CATO CORP 10-Q

ITEM 1. FINANCIAL STATEMENTS THE CATO CORPORATION CONDENSED CONSOLIDATED STATEMENTS OF INCOME (LOSS) AND COMPREHENSIVE INCOME (LOSS) (UNAUDITED) Three Months Ended Six Months Ended August 1, 2020 August 3, 2019 August 1, 2020 August 3, 2019 (Dollars in thousands, except per share data) REVENUES Retail sales $ 166,265 $ 210,357 $ 265,078 $ 438,423 Other revenue (principally finance charges, late fees and layaway charges) 1,905 2,224 3,824 4,510 Total revenues 168,170 212,581 268,902 442,933 COSTS AND EXPENSES, NET Cost of goods sold (exclusive of depreciation shown below) 132,736 130,372 216,333 266,455 Selling, general and administrative (exclusive of depreciation shown below) 43,957 66,066 96,468 132,056 Depreciation 3,488 3,836 7,494 7,679 Interest and other income ( 961 ) ( 1,693 ) ( 2,812 ) ( 2,829 ) Cost and expenses, net 179,220 198,581 317,483 403,361 Income (loss) before income taxes ( 11,050 ) 14,000 ( 48,581 ) 39,572 Income tax expense (benefit) ( 3,880 ) 2,134 ( 12,994 ) 6,450 Net income (loss) $ ( 7,170 ) $ 11,866 $ ( 35,587 ) $ 33,122 Basic earnings (loss) per share $ ( 0.30 ) $ 0.48 $ ( 1.48 ) $ 1.34 Diluted earnings (loss) per share $ ( 0.30 ) $ 0.48 $ ( 1.48 ) $ 1.34 Comprehensive income: Net income (loss) $ ( 7,170 ) $ 11,866 $ ( 35,587 ) $ 33,122 Unrealized gain (loss) on available-for-sale securities, net of deferred income taxes of $ 146 and $ 56 for the three and six months ended August 1, 2020 and $ 262 and $ 388 for the three and six months ended August 3, 2019, respectively 484 859 186 1,271 Comprehensive income (loss) $ ( 6,686 ) $ 12,725 $ ( 35,401 ) $ 34,393 See notes to condensed consolidated financial statements (unaudited). 3 THE CATO CORPORATION CONDENSED CONSOLIDATED BALANCE SHEETS (UNAUDITED) August 1, 2020 February 1, 2020 ASSETS (Dollars in thousands) Current Assets: Cash and cash equivalents $ 36,565 $ 11,824 Short-term investments 100,391 200,387 Restricted cash 3,001 2,577 Restricted short-term investments 916 1,319 Accounts receivable, net of allowance for doubtful accounts of $ 590 and $ 726 at August 1, 2020 and February 1, 2020, respectively 39,037 26,088 Merchandise inventories 88,280 115,365 Prepaid expenses and other current assets 12,460 5,237 Total Current Assets 280,650 362,797 Property and equipment – net 84,938 88,667 Noncurrent deferred income taxes 5,911 8,636 Other assets 23,142 24,073 Right-of-Use assets – net 201,776 200,803 Total Assets $ 596,417 $ 684,976 LIABILITIES AND STOCKHOLDERS' EQUITY Current Liabilities: Accounts payable $ 53,963 $ 68,438 Accrued expenses 40,686 47,099 Accrued bonus and benefits 264 18,913 Accrued income taxes 1,236 1,703 Current lease liability 57,878 63,149 Total Current Liabilities 154,027 199,302 Other noncurrent liabilities 23,663 21,976 Lease liability 152,508 147,184 Stockholders' Equity: Preferred stock, $ 100 par value per share, 100,000 shares authorized, none issued - - Class A common stock, $ 0.033 par value per share, 50,000,000 shares authorized; 22,194,233 shares and 22,535,779 shares issued at August 1, 2020 and February 1, 2020, respectively 748 761 Convertible Class B common stock, $ 0.033 par value per share, 15,000,000 shares authorized; 1,763,652 shares and 1,763,652 shares issued at August 1, 2020 and February 1, 2020, respectively 59 59 Additional paid-in capital 112,949 110,813 Retained earnings 150,854 203,458 Accumulated other comprehensive income/(loss) 1,609 1,423 Total Stockholders' Equity 266,219 316,514 Total Liabilities and Stockholders' Equity $ 596,417 $ 684,976 See notes to condensed consolidated financial statements (unaudited). 4 THE CATO CORPORATION CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED) Six Months Ended August 1, 2020 August 3, 2019 (Dollars in thousands) Operating Activities: Net income (loss) $ ( 35,587 ) $ 33,122 Adjustments to reconcile net income (loss) to net cash provided (used) by operating activities: Depreciation 7,494 7,679 Provision for doubtful accounts 109 366 Purchase premium and premium amortization of investments 161 ( 168 ) Share-based compensation 1,903 2,196 Deferred income taxes 2,669 - Loss on disposal of property and equipment 162 344 Impairment of store assets 5,270 - Changes in operating assets and liabilities which provided (used) cash: Accounts receivable ( 13,058 ) 292 Merchandise inventories 27,085 19,633 Prepaid and other assets ( 7,291 ) 22,909 Operating lease right-of-use assets and liabilities ( 920 ) - Accrued income taxes ( 467 ) 1,332 Accounts payable, accrued expenses and other liabilities ( 35,759 ) ( 42,524 ) Net cash provided (used) by operating activities ( 48,229 ) 45,181 Investing Activities: Expenditures for property and equipment ( 9,801 ) ( 2,217 ) Purchase of short-term investments ( 8,275 ) ( 106,518 ) Sales of short-term investments 108,886 85,364 Purchase of other assets - ( 74 ) Sales of other assets 199 9 Net cash provided (used) in investing activities 91,009 ( 23,436 ) Financing Activities: Dividends paid ( 7,990 ) ( 16,291 ) Repurchase of common stock ( 9,875 ) ( 2,834 ) Proceeds from line of credit 34,000 - Payments on line of credit ( 34,000 ) - Proceeds from employee stock purchase plan 250 319 Net cash provided (used) in financing activities ( 17,615 ) ( 18,806 ) Net increase (decrease) in cash, cash equivalents, and restricted cash 25,165 2,939 Cash, cash equivalents, and restricted cash at beginning of period 14,401 25,209 Cash, cash equivalents, and restricted cash at end of period $ 39,566 $ 28,148 Non-cash activity: Accrued other assets and property and equipment $ 1,556 $ 1,395 See notes to condensed consolidated financial statements (unaudited). 5 THE CATO CORPORATION CONDENSED CONSOLIDATED STATEMENTS OF STOCKHOLDERS’ EQUITY (UNAUDITED) Convertible Accumulated Class A Class B Additional Other Total Common Common Paid-in Retained Comprehensive Stockholders' Stock Stock Capital Earnings Income Equity (Dollars in thousands) Balance — February 1, 2020 $ 761 $ 59 $ 110,813 $ 203,458 $ 1,423 $ 316,514 Comprehensive income: Net income (loss) - - - ( 28,417 ) - ( 28,417 ) Unrealized gains on available-for-sale securities, net of deferred income tax benefit of ($ 90 ) - - - - ( 298 ) ( 298 ) Dividends paid ($ 0.33 per share) - - - ( 7,990 ) - ( 7,990 ) Class A common stock sold through employee stock purchase plan — 26,957 shares 1 - 293 - - 294 Class B common stock sold through stock option plans — - shares - - - - - - Class A common stock issued through restricted stock grant plans — 307,354 shares 10 - 587 8 - 605 Repurchase and retirement of treasury shares – 618,056 shares ( 22 ) - - ( 9,034 ) - ( 9,056 ) Balance — May 2, 2020 $ 750 $ 59 $ 111,693 $ 158,025 $ 1,125 $ 271,652 Comprehensive income: Net income (loss) - - - ( 7,170 ) - ( 7,170 ) Unrealized gains on available-for-sale securities, net of deferred income tax liability of $ 146 - - - - 484 484 Dividends paid ($ - per share) - - - - - - Class A common stock sold through employee stock purchase plan — - shares - - - - - - Class B common stock sold through stock option plans — - shares - - - - - - Class A common stock issued through restricted stock grant plans — ( 57,805 ) shares ( 2 ) - 1,256 ( 1 ) - 1,253 Repurchase and retirement of treasury shares – - shares - - - - - - Balance — August 1, 2020 $ 748 $ 59 $ 112,949 $ 150,854 $ 1,609 $ 266,219 Convertible Accumulated Class A Class B Additional Other Total Common Common Paid-in Retained Comprehensive Stockholders' Stock Stock Capital Earnings Income Equity (Dollars in thousands) Balance — February 2, 2019 $ 767 $ 59 $ 105,580 $ 210,507 $ ( 77 ) $ 316,836 Comprehensive income: Net income (loss) - - - 21,256 - 21,256 Unrealized gains on available-for-sale securities, net of deferred income tax liability of $ 126 - - - - 412 412 Dividends paid ($ 0.33 per share) - - - ( 8,118 ) - ( 8,118 ) Class A common stock sold through employee stock purchase plan — 20,676 shares 1 - 307 - - 308 Class B common stock sold through stock option plans — - shares - - - - - - Class A common stock issued through restricted stock grant plans — 355,609 shares 11 - 624 10 - 645 Repurchase and retirement of treasury shares – 208,041 shares ( 7 ) - - ( 2,827 ) - ( 2,834 ) Balance — May 4, 2019 $ 772 $ 59 $ 106,511 $ 220,828 $ 335 $ 328,505 Comprehensive income: Net income (loss) - - - 11,866 - 11,866 Unrealized gains on available-for-sale securities, net of deferred income tax liability of $ 262 - - - - 859 859 Dividends paid ($ 0.33 per share) - - - ( 8,173 ) - ( 8,173 ) Class A common stock sold through employee stock purchase plan — 5,402 shares - - 67 - - 67 Class B common stock sold through stock option plans — - shares - - - - - - Class A common stock issued through restricted stock grant plans — ( 9,170 ) shares - - 1,479 15 - 1,494 Repurchase and retirement of treasury shares – - shares - - - - - - Balance — August 3, 2019 $ 772 $ 59 $ 108,057 $ 224,536 $ 1,194 $ 334,618 See notes to condensed consolidated financial statements (unaudited). 6 THE CATO CORPORATION NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED) FOR THE THREE MONTHS AND SIX MONTHS ENDED AUGUST 1, 2020 AND AUGUST 3, 2019 NOTE 1 - GENERAL : The condensed consolidated financial statements have been prepared from the accounting records of The Cato Corporation and its wholly-owned subsidiaries (the “Company”), and all amounts shown as of and for the periods ended August 1, 2020 and August 3, 2019 are unaudited. In the opinion of management, all adjustments considered necessary for a fair presentation of the financial statements have been included. All such adjustments are of a normal, recurring nature unless otherwise noted. The results of the interim period may not be indicative of the results expected for the entire year. The interim financial statements should be read in conjunction with the consolidated financial statements and notes thereto, included in the Company’s Annual Report on Form 10-K for the fiscal year ended February 1, 2020. Amounts as of February 1, 2020 have been derived from the audited balance sheet, but do not include all disclosures required by accounting principles generally accepted in the United States of America. Subsequent to August 1, 2020, the Company repurchased 72,400 shares for $ 509,141 . On August 27, 2020, the Board of Directors authorized an increase in the Company’s share repurchase program of 1 million shares. Prior to this authorization, the Company had approximately 656,000 shares remaining in open authorizations inclusive of the activity subsequent to August 1, 2020. COVID-19 Update The spread of COVID-19 has resulted in state and local orders mandating store closures and other measures to mitigate the spread of the virus. Responses by customers, government and the private sector have and will likely continue to adversely impact our business operations for the remainder of fiscal 2020 and possibly beyond. The extent to which the COVID-19 pandemic ultimately impacts the Company’s business, financial condition, results of operations, cash flows, and liquidity may differ from management’s current estimates due to inherent uncertainties regarding the duration and further spread of the outbreak, its severity, actions taken to contain the virus or treat its impact, and how quickly and to what extent normal economic and operating conditions can resume. Beginning March 19, 2020, the Company temporarily closed all Cato, Its Fashion, Its Fashion Metro and Versona stores. In addition, the Company suspended its quarterly dividend, significantly reduced capital expenditures and reduced its SG&A expense through the reduction of non-payroll expenses, as well as furloughed associates and in certain instances eliminated positions primarily at its corporate office. Beginning on May 1, 2020, the Company began to re-open stores based on the pertinent state and local orders. As of June 15, 2020, all stores have re-opened. There is significant uncertainty around the duration, breadth and severity of continued business disruptions related to COVID-19, as well as its impact on the U.S. economy, consumer willingness to visit malls and shopping centers, and associate staffing for our stores. At this time, the possible effects of national, state or local action, legislation, guidelines or programs that attempt to mitigate the spread of COVID-19 or address its economic effects on our customers, suppliers or the Company are also uncertain. While the Company currently anticipates that our results for the remainder of fiscal 2020 will be adversely impacted, the extent to which COVID-19 impacts the Company’s results will depend on future developments, which are highly uncertain, including possible new information and understanding about the 7 THE CATO CORPORATION NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED) FOR THE THREE MONTHS AND SIX MONTHS ENDED AUGUST 1, 2020 AND AUGUST 3, 2019 severity of COVID-19, related potential economic impacts to customers and suppliers, and the effect of actions taken to contain it or mitigate its impact. Accounting Policies - Impairment of Long-Lived Assets: The Company invests in leaseholds, right-of use assets and equipment primarily in connection with the opening and remodeling of stores and in computer software and hardware. The Company periodically reviews its store locations and estimates the recoverability of its long-lived assets, which primarily relate to Fixtures and equipment, Leasehold improvements, Right-of-use assets net of Lease liabilities and Information technology equipment and software. An impairment charge is recorded for the amount by which the carrying value exceeds the estimated fair value when the Company determines that projected cash flows associated with those long-lived assets will not be sufficient to recover the carrying value. This determination is based on a number of factors, including the store’s projected cash flows, which include future sales growth projections. The Company assesses the fair value of each lease by considering market rents and any lease terms that may adjust market rents under certain conditions, such as the loss of an anchor tenant or a leased space in a shopping center not meeting certain criteria. Further, in determining when to close a store, the Company considers real estate development in the area and perceived local market conditions, which can be difficult to predict and may be subject to change. As a result of store closures during the first quarter of 2020, the Company determined a triggering event occurred, which resulted in an impairment analysis being performed. An asset impairment charge of $ 5.3 million was recorded in the first quarter of 2020. No additional impairment was required in the second quarter of 2020. Recently Adopted Accounting Policies In June 2016, the Financial Accounting Standards Board (“FASB”) issued ASU 2016-13, Financial Instruments - Credit Losses (Topic 326): Measurement of Credit Losses on Financial Instruments , which requires companies to measure and recognize expected credit losses for financial assets held at amortized costs based on expected losses rather than incurred losses. The new accounting rules were effective for the Company in the first quarter of 2020 and had a minimal impact on the financial statements. 8 THE CATO CORPORATION NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED) FOR THE THREE MONTHS AND SIX MONTHS ENDED AUGUST 1, 2020 AND AUGUST 3, 2019 NOTE 2 - EARNINGS PER SHARE: Accounting Standard Codification (“ASC”) 260 – Earnings Per Share requires dual presentation of basic and diluted Earnings Per Share (“EPS”) on the face of all income statements for all entities with complex capital structures. The Company has presented one basic EPS and one diluted EPS amount for all common shares in the accompanying Condensed Consolidated Statements of Income and Comprehensive Income. While the Company’s certificate of incorporation provides the right for the Board of Directors to declare dividends on Class A shares without declaration of commensurate dividends on Class B shares, the Company has historically paid the same dividends to both Class A and Class B shareholders and the Board of Directors has resolved to continue this practice. Accordingly, the Company’s allocation of income for purposes of the EPS computation is the same for Class A and Class B shares and the EPS amounts reported herein are applicable to both Class A and Class B shares. Basic EPS is computed as net income less earnings allocated to non-vested equity awards divided by the weighted average number of common shares outstanding for the period. Diluted EPS reflects the potential dilution that could occur from common shares issuable through stock options and the Employee Stock Purchase Plan. Three Months Ended Six Months Ended August 1, 2020 August 3, 2019 August 1, 2020 August 3, 2019 (Dollars in thousands) Numerator Net earnings (loss) $ ( 7,170 ) $ 11,866 $ ( 35,587 ) $ 33,122 (Earnings)/loss allocated to non-vested equity awards 320 ( 451 ) 1,531 ( 1,148 ) Net earnings (loss) available to common stockholders $ ( 6,850 ) $ 11,415 $ ( 34,056 ) $ 31,974 Denominator Basic weighted average common shares outstanding 22,908,942 23,789,070 22,934,410 23,772,883 Diluted weighted average common shares outstanding 22,908,942 23,789,070 22,934,410 23,772,883 Net income (loss) per common share Basic earnings (loss) per share $ ( 0.30 ) $ 0.48 $ ( 1.48 ) $ 1.34 Diluted earnings (loss) per share $ ( 0.30 ) $ 0.48 $ ( 1.48 ) $ 1.34 9 THE CATO CORPORATION NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED) FOR THE THREE MONTHS AND SIX MONTHS ENDED AUGUST 1, 2020 AND AUGUST 3, 2019 NOTE 3 – ACCUMULATED OTHER COMPREHENSIVE INCOME: The following table sets forth information regarding the reclassification out of Accumulated other comprehensive income (in thousands) for the three months ended August 1, 2020: Changes in Accumulated Other Comprehensive Income (a) Unrealized Gains and (Losses) on Available-for-Sale Securities Beginning Balance at May 2, 2020 $ 1,125 Other comprehensive income before reclassification 420 Amounts reclassified from accumulated other comprehensive income (b) 64 Net current-period other comprehensive income 484 Ending Balance at August 1, 2020 $ 1,609 (a) All amounts are net-of-tax. Amounts in parentheses indicate a debit/reduction to other comprehensive income. (b) Includes $ 83 impact of accumulated other comprehensive income reclassifications into Interest and other income for net gains on available-for-sale securities. The tax impact of this reclassification was $ 19 . The following table sets forth information regarding the reclassification out of Accumulated other comprehensive income (in thousands) for the six months ended August 1, 2020: Changes in Accumulated Other Comprehensive Income (a) Unrealized Gains and (Losses) on Available-for-Sale Securities Beginning Balance at February 1, 2020 $ 1,423 Other comprehensive income before reclassification ( 381 ) Amounts reclassified from accumulated other comprehensive income (b) 567 Net current-period other comprehensive income 186 Ending Balance at August 1, 2020 $ 1,609 (a) All amounts are net-of-tax. Amounts in parentheses indicate a debit/reduction to other comprehensive income. (b) Includes $ 738 impact of accumulated other comprehensive income reclassifications into Interest and other income for net gains on available-for-sale securities. The tax impact of this reclassification was $ 171 . 10 THE CATO CORPORATION NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED) FOR THE THREE MONTHS AND SIX MONTHS ENDED AUGUST 1, 2020 AND AUGUST 3, 2019 NOTE 3 – ACCUMULATED OTHER COMPREHENSIVE INCOME (CONTINUED): The following table sets forth information regarding the reclassification out of Accumulated other comprehensive income (in thousands) for the three months ended August 3, 2019: Changes in Accumulated Other Comprehensive Income (a) Unrealized Gains and (Losses) on Available-for-Sale Securities Beginning Balance at May 4, 2019 $ 335 Other comprehensive income before reclassifications 829 Amounts reclassified from accumulated other comprehensive income (b) 30 Net current-period other comprehensive income 859 Ending Balance at August 3, 2019 $ 1,194 (a) All amounts are net-of-tax. Amounts in parentheses indicate a debit/reduction to other comprehensive income. (b) Includes $ 39 impact of Accumulated other comprehensive income reclassifications into Interest and other income for net gains on available-for-sale securities. The tax impact of this reclassification was $ 9 . The following table sets forth information regarding the reclassification out of Accumulated other comprehensive income (in thousands) for the six months ended August 3, 2019: Changes in Accumulated Other Comprehensive Income (a) Unrealized Gains and (Losses) on Available-for-Sale Securities Beginning Balance at February 2, 2019 $ ( 77 ) Other comprehensive income before reclassifications 1,232 Amounts reclassified from accumulated other comprehensive income (b) 39 Net current-period other comprehensive income 1,271 Ending Balance at August 3, 2019 $ 1,194 (a) All amounts are net-of-tax. Amounts in parentheses indicate a debit/reduction to other comprehensive income. (b) Includes $ 51 impact of Accumulated other comprehensive income reclassifications into Interest and other income for net gains on available-for-sale securities. The tax impact of this reclassification was $ 12 . 11 THE CATO CORPORATION NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED) FOR THE THREE MONTHS AND SIX MONTHS ENDED AUGUST 1, 2020 AND AUGUST 3, 2019 NOTE 4 – FINANCING ARRANGEMENTS: As of August 1, 2020, the Company had an unsecured revolving credit agreement to borrow $ 35.0 million less the balance of any revocable letters of credit as discussed below. On June 2, 2020, the Company signed an amendment extending the revolving credit agreement through May 2023. The credit agreement contains various financial covenants and limitations, including the maintenance of specific financial ratios with which the Company was in compliance as of August 1, 2020. There were no borrowings outstanding under this credit facility as of August 1, 2020 or February 1, 2020. The weighted average interest rate under the credit facility was zero at August 1, 2020 due to no borrowings outstanding. At August 1, 2020 and February 1, 2020, the Company had no outstanding revocable letters of credit relating to purchase commitments. NOTE 5 – REPORTABLE SEGMENT INFORMATION: The Company has determined that it has four operating segments, as defined under ASC 280-10, including Cato, It’s Fashion, Versona and Credit. As outlined in ASC 280-10, the Company has two reportable segments: Retail and Credit. The Company has aggregated its three retail operating segments, including e-commerce, based on the aggregation criteria outlined in ASC 280-10, which states that two or more operating segments may be aggregated into a single reportable segment if aggregation is consistent with the objective and basic principles of ASC 280-10, which require the segments to have similar economic characteristics, products, production processes, clients and methods of distribution. The Company’s retail operating segments have similar economic characteristics and similar operating, financial and competitive risks. They are similar in nature of product, as they all offer women’s apparel, shoes and accessories. Merchandise inventory for the Company’s retail operating segments is sourced from the same countries and some of the same vendors, using similar production processes. Merchandise for the Company’s operating segments is distributed to retail stores in a similar manner through the Company’s single distribution center and is subsequently distributed to clients in a similar manner. The Company operates its women’s fashion specialty retail stores in 31 states as of August 1, 2020, principally in the southeastern United States . The Company offers its own credit card to its customers and all credit authorizations, payment processing and collection efforts are performed by a separate subsidiary of the Company. 12 THE CATO CORPORATION NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED) FOR THE THREE MONTHS AND SIX MONTHS ENDED AUGUST 1, 2020 AND AUGUST 3, 2019 NOTE 5 – REPORTABLE SEGMENT INFORMATION (CONTINUED): The following schedule summarizes certain segment information (in thousands): Three Months Ended Six Months Ended August 1, 2020 Retail Credit Total August 1, 2020 Retail Credit Total Revenues $ 167,523 $ 647 $ 168,170 Revenues $ 267,413 $ 1,489 $ 268,902 Depreciation 3,488 - 3,488 Depreciation 7,494 - 7,494 Interest and other income ( 961 ) - ( 961 ) Interest and other income ( 2,812 ) - ( 2,812 ) Income/(Loss) before income taxes ( 11,368 ) 318 ( 11,050 ) Income/(Loss) before income taxes ( 49,291 ) 710 ( 48,581 ) Capital expenditures 4,490 - 4,490 Capital expenditures 9,801 - 9,801 Three Months Ended Six Months Ended August 3, 2019 Retail Credit Total August 3, 2019 Retail Credit Total Revenues $ 211,672 $ 909 $ 212,581 Revenues $ 441,114 $ 1,819 $ 442,933 Depreciation 3,836 - 3,836 Depreciation 7,679 - 7,679 Interest and other income ( 1,693 ) - ( 1,693 ) Interest and other income ( 2,829 ) - ( 2,829 ) Income/(Loss) before income taxes 13,501 499 14,000 Income/(Loss) before income taxes 38,680 892 39,572 Capital expenditures 1,222 - 1,222 Capital expenditures 2,217 - 2,217 Retail Credit Total Total assets as of August 1, 2020 $ 549,817 $ 46,600 $ 596,417 Total assets as of February 1, 2020 636,503 48,473 684,976 The Company evaluates segment performance based on income before taxes. The Company does not allocate certain corporate expenses or income taxes to the credit segment. The following schedule summarizes the direct expenses of the credit segment, which are reflected in Selling, general and administrative expenses (in thousands): Three Months Ended Six Months Ended August 1, 2020 August 3, 2019 August 1, 2020 August 3, 2019 Payroll $ 130 $ 164 $ 282 $ 314 Postage 82 117 193 241 Other expenses 118 129 305 372 Total expenses $ 330 $ 410 $ 780 $ 927 13 THE CATO CORPORATION NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED) FOR THE THREE MONTHS AND SIX MONTHS ENDED AUGUST 1, 2020 AND AUGUST 3, 2019 NOTE 6 – STOCK-BASED COMPENSATION: As of August 1, 2020, the Company had two long-term compensation plans pursuant to which stock-based compensation was outstanding or could be granted. The 2018 Incentive Compensation Plan and 2013 Incentive Compensation Plan are for the granting of various forms of equity-based awards, including restricted stock and stock options for grant, to officers, directors and key employees. Effective May 24, 2018, shares for grant were no longer available under the 2013 Incentive Compensation Plan. The following table presents the number of options and shares of restricted stock initially authorized and available for grant under each of the plans as of August 1, 2020: 2013 2018 Plan Plan Total Options and/or restricted stock initially authorized 1,500,000 4,725,000 6,225,000 Options and/or restricted stock available for grant: August 1, 2020 - 3,943,118 3,943,118 In accordance with ASC 718, the fair value of current restricted stock awards is estimated on the date of grant based on the market price of the Company’s stock and is amortized to compensation expense on a straight-line basis over the related vesting periods. As of August 1, 2020 and February 1, 2020, there was $ 13,007,000 and $ 11,900,000 , respectively, of total unrecognized compensation expense related to nonvested restricted stock awards, which had a remaining weighted-average vesting period of 2.6 years and 2.2 years, respectively. The total compensation expense during the three and six months ended August 1, 2020 was $ 1,253,000 and $ 1,859,000 , respectively, compared to $ 1,495,000 and $ 2,140,000 , respectively, for the three and six months ended August 3, 2019. These expenses are classified as a component of Selling, general and administrative expenses in the Condensed Consolidated Statements of Income and Comprehensive Income. The following summary shows the changes in the shares of unvested restricted stock outstanding during the six months ended August 1, 2020: Weighted Average Number of Grant Date Fair Shares Value Per Share Restricted stock awards at February 1, 2020 942,562 $ 19.55 Granted 335,317 11.11 Vested ( 129,682 ) 34.01 Forfeited or expired ( 105,886 ) 16.63 Restricted stock awards at August 1, 2020 1,042,311 $ 15.33 14 THE CATO CORPORATION NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED) FOR THE THREE MONTHS AND SIX MONTHS ENDED AUGUST 1, 2020 AND AUGUST 3, 2019 NOTE 6 – STOCK BASED-COMPENSATION (CONTINUED): The Company’s Employee Stock Purchase Plan allows eligible full-time employees to purchase a limited number of shares of the Company’s Class A Common Stock during each semi-annual offering period at a 15% discount through payroll deductions. During the six months ended August 1, 2020 and August 3, 2019, the Company sold 26,957 and 26,078 shares to employees at an average discount of $ 1.64 and $ 2.16 per share, respectively, under the Employee Stock Purchase Plan. The compensation expense recognized for the 15% discount given under the Employee Stock Purchase Plan was approximately $ 44,000 and $ 56,000 for the six months ended August 1, 2020 and August 3, 2019, respectively. These expenses are classified as a component of Selling, general and administrative expenses. NOTE 7 – FAIR VALUE MEASUREMENTS: The following tables set forth information regarding the Company’s financial assets and liabilities that are measured at fair value (in thousands) as of August 1, 2020 and February 1, 2020: Quoted Prices in Active Significant Markets for Other Significant Identical Observable Unobservable August 1, 2020 Assets Inputs Inputs Description Level 1 Level 2 Level 3 Assets: State/Municipal Bonds $ 22,924 $ - $ 22,924 $ - Corporate Bonds 52,361 - 52,361 - U.S. Treasury/Agencies Notes and Bonds 5,547 - 5,547 - Cash Surrender Value of Life Insurance 10,456 - - 10,456 Asset-backed Securities (ABS) 20,373 - 20,373 - Corporate Equities 601 601 - - Certificates of Deposit 100 100 - - Total Assets $ 112,362 $ 701 $ 101,205 $ 10,456 Liabilities: Deferred Compensation ( 10,399 ) - - ( 10,399 ) Total Liabilities $ ( 10,399 ) $ - $ - $ ( 10,399 ) 15 THE CATO CORPORATION NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED) FOR THE THREE MONTHS AND SIX MONTHS ENDED AUGUST 1, 2020 AND AUGUST 3, 2019 Quoted Prices in Active Significant Markets for Other Significant Identical Observable Unobservable February 1, 2020 Assets Inputs Inputs Description Level 1 Level 2 Level 3 Assets: State/Municipal Bonds $ 36,014 $ - $ 36,014 $ - Corporate Bonds 90,798 - 90,798 - U.S. Treasury/Agencies Notes and Bonds 37,410 - 37,410 - Cash Surrender Value of Life Insurance 10,517 - - 10,517 Asset-backed Securities (ABS) 37,384 - 37,384 - Corporate Equities 732 732 - - Certificates of Deposit 100 100 - - Total Assets $ 212,955 $ 832 $ 201,606 $ 10,517 Liabilities: Deferred Compensation ( 10,391 ) - - ( 10,391 ) Total Liabilities $ ( 10,391 ) $ - $ - $ ( 10,391 ) The Company’s investment portfolio was primarily invested in corporate bonds and tax-exempt and taxable governmental debt securities held in managed accounts with underlying ratings of A or better at August 1, 2020 and February 1, 2020. The state, municipal and corporate bonds have contractual maturities which range from six days to 7 years . The U.S. Treasury Notes and Certificates of Deposit have contractual maturities which range from one month to 2 years . These securities are classified as available-for-sale and are recorded as Short-term investments, Restricted cash and Restricted short-term investments on the accompanying Condensed Consolidated Balance Sheets. These assets are carried at fair value with unrealized gains and losses reported net of taxes in Accumulated other comprehensive income. The asset-backed securities are bonds comprised of auto loans and bank credit cards that carry AAA ratings. The auto loan asset-backed securities are backed by static pools of auto loans that were originated and serviced by captive auto finance units, banks or finance companies. The bank credit card asset-backed securities are backed by revolving pools of credit card receivables generated by account holders of cards from American Express, Citibank, JPMorgan Chase, Capital One and Discover. Additionally, at August 1, 2020, the Company had $ 0.6 million of corporate equities and deferred compensation plan assets of $ 10.5 million. At February 1, 2020, the Company had $ 0.7 million of corporate equities and deferred compensation plan assets of $ 10.5 million. All of these assets are recorded within Other assets in the Condensed Consolidated Balance Sheets. Level 1 category securities are measured at fair value using quoted active market prices. Level 2 investment securities include corporate bonds, municipal bonds and asset-backed securities for which quoted prices may not be available on active exchanges for identical instruments. Their fair value is principally based on market values determined by management with assistance of a third-party pricing service. Since quoted prices in active markets for identical assets are not available, these prices are determined by the pricing service using observable market information such as quotes from less active markets and/or quoted prices of securities with similar characteristics, among other factors. Deferred compensation plan assets consist of life insurance policies. These life insurance policies are valued based on the cash surrender value of the insurance contract, which is determined based on such factors as the 16 THE CATO CORPORATION NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED) FOR THE THREE MONTHS AND SIX MONTHS ENDED AUGUST 1, 2020 AND AUGUST 3, 2019 fair value of the underlying assets and discounted cash flow and are therefore classified within Level 3 of the valuation hierarchy. The Level 3 liability associated with the life insurance policies represents a deferred compensation obligation, the value of which is tracked via underlying insurance funds’ net asset values, as recorded in Other noncurrent liabilities in the Condensed Consolidated Balance Sheet. These funds are designed to mirror mutual funds and money market funds that are observable and actively traded. The following tables summarize the change in fair value of the Company’s financial assets and liabilities measured using Level 3 inputs as of August 1, 2020 and February 1, 2020 (in thousands): Fair Value Measurements Using Significant Unobservable Asset Inputs (Level 3) Cash Surrender Value Beginning Balance at February 1, 2020 $ 10,517 Additions - Total gains or (losses) Included in interest and other income (or changes in net assets) ( 61 ) Included in other comprehensive income - Ending Balance at August 1, 2020 $ 10,456 Fair Value Measurements Using Significant Unobservable Liability Inputs (Level 3) Deferred Compensation Beginning Balance at February 1, 2020 $ ( 10,391 ) Additions 46 Total (gains) or losses Included in interest and other income (or changes in net assets) ( 54 ) Included in other comprehensive income - Ending Balance at August 1, 2020 $ ( 10,399 ) 17 THE CATO CORPORATION NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED) FOR THE THREE MONTHS AND SIX MONTHS ENDED AUGUST 1, 2020 AND AUGUST 3, 2019 Fair Value Measurements Using Significant Unobservable Asset Inputs (Level 3) Cash Surrender Value Beginning Balance at February 2, 2019 $ 9,093 Additions 748 Total gains or (losses) Included in interest and other income (or changes in net assets) 676 Included in other comprehensive income - Ending Balance at February 1, 2020 $ 10,517 Fair Value Measurements Using Significant Unobservable Liability Inputs (Level 3) Deferred Compensation Beginning Balance at February 2, 2019 $ ( 8,908 ) Additions ( 554 ) Total (gains) or losses Included in interest and other income (or changes in net assets) ( 929 ) Included in other comprehensive income - Ending Balance at February 1, 2020 $ ( 10,391 ) 18 THE CATO CORPORATION NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED) FOR THE THREE MONTHS AND SIX MONTHS ENDED AUGUST 1, 2020 AND AUGUST 3, 2019 NOTE 8 – RECENT ACCOUNTING PRONOUNCEMENTS: In December 2019, the FASB issued ASU 2019-12, Income Taxes (Topic 740): Simplifying the Accounting for Income Taxes . The new accounting rules reduce complexity by removing specific exceptions to general principles related to intraperiod tax allocations, ownership changes in foreign investments, and interim period income tax accounting for year-to-date losses that exceed anticipated losses. The new accounting rules also simplify accounting for franchise taxes that are partially based on income, transactions with a government that result in a step up in the tax basis of goodwill, separate financial statements of legal entities that are not subject to tax, and enacted changes in tax laws in interim periods. The new accounting rules will be effective for the Company in the first quarter of 2021. The Company is currently in the process of evaluating the impact of adoption of the new accounting rules on the Company’s financial position, results of operations, cash flows and disclosures. NOTE 9 – INCOME TAXES: The Company had an effective tax rate for the first six months of 2020 of 26.7 % (Benefit) compared to 16.3 % (Expense) for the first six months of 2019. The increase in the effective tax rate for the first six months was primarily due to the federal net operating loss carryback provisions of the Coronavirus Aid, Relief and Economic Security Act (CARES Act), offset by valuation allowances against state income net operating losses, and an upward adjustment in the reserves for uncertain tax positions specific to state income taxes in the first quarter of 2020. The Company assessed the likelihood that deferred tax assets related to state net operating loss carryforwards will be realized in light of the adverse impact on the Company's financial statements and operations due to COVID-19. Based on this assessment, the Company concluded that it is more likely than not that the Company will not be able to realize the state net operating losses and, accordingly, has recorded a valuation allowance against the existing deferred tax assets. The estimated annual effective tax rate for the current fiscal year is impacted by the ability to carryback federal net operating losses due to the CARES Act, partially offset by changes in management’s judgment regarding the ability to realize deferred tax assets, primarily state income net operating losses generated in the current fiscal year. The Company has factored the realizability of these deferred tax assets generated as a result of projected current year losses into its estimated annual effective rate for the current year. To the extent that actual results and/or events differ from the predicted results, the Company may continue to see effects on the estimated annual effective tax rate. NOTE 10 – COMMITMENTS AND CONTINGENCIES: The Company is, from time to time, involved in routine litigation incidental to the conduct of its business, including litigation regarding the merchandise that it sells, litigation regarding intellectual property, litigation instituted by persons injured upon premises under its control, litigation with respect to various employment matters, including alleged discrimination and wage and hour litigation, and litigation with present or former employees. Although such litigation is routine and incidental to the conduct of the Company’s business, as with any business of its size with a significant number of employees and significant merchandise sales, such 19 THE CATO CORPORATION NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED) FOR THE THREE MONTHS AND SIX MONTHS ENDED AUGUST 1, 2020 AND AUGUST 3, 2019 litigation could result in large monetary awards. Based on information currently available, management does not believe that any reasonably possible losses arising from current pending litigation will have a material adverse effect on the Company’s condensed consolidated financial statements. However, given the inherent uncertainties involved in such matters, an adverse outcome in one or more such matters could materially and adversely affect the Company’s financial condition, results of operations and cash flows in any particular reporting period. The Company accrues for these matters when the liability is deemed probable and reasonably estimable. NOTE 11 – REVENUE RECOGNITION: The Company recognizes sales at the point of purchase when the customer takes possession of the merchandise and pays for the purchase, generally with cash or credit. Sales from purchases made with Cato credit, gift cards and layaway sales from stores are also recorded when the customer takes possession of the merchandise. E-commerce sales are recorded when the risk of loss is transferred to the customer. Gift cards are recorded as deferred revenue until they are redeemed or forfeited. Layaway sales are recorded as deferred revenue until the customer takes possession or forfeits the merchandise. Gift cards do not have expiration dates. A provision is made for estimated merchandise returns based on sales volumes and the Company’s experience; actual returns have not varied materially from historical amounts. A provision is made for estimated write-offs associated with sales made with the Company’s proprietary credit card. Amounts related to shipping and handling billed to customers in a sales transaction are classified as Other revenue and the costs related to shipping product to customers (billed and accrued) are classified as Cost of goods sold. The Company offers its own proprietary credit card to customers. All credit activity is performed by the Company’s wholly-owned subsidiaries. None of the credit card receivables are secured. The Company estimated uncollectible amounts of $, 185000 and $, 455000 for the six months ended August 1, 2020 and August 3, 2019, respectively, on sales purchased on the Company’s proprietary credit card of $ 6.9 million and $ 13.8 million for the six months ended August 1, 2020 and August 3, 2019, respectively. The following table provides information about receivables and contract liabilities from contracts with customers (in thousands): Balance as of August 1, 2020 February 1, 2020 Proprietary Credit Card Receivables, net $ 10,763 $ 15,241 Gift Card Liability $ 6,401 $ 7,658 NOTE 12 – LEASES: The Company determines whether an arrangement is a lease at inception. The Company has operating leases for stores, offices and equipment. Its leases have remaining lease terms of one year to 10 years, some of which include options to extend the lease term for up to five years, and some of which include options to terminate the lease within one year. The Company considers these options in determining the 20 THE CATO CORPORATION NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED) FOR THE THREE MONTHS AND SIX MONTHS ENDED AUGUST 1, 2020 AND AUGUST 3, 2019 lease term used to establish its right-of-use assets and lease liabilities. The Company’s lease agreements do not contain any material residual value guarantees or material restrictive covenants. As most of the Company’s leases do not provide an implicit rate, the Company uses its estimated incremental borrowing rate based on the information available at commencement date of the lease in determining the present value of lease payments. The components of lease cost are shown below (in thousands): Three Months Ended August 1, 2020 August 3, 2019 Operating lease cost (a) $ 17,082 $ 16,665 Variable lease cost (b) $ 439 $ 508 ASC 840 prepaid rent expense (c) $ - $ 37 (a) Includes right-of-use asset amortization of ($1) million for the three months ended August 1, 2020 and August 3, 2019. (b) Primarily related to monthly percentage rent for stores not presented on the balance sheet. (c) Related to ASC 840 rent expense due to prepaid rent on the balance sheet as of February 3, 2019. Six Months Ended August 1, 2020 August 3, 2019 Operating lease cost (a) $ 34,075 $ 26,397 Variable lease cost (b) $ 519 $ 1,114 ASC 840 prepaid rent expense (c) $ - $ 6,012 (a) Includes right-of-use asset amortization of ($2.7) million and ($3) million for the six months ended August 1, 2020 and August 3, 2019, respectively. (b) Primarily related to monthly percentage rent for stores not presented on the balance sheet. (c) Related to ASC 840 rent expense due to prepaid rent on the balance sheet as of February 3, 2019. Supplemental cash flow information and non-cash activity related to the Company’s operating leases are as follows (in thousands): Operating cash flow information: Three Months Ended August 1, 2020 August 3, 2019 Cash paid for amounts included in the measurement of lease liabilities $ 15,946 $ 15,327 Non-cash activity: Right-of-use assets obtained in exchange for lease obligations $ 3,287 $ 320 21 THE CATO CORPORATION NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED) FOR THE THREE MONTHS AND SIX MONTHS ENDED AUGUST 1, 2020 AND AUGUST 3, 2019 Six Months Ended August 1, 2020 August 3, 2019 Cash paid for amounts included in the measurement of lease liabilities $ 31,445 $ 25,418 Non-cash activity: Right-of-use assets obtained in exchange for lease obligations $ 31,484 $ 602 Weighted-average remaining lease term and discount rate for the Company’s operating leases are as follows: As of August 1, 2020 August 3, 2019 Weighted-average remaining lease term 2.9 years 2.6 years Weighted-average discount rate 4.29 % 4.65 % Maturities of lease liabilities by fiscal year for the Company’s operating leases are as follows (in thousands): Fiscal Year 2020 (a) $ 31,069 2021 59,114 2022 43,325 2023 31,978 2024 20,611 Thereafter 49,366 Total lease payments 235,463 Less: Imputed interest 25,077 Present value of lease liabilities $ 210,386 (a) Excluding the 6 months ended August 1, 2020. 22 THE CATO CORPORATION