General

Accounting Periods. We follow the concept of a 52-53 week fiscal year that ends on the Friday nearest to January 31. The following text contains references to years 2007 and 2006, which represent 52-week fiscal years ending or ended February 1, 2008 and February 2, 2007, respectively. Consequently, references to quarterly accounting periods for 2007 and 2006 contained herein refer to 13-week accounting periods. This discussion and analysis is based on, should be read with, and is qualified in its entirety by, the Condensed Consolidated Financial Statements and the notes thereto. It also should be read in conjunction with the Forward-Looking Statements/Risk Factors disclosure set forth in Part II, Item 1A of this report.

Purpose of Discussion. We intend for this discussion to provide the reader with information that will assist in understanding our company and the critical economic factors that affect our company. In addition, we hope to help the reader understand our financial statements, the changes in certain key items in those financial statements from period to period, and the primary factors that accounted for those changes, as well as how certain accounting principles affect our financial statements.

Proposed Merger. On March 11, 2007, we entered into an Agreement and Plan of Merger (the "Merger Agreement") with Buck Holdings L.P. ("Parent") and Buck Acquisition Corp. ("Merger Sub"), affiliates of Kohlberg Kravis Roberts & Co. ("KKR"), whereby Merger Sub will be merged with and into us (the "Merger"). In the event the Merger is consummated, we will continue as the surviving corporation and as a wholly owned subsidiary of Parent. A special meeting of shareholders has been scheduled for June 21, 2007 for the purpose of voting on the proposed merger.

Executive Overview

The nature of our business is moderately seasonal. Primarily because of sales of holiday-related merchandise, sales in the fourth quarter have historically been higher than sales achieved in each of the first three quarters of the fiscal year. Expenses, and to a greater extent operating income, vary by quarter. Results of a period shorter than a full year may not be indicative of results expected for the entire year. Furthermore, the seasonal nature of our business may affect comparisons between periods.

For the quarter ended May 4, 2007, we had net income of $34.9 million, or $0.11 per diluted share compared to net income of $47.7 million, or $0.15 per diluted share for the quarter ended May 5, 2006. In summary, revenues increased by $123.9 million in the 2007 period, or 5.8%, aided by new stores and a same-store sales increase of 2.4%, while gross profit increased $48.8 million, or 8.4%, resulting in a 0.7% increase in gross profit as a percentage of sales as compared to the prior year period. The increase in gross profit was offset by an increase in selling, general and administrative expenses of $74.7 million, or 2.0% as a percentage of sales, including expenses of approximately $29.6 million relating to the closings of underperforming

Since the approval of the Merger by our Board of Directors, our management team has been working with representatives from KKR on further evaluating our strategic and operating initiatives. To date, we have not made significant changes to our operating initiatives and plans in place.

We have made significant progress in our efforts, first announced in November 2006, to minimize the amount of merchandise in our stores that we carry over to subsequent periods ("packaway"). We identified the targeted packaway inventories in 2006 and launched programs to sell-through this inventory, eliminating over half of the targeted merchandise by the end of fiscal 2006. As of May 4, 2007, approximately $100 million of such merchandise, at cost, remains to be sold. We are on schedule to achieve our plans with regard to the sale of existing packaway inventories by the end of fiscal 2007. We also plan to sell virtually all current-year non-replenishable merchandise by taking end-of-season markdowns to permit increased levels of newer, current-season merchandise in the future.

Also in November 2006, we announced significant changes to our real estate strategy, including our intention to close, by the end of fiscal 2007, approximately 400 stores that do not meet our revised real estate criteria. As of May 4, 2007, we have closed 281 of the targeted stores, 153 of which were closed in the first quarter of 2007. In addition to store closings, our current plans are to remodel or relocate approximately 200 stores and to decelerate new store openings to approximately 300 new stores in fiscal 2007. In the first quarter, we opened 124 new stores, closed 171 stores, remodeled 25 stores and relocated 15 stores. The majority of these new, remodeled and relocated stores are in our new "racetrack" store layout.

We estimate that we will recognize total pre-tax selling, general and administrative ("SG&A") charges associated with the elimination of the targeted packaway inventories and the closing of these 400 under-performing stores of approximately $102.6 million. Of this total, approximately $29.6 million was reflected in our results of operations in the first quarter of 2007 and $33.4 million was reflected in the third and fourth quarters of 2006, as follows (in millions):

                                          Estimated      Incurred in      Incurred in
                                            Total            2006            2007         Remaining
Lease contract                            $  36.6          $  5.7          $ $  15.3      $   15.6
termination costs
One-time employee                             0.9             0.3                0.3           0.3
termination benefits
Other associated store                        8.1             0.2                2.2           5.7
closing costs
Inventory liquidation                         4.6             1.6                1.5           1.5
fees
Asset impairment &                            9.0             8.3                0.3           0.4
accelerated depreciation
Other costs (a)                              43.4            17.3               10.0          16.1
Total                                     $ 102.6          $ 33.4          $ $  29.6      $   39.6

(a) Includes incremental store labor, advertising and other costs.

The remaining costs outlined in the table above are currently expected to be incurred during 2007, with the majority expected to be incurred in the second quarter. However, the

We expect markdowns from retail to continue at higher than historical levels as we sell through the remaining packaway inventory. We currently expect the gross profit rate to sales to be in the following ranges: 27 to 28 percent in fiscal 2007, 28 to 29 percent in fiscal 2008 and 29 to 30 percent in fiscal 2009. We expect to increase our sales mix of merchandise categories with higher gross profit rates, such as home, apparel and seasonal merchandise, as we become increasingly able to improve our merchandise assortments and stock our stores with more current inventory. Achievement of our gross profit targets is contingent upon this expected sales mix improvement as well as effective inventory management and reductions in inventory shrink and damages.

In addition to the strategic initiatives discussed above, we are now increasingly focused on generating increased cash flows and improving profitability and we are in the early stages of implementing certain targeted retail practices which are expected to positively impact our gross profit, sales productivity and capital efficiency, including:

· Better merchandising and category management, SKU rationalization and space reallocation with an increased focus on gross margin, returns per square foot and shrink reduction;

· Optimizing our real estate strategies by establishing a comprehensive real estate review program based on new processes and technology directed with a more disciplined approach;

· Implementing zone pricing across our store base;

· Increasing foreign direct sourcing;

· Increasing private label penetration with greater consistency; and

· Improving distribution and transportation logistics.

Results of Operations

The following table contains results of operations data for the first 13 weeks
of each of 2007 and 2006, and the dollar and percentage variances among those
periods:

                                  13 Weeks Ended              2007 vs. 2006
(amounts in millions,          May 4,        May 5,         Amount        %
excluding per share amounts)    2007          2006          change      change
Net sales by category:
Highly consumable             $ 1,523.8    $ 1,456.0       $   67.8       4.7 %
% of net sales                   66.97%        67.68%
Seasonal                          336.4        309.6           26.9       8.7
% of net sales                   14.79%        14.39%
Home products                     215.0        211.7            3.4       1.6
% of net sales                    9.45%         9.84%
Basic clothing                    200.0        174.2           25.8      14.8
% of net sales                    8.79%         8.10%
Net sales                     $ 2,275.3    $ 2,151.4       $  123.9       5.8 %
Cost of goods sold              1,642.2      1,567.1           75.1       4.8
% of net sales                   72.18%        72.84%
Gross profit                      633.1        584.3           48.8       8.3
% of net sales                   27.82%        27.16%
Selling, general and
administrative                    577.7        503.0           74.7      14.9
% of net sales                   25.39%        23.38%
Operating profit                   55.4         81.3         (25.9)    (31.9)
% of net sales                    2.43%         3.78%
Interest income                   (2.6)         (2.5)         (0.1)       5.0
% of net sales                  (0.11)%       (0.11)%
Interest expense                    6.2          7.2          (1.1)    (14.9)
% of net sales                    0.27%         0.34%
Income before income taxes         51.8         76.5         (24.7)    (32.3)
% of net sales                    2.28%         3.56%
Income taxes                       16.9         28.8         (11.9)    (41.4)
% of net sales                    0.74%         1.34%
Net income                    $    34.9    $    47.7       $ (12.8)    (26.8) %
% of net sales                    1.53%         2.22%

Diluted earnings per share    $    0.11    $    0.15       $   0.04    (26.7) %
Weighted average diluted
shares                            315.9        315.2            0.7       0.2

13 WEEKS ENDED MAY 4, 2007 AND MAY 5, 2006

Net Sales. The $123.9 million increase in net sales resulted from opening 104 net new stores since May 5, 2006, and a same-store sales increase of 2.4% for the 2007 period compared to the 2006 period. The increase in same-store sales accounted for approximately $50.3 million of the increase in sales while stores opened since the end of the first quarter of 2006 were the primary contributor to the remaining $73.6 million sales increase during the 2007 period.

We monitor our sales internally by the four major categories noted above: highly consumable, seasonal, home products and basic clothing. Generally, over the past several years, sales in the highly consumable category have become a greater percentage of our overall sales mix while the sales of home products and basic clothing have declined as a percentage of total

A portion of our same-store sales increase in the 2007 period compared to the 2006 period was attributable to increased sales in the highly consumable, seasonal, and basic clothing categories, which had overall increases of $67.8 million, or 4.7%, $26.9 million, or 8.7%, and $25.8 million, or 14.8%, respectively. Same-store sales were also positively impacted by an increase in the average dollar value of transactions during the period. We believe that future same-store sales growth is dependent upon an increase in the number of customer transactions as well as an increase in the dollar value of the average transaction.

Gross Profit. Our gross profit rate, as a percent of sales, increased by 66 basis points in the 2007 period as compared with the 2006 period due to a number of factors, including but not limited to: an increase in markups on purchases during the period; a reduction in receipts during the 2007 period as compared to the 2006 period in the highly consumable category, which generally has lower average markups; and higher sales (as a percentage of total sales) in our seasonal and basic clothing categories, which generally have higher average markups. These factors were partially offset by lower average markups on our beginning inventory in the 2007 period as compared with the 2006 period, and an increase in our shrink rate, expressed in retail dollars as a percentage of sales, to 3.64% in the 2007 period compared to 3.31% in the 2006 period. The gross profit rate was also unfavorably impacted by higher markdowns in the 2007 period, which were partially offset by a reduction of our lower of cost or market inventory impairment estimate at the end of the first quarter of 2007.

Selling, General and Administrative ("SG&A") Expense. The increase in SG&A expense as a percentage of sales in the 2007 period as compared with the 2006 period was due to a number of factors, including but not limited to increases in the following expense categories: lease contract termination costs (increased $15.1 million) due primarily to the closing of 153 stores in the current year period related to the strategic real estate initiatives discussed above; professional fees (increased 193.7%) due primarily to fees associated with the proposed Merger and strategic initiatives; repairs and maintenance (increased 47.7%) due to increased store maintenance, including activity associated with the strategic initiatives; a $5.1 million increase in SG&A expenses resulting from hurricane-related insurance recoveries during the prior year period; incentive compensation expense (increased 88.7%) which is based upon our operating performance and changes to our 2007 bonus plan; health benefits costs (increased 46.0%) due primarily to increased claims; and store occupancy costs (increased 9.1%) primarily due to rising average monthly rentals associated with our leased store locations. These increases were partially offset by a 9.1% reduction in insurance costs primarily related to workers' compensation due to

Interest Income. Interest income was relatively constant in the 2007 period compared to the 2006 period, as increased earnings on short-term investments of approximately $0.9 million, primarily due to higher average investment balances, were offset by a $0.9 million decline in interest income in 2007 compared to 2006 due to the second quarter 2006 acquisition of the entity which held legal title to and from which we formerly leased the South Boston distribution center ("DC"), and the related elimination of the notes receivable which represented debt issued by this entity.

Interest Expense. The decrease in interest expense in the 2007 period compared to the 2006 period is due primarily to a decrease of $1.2 million on financing obligations which were related to the acquisition of the South Boston DC and were eliminated in 2006 as described above and a decrease in interest related to income tax contingencies of $1.0 million which, subsequent to the adoption of FIN 48, is now included in income tax expense. In the 2006 period, we increased our interest expense related to income tax contingencies in response to changes in anticipated state tax audit settlements. These decreases were partially offset by a reduction in capitalized interest expense of $1.2 million.

Income Taxes. The effective income tax rate for the 13-week period ended May 4, 2007 was 32.6%, or 5.1% lower than the rate of 37.7% for the 13-week period ended May 5, 2006. The decrease in the effective income tax rate was primarily due to the following: an approximate 1.2% decrease as a result of the renewal, in late 2006, of the federal laws which allow us to claim federal job credits for certain newly hired employees; and an approximate decrease of 6.3% in the 2007 period related to the settlement of income tax contingencies that did not occur in the 2006 period. These decreases were partially offset by the following items which increased the effective income tax rate: an approximate 0.7% increase due principally to state income tax expense resulting from state law changes in the States of New York and Texas; an approximate 0.1% increase due to lower state job related tax credits (principally job credits earned in 2006 for our South Carolina distribution center that did not reoccur in 2007); an increase of approximately 1.7% due to the post-FIN 48 inclusion of income tax related interest expense in the amount reported as income tax expense in 2007; and an increase of approximately 0.7% related to non-deductible expenses incurred in connection with the proposed Merger.

Recently Adopted Accounting Standard

We adopted the provisions of FIN 48 effective February 3, 2007. The adoption resulted in an $8.9 million decrease in retained earnings and a reclassification of certain amounts between deferred income taxes and other noncurrent liabilities to conform to the balance sheet presentation requirements of FIN 48. As of the date of adoption, the total reserve for uncertain tax benefits was $77.9 million. This reserve excludes the federal income tax benefit for the uncertain tax positions related to state income taxes which is now included in deferred tax assets. As a result of the adoption of FIN 48, the reserve for interest expense related to income taxes was increased to $15.3 million and a reserve for potential penalties of $1.9 million related to uncertain income tax positions was recorded. As of the date of adoption, approximately $27.1

Subsequent to the adoption of FIN 48, the Company has elected to record income tax related interest and penalties as a component of the provision for income tax expense.

Liquidity and Capital Resources

Current Financial Condition / Recent Developments. At May 4, 2007, we had total debt (including the current portion of long-term obligations) of $267.6 million and $204.4 million of cash and cash equivalents, compared with total debt of $270.0 million and $189.3 million of cash and cash equivalents at February 2, 2007. Our net debt position remained relatively constant during the first 13 weeks of 2007 due to the factors outlined below.

Our inventory balance represented approximately 47% of our total assets as of May 4, 2007. Our proficiency in managing our inventory balances can have a significant impact on our cash flows from operations during a given period or fiscal year. In addition, inventory purchases can be somewhat seasonal in nature, such as the purchase of warm-weather or Christmas-related merchandise. Inventory turns, calculated on a rolling annualized basis using balances from each quarter, were 4.3 times for the period ended May 4, 2007 compared to 4.1 times for the period ended May 5, 2006 (a 53-week period).

As described in Note 6 to the Condensed Consolidated Financial Statements, we are involved in a number of legal actions and claims, some of which could potentially result in material cash payments. Adverse developments in those actions could materially and adversely affect our liquidity. We also have certain income tax-related contingencies as more fully described below under "Critical Accounting Policies and Estimates". Estimates of these contingent liabilities are included in our Condensed Consolidated Financial Statements. However, future negative developments could have a material adverse effect on our liquidity.

We have a credit facility with a maximum commitment of $400 million (with the ability to increase to $500 million upon our mutual agreement with the lenders) that expires in June 2011. In addition to revolving loans, the credit facility includes a $15 million swingline loan sub-limit and a $75 million letter of credit sub-facility. Outstanding swingline loans and letters of credit reduce the borrowing capacity under the credit facility. At May 4, 2007, we had no outstanding borrowings and $23.8 million in letters of credit outstanding under the credit facility and were in compliance with all financial covenants contained in the credit facility.

We have $200 million (principal amount) of 8 5/8% unsecured notes due June 15, 2010. This indebtedness was incurred to assist in funding our growth. Interest on the notes is payable semi-annually on June 15 and December 15 of each year. On June 4, 2007, we announced that Merger Sub has commenced a cash tender offer to purchase any and all of these notes in connection with the anticipated Merger. The tender offer is contingent upon the closing of the Merger.

Significant terms of our outstanding debt obligations could have an effect on our ability to incur additional debt financing. Our credit facility contains financial covenants, which include

At May 4, 2007 and February 2, 2007, we had commercial letter of credit facilities totaling $200.0 million, of which $57.9 million and $116.1 million, respectively, were outstanding for the funding of imported merchandise purchases.

We believe that our existing cash balances, anticipated cash flows from operations, our credit facility, and our anticipated ongoing access to the capital markets, if necessary, will be sufficient to meet our foreseeable liquidity and capital resource needs.

Cash flows from operating activities. The most significant components of the change in cash flows from operating activities in the 2007 period as compared to the 2006 period were changes in inventory balances, which increased by 1% overall during the first quarter of 2007 compared to an 11% overall increase during the first quarter of 2006. Significant changes in inventory levels occurred in the highly consumable category, which increased by 2% in the 2007 period as compared to a 15% increase in the 2006 period; the seasonal category, which increased by 2% in the 2007 period as compared to a 16% increase in the 2006 period; and the home products category, which declined by 7% in the 2007 period as compared to a 6% increase in the 2006 period. Related to and partially offsetting the changes in inventory balances were offsetting changes in accounts payable balances. The $62.9 million decline in accounts payable balances during the 2007 period was primarily due to a seasonal reduction in import merchandise payables. The decline in net income, as described in more detail above, partially offset the increase in cash flows from operating activities in the 2007 period as compared to the 2006 period.

Cash flows from investing activities. Significant components of property and equipment purchases in the 2007 period included the following approximate amounts: $15 million for new stores; $5 million for improvements and upgrades to existing stores; $3 million for distribution and transportation-related capital expenditures; and $2 million for systems-related capital projects. During the 2007 period, we opened 124 new stores, remodeled 25 stores and relocated 15 stores.

Significant components of our property and equipment purchases in the 2006 period included the following approximate amounts: $22 million for the EZstore project (an initiative designed to improve inventory flow from DCs to consumers); $17 million for new stores; $15 million for distribution and transportation-related capital expenditures; and $9 million for capital projects in existing stores. During the 2006 period, we opened 182 new stores.

Net sales of short-term investments of $6.0 million and purchases of long-term investments of $5.7 million during the 2007 period, and net purchases of short-term and long-term investments of $4.5 million and $10.8 million, respectively, during the 2006 period relate primarily to our captive insurance subsidiary.

Cash flows from financing activities. We had no borrowings under our credit facility in the 2007 period and borrowings, net of repayments, of $65.0 million during the 2006 period. We repurchased approximately 4.5 million shares of our common stock during the 2006 period at a total cost of $79.9 million. We paid cash dividends of $15.7 million, or $0.05 per share, on outstanding common stock during each of the 2007 and 2006 periods. These uses of cash were offset by proceeds from the exercise of stock options of $34.3 and $10.9 million, respectively, during the 2007 and 2006 periods.

Critical Accounting Policies and Estimates

The preparation of financial statements in accordance with GAAP requires management to make estimates and assumptions that affect reported amounts and related disclosures. In addition to the estimates presented below, there are . . .