of the asset or a significant negative industry or economic trend. This evaluation is performed based on estimated undiscounted future cash flows from operating activities compared with the carrying value of the related assets. If the undiscounted future cash flows are less than the carrying value, an impairment loss is recognized, measured by the difference value and the estimated fair value of the assets, based on discounted cash flows using our weighted-average cost of capital, with such estimated fair values determined using the best information available. Quarterly,yy we assess whether events or changes in circumstances have occurred that potentially indicate the carrying value of long-lived assets may not be recoverable. between the carrying ff ff The estimation of future cash flows from operating activities requires significant estimates of factors that include future sales and gross margin performance. Factors used in the valuation of long-lived assets with finite lives include, but are not limited to, discount rates, management’s plans for future operations, recent operating results and projected future cash flows. If our net sales or gross profit performance or other estimated operating results are not achieved at or above our forecasted level, or inflation exceeds our forecast and we are unable to recover such costs through price increases, the carrying value of certain of our retail stores may prove to be unrecoverable and we may incur additional impairment charges in the future. Share-based Compensation We account for share-based compensation in accordance with the provisions of ASC Topic 718, Compensation-Stock Compensation, or ASC 718, which establishes accounting for equity instruments exchanged for employee services. Under the provisions of this standard, share-based compensation expense is measured at the grant date, based on the calculated fair value of the award, and is recognized as an expense on a straight-line basis over the employee’s requisite service period (generally the vesting period of the equity grant). Changes in these inputs and assumptions can materially affect estimated fair value of the award and related share-based compensation expense. the measurement of the ff Determining the fair value of share-based awards at the grant date requires judgment. We use the Black-Scholes option-pricing model to determine the fair value of stock options. The determination of the grant date fair value of options using an option- pricing model is affected by a number of assumptions, such as the fair value of the common stock, our expected stock price volatility over the expected term of the options, stock option exercise and cancellation behaviors, risk-free interest rates, and expected dividends, which we estimate as follows: ff • • • • • Fair Value of Our Common Stock. We use the closing price of our Class A common stock on the date of grant. Expected Term. We have limited historical information regarding expected option term. Accordingly,yy we determined the expected stock option term of the awards using the latest historical data available from comparable public companies and our expectation of exercise behavior. Volatility. Our stock volatility for each grant is measured using the weighted average of historical daily price changes of our common stock over the most recent period equal to the expected option term of the awards. Risk-Freerr Rate. The risk-free interest rate is based on the yields of United States Treasury securities with maturities similar to the expected term of the stock options for each stock option group. Dividend Yield. On January 31, 2017, January 24, 2018 and January 31, 2019, we declared special cash dividends of $0.70, $1.00 and $1.00 per share, respectively,yy to all holders of record of issued and outstanding shares of Class A common stock and Class B common stock as of the close of business on February 15, 2017, February 9, 2018 and February 15, 2019, respectively. Except as described above, Tilly's, Inc. has never declared or paid any cash dividends and does not plan to pay additional cash dividends in the foreseeable future. Consequently,yy we used an expected dividend yield of zero. If any of the assumptions used in the Black-Scholes model change significantly,yy share-based compensation expense for future awards may differ ff materially compared with the expense for awards granted previously. 43 Accounting for Income Taxesaa We account for income taxes and the related accounts using the asset and liability method in accordance with Financial ASC Topic 740, Income Taxesaa Accounting Standards Board (the "FASB") taxes payable or refundable and recognize deferred tax assets and liabilities based on differences of assets and liabilities. We measure deferred tax assets and liabilities using enacted tax rates in effect the differences , or ASC 740. Under this method, we accrue income between GAAP and tax bases ff of a change in enacted rates in the period of enactment. are expected to reverse, and recognize the effect for the years in which FF ff ff ff We record net deferred tax assets to the extent we believe these assets will more likely than not be realized. In making such determination, we consider all available positive and negative evidence, including future reversals of existing taxable temporary differences, projected future taxable income, tax planning strategies and recent financial operations. ff We establish assets and liabilities for uncertain positions taken or expected to be taken in income tax returns, using a more- likely-than-not recognition threshold. We include in income tax expense any interest and penalties related to uncertain tax positions. We have included the impact of the Tax Act in our financial results for the periods ended February 2, 2019 and February 3, 2018. The Securities and Exchange Commission ("SEC") issued interpretive guidance under Staffff Accounting Bulletin No. 118 ("SAB 118") that allowed for a measurement period up to one year after the December 22, 2017 enactment date of the Tax Act to finalize the recording of the related tax impacts. Our accounting for the income tax effects of the new tax legislation, based on available guidance and interpretation, was included in our provision. Refer to "Note 14: Income Taxes" in the Notes to the Consolidated Financial Statements found in Part II Item 8 of this Form 10-K for additional information. ff New Accounting Standards Not Yet Adopted and Accounting Standard Adopted in 2018 Refer to "Note 2: Summary of Significant Accounting Policies”, in the Notes to the Consolidated Financial Statements found in Part II Item 8 of this Form 10-K. Item 7A. Quantitative and Qualitative Disclosures About Market Risks rr Interest Rate Risk We are subject to interest rate risk in connection with borrowings, if any,yy under our line of credit, which bears interest at variable rates. As of February 2, 2019 and February 3, 2018, we had no outstanding borrowings under our credit facility. Impact of Inflation Our results of operations and financial condition are presented based on historical cost. While it is difficult measure the impact of inflation due to the imprecise nature of the estimates required, we believe the effects on our results of operations and financial condition have been immaterial. ff ff to accurately of inflation, if any,yy rr Foreign Exchange Rate Risk We currently source all merchandise through domestic vendors. We source certain fixtures and materials from various suppliers in other countries. All purchases are denominated in U.S. dollars, and therefore we do not hedge using any derivative instruments. Historically,yy we have not been impacted by changes in exchange rates. 44 Item 8. Financial Statements and Supplementary Data Tilly’s, Inc. Index to Consolidated Financial Statements Report of Independent Registered Public Accounting Firm Consolidated Balance Sheets as of February 2, 2019 and February 3, 2018 Consolidated Statements of Income for the fiscal years ended February 2, 2019, February 3, 2018 and January 28, 2017 Consolidated Statements of Comprehensive Income for the fiscal years ended February 2, 2019, February 3, 2018 and January 28, 2017 Consolidated Statements of Stockholders’ Equity for the fiscal years ended February 2, 2019, February 3, 2018 and January 28, 2017 Consolidated Statements of Cash Flows for the fiscal years ended February 2, 2019, February 3, 2018 and January 28, 2017 Notes to Consolidated Financial Statements 46 47 48 49 50 51 52 45 Report of Independent Registered Public Accounting Firm Shareholders and Board of Directors Tilly’s, Inc. Irvine, California Opinion on the Consolidated Financial Statements We have audited the accompanying consolidated balance sheets of Tilly’s, Inc. (the “Company”) and subsidiary as of February 2, 2019 and February 3, 2018, the related consolidated statements of income, comprehensive income, stockholders’ equity,yy and cash flows for each of the three years in the period ended February 2, 2019, and the related notes (collectively referred to as the “consolidated financial statements”). In our opinion, the consolidated financial statements present fairly,yy in all material respects, the financial position of the Company and subsidiary at February 2, 2019 and February 3, 2018, and the results of their operations and their cash flows for each of the three years in the period ended February 2, 2019, in conformity with accounting principles generally accepted in the United States of America. We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States) (“PCAOB”), the Company's internal control over financial reporting as of February 2, 2019, based on criteria established in Internal Controlrr - Integrated Framework (2013) issued by the Committee of Sponsoring Organizations of the Treadway Commission (“COSO”) and our report dated March 29, 2019, expressed an unqualified opinion thereon. Change in Accounting Method Related to Revenue As discussed in Note 2 to the consolidated financial statements, the Company has changed its method of accounting for revenue during the year ended February 2, 2019, due to the adoption of the Accounting Standards Codification 606, Revenue fromrr Contracts with Customers. Basis for Opinion These consolidated financial statements are the responsibility of the Company’s management. Our responsibility is to express an opinion on the Company’s consolidated financial statements based on our audits. We are a public accounting firm registered with the PCAOB and are required to be independent with respect to the Company in accordance with the U.S. federal securities laws and the applicable rules and regulations of the Securities and Exchange Commission and the PCAOB. We conducted our audits in accordance with the standards of the PCAOB. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the consolidated financial statements are free of material misstatement, whether due to error or fraud. Our audits included performing procedures to assess the risks of material misstatement of the consolidated financial statements, whether due to error or fraud, and performing procedures that respond to those risks. Such procedures included examining, on a test basis, evidence regarding the amounts and disclosures in the consolidated financial statements. Our audits also included evaluating the accounting principles used and significant estimates made by management, as well as evaluating the overall presentation of the consolidated financial statements. We believe that our audits provide a reasonable basis for our opinion. /s/ BDO USA, LLP We have served as the Company's auditor since 2015. Costa Mesa, California March 29, 2019 46 Tilly’s, Inc. Consolidated Balance Sheets (In thousands, except per share data) ASSETS Current assets: Cash and cash equivalents Marketable securities Receivables Merchandise inventories Prepaid expenses and other current assets Total current assets Property and equipment, net Other assets Total assets LIABILITIES AND STOCKHOLDERS’ EQUITY Current liabilities: Accounts payable Accrued expenses Deferred revenue Accrued compensation and benefits Dividends payable Current portion of deferred rent Total current liabilities Long-term portion of deferred rent Other Total long-term liabilities Total liabilities Commitments and contingencies (Note 10) Stockholders’ equity: Common stock (Class A), $0.001 par value; 100,000 shares authorized; 21,642 and 14,927 shares issued and outstanding, respectively Common stock (Class B), $0.001 par value; 35,000 shares authorized; 7,844 and 14,188 shares issued and outstanding, respectively Preferred stock, $0.001 par value; 10,000 shares authorized, no shares issued or outstanding Additional paid-in capital Retained earnings Accumulated other comprehensive income Total stockholders’ equity Total liabilities and stockholders’ equity February 2, 2019 February 3, 2018 $ 68,160 $ 53,202 75,919 6,082 55,809 11,171 217,141 73,842 82,750 4,352 53,216 9,534 203,054 83,321 2,185 $ 293,168 3,736 $ 290,111 $ 24,207 $ 21,615 18,756 10,373 8,930 29,453 5,540 97,259 30,825 1,757 32,582 22,731 10,879 6,119 29,067 5,220 95,631 31,340 2,715 34,055 129,841 129,686 21 8 — 15 14 — 149,737 13,335 226 143,984 16,398 14 163,327 $ 293,168 160,425 $ 290,111 The accompanying notes arerr an integral part of these consolidated financial statements. 47 Tilly’s, Inc. Consolidated Statements of Income (In thousands, except per share data) Net sales Cost of goods sold (includes buying, distribution, and occupancy costs) Gross profit Selling, general and administrative expenses Operating income Other income, net Income before income taxes Income tax expense Net income Basic earnings per share of Class A and Class B common stock Diluted earnings per share of Class A and Class B common stock Weighted average basic shares outstanding Weighted average diluted shares outstanding Fiscal Year Ended February 2, 2019 598,478 417,582 $ February 3, 2018 576,899 401,529 $ January 28, 2017 568,952 400,493 $ 180,896 149,416 31,480 2,313 33,793 8,850 24,943 0.85 0.84 29,278 29,768 $ $ $ 175,370 151,384 23,986 1,223 25,209 10,509 14,700 0.51 0.51 28,804 29,074 $ $ $ 168,459 149,129 19,330 418 19,748 8,338 11,410 0.40 0.40 28,496 28,529 $ $ $ The accompanying notes arerr an integral part of these consolidated financial statements. 48 Tilly’s, Inc. Consolidated Statements of Comprehensive Income (In thousands) Net income Other comprehensive income, net of tax: Net change in unrealized gains on available-for-sale securities Other comprehensive income, net of tax Comprehensive income $ $ For the Fiscal Years Ended February 2, 2019 February 3, 2018 January 28, 2017 24,943 $ 14,700 $ 11,410 212 212 25,155 $ (52) (52) 14,648 $ 44 44 11,454 The accompanying notes arerr an integral part of these consolidated financial statements. 49 Tilly’s, Inc. Consolidated Statements of Stockholders’ Equity (In thousands) Number of Shares Common Stock (Class A) Common Stock (Class B) Common Stock Additional Paid-in Capital Retained Earnings Accumulated Other Comprehensive Income Balance at January 30, 2016 12,305 16,169 $ Net income Class B common stock converted to Class A common stock Share-based compensation expense Restricted stock Exercise of stock options Taxes paid in lieu of shares issued for share-based compensation Net change in unrealized gain on available-for-sale securities — 840 — 74 215 — — — (840) — — — — — Balance at January 28, 2017 13,434 15,329 Cumulative-effect ff adoption of ASU 2016-09 adjustment from Net income Dividends declared Dividends paid Class B common stock converted to Class A common stock Share-based compensation expense Restricted stock Exercise of stock options Taxes paid in lieu of shares issued for share-based compensation Net change in unrealized gain on available-for-sale securities — — — — — — — — 1,141 (1,141) — 44 308 — — — — — — — Balance at February 3, 2018 14,927 14,188 Cumulative-effect ff adoption of ASC 606 (Note 2) adjustment from Net income Dividends declared Class B common stock converted to Class A common stock Share-based compensation expense Restricted stock Exercise of stock options Taxes paid in lieu of shares issued for share-based compensation Net change in unrealized gain on available-for-sale securities — — — — — — 6,344 (6,344) — 52 329 (10) — — — — — — Balance at February 2, 2019 21,642 7,844 $ 28 — — — — 1 — — 29 — — — — — — — — — — 29 — — — — — — — — — 29 $ 133,550 $ 39,613 $ — — 2,572 — 2,079 (99) — 11,410 — — — — — — 138,102 51,023 178 — (178) 14,700 — (29,067) — (20,080) — 2,411 — 3,394 (101) — — — — — — — 143,984 16,398 — — 1,447 24,943 — (29,453) — 2,212 — 3,652 (111) — — — — — — — $ 149,737 $ 13,335 $ 22 — — — — — — 44 66 — — — — — — — — — (52) 14 — — — — — — — — 212 226 The accompanying notes arerr an integral part of these consolidated financial statements. Total Stockholders ’ Equity $ 173,213 11,410 — 2,572 — 2,080 (99) 44 189,220 — 14,700 (29,067) (20,080) — 2,411 — 3,394 (101) (52) 160,425 1,447 24,943 (29,453) — 2,212 — 3,652 (111) 212 $ 163,327 50 Tilly’s, Inc. Consolidated Statements of Cash Flows (In thousands) Cash flows from operating activities Net income Adjustments to reconcile net income to net cash provided by operating activities: Depreciation and amortization Share-based compensation expense Impairment of assets Loss on disposal of assets Gain on sales and maturities of marketable securities Deferred income taxes Changes in operating assets and liabilities: Receivables Merchandise inventories Prepaid expenses and other assets Accounts payable Accrued expenses Accrued compensation and benefits Deferred rent Deferred revenue Net cash provided by operating activities Cash flows from investing activities Purchase of property and equipment Proceeds from sale of property and equipment Purchases of marketable securities Proceeds from marketable securities Net cash used in investing activities Cash flows from financing activities Dividends paid Proceeds from exercise of stock options Payment of capital lease obligation Taxes paid in lieu of shares issued for share-based compensation Net cash (used in) provided by financing activities Change in cash and cash equivalents Cash and cash equivalents, beginning of period Cash and cash equivalents, end of period Supplemental disclosures of cash flow information Interest paid Income taxes paid Supplemental disclosure of non-cash activities Unpaid purchases of property and equipment Dividends declared Fiscal Year Ended February 2, 2019 February 3, 2018 January 28, 2017 $ 24,943 $ 14,700 $ 11,410 22,485 2,212 786 30 (1,552) 953 (1,730) (2,783) (1,641) 3,195 (4,438) 2,811 (195) 1,667 46,743 23,389 2,411 848 192 (782) 2,933 (363) (5,448) (562) 3,559 (2,732) (1,140) (4,973) 676 32,708 23,266 2,572 2,352 16 (251) (1,174) 1,395 3,589 (449) 1,623 6,562 1,508 (5,464) 1,554 48,509 (14,923) (13,753) (17,047) 3 (136,198) 144,859 (6,259) — (152,389) 125,264 (40,878) (29,067) (20,080) 3,652 — (111) (25,526) 14,958 53,202 68,160 11 6,770 726 29,453 $ $ $ $ $ 3,394 (835) (101) (17,622) (25,792) 78,994 53,202 26 11,534 4,778 29,067 $ $ $ $ $ $ $ $ $ $ 43 (99,675) 95,021 (21,658) — 2,080 (858) (99) 1,123 27,974 51,020 78,994 82 8,806 640 — The accompanying notes arerr an integral part of these consolidated financial statements. 51 Tilly’s, Inc. Notes to the Consolidated Financial Statements Note 1: Description of the Company and Basis of Presentation Tillys is a leading destination specialty retailer of casual apparel, footwear and accessories for young men, young women, boys and girls with an extensive selection of iconic global, emerging, and proprietary brands rooted in an active and social lifestyle. Tillys is headquartered in Irvine, California and we operated 229 stores, including four RSQ-branded pop-up stores, in 33 states as of February 2, 2019. Our stores are located in malls, lifestyle centers, ‘power’ centers, community centers, outlet centers and street-front locations. Customers may also shop online, where we feature the same assortment of products as carried in our brick-and-mortar stores, supplemented by additional online-only styles. Our goal is to serve as a destination for the latest, most relevant merchandise and brands important to our customers. The Tillys concept began in 1982 when our co-founders, Hezy Shaked and Tilly Levine, opened their first store in Orange County,yy California. Since 1984 the business has been conducted through World of Jeans & Tops, a California corporation, or “WOJT”, which operates under the name “Tillys”. In May 2011, Tilly’s, Inc., a Delaware corporation, was formed solely for the purpose of reorganizing the corporate structure of WOJT in preparation for an initial public offering. As part of the initial in May 2012, WOJT became a wholly owned subsidiary of Tilly's, Inc. ff public offering ff As used in these Notes to the Consolidated Financial Statements, except where the context otherwise requires or where otherwise indicated, the terms "the Company", "WorldWW of Jeans and Tops", "WOJT", "we", "our", "us" and "Tillys" refer to WOJT before our initial public offering, and to Tilly's, Inc. and its subsidiary after our initial public offering. ff ff Fiscal Year Our fiscal year ends on the Saturday closest to January 31. Fiscal years 2018, 2017 and 2016 ended on February 2, 2019, February 3, 2018 and January 28, 2017, respectively. Fiscal years 2018 and 2016 each included 52 weeks and fiscal year 2017 included 53 weeks. Segment Reporting Accounting principles generally accepted in the United States (“GAAP”) has established guidance for reporting information about our operating segments, including disclosures related to our products and services, geographic areas and major customers. We identify our operating segments based on how our business is managed and evaluated. Our 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. All of our identifiable assets are in the United States. Note 2: Summary of Significant Accounting Policies Cash and Cash Equivalents We consider all short-term investments with an initial maturity of 90 days or less when purchased to be cash equivalents. Marketable Securities Marketable debt securities are classified as available-for-sale and held-to-maturity and are carried at fair value and amortized cost plus accrued income, respectively. Unrealized holding gains and losses, net of income taxes, on available-for-sale debt securities are reflected as a separate component of stockholders’ equity until realized. For the purposes of computing realized and unrealized gains and losses, cost is determined on a specific identification basis. We classify all marketable securities within current assets on our accompanying Consolidated Balance Sheets, including those with maturity dates beyond twelve months, as they are available to support our current operational liquidity needs. Merchandise Inventories Merchandise inventories are comprised of finished goods offered at the lower of cost or net realizable value using the retail inventory method. An initial markup is applied to inventory at cost in order to establish a cost-to-retail ratio. We believe that the retail inventory method approximates cost. Shipping and handling costs for merchandise shipped to customers of $10.8 million, $7.9 million and $8.1 million in fiscal years 2018, 2017 and 2016, respectively,yy are included in cost of goods sold in the accompanying Consolidated Statements of Income. for sale at our retail stores and online. Inventories are stated ff We review our inventory levels to identify slow-moving merchandise and generally use markdowns to clear this merchandise. At any given time, merchandise inventories include items that have been marked down to management’s best estimate of their fair market value at retail price, with a proportionate write-down to the cost of the inventory. Our management bases the decision to mark down merchandise primarily upon its current sell-through rate and the age of the item, among other factors. These markdowns may have an adverse impact on earnings, depending on the extent and amount of inventory affected. ff 52 Markdowns are recorded as an increase to cost of goods sold in the accompanying Consolidated Statements of Income. Total markdowns, including permanent and promotional markdowns, on a cost basis were $49.5 million, $50.0 million and $49.2 million in fiscal years 2018, 2017 and 2016, respectively. In addition, we accrued $0.6 million and $1.1 million for planned but unexecuted markdowns, including markdowns related to slow moving merchandise, as of February 2, 2019 and February 3, 2018, respectively. Property and Equipment Property and equipment are stated at cost less accumulated depreciation. Depreciation is calculated using the straight-line method over the estimated useful lives of the assets. Equipment is depreciated over five to seven years. Furniture and fixtures are depreciated over five years. Computer software is depreciated over three years. Leasehold improvements and the cost of acquiring leasehold rights are amortized over the lesser of the term of the lease or the estimated useful life of the improvement. The cost of assets sold or retired and the related accumulated depreciation is removed from the accounts with any resulting gain or loss included in net income. Repairs and maintenance costs are charged directly to expense as incurred. Major renewals, replacements and improvements that substantially extend the useful life of an asset are capitalized and depreciated. Impairment of Long-Lived Assets Impairments are recorded on long-lived assets used in operations whenever events or changes in circumstances indicate that the net carrying amounts may not be recoverable. Important factors that could result in an impairment review include, but are not limited to, significant under-performance relative to historical or planned operating results, significant changes in the manner of use of the assets or significant changes in business strategies. An evaluation is performed using estimated undiscounted future cash flows from operating activities compared to the carrying value of related assets for the individual stores. If the undiscounted future cash flows are less than the carrying value, an impairment loss is recognized for the difference carrying value and the estimated fair value of the assets based on the discounted cash flows of the assets using a rate that approximates the weighted average cost of capital. With regard to retail store assets, which are comprised of leasehold improvements, fixtures and computer hardware and software, we consider the assets at each individual retail store to represent an asset group. In addition, we have considered the relevant valuation techniques that could be applied without undue cost and and have determined that the discounted estimated future cash flow approach provides the most relevant and reliable ff effort means by which to determine fair value in this circumstance. Refer to "Note 11: Fair Value Measurements", for further information. between the ff Operating Leases We lease our retail stores under non-cancellable operating leases. Most store leases include tenant allowances from landlords, rent escalation clauses and/or contingent rent provisions. We recognize rent expense on a straight-line basis over the lease term, excluding contingent rent, and record the difference deferred rent liability. Contingent rent, determined based on a percentage of sales in excess of specified levels, is recognized as rent expense when the achievement of the specified sales that triggers the contingent rent is probable. between the amount charged to expense and the rent paid as a ff Deferred Rent and Tenant Allowances Deferred rent is recognized when a lease contains fixed rent escalations. We recognize the related rent expense on a straight- line basis starting from the date of possession and record the difference between the recognized rental expense and cash rent ff payable as deferred rent. Deferred rent also includes tenant allowances received from landlords in accordance with negotiated lease terms. The tenant allowances are amortized as a reduction to rent expense on a straight-line basis over the term of the lease starting at the date of possession. Revenue Recognition Revenue is recognized for store sales when the customer receives and pays for the merchandise at the register, net of estimated returns. Taxes collected from our customers are recorded on a net basis. For e-commerce sales, we recognize revenue, net of sales taxes and estimated sales returns, and the related cost of goods sold at the time the merchandise is shipped to the customer. Prior to the adoption of the new revenue recognition standard in fiscal 2018, we deferred e-commerce revenue for goods that were in-transit to the customer, typically within four days of shipment. Refer to "Accounting Standard Adopted in Fiscal 2018" in this Note 2 to the Consolidated Financial Statements for further information. Amounts related to shipping and handling that are billed to customers are reflected in net sales, and the related costs are reflected in cost of goods sold in the Consolidated Statements of Income. For fiscal years 2018, 2017 and 2016, shipping and handling fee revenue included in net sales was $2.7 million, $3.3 million, and $3.3 million, respectively. We accrue for estimated sales returns by customers based on historical sales return results. As of February 2, 2019 and February 3, 2018, our reserve for sales returns was $1.4 million and $1.1 million, respectively. 53 We recognize revenue from gift cards as they are redeemed for merchandise. Prior to redemption, we maintain a current liability for unredeemed gift card balances. The customer liability balance was $8.7 million as of February 2, 2019 and $9.2 million as of February 3, 2018, and is included in deferred revenue on the accompanying Consolidated Balance Sheets. Our gift cards do not have expiration dates and in most cases there is no legal obligation to remit unredeemed gift cards to relevant jurisdictions. Based on actual historical redemption patterns, we determined that a small percentage of gift cards are unlikely to be redeemed (which we refer to as gift card “breakage”). Based on our historical gift card breakage rate, we recognize breakage revenue over the redemption period in proportion to actual gift card redemptions. Prior to adoption of the new revenue standard in fiscal 2018, for fiscal years 2017 and 2016, breakage was recognized two full fiscal years after the gift cards were activated when the probability of redemption was considered remote. Refer to "Accounting Standards Adopted in Fiscal 2018", for further information. Revenue recognized from gift cards was $17.9 million in fiscal 2018, $18.5 million in fiscal 2017 and $20.2 million in fiscal 2016. The following table summarizes net sales from our retail stores and e-commerce (in thousands): Retail stores E-commerce Total net sales The following table summarizes the percent of net sales by department: Mens Womens Accessories Footwear Boys Girls Total net sales February 2, 2019 Fiscal Year Ended February 3, 2018 January 28, 2017 $ $ 508,853 89,625 598,478 $ $ 501,053 75,846 576,899 $ $ 492,572 76,380 568,952 February 2, 2019 Fiscal Year Ended February 3, 2018 January 28, 2017 35% 25% 18% 12% 6% 4% 100% 35% 25% 19% 11% 6% 4% 100% 33% 26% 19% 11% 6% 5% 100% The following table summarizes the percent of net sales by third-party and proprietary branded merchandise: Third-party Proprietary Total net sales Loyalty Program February 2, 2019 Fiscal Year Ended February 3, 2018 January 28, 2017 75% 25% 100% 74% 26% 100% 72% 28% 100% We have a customer loyalty program where customers accumulate points based on purchase activity. Once a loyalty member achieves a certain point level, the member earns awards that may be redeemed for merchandise. Unredeemed awards and accumulated partial points are accrued as deferred revenue and awards redeemed by the member for merchandise are recorded as an increase to net sales. We expire unredeemed awards after 45 days from date of issuance and accumulated partial points 365 days after the last purchase activity. A liability is estimated based on the standalone selling price of awards and partial points earned and estimated redemptions. The deferred revenue for this program was $1.7 million as of February 2, 2019 and $1.2 million as of February 3, 2018. Revenue recognized from our loyalty program was $1.7 million in fiscal 2018, $1.3 million in fiscal 2017 and $0.6 million in fiscal 2016. 54 Cost of Goods Sold Cost of goods sold includes product costs and buying, distribution and occupancy costs as follows: • Costs of products sold include: expenses associated with merchandise received from our vendors into our distribution centers; freight ff vendor allowances; cash discounts on payments to merchandise vendors; physical inventory losses; and • • • • • markdowns of inventory. • Buying, distribution and occupancy costs include: • • • • • payroll, benefit costs, and incentive compensation for merchandising personnel; customer shipping and handling expenses; costs associated with operating our distribution and fulfillment center, including payroll and benefit costs for our distribution center, occupancy costs, and depreciation; ff freight commerce customers; and store occupancy costs, including rent, maintenance, utilities, property taxes, business licenses, security costs and depreciation. expenses associated with shipping merchandise inventories from our distribution center to our stores and e- Selling, General and Administrative Expenses • • • • • • • • • ff Payroll, benefit costs and incentive compensation for store, regional, e-commerce and corporate employees; Occupancy and maintenance costs of corporate office ff Depreciation related to corporate office Advertising and marketing costs, net of reimbursement from vendors; Tender TT Long-lived asset impairment charges; Legal provisions; Other administrative costs such as supplies, consulting, audit and tax preparation fees, travel and lodging; and Charitable contributions. costs, including costs associated with credit and debit card interchange fees; facilities; assets; Store Pre-opening Costs Store pre-opening costs consist primarily of occupancy costs, which are included in cost of goods sold, and payroll expenses, which are included in selling, general and administrative expenses, in the accompanying Consolidated Statements of Income. Advertising We expense advertising costs as incurred, except for direct-mail advertising expenses which are recognized at the time of mailing. Advertising costs include such things as production and distribution of print and digital catalogs; print, online and mobile advertising costs; radio advertisements; and grand openings and other events. Advertising expense, which is classified in selling, general and administrative expenses in the accompanying Consolidated Statements of Income, was $13.2 million, $12.1 million and $15.4 million in fiscal years 2018, 2017 and 2016, respectively. Share-Based Compensation We apply the provisions of Financial Accounting Standards Board (“FASB”) Topic 718, Compensation-Stock Compensation (“ASC 718”), for accounting for equity instruments exchanged for employee services. Under the provisions of this standard, share-based compensation expense is measured at the grant date, based on the calculated fair value of the award, and is recognized as an expense on a straight-line basis over the employee’s requisite service period (generally the vesting period of the equity grant). Changes in these inputs and assumptions can materially affect the measurement of the estimated fair value of award and related share-based compensation expense. Refer to “Note 12: Share- Based Compensation”, for further information. Accounting Standards Codification (“ASC”) FF ff Income Taxesaa We account for income taxes and the related accounts using the asset and liability method in accordance with FASB ASC Topic (“ASC 740”). Under this method, we accrue income taxes payable or refundable and recognize deferred tax 740, Income Taxesaa between GAAP and tax bases of assets and liabilities. We measure deferred tax assets assets and liabilities based on differences and liabilities using enacted tax rates in effect ff ff effect of a change in enacted rates in the period of enactment. are expected to reverse, and recognize the for the years in which the differences ff ff 55 We establish assets and liabilities for uncertain positions taken or expected to be taken in income tax returns, using a more- likely-than-not recognition threshold. We include in income tax expense any interest and penalties related to uncertain tax positions. We have included the impact of the Tax Act in our financial results for the period ended February 2, 2019 and February 3, 2018. The Securities and Exchange Commission ("SEC") issued interpretive guidance under Staffff Accounting Bulletin No. 118 ("SAB 118") that allowed for a measurement period up to one year after the December 22, 2017 enactment date of the Tax Act of the new tax legislation, based to finalize the recording of the related tax impacts. Our accounting for the income tax effects on available guidance and interpretation, is included in our provision. Refer to “Note 14: Income Taxes”, for further information. ff Earnings per Share Basic earnings per share is computed using the weighted average number of shares outstanding. Diluted earnings per share is computed using the weighted average number of shares outstanding adjusted for the incremental shares attributed to restricted stock and outstanding options to purchase common stock. Incremental shares of 490 thousand, 270 thousand and 33 thousand in fiscal years 2018, 2017 and 2016, respectively,yy were used in the calculation of diluted earnings per share. Refer to “Note 15: Earnings Per Share”, for further information. Concentration of Credit Risk Financial instruments that potentially subject the Company to credit risk consist principally of cash and cash equivalents. At February 2, 2019 and February 3, 2018, and at various times throughout these years, we had cash in financial institutions in excess of the $250,000 amount insured by the Federal Deposit Insurance Corporation. We typically invest our cash in highly rated, short-term commercial paper, interest-bearing money market funds, municipal bonds and certificates of deposit. Use of Estimates The preparation of financial statements in conformity with GAAP requires management to make estimates and assumptions. These estimates and assumptions 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 net sales and expenses during the reporting period. Actual results could differ available information. Changes in facts and circumstances may result in revised estimates. from those estimates. On an ongoing basis, management reviews its estimates based on currently ff ff New Accounting Standards Not Yet Adopted ff interest method or on a straight-line basis over the term of the lease. A lessee is In February 2016, the FASB issued Accounting Standards Update ("ASU") No. 2016-02, Leases (ASC 842). The new standard requires lessees to apply a dual approach, classifying leases as either finance or operating leases based on the principle of whether or not the lease is effectively a financed purchase by the lessee. This classification will determine whether lease ff expense is recognized based on an effective also required to record a right-of-use asset and a lease liability for all leases with a term of greater than 12 months at inception of the lease, regardless of lease classification. ASC 842 became effective standard using the additional modified retrospective transition method on the effective transition method, we will not be required to recast our comparative financial statements or provide disclosures required by the new standard for comparative periods. We will elect the 'package of practical expedients', which allowed us not to continue to reassess our previous conclusions about lease identification, lease classification and initial direct costs. In addition, we will elect the practical expedient to not separate lease and non-lease components for all of our leases. We will not elect the use of the hindsight practical expedient. We implemented a lease system in connection with the adoption of ASC 842 and we are currently in the process of finalizing the impact of adopting the standard, including the calculation of the present value of future minimum lease payments at the effective reporting. date, as well as updating business processes and internal controls over financial for us on February 3, 2019 and we will adopt the date. By electing this additional ff ff ff ff We expect the adoption of ASC 842 will have a material effect consolidated financial statements will relate to (1) the recognition of right-of-use assets and lease liabilities on our balance sheet for our retail store, distribution warehouse and corporate office payments of $324 million; (2) the recognition of lease expense associated with the inclusion of non-lease components in our minimum rental payments as a result of electing the practical expedient to combine lease and non-lease components; and (3) the significant new quantitative and qualitative disclosure requirements. We do not expect a significant change in our lease portfolio between now and adoption. During the fiscal year ended February 1, 2020, we currently expect to recognize additional occupancy costs of approximately $2 million as a result of adopting ASC 842. on our financial statements. The most significant impact on our operating leases based on the present value of total fixed ff 56 In June 2016, the FASB issued ASU No. 2016-13, Measurement which modifies or replaces existing models for impairment of trade and other receivables, debt securities, loans, beneficial interests held as assets, purchased-credit impaired financial assets and other instruments. The new standard requires entities to estimate expected losses over the life of the financial asset and recognize an allowance for estimated credit losses upon recognition of the financial instrument. ASU 2016-13 will become effective adoption permitted and must be adopted using the modified retrospective method. We are in the process of evaluating the impact of adopting the new standard on our consolidated financial statements and related disclosures. Losses on Financial Instruments (ASU 2016-13), for us in the first quarter of fiscal 2020, with early rr of Credit rr ff Accounting Standard Adopted in Fiscal 2018 ff recognized in the opening retained earnings balance in fiscal 2018. Comparative information for prior year On February 4, 2018, we adopted FASB ASU No. 2014-09, Revenue fromrr modified retrospective transition method, which under ASC 606, means the standard applies retrospectively with the cumulative effect fiscal periods has not been adjusted and continues to be reported under the previous standard ASC 605. Under ASC 606, revenue is recognized when control of promised goods or services is transferred to our customers at an amount we expect to be entitled to in exchange for those goods or services. The adoption of this standard requires us to recognize gift card breakage income in proportion to redemptions as they occur. The new guidance also requires enhanced disclosures, such as disaggregation of revenues and revenue recognition policies that require significant judgment and identification of performance obligations to customers. Contracts with Customers ("ASC 606"), using the The adoption of ASC 606 resulted in a net cumulative effect by $1.4 million, as well as the following impacts: ff adjustment that increased the opening balance of retained earnings • • Breakage revenue is now recognized over time in proportion to actual customer redemptions. Breakage revenue was previously recognized two full fiscal years after the gift cards were activated when the probability of redemption was considered remote. Revenue for merchandise shipped to the customer from a distribution center or store is now recognized at the shipping point, whereas it was previously recognized upon customer receipt. The impact of the adoption of ASC 606 on the Consolidated Balance Sheet as of February 2, 2019 was as follows (in thousands): Merchandise inventories Other assets Accrued expenses Deferred revenue Retained earnings As reported $ 55,809 $ 2,185 18,756 10,373 13,335 Balances without adoption of ASC 606 Effect of Adoption Increase (Decrease) 56,429 $ 2,721 18,593 13,627 11,442 (620) (536) 163 (3,254) 1,893 The impact of the adoption of ASC 606 on our Consolidated Statements of Income for fiscal 2018 was as follows (in thousands): Net sales Cost of goods sold Gross profit Note 3: Marketable Securities As reported $ 598,478 $ 417,582 180,896 Balances without adoption of ASC 606 Effect of Adoption Increase (Decrease) 597,439 $ 417,152 180,287 1,039 430 609 Marketable securities as of February 2, 2019 consisted of commercial paper classified as available-for-sale and fixed income securities, that we have the intent and ability to hold to maturity and therefore, are classified as held-to-maturity. Our investments in commercial paper and fixed income securities are recorded at fair value and amortized cost, which approximates fair value, respectively. All of our marketable securities are less than one year from maturity. 57 The following table summarizes investments in marketable securities at February 2, 2019 and February 3, 2018 (in thousands): Commercial paper Fixed income securities Total marketable securities Commercial paper Fixed income securities Total marketable securities February 2, 2019 Cost or Amortized Cost $49,402 26,215 $75,617 Gross Unrealized Holding Gains $302 — $302 February 3, 2018 Cost or Amortized Cost $59,566 23,161 $82,727 Gross Unrealized Holding Gains $23 — $23 Estimated Fair Value $49,704 26,215 $75,919 Estimated Fair Value $59,589 23,161 $82,750 For fiscal years 2018, 2017 and 2016, we recognized gains on investments for commercial paper of $1.0 million, $0.8 million and $0.3 million, respectively,yy which matured during the period. Upon recognition of the gains, we reclassified these amounts out of accumulated other comprehensive income and into other income, net, on the accompanying Consolidated Statements of Income. Note 4: Receivables At February 2, 2019 and February 3, 2018, receivables consisted of the following (in thousands): Credit and debit card receivables Tenant allowances due from landlords Vendor receivables Other Less: Allowance for doubtful accounts Total receivables February 2, 2019 February 3, 2018 $ $ 2,679 2,729 467 210 (3) 6,082 $ $ 2,480 1,004 874 — (6) 4,352 We establish a receivable for amounts we expect to collect. We make estimates for the allowance for doubtful accounts against receivables for any potential uncollectible amounts. The year-end receivables are primarily collected within the following fiscal quarter. Note 5: Prepaid Expenses and Other Current Assets At February 2, 2019 and February 3, 2018, prepaid expenses and other current assets consisted of the following (in thousands): Prepaid rent Prepaid maintenance Prepaid insurance Other Total prepaid expenses and other current assets February 2, 2019 February 3, 2018 $ $ 7,680 1,759 816 916 11,171 $ $ 7,095 999 673 767 9,534 58 Note 6: Property and Equipment At February 2, 2019 and February 3, 2018, property and equipment consisted of the following (in thousands): Leasehold improvements Furniture and fixtures Computer hardware and software Machinery and equipment Vehicles Construction in progress Property and equipment, gross Accumulated depreciation Property and equipment, net February 2, 2019 138,996 45,061 39,110 32,377 2,080 2,469 260,093 (186,251) 73,842 $ $ February 3, 2018 132,428 43,983 37,722 31,509 1,891 1,854 249,387 (166,066) 83,321 $ $ Depreciation expense related to property and equipment was $22.5 million, $23.4 million and $23.3 million in fiscal years 2018, 2017 and 2016, respectively. Cash paid for capital expenditures during fiscal 2018, 2017 and 2016, were approximately $14.9 million, $13.8 million and $17.0 million, respectively. Impairments are recorded on long-lived assets used in operations whenever events or changes in circumstances indicate that the net carrying amounts may not be recoverable. We recorded non-cash impairment charges of $0.8 million, $0.8 million and $2.4 million in selling, general and administrative expenses in fiscal years 2018, 2017 and 2016, respectively,yy to write down the carrying value of long-lived assets to their estimated fair values. Refer to "Note 11: Fair Value Measurements", for further information. If we are not able to achieve our projected key financial metrics, we may incur additional impairment in the future for long- lived assets. Note 7: Accrued Expenses At February 2, 2019 and February 3, 2018, accrued expenses consisted of the following (in thousands): Accrued construction Accrued freight Sales and use taxes payable Income taxes payable Merchandise returns Computer services Loss contingencies Other Total accrued expenses Note 8: Line of Credit February 2, 2019 February 3, 2018 $ $ 2,539 2,703 1,702 1,679 1,399 868 42 7,824 18,756 $ $ 2,075 2,032 2,192 343 1,133 333 6,466 8,157 22,731 Our amended and restated credit agreement with Wells Fargo Bank, N.A. ("Bank") provides for a $25.0 million revolving line of credit with a maturity date of January 26, 2020. The interest rate charged on borrowings is selected at our discretion at the time of draw between the London Interbank Offered Rate, plus 0.75%, or at the Bank’s prime rate. The agreement allows for the declaration and payment of dividends or distributions to stockholders. On February 27, 2019 and February 20, 2018, we paid a special dividend of $1.00 per share. On February 24, 2017, we paid a special dividend of $0.70 per share. Refer to "Note 18: Stockholders' Equity", for further information. The line of credit is secured by substantially all of our assets. As a sub-feature under the revolving line of credit, the Bank may also issue stand-by and/or commercial letters of credit up to $15.0 million. ff We are required to maintain certain financial and non-financial covenants in accordance with the line of credit. The financial covenants require certain levels of leverage and profitability,yy such as (i) income before income taxes not to be less than $1 million (measured at the end of each fiscal quarter), (ii) a maximum ratio of 4.00 to 1.00 as of each quarter end for “Funded 59 Debt to EBITDAR”, defined as the sum of total debt, capital leases and annual rent expense multiplied by 6 divided by the sum of net income, interest expense, taxes, depreciation, amortization and annual rent expense, and (iii) requires minimum inventory,yy cash, cash equivalents and marketable securities totaling $50 million as of the end of each quarter. In addition, maximum investment in fixed assets in any fiscal year of $50 million. In September 2018, we entered into an amendment to increase our standby letter of credit from $750,000 to $1,075,000. The letter of credit was established for security against insurance claims as required by our workers' compensation insurance policy. There has been no activity under this letter of credit since its inception. As of February 2, 2019, we were in compliance with all of our covenants and had no outstanding borrowings under the revolving credit facility. Note 9: Leases We conduct all of our retail sales and corporate operations in leased facilities. Lease terms generally range up to ten years and provide for escalations in base rents. We are generally not obligated to renew leases. Certain leases provide for additional rent based on a percentage of sales and annual rent increases generally based upon the Consumer Price Index. In addition, many of the store leases contain certain co-tenancy provisions that permit us to pay rent based on a pre-determined percentage of sales when the occupancy of the retail center falls below minimums established in the lease. Operating leases ff and warehouse space (10 and 12 Whatney,yy Irvine, California) from a company that is owned by the co-founders We lease office of Tillys. This lease was amended in December 2017 and was re-classified from a capital lease to an operating lease. The lease expires on December 31, 2027. We incurred rent expense of $2.1 million, $1.1 million and $1.0 million in fiscal years 2018, 2017 and 2016, respectively. ff and warehouse space (11 Whatney,yy Irvine, California) from a company that is owned by one of the co-founders We lease office of Tillys. We incurred rent expense of $0.4 million in each of the fiscal years 2018, 2017 and 2016, related to this lease. Pursuant to the lease agreement, the lease payment adjusts annually based upon the Los Angeles/Anaheim/Riverside Urban Consumer Price Index, not to exceed 7%, but a minimum of 3%, in any one annual increase. The lease expires on June 30, 2022. We lease a building (17 Pasteur, Irvine, California) from a company that is owned by one of the co-founders of Tillys. We use this property as our e-commerce distribution center. We incurred rent expense of $1.0 million, $1.0 million and $0.9 million in fiscal years 2018, 2017 and 2016, respectively,yy related to this lease. Pursuant to the lease agreement, the lease payment adjusts annually based upon the Los Angeles/Anaheim/Riverside Urban Consumer Price Index, not to exceed 7%, but a minimum of 3%, in any one annual increase. The lease expires on October 31, 2021. Future minimum rental commitments, including fixed non-lease components, under non-cancellable operating leases for the above buildings and all of our store locations as of February 2, 2019 are as follows (in thousands): Fiscal Year 2019 2020 2021 2022 2023 Thereafter Total Related Party Other Total $ $ 3,351 3,451 3,274 2,278 2,163 9,112 23,629 $ $ $ $ 60,542 56,681 50,541 41,893 32,948 57,833 300,438 February 3, 2018 35,578 1,552 37,130 $ $ $ $ 63,893 60,132 53,815 44,171 35,111 66,945 324,067 January 28, 2017 42,988 1,212 44,200 Rent expense for fiscal years 2018, 2017 and 2016 was as follows (in thousands): Minimum rentals Contingent rentals Total rent expense February 2, 2019 $ $ 41,775 2,339 44,114 Prior to signing each of the related party leases above, we received an independent market analysis regarding the property and therefore believe that the terms of each lease are reasonable and not materially different from an unaffiliated from terms we would have obtained third party. ff ff 60 Note 10: Commitments and Contingencies Indemnifications, Commitments, and Guarantees During the normal course of business, we have made certain indemnifications, commitments, and guarantees under which we may be required to make payments for certain transactions. These indemnifications include those given to various lessors in connection with facility leases for certain claims arising from such facility or lease, and indemnifications to our directors and ff officers commitments, and guarantees do not provide for any limitation of the maximum potential future payments we could be obligated to make, and their duration may be indefinite. We have not recorded any liability for these indemnifications, commitments, and guarantees in the accompanying Consolidated Balance Sheets. to the maximum extent permitted under the laws of the state of Delaware. The majority of these indemnifications, Purchase rr Obligations At February 2, 2019, our future minimum payments under agreements to purchase services primarily for software maintenance aggregated to $6.1 million, payable as follows: $2.6 million in fiscal 2019, $1.9 million in fiscal 2020, $1.2 million in fiscal 2021 and $0.4 million in fiscal 2022. rr Legal Proceedings From time to time, we may become involved in lawsuits and other claims arising from our ordinary course of business. We establish loss provisions for matters in which losses are probable and can be reasonably estimated. For some matters, we are currently unable to predict the ultimate outcome, determine whether a liability has been incurred or make an estimate of the reasonably possible liability that could result from an unfavorable outcome because of the uncertainties related to the incurrence, amount and range of loss on any pending litigation or claim. Because of the unpredictable nature of these matters, we cannot provide any assurances regarding the outcome of any litigation or claim to which we are a party or that the ultimate outcome of any of the matters threatened or pending against us, including those disclosed below,ww will not have a material adverse effect on our financial condition, results of operations or cash flows. ff Juan Carlos Gonzales, on behalf of himself and all others similarly situated, v. Tilly’s Inc. et al, Superior Court of California, County of Orange, Case No. 30-2017-00948710-CU-OE-CXC. In October 2017, the plaintiffff filed a putative class action against us, alleging various violations of California’s wage and hour laws. The complaint seeks class certification, unspecified damages, unpaid wages, penalties, restitution, interest, and attorneys’ fees and costs. In December 2017, we filed an answer to the complaint, denying all of the claims and asserting various defenses. In April 2018, the plaintiffff filed a separate action under the Private Attorneys General Act against us seeking penalties on behalf of himself and other similarly situated employees for the same alleged violations of California's wage and hour laws. We requested the plaintiffff to dismiss the class action claims based on an existing class action waiver in an arbitration agreement which plaintiffff signed with our co-defendant, BaronHR, the staffing ff dismissed. We have defended this case vigorously,yy and will continue to do so. company that employed plaintiffff to work at the Company. In June 2018, the plaintiff'sff class action complaint was PP In Specifically,yy the complaint asserted a .MM In January 2017, the plaintiffff filed a putative class action lawsuit against us, Laurenrr Minniti, on behalf of herself and all others similarly situated, v. Tilly’s, Inc., United States District Court, Southern District of Florida, Case No. 0:17-cv-60237-FAMFF alleging violations of the Telephone Consumer Protection Act of 1991 (the “TCPA”). violation of the TCPAPP for allegedly sending unsolicited automated messages to the cellular telephones of the plaintiffff and others. The complaint sought class certification and damages of $500 per violation plus treble damages under the TCPA.PP March 2017, we filed our initial response to this matter with the court. In June 2017, the parties attended a mediation. In July 2017, the parties reached an agreement in principle to settle this matter, subject to court approval, and we recorded an estimated loss provision of $6.2 million in connection with the proposed settlement during the second quarter of fiscal 2017. In March 2018, the parties executed a settlement agreement, subject to final court approval. In April 2018, the court preliminarily approved the settlement agreement and certified a class for settlement purposes. In May 2018, the class members were sent notice of the settlement and in August 2018, the court granted final approval of the settlement. As a result, we recorded a $1.5 million reduction in our original accrual estimate to reflect the final required cash payments to be made as part of this settlement which were subsequently paid in October 2018. Additionally,yy we were required to issue non-transferable discount coupons to approximately 612,000 existing Tillys customers not covered by the cash payments in early September 2018. These coupons entitle the recipient to a one-time 50% discount on a single purchase transaction of up to $1,000. Any unused coupons will expire on September 4, 2019. As of February 2, 2019, approximately 1.5% of these coupons had been redeemed, representing less than 0.2% of total sale transactions and less than 0.5% of total net sales, since the coupons were issued. Consequently,yy these coupons had no material impact on our fiscal 2018 comparable store net sales or operating results as a whole. On a transactional basis, redemption transactions have produced an average sale that is approximately three times larger than non-redemption transactions during this same time period, but with a significantly lower margin rate. The net result has been an increase in net margin dollars produced per redemption transaction that is approximately 25% higher than non- redemption transactions. There can be no assurances that these results, or the level of redemptions, will remain consistent through the remaining six month redemption period. Although redemption activity has been low during the first six months of 61 the redemption period, the potential impact through September 4, 2019 could be material and could adversely affect financial condition and results of operations. ff our Skylar Ward,dd on behalf of herself and all others similarly situated, v. Tilly’s, Inc., Superior Court of California, County of Los Angeles, Case No. BC595405. In September 2015, the plaintiffff filed a putative class action lawsuit against us alleging, among other things, various violations of California's wage and hour laws. The complaint sought class certification, unspecified damages, unpaid wages, penalties, restitution, and attorneys' fees. In June 2016, the court granted our demurrer to the plaintiff'sff complaint on the grounds that the plaintiffff failed to state a cause of action against Tilly's and dismissed the complaint. Specifically,yy the court agreed with us that the plaintiff'sff plaintiffff and other putative class members did not "report for work" with respect to certain shifts on which the plaintiff'sff are based. In November 2016, the court entered a written order sustaining our demurrer to the plaintiff'sff complaint and dismissing all of plaintiff’ff s causes of action with prejudice. In January 2017, the plaintiffff filed an appeal of the order to the California Court of Appeal. In October 2017, the plaintiffff filed her opening appellate brief, and our responding appellate brief was filed in December 2017. In May 2018, the plaintiffff filed her reply appellate brief. Later in May 2018, an amicus brief was filed by Abercrombie & Fitch Stores, Inc., in support of Tilly’s position in this appeal. Oral argument was heard by the California Court of Appeal in November 2018. On February 4, 2019, the Court of Appeal issued an opinion overturning the trial court’s decision, holding that the plaintiff’ff s allegations stated a claim. In March 2019, we filed a petition for review with the California Supreme Court seeking its discretionary review of the Court of Appeal’s decision. We have defended this case vigorously,yy and will continue to do so. cause of action for reporting-time pay fails as a matter of law as the claims In June 2015, we and one of our vendors entered into a settlement arrangement with a plaintiffff who filed a copyright infringement lawsuit against the vendor and us related to certain vendor products we sell. The settlement required that the vendor pay $2.0 million to the plaintiffff over three years and we agreed to guarantee such payments in exchange for a security interest in the vendor's intellectual property. We concluded this matter with the final settlement payment in June 2018. The total settlement amount paid by us was not materially different from the amount previously accrued. ff Note 11: Fair Value Measurements We determine fair value based on a three-level valuation hierarchy as described below. Fair value is defined as the exit price associated with the sale of an asset or transfer of a liability in an orderly transaction between market participants at the measurement date. The three-level hierarchy of inputs used to determine fair value is as follows: • Level 1 –Quoted prices in active markets for identical assets and liabilities. Level 2 –Inputs other than Level 1 that are observable, either directly or indirectly,yy such as quoted prices for similar • assets and liabilities; quoted prices in markets that are not active; or other inputs that are observable or can be corroborated by observable market data for substantially the full term of the assets or liabilities. Level 3 –Unobservable inputs (i.e. projections, estimates, interpretations, etc.) that are supported by little or no market • activity and that are significant to the fair value of the assets or liabilities. We measure certain financial assets at fair value on a recurring basis, including our marketable securities, which are classified as either available-for-sale securities or held-to-maturity,yy and certain cash equivalents, specifically money market securities, commercial paper, municipal bonds and certificates of deposits. The money market accounts are valued based on quoted market prices in active markets. The marketable securities are valued based on other observable inputs for those securities (including market corroborated pricing or other models that utilize observable inputs such as interest rates and yield curves) based on information provided by independent third party entities. From time to time, we measure certain assets at fair value on a non-recurring basis, including evaluation of long-lived asses for impairments using Company-specific assumptions which would fall within Level 3 of the fair-value hierarchy. Fair value calculations contain significant judgments and estimates, which may differ things, economic conditions, changes to the business model or changes in operating performance. ff from actual results due to, among other We did not make any transfers between Level 1 and Level 2 financial assets during fiscal years 2018, 2017 and 2016. Furthermore, as of February 2, 2019 and February 3, 2018, we did not have any Level 3 financial assets. We conduct reviews on a quarterly basis to verify pricing, assess liquidity,yy and determine if significant inputs have changed that would impact the fair value hierarchy disclosure. 62 Financial Assets In accordance with the provisions of ASC 820, we categorized our financial assets based on the priority of the inputs to the valuation technique for the instruments as follows (in thousands): February 2, 2019 February 3, 2018 Level 1 Level 2 Level 3 Level 1 Level 2 Level 3 $56,856 — $— 4,975 $— — $49,704 26,215 $— — $— — $46,441 — $— — $— — $59,589 23,161 $— — $— — Cash equivalents (1): Money market securities Commercial paper Marketable securities: Commercial paper Fixed income securities (1) Excludes cash Impairment of Long-Lived Assets On at least a quarterly basis, we assess whether events or changes in circumstances have occurred that potentially indicate the carrying value of long-lived assets may not be recoverable. Based on Level 3 inputs of historical operating performance, including sales trends, gross margin rates, current cash flows from operations and the projected outlook for each of our stores, we determined that certain stores would not be able to generate sufficient leases to recover our investment in the respective stores. As a result, we recorded non-cash impairment charges of approximately $0.8 million, $0.8 million and $2.4 million in fiscal years 2018, 2017 and 2016, respectively,yy to write-down the carrying value of certain long-lived store assets to their estimated fair values. cash flows over the remaining term of the related ff Carrying value of assets with impairment Fair value of assets impaired Number of stores tested for impairment Number of stores with impairment Note 12: Share-Based Compensation February 2, 2019 $786 $— 7 2 Fiscal Year Ended February 3, 2018 ($ in thousands) $848 $— 10 4 January 28, 2017 $2,584 $232 15 9 The Tillys 2012 Amended and Restated Equity and Incentive Award Plan, as amended in June 2014 (the "2012 Plan"), authorizes up to 4,413,900 shares for issuance of options, shares or rights to acquire our Class A common stock and allows for, among other things, operating income and comparable store sales growth targets as additional performance goals that may be used in connection with performance-based awards granted under the 2012 Plan. As of February 2, 2019, there were 1,530,115 shares available for future issuance under the 2012 Plan. Options We grant stock options to certain employees that gives them the right to acquire our Class A common stock under the 2012 Plan. The exercise price of options granted is equal to the closing price per share of our stock at the date of grant. The non- qualified options vest at a rate of 25% on each of the first four anniversaries of the grant date provided that the award recipient continues to be employed by us through each of those vesting dates, and expire ten years from the date of grant. 63 The following table summarizes our stock option activity for fiscal year 2018: Outstanding at February 3, 2018 Granted Exercised Forfeited Expired Outstanding at February 2, 2019 Vested and expected to vest at February 2, 2019 Exercisable at February 2, 2019 Grant Date Weighted Average Exercise Price Weighted Average Remaining Contractual Life (in Years) Aggregate Intrinsic Value(1) (in years) ($ in thousands) $9.50 $11.52 $11.11 $9.03 $14.19 $9.47 $9.47 $10.10 6.9 6.9 5.5 $6,451 $6,451 $3,120 Stock Options 1,851,250 311,625 (328,625) (57,500) (40,500) 1,736,250 1,736,250 883,125 (1) Intrinsic value for stock options is defined as the difference fiscal year and the weighted average exercise price of in-the-money stock options outstanding at the end of each fiscal period. The market value per share was $12.71 at February 2, 2019. between the market price of our Class A common stock on the last business day of the ff The total intrinsic value of options exercised in fiscal years 2018, 2017 and 2016 was $2.0 million, $1.3 million and $0.9 million, respectively. The total fair value of options vested in fiscal years 2018, 2017 and 2016 was $1.6 million, $1.6 million and $2.0 million, respectively. The total proceeds received from the exercise of stock options in fiscal years 2018, 2017 and 2016 was $3.7 million, $3.4 million and $2.1 million, respectively. The tax benefit realized from stock options exercised in fiscal years 2018, 2017 and 2016 was $0.5 million, $0.5 million and $0.4 million, respectively. The stock option awards were measured at fair value on the grant date using the Black-Scholes option valuation model. Key input assumptions used to estimate the fair value of stock options include the exercise price of the award, the expected option term, expected volatility of our stock over the option’s expected term, the risk-free interest rate over the option’s expected term and our expected annual dividend yield, if any. We will issue shares of Class A common stock when the options are exercised. The fair values of stock options granted in fiscal years 2018, 2017 and 2016 were estimated on the grant dates using the following assumptions: Weighted average grant-date fair value per option granted Expected option term (1) Expected volatility factor (2) Risk-free interest rate (3) Expected annual dividend yield (4) February 2, 2019 $5.45 5.0 years 51.6% 2.6% —% Fiscal Year Ended February 3, 2018 $3.99 5.0 years 50.3% 1.93% —% January 28, 2017 $3.73 5.0 years 62.8% 1.34% —% (1) We have limited historical information regarding expected option term. Accordingly,yy we determine the expected option term of the awards using the latest historical data available from comparable public companies and management’s expectation of exercise behavior. (2) Stock volatility for each grant is measured using the weighted average of historical daily price changes of our common stock over the most recent period equal to the expected option term of the awards. (3) The risk-free interest rate is determined using the rate on treasury securities with the same term as the expected life of the stock option as of the grant date. (4) We do not have a dividend policy and we do not anticipate paying any additional cash dividends on our common stock at this time. 64 Restricted Stock Restricted stock awards ("RSAs") represent restricted shares issued upon the date of grant in which the recipient's rights in the stock are restricted until the shares are vested, whereas restricted stock units represent shares issuable in the future upon vesting. Under the 2012 Plan, we grant RSAs to independent members of our Board of Directors and restricted stock units to certain employees. RSAs granted to Board members vest at a rate of 50% on each of the first two anniversaries of the grant date provided that the respective award recipient continues to serve on our Board of Directors through each of those vesting dates. The restricted stock units granted to certain employees vest at a rate of 25% on each of the first four anniversaries of the grant date provided that the respective recipient continues to be employed by us through each of those vesting dates. We determine the fair value of restricted stock underlying the RSAs and restricted stock units based upon the closing price of our Class A common stock on the date of grant. A summary of the status of non-vested restricted stock as of February 2, 2019 and changes during fiscal year 2018 are presented below: Nonvested at February 3, 2018 Granted Vested Forfeited Nonvested at February 2, 2019 Weighted- Average Grant-Date Fair Value $12.24 $14.90 $11.08 $16.07 $14.32 Shares 109,532 21,476 (67,732) (2,375) 60,901 The weighted-average grant-date fair value of restricted stock granted during the years ended February 3, 2018 and January 28, 2017 was $10.39 and $6.17, respectively. The total fair value of restricted stock vested was $0.9 million, $0.7 million and $0.5 million in fiscal years 2018, 2017 and 2016, respectively. Share-based compensation expense associated with stock options and restricted stock is recognized on a straight-line basis over the requisite service period. The following table summarizes share-based compensation recorded in the accompanying Consolidated Statements of Income (in thousands): Cost of goods sold Selling, general and administrative expenses Total share-based compensation Fiscal Year Ended February 2, 2019 $517 1,695 $2,212 February 3, 2018 $612 1,799 $2,411 January 28, 2017 $855 1,717 $2,572 At February 2, 2019, there was $3.1 million of total unrecognized share-based compensation expense related to unvested stock options and restricted stock awards. This cost has a weighted average remaining recognition period of 2.2 years. Note 13: Retirement Savings Plan The Tillys 401(k) Plan (the “401(k) Plan”) is a qualified plan under Section 401(k) of the Internal Revenue Code. The 401(k) Plan covers all employees that have attained age 21 and completed at least three months of employment tenure. Matching contributions to the 401(k) Plan by the Company are made at the discretion of our Board of Directors. Total employer contributions to the 401(k) Plan totaled $0.6 million, $0.6 million and $0.8 million in fiscal years 2018, 2017 and 2016, respectively. 65 Note 14: Income Taxes The components of income tax expense for fiscal years 2018, 2017 and 2016 were as follows (in thousands): Current: Federal State Deferred: Federal State Total income tax expense Fiscal Year Ended February 2, 2019 February 3, 2018 January 28, 2017 $ $ 5,818 2,153 7,971 760 119 879 8,850 $ $ 6,236 1,304 7,540 2,436 533 2,969 10,509 $ $ 7,939 1,602 9,541 (1,121) (82) (1,203) 8,338 A reconciliation of income tax expense to the amount computed at the federal statutory rate for fiscal years 2018, 2017 and 2016 is as follows (in thousands): Federal taxes at statutory rate State and local income taxes, net of federal benefit Tax reform impact Stock compensation discrete items (1) Return to provision adjustments Other Total income tax expense Fiscal Year Ended February 2, 2019 February 3, 2018 January 28, 2017 $ $ 7,097 1,795 — (39) (108) 105 8,850 $ $ 8,529 1,216 491 231 124 (82) 10,509 $ $ 6,913 988 — 558 (40) (81) 8,338 (1) This amount includes the impact of discrete items related to the expiration of stock options, exercises of stock options and the settlement of restricted stock that are recorded to income tax expense which represents share-based compensation cost previously recognized by us that was greater than the deduction allowed for income tax purposes based on the price of our common stock on the date of expiration, exercise or vesting. On December 22, 2017, the Tax Act was signed into law,ww a significant modification of existing U.S. federal tax legislation, was enacted which reduced our U.S. federal tax rate from 35% to 21%, effective current year reflects this change in tax rate. Our accounting for the income tax effects available guidance and interpretation, is included in our provision. January 1, 2018. The statutory tax rate for the of the new tax legislation, based on ff ff 66 ff Deferred income taxes reflect the net tax effects of: (a) temporary differences liabilities for financial reporting purposes and the amounts used for income tax purposes; and (b) operating loss and tax credit carry-forwards. We record net deferred tax assets to the extent we believe these assets will more likely than not be realized. In making such determination, we consider all available positive and negative evidence, including future reversals of existing taxable temporary differences, Significant components of deferred tax assets and liabilities as of February 2, 2019 and February 3, 2018 were as follows (in thousands): projected future taxable income, tax planning strategies and recent financial operations. between the carrying amounts of assets and ff ff Deferred tax assets: Deferred rent Share-based compensation Inventories Accrued expenses Compensation and benefits Deferred revenue Other Total deferred tax assets Deferred tax liabilities: Property and equipment Prepaid expenses Marketable securities Other Total deferred tax liabilities Net deferred tax asset February 2, 2019 February 3, 2018 $ $ $ 3,446 1,841 1,628 985 426 417 — 8,743 (6,133) (878) (84) (369) (7,464) 1,279 $ 3,523 1,705 1,650 1,079 471 187 55 8,670 (5,367) (526) (9) — (5,902) 2,768 Deferred tax assets are included in “Other assets" in the accompanying Consolidated Balance Sheets. As of February 2, 2019 and February 3, 2018, we had approximately $0.2 million and $0.1 million, respectively of California Enterprise Zone credit carryovers. These credits will begin to expire during fiscal year 2022 if not utilized. Uncertain Taxaa Positions As of February 2, 2019 and February 3, 2018, there were no material unrecognized tax benefits. We do not anticipate that there will be a material change in the balance of the unrecognized tax benefits in the next 12 months. Any interest and penalties related to uncertain tax positions are recorded in income tax expense. We did not recognize any interest or penalties related to unrecognized tax benefits during fiscal years 2018, 2017 and 2016. We file income tax returns in the United States federal jurisdiction and in various state and local jurisdictions. In the normal course of business, we are subject to examination by taxing authorities. Fiscal years 2016 and 2017 remain subject to examination for federal tax purposes and fiscal years 2014 through 2017 remain subject to examination in significant state tax jurisdictions. Note 15: Earnings Per Share Our common stock consists of two classes: Class A and Class B. The Class A and Class B common stock have identical rights, except with respect to voting and conversion. Net income per share is computed under the provisions of ASC Topic 260, Earnings Per Sharerr . Basic net income per share is computed based on the weighted average number of common shares outstanding during the period. Diluted net income per share is computed based on the weighted average number of shares of common stock plus the effect common shares outstanding during the period using the treasury stock method, whereby proceeds from such exercise, and unamortized compensation expense, on share-based awards are assumed to be used by us to purchase the common shares at the average market price during the period. Potentially dilutive shares of common stock represent outstanding stock options and restricted stock awards. of dilutive potential ff 67 The components of basic and diluted earnings per share of Class A and Class B common stock, in aggregate, for fiscal years 2018, 2017 and 2016 are as follows (in thousands, except per share amounts): Net income Fiscal Year Ended February 2, 2019 February 3, 2018 January 28, 2017 $ 24,943 $ 14,700 $ 11,410 Weighted average basic shares outstanding Dilutive effect Weighted average shares for diluted earnings per share of stock options and restricted stock ff 29,278 490 29,768 28,804 270 29,074 Basic earnings per share of Class A and Class B common stock Diluted earnings per share of Class A and Class B common stock $ $ 0.85 0.84 $ $ 0.51 0.51 $ $ 28,496 33 28,529 0.40 0.40 The earnings per share amounts are the same for Class A and Class B common stock, in aggregate, and individually for Class A and Class B common stock because the holders of each class are legally entitled to equal per share distributions whether through dividends or in liquidation. Shares of Class A and Class B common stock vote together as a single class on all matters submitted to a vote of stockholders. Holders of Class A common stock are entitled to one vote per share and holders of Class B common stock are entitled to 10 votes per share. The following stock options and restricted stock have been excluded from the calculation of diluted earnings per share as the ff effect of including these stock options and restricted stock would have been anti-dilutive (in thousands): Fiscal Year Ended February 2, 2019 February 3, 2018 January 28, 2017 553 — 553 1,058 56 1,114 1,818 99 1,917 Stock options Restricted stock Total Note 16: Related Party Transactions Certain Leases As discussed in “Note 9: Leases”, we lease certain facilities from companies that are owned by the co-founders of Tillys. Tilly's Life Center Tilly’s Life Center, (“TLC”), is a charitable organization which provides underprivileged youth a healthy and caring environment. The Company’s co-founder is also the founder and President of TLC. In fiscal 2018, 2017 and 2016, our Board of Directors approved annual financial support for TLC of $200,000, $70,000 and $50,000, respectively,yy for each fiscal year. 68 Note 17: Quarterly Financial Information (Unaudited) The tables below set forth unaudited selected quarterly financial data for each of the last two fiscal years (in thousands, except per share data). Each of the quarters presented was thirteen weeks in duration, except for fourth quarter ended February 3, 2018, which was fourteen weeks in duration. The operating results in any quarter are not necessarily indicative of the results that may be expected for any future period. We have derived this data from our unaudited consolidated interim financial statements that, in our opinion, have been prepared on substantially the same basis as the audited financial statements contained elsewhere in this report and include all normal recurring adjustments necessary for a fair presentation of the financial information for the periods presented. These unaudited quarterly results should be read in conjunction with our financial statements and notes thereto included elsewhere in this report. The quarters are calculated independent of each other and therefore may not agree to the year to date amounts. First Quarter (unaudited) $123,634 34,977 1,331 1,223 $0.04 $0.04 First Quarter (unaudited) $120,947 32,905 (329) (161) $(0.01) $(0.01) Fiscal Year Ended February 2, 2019 Second Quarter (unaudited) $157,406 50,105 12,478 9,689 $0.33 $0.33 Third Quarter (unaudited) $146,826 43,656 6,737 5,355 $0.18 $0.18 Fiscal Year Ended February 3, 2018 Second Quarter (unaudited) $138,810 40,929 (1,239) (596) $(0.02) $(0.02) Third Quarter (unaudited) $152,824 50,094 14,112 8,757 $0.30 $0.30 Fourth Quarter (unaudited) $170,612 52,157 10,934 8,677 $0.29 $0.29 Fourth Quarter (1) (unaudited) $164,317 51,440 11,441 6,699 $0.23 $0.23 Net sales Gross profit Operating income Net income Basic earnings per share Diluted earnings per share Net sales Gross profit Operating (loss) income Net (loss) income Basic (loss) earnings per share Diluted (loss) earnings per share (1) Includes 14 weeks Note 18: Stockholders' Equity On January 31, 2019, our Board of Director's declared a special cash dividend of $1.00 per share to all holders of record of issued and outstanding shares of both Class A and Class B common stock as of the close of business on February 15, 2019, with payment of $29.5 million made on February 27, 2019. On January 24, 2018, our Board of Director's declared a special cash dividend of $1.00 per share to all holders of record of issued and outstanding shares of both Class A and Class B common stock as of the close of business on February 9, 2018, with payment of $29.1 million made on February 20, 2018. On January 31, 2017, our Board of Director's declared a special cash dividend of $0.70 per share to all holders of record of issued and outstanding shares of both Class A and Class B common stock as of the close of business on February 15, 2017, with payment of $20.1 million made on February 24, 2017. 69 Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosures Not Applicable. Item 9A. Controls and Procedures Evaluation of Disclosure Controls and Procedures As required by Rules 13a-15(e) and 15d-15(e) under the Exchange Act, management has evaluated, with the participation of our Chief Executive Officer and Chief Financial Officer, the effectiveness of our disclosure controls and procedures as of the end of the period covered by this report. Disclosure controls and procedures refer to controls and other procedures designed to ensure that information required to be disclosed in the reports we file or submit under the Exchange Act is recorded, processed, summarized and reported, within the time periods specified in the rules and forms of the SEC. Disclosure controls and procedures include, without limitation, controls and procedures designed to ensure that information required to be disclosed by us in our reports that we file or submit under the Exchange Act is accumulated and communicated to management, including our Chief Executive Officer and Chief Financial Officer, as appropriate to allow timely decisions regarding our required disclosure. In designing and evaluating our disclosure controls and procedures, management recognizes that any controls and procedures, no matter how well designed and operated, can provide only reasonable assurance of achieving the desired control objectives, and management was required to apply its judgment in evaluating and implementing possible controls and procedures. We conducted an evaluation, under the supervision and with the participation of our Chief Executive Officer and Chief Financial Officer, of the effectiveness of the design and operation of our disclosure controls and procedures as of the end of the period covered by this report. Based on their evaluation and subject to the foregoing, our Chief Executive Officer and Chief Financial Officer have concluded that, as of the end of the period covered by this report, the disclosure controls and procedures were effective to provide reasonable assurance that information required to be disclosed in the reports we file and submit under the Exchange Act is recorded, processed, summarized and reported as and when required. Management’s Report on Internal Control over Financial Reporting Management is responsible for establishing and maintaining adequate internal control over financial reporting as defined in Rule 13a-15(f) under the Exchange Act. Internal control over financial reporting refers to a process designed by, or under the supervision of, our Chief Executive Officer and Chief Financial Officer and effected by our Board of Directors, management and other personnel, to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles and includes those policies and procedures that: (i) pertain to the maintenance of records that in reasonable detail accurately and fairly reflect the transactions and dispositions of our assets; (ii) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that our receipts and expenditures are being made only in accordance with authorizations of our management and members of our Board of Directors; and (iii) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of our assets that could have a material effect on our financial statements. Internal control over financial reporting cannot provide absolute assurance of achieving financial reporting objectives because of its inherent limitations. Internal control over financial reporting is a process that involves human diligence and compliance and is subject to lapses in judgment and breakdowns resulting from human failures. Internal control over financial reporting also can be circumvented by collusion or improper override. Because of such limitations, there is a risk that material misstatements may not be prevented or detected on a timely basis by internal control over financial reporting. However, these inherent limitations are known features of the financial reporting process, and it is possible to design into the process safeguards to reduce, though not eliminate, this risk. Management conducted the above-referenced assessment of the effectiveness of our internal control over financial reporting as of February 2, 2019 using the framework set forth in the report entitled, “Internal Control — Integrated Framework (2013)", issued by the Committee of Sponsoring Organizations of the Treadway Commission, or the COSO Report. Based on management’s evaluation and the criteria set forth in the COSO Report, management concluded that our internal control over financial reporting was effective as of February 2, 2019. Our internal control over financial reporting as of February 2, 2019 has been audited by BDO USA, LLP, an independent registered public accounting firm, as stated in their report included herein. 70 Changes in Internal Control over Financial Reporting Management has determined that, as of February 2, 2019, there were no changes in our internal control over financial reporting that occurred during our most recent fiscal quarter then ended that have materially affected, materially affect, our internal control over financial reporting. or are reasonably likely to ff ff 71 Report of Independent Registered Public Accounting Firm Shareholders and Board of Directors Tilly’s, Inc. Irvine, California Opinion on Internal Control over Financial Reporting We have audited Tilly’s, Inc.’s (the “Company’s”) internal control over financial reporting as of February 2, 2019, based on criteria established in Internal Controlrr the Treadway Commission (the “COSO criteria”). In our opinion, the Company maintained, in all material respects, effective internal control over financial reporting as of February 2, 2019, based on the COSO criteria. - Integrated Framework (2013) issued by the Committee of Sponsoring Organizations of ff We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States) (“PCAOB”), the consolidated balance sheets of the Company and subsidiary as of February 2, 2019 and February 3, 2018, the related consolidated statements of income, comprehensive income, stockholders’ equity,yy and cash flows for each of the three years in the period ended February 2, 2019, and the related notes and our report dated March 29, 2019, expressed an unqualified opinion thereon. Basis for Opinion ff The Company’s management is responsible for maintaining effective assessment of the effectiveness Management’s Report on Internal Control over Financial Reporting. Our responsibility is to express an opinion on the Company’s internal control over financial reporting based on our audit. We are a public accounting firm registered with the PCAOB and are required to be independent with respect to the Company and subsidiary in accordance with U.S. federal securities laws and the applicable rules and regulations of the Securities and Exchange Commission and the PCAOB. of internal control over financial reporting, included in the accompanying Item 9A, internal control over financial reporting and for its ff We conducted our audit of internal control over financial reporting in accordance with the standards of the PCAOB. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether effective internal control over financial reporting was maintained in all material respects. Our audit included obtaining an understanding of internal control over financial reporting, assessing the risk that a material weakness exists, and testing and evaluating the design and operating effectiveness ff as we considered necessary in the circumstances. We believe that our audit provides a reasonable basis for our opinion. of internal control based on the assessed risk. Our audit also included performing such other procedures ff Definition and Limitations of Internal Control over Financial Reporting A company’s internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. A company’s internal control over financial reporting includes those policies and procedures that (1) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the company; (2) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the company are being made only in accordance with authorizations of management and directors of the company; and (3) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of the company’s assets that could have a material effect on the financial statements. ff Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate. ff /s/ BDO USA, LLP Costa Mesa, California March 29, 2019 72 Item 9B. Other Information None. PART III Item 10. Directors, Executive Officers and Corporate Governance The information required by this Item is incorporated herein by reference to the Company’s Proxy Statement for the 2019 Annual Meeting of Stockholders, which will be filed with the SEC no later than 120 days after the close of the fiscal year ended February 2, 2019 (the “2019 Proxy Statement”). including our Chief Executive Officer In addition, our Board of Directors has adopted a Code of Business Ethics that applies to all of our directors, employees and officers, , Chief Financial Officer ff of the Code of Business Ethics is available on our website under the Investor Relations section at www.tillys.com. In accordance with rules adopted by the SEC and the New York Stock Exchange, we intend to promptly disclose any amendments to certain provisions of the Code of Business Ethics, or waivers of such provisions granted to executive officers on our website under the Investor Relations section at www.tillys.com. and Principal Accounting Officer . The current version and directors, ff ff ff ff Item 11. Executive Compensation The information required by this Item is incorporated herein by reference to the Company’s 2019 Proxy Statement. Item 12. Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters The information required by this Item is incorporated herein by reference to the Company’s 2019 Proxy Statement. Item 13. Certain Relationships and Related Transactions, and Director Independence The information required by this Item is incorporated herein by reference to the Company’s 2019 Proxy Statement. Item 14. Principal Accounting Fees and Services The information required by this Item is incorporated herein by reference to the Company’s 2019 Proxy Statement. Item 15. Exhibits, Financial Statement Schedules Financial Statements and Financial Statement Schedules PART IV See “Index to Consolidated Financial Statements” in Part II, Item 8 of this Annual Report on Form 10-K. Financial statement schedules have been omitted because they are not required or are not applicable or because the information required in those schedules either is not material or is included in the consolidated financial statements or the accompanying notes. Exhibits The exhibits listed in the accompanying index to exhibits are filed or incorporated by reference as part of this Annual Report on Form 10-K. Item 16. Form 10-K Summary None. 73 EXHIBIT INDEX Exhibit No. Description of Exhibit p 3.1 3.2 4.1 10.1 10.2 10.2.1 10.3 10.4 10.5 10.6# 10.7# 10.8# 10.9# 10.10# 10.11# 10.12# Amended and Restated Certificate of Incorporation of Tilly’s, Inc. (incorporated by reference to Exhibit 3.1 to the Registrant’s Amendment No. 2 to the Registration Statement on Form S-1 (Registration No. 333-175299), filed on September 7, 2011) Amended and Restated Bylaws of Tilly’s, Inc. (incorporated by reference to Exhibit 3.1 to the Registrant’s Current Report on Form 8-K filed on November 20, 2013) Form of Class A common stock certificate (incorporated by reference to Exhibit 4.1 to the Registrant’s Amendment No. 5 to the Registration Statement on Form S-1 (Registration No. 333-175299), filed on April 23, 2012) Form of Indemnification Agreement between Tillys and each of its directors and officers reference to Exhibit 10.1 to the Registrant’s Quarterly Report on Form 10-Q for the period ended August 1, 2015) (incorporated by ff Amended and Restated Office and Warehouse Lease between Shaked Holdings, LLC and World of Jeans & Tops, dated as of September 21, 2007 (10 and 12 Whatney,yy Irvine, California) (incorporated by reference to Exhibit 10.8 to the Registrant’s Registration Statement on Form S-1 (Registration No. 333-175299), filed on July 1, 2011) ff First Amendment to Amended and Restated Office World of Jeans & Tops, dated December 21, 2017 ((incorporated by reference to Exhibit 10.2.1 to the Registrant's Annual Report on Form 10-K for the period ended February 3, 2018) and Warehouse Lease between Shaked Holdings, LLC and ff Office and Warehouse Lease between Amnet Holdings, LLC and World of Jeans & Tops, dated as of ff November 1, 2010 (15 Chrysler, Irvine, California) (incorporated by reference to Exhibit 10.9 to the Registrant’s Registration Statement on Form S-1 (Registration No. 333-175299), filed on July 1, 2011) Amendment #1 to Office dated as of November 1, 2010 (15 Chrysler, Irvine, California) (incorporated by reference to Exhibit 10.10 to the Registrant’s Registration Statement on Form S-1 (Registration No. 333-175299), filed on July 1, 2011) and Warehouse Lease between Amnet Holdings, LLC and World of Jeans & Tops, ff Amendment #2 to Office dated as of July 1, 2012 (15 Chrysler, Irvine, California) (incorporated by reference to Exhibit 10.1 to the Registrant’s Quarterly Report on Form 10-Q for the period ended July 28, 2012) and Warehouse Lease between Amnet Holdings, LLC and World of Jeans & Tops, ff Amended and Restated Tillys 2007 Stock Option Plan (incorporated by reference to Exhibit 10.11 to the Registrant’s Amendment No. 2 to the Registration Statement on Form S-1 (Registration No. 333-175299), filed on September 7, 2011) Form of Stock Option Agreement Pursuant to 2007 Plan (Senior Executive Form) (incorporated by reference to Exhibit 10.12 to the Registrant’s Amendment No. 2 to the Registration Statement on Form S-1 (Registration No. 333-175299), filed on September 7, 2011) Form of Stock Option Agreement Pursuant to 2007 Plan (Non-Executive Form) (incorporated by reference to Exhibit 10.13 to the Registrant’s Amendment No. 2 to the Registration Statement on Form S-1 (Registration No. 333-175299), filed on September 7, 2011) Form of Re-Priced Stock Option Grant Agreement pursuant to the 2007 Plan (incorporated by reference to Exhibit 10.14 to the Registrant’s Amendment No. 2 to the Registration Statement on Form S-1 (Registration No. 333-175299), filed on September 7, 2011) Tilly’s Inc. Amended and Restated 2012 Equity and Incentive Award Plan (incorporated by reference to Appendix A to the Registrant’s Proxy Statement on Schedule 14A, filed on May 1, 2014) Form of Stock Option Award Agreement Pursuant to 2012 Plan (incorporated by reference to Exhibit 10.16 to the Registrant’s Amendment No. 3 to the Registration Statement on Form S-1 (Registration No. 333-175299), filed on March 23, 2012) Form of Restricted Stock Award Agreement Pursuant to 2012 Plan (incorporated by reference to Exhibit 10.17 to the Registrant’s Amendment No. 3 to the Registration Statement on Form S-1 (Registration No. 333-175299), filed on March 23, 2012) 74 10.12.1# Form of Tilly’s, Inc. Amended and Restated 2012 Equity and Incentive Award Plan Restricted Stock Unit Award Agreement Pursuant to 2012 Plan Grant Notice (incorporated by reference to Exhibit 10.1 to the Registrant’s Current Report on Form 8-K filed on March 25, 2015) 10.13 10.14 10.15 10.16 10.16.1 10.16.2 10.16.3 10.16.4 10.16.5 10.16.6 10.17 10.18 10.19 10.20 10.21 10.22 Cancellation of Loan Guaranty for World of Jeans & Tops dated March 9, 2011 from Union Bank (incorporated by reference to Exhibit 10.21 to the Registrant’s Amendment No. 1 to the Registration Statement on Form S-1 (Registration No. 333-175299), filed on August 11, 2011) and Warehouse Lease between Amnet Holdings, LLC and World of Jeans & Tops, dated September 2, Office ff 2011 (11 Whatney,yy Irvine, California) (incorporated by reference to Exhibit 10.22 to the Registrant’s Amendment No. 2 to the Registration Statement on Form S-1 (Registration No. 333-175299), filed on September 7, 2011) and Warehouse Lease between Amnet Holdings, LLC and World of Jeans & Tops, dated November 1, ff Office 2011 (17 Pasteur, Irvine, California) (incorporated by reference to Exhibit 10.23 to the Registrant’s Amendment No. 3 to the Registration Statement on Form S-1 (Registration No. 333-175299), filed on March 23, 2012) Amended and Restated Credit Agreement between World of Jeans & Tops and Wells Fargo Bank, NA dated as of May 3, 2012 (incorporated by reference to Exhibit 10.1 to the Registrant’s Quarterly Report on Form 10-Q for the period ended April 28, 2012) Amendment No. 1 to Amended and Restated Credit Agreement and between World of Jeans & Tops and Wells Fargo, NA dated as of March 17, 2014 (incorporated by reference to Exhibit 10.1 to the Registrant's Current Report on Form 8-K filed on March 19, 2014) Amendment No. 2 to Amended and Restated Credit Agreement between World of Jeans & Tops and Wells Fargo, NA, dated as of July 9, 2015 (incorporated by reference to Exhibit 10.1 to the Registrant's Current Report on Form 8-K filed on July 10, 2015) Amendment No. 3 to Amended and Restated Credit Agreement between World of Jeans & Tops and Wells Fargo, NA, dated as of January 26, 2017 (incorporated by reference to Exhibit 10.1 to the Registrant’s Current Report on Form 8-K filed on January 31, 2017) Amendment No. 4 to Amended and Restated Credit Agreement and Limited Waiver between World of Jeans & Tops and Wells Fargo, NA, dated as of April 13, 2017 (incorporated by reference to Exhibit 10.16.4 to the Registrant's Annual Report on Form 10-K for the period ended February 3, 2018) Amendment No. 5 to Amended and Restated Credit Agreement between World of Jeans & Tops and Wells Fargo, NA, dated as of January 24, 2018 (incorporated by reference to Exhibit 10.1 to the Registrant’s Current Report on Form 8-K filed on January 25, 2018) Amendment No. 6 to Amended and Restated Credit Agreement between World of Jeans & Tops and Wells Fargo, NA, dated as of January 24, 2018 (incorporated by reference to Exhibit 10.1 to the Registrant's Current Report on Form 8-K filed on February 1, 2019) Form of General Pledge Agreement between Tilly’s, Inc. and Wells Fargo Bank, NA dated as of May 3, 2012 (incorporated by reference to Exhibit 10.2 to the Registrant’s Quarterly Report on Form 10-Q for the period ended April 28, 2012) Form of Amended and Restated Security Agreement-Equipment, between World of Jeans & Tops and Wells Fargo Bank, NA dated as of May 3, 2012 (incorporated by reference to Exhibit 10.3 to the Registrant’s Quarterly Report on Form 10-Q for the period ended April 28, 2012) Form of Amended and Restated Security Agreement-Rights to Payment and Inventory,yy between World of Jeans & Tops and Wells Fargo Bank, NA dated as of May 3, 2012 (incorporated by reference to Exhibit 10.4 to the Registrant’s Quarterly Report on Form 10-Q for the period ended April 28, 2012) Form of Continuing Guaranty of Tilly’s, Inc. with Wells Fargo Bank, NA dated as of May 3, 2012 (incorporated by reference to Exhibit 10.5 to the Registrant’s Quarterly Report on Form 10-Q for the period ended April 28, 2012) Form of Revolving Credit Agreement Note from World of Jeans & Tops dated as of May 3, 2012 (incorporated by reference to Exhibit 10.6 to the Registrant’s Quarterly Report on Form 10-Q for the period ended April 28, 2012) Form of S Corporation Termination, Tax Allocation and Indemnification Agreement among Tilly’s, Inc., World of Jeans & Tops and the shareholders of World of Jeans & Tops (including Form of Promissory Note as Exhibit A thereto) (incorporated by reference to Exhibit 10.19 to the Registrant’s Amendment No. 2 to the Registration Statement on Form S-1 (Registration No. 333-175299), filed on September 7, 2011) 75 10.23 10.24# 10.25# 10.26# 21.1* 23.1* Form of Share Exchange Agreement among Tilly’s, Inc., World of Jeans & Tops and the shareholders of World of Jeans & Tops (incorporated by reference to Exhibit 10.20 to the Registrant’s Amendment No. 2 to the Registration Statement on Form S-1 (Registration No. 333-175299), filed on September 7, 2011) Letter between Tilly’s, Inc. and Jon Kubo entered into on July 8, 2016 (incorporated by reference to Offer ff Exhibit 10.1 to the Registrant’s Current Report on Form 8-K filed on August 15, 2016) Letter, dated October 7, 2015, for Edmond Thomas (incorporated by reference to Exhibit 10.1 to the ff Offer Registrant's Current Report on Form 8-K filed on October 8, 2015) Letter between Tilly’s, Inc. and Jon Kubo entered into on July 8, 2016 (incorporated by reference to Offer ff Exhibit 10.1 to the Registrant’s Current Report on Form 8-K filed on August 15, 2016) Subsidiaries of Tilly’s, Inc. Consent of BDO USA, LLP,PP Independent Registered Public Accounting Firm 24.1+ Power of Attorney (included on signature page) 31.1* 31.2* 32.1* 101 Rule 13a-14(a)/15d-4(a) Certification of Chief Executive Officer ff Rule 13a-14(a)/15d-14(a) Certification of Chief Financial Officer ff Section 1350 Certifications The following materials from Tilly’s, Inc.’s Annual Report on Form 10-K for the year ended February 2, 2019 formatted in eXtensible Business Reporting Language (XBRL): (i) Consolidated Balance Sheets as of February 2, 2019 and February 3, 2018; (ii) Consolidated Statements of Income for the fiscal years ended February 2, 2019, February 3, 2018 and January 28, 2017; (iii) Consolidated Statements of Comprehensive Income for the fiscal years ended February 2, 2019, February 3, 2018 and January 28, 2017; (iv) Consolidated Statements of Stockholders’ Equity for the fiscal years ended February 2, 2019, February 3, 2018 and January 28, 2017; (v) Consolidated Statements of Cash Flows for the fiscal years ended February 2, 2019, February 3, 2018 and January 28, 2017; and (vi) the Notes to the Consolidated Financial Statements. * # Filed herewith Management contract or compensatory plan. 76 Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, as amended, the registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized, on March 29, 2019. AA SIGNATURES Tilly’s, Inc. /s/ Edmond Thomas Edmond Thomas President, Chief Executive Officer Executive Officer) ff ff and Director (Principal /s/ Michael Henry Michael Henry Chief Financial Officer Principal Accounting Officer) (Principal Financial Officer ff ff ff and 77 POWER OF ATTORNEY Each person whose signature appears below constitutes and appoints Edmond Thomas and Michael Henry,yy and each of them singly,yy his or her true and lawful attorneys-in-fact and agents, with full power of substitution and resubstitution, for him or her and in his or her name, place and stead, in any and all capacities, to sign any and all amendments to this Annual Report on Form 10-K and to file the same, with all exhibits thereto and all other documents in connection therewith, with the Securities and Exchange Commission, granting unto each said attorney-in-fact and agents full power and authority to do and perform each and every act in person, hereby ratifying and confirming all that said attorneys-in-fact and agents or either of them or their or his or her substitute or substitutes may lawfully do or cause to be done by virtue hereof. Pursuant to the requirements of the Securities Act of 1934, as amended, this Annual Report on Form 10-K has been signed by the following persons in the capacities and as of the dates indicated on March 29, 2019. Signature g Title /s/ Edmond Thomas Edmond Thomas /s/ Michael Henry Michael Henry /s/ Hezy Shaked Hezy Shaked /s/ Doug Collier Doug Collier /s/ Seth Johnson Seth Johnson /s/ Janet Kerr Janet Kerr /s/ Bernard Zeichner Bernard Zeichner President, Chief Executive Officer (Principal Executive Officer) ff ff and Director Chief Financial Officer Accounting Officer) ff ff (Principal Financial Officer ff and Principal Executive Chairman of the Board and Chief Strategy Officer ff Director Director Director Director 78 [THIS PAGE INTENTIONALLY LEFT BLANKA ] [THIS PAGE INTENTIONALLY LEFT BLANKA ]

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