FORWARD LOOKING INFORMATION:
The following information should be read along with the Unaudited Condensed Consolidated Financial Statements, including the accompanying Notes appearing in this report. Any of the following are "forward-looking" statements within the meaning of Section 27A of the Securities Act of 1933, as amended, and
Section 21E of the Securities Exchange Act of 1934, as amended: (1) statements in this Form 10-Q that reflect projections or expectations of our future financial or economic performance; (2) statements that are not historical information; (3) statements of our beliefs, intentions, plans and objectives for future operations, including those contained in "Management's Discussion and Analysis of Financial Condition and Results of Operations"; (4) statements relating to our operations or activities for fiscal 2008 and beyond, including, but not limited to, statements regarding expected amounts of capital expenditures and store openings, relocations, remodelings and closures; and
(5) statements relating to our future contingencies. When possible, we have attempted to identify forward-looking statements by using words such as "expects," "anticipates," "approximates," "believes," "estimates," "hopes," "intends," "may," "plans," "should" and variations of such words and similar expressions. We can give no assurance that actual results or events will not differ materially from those expressed or implied in any such forward-looking statements. Forward-looking statements included in this report are based on information available to us as of the filing date of this report, but subject to known and unknown risks, uncertainties and other factors that could cause actual results to differ materially from those contemplated by the forward-looking statements. Such factors include, but are not limited to, the following: general economic conditions; competitive factors and pricing pressures; our ability to predict fashion trends; consumer apparel buying patterns; adverse weather conditions; inventory risks due to shifts in market demand; and other factors discussed under "Risk Factors" in Part I, Item 1A of our annual report on Form 10-K for the fiscal year ended February 2, 2008 (fiscal 2007), as amended or supplemented, and in other reports we file with or furnish to the SEC from time to time. We do not undertake, and expressly decline, any obligation to update any such forward-looking information contained in this report, whether as a result of new information, future events, or otherwise.

THE CATO CORPORATION
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIALCONDITION AND RESULTS OF OPERATIONS (CONTINUED)

CRITICAL ACCOUNTING POLICIES:
The Company's accounting policies are more fully described in Note 1 to the consolidated financial statements included in the Company's Annual Report on Form 10-K. As disclosed in Note 1 of Notes to Consolidated Financial Statements, the preparation of the Company's financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions about future events that affect the amounts reported in the financial statements and accompanying notes. Future events and their effects cannot be determined with absolute certainty. Therefore, the determination of estimates requires the exercise of judgment. Actual results inevitably will differ from those estimates, and such differences may be material to the financial statements. The most significant accounting estimates inherent in the preparation of the Company's financial statements include the allowance for doubtful accounts receivable, reserves relating to workers' compensation, general and auto insurance liabilities, reserves for group health insurance, reserves for inventory markdowns, calculation of asset impairment, shrinkage accrual and reserves for uncertain tax positions.
The Company's critical accounting policies and estimates are discussed with the Audit Committee.

RESULTS OF OPERATIONS:
The following table sets forth, for the periods indicated, certain items in the
Company's unaudited Condensed Consolidated Statements of Income and
Comprehensive Income as a percentage of total retail sales:

                                           Three Months Ended             Six Months Ended
                                        August 2,      August 4,      August 2,     August 4,
                                           2008           2007          2008           2007

 Total retail sales                        100.0 %         100.0 %       100.0 %        100.0 %
 Total revenues                            101.3           101.3         101.3          101.4
 Cost of goods sold                         64.1            67.4          63.4           65.7
 Selling, general and administrative        27.5            23.9          26.2           23.4
 Depreciation                                2.5             2.6           2.5            2.5
 Interest and other income                  (0.7 )          (1.1 )        (0.8 )         (1.0 )
 Income before income taxes                  7.9             8.5          10.0           10.8
 Net income                                  5.2             5.7           6.3            7.0

THE CATO CORPORATION
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIALCONDITION AND RESULTS OF OPERATIONS (CONTINUED)

RESULTS OF OPERATIONS - (CONTINUED):
Comparison of Second Quarter and First Six Months of 2008 with 2007. Total retail sales for the second quarter were $231.0 million compared to last year's second quarter sales of $219.0 million, a 5% increase. Same-store sales increased 2% in the second quarter of fiscal 2008. For the six months ended August 2, 2008, total retail sales were $456.7 million compared to last year's first six months sales of $443.1 million, and same-store sales remained flat for the comparable six month period. Total revenues, comprised of retail sales and other income (principally, finance charges and late fees on customer accounts receivable and layaway fees), were $233.9 million and $462.7 million for the second quarter and six months ended August 2, 2008, respectively, compared to $221.9 million and $449.2 million for the second quarter and six months ended August 4, 2007, respectively. The Company operated 1,287 stores at August 2, 2008 compared to 1,306 stores at the end of last year's second quarter. For the first six months of 2008 the Company opened 32 stores and closed 63 stores. Credit revenue of $2.5 million represented 1.1% of total revenues in the second quarter of 2008, compared to 2007 credit revenue of $2.6 million or 1.2% of total revenues. The slight reduction in credit revenue was due to lower finance charge and late fee income from lower sales under the Company's proprietary credit card, partially offset by improved collections compared to the prior year. Credit revenue is comprised of interest earned on the Company's private label credit card portfolio and related fee income. Related expenses include principally bad debt expense, payroll, postage and other administrative expenses and totaled $1.4 million in the second quarter of 2008, flat compared to last year's second quarter expenses of $1.4 million. Bad debt expense was higher compared to the second quarter and first six months of 2007, partially offset by lower administrative expenses.
Other income in total, as included in total revenues was $2.9 million and $5.9 million for the second quarter and first six months of fiscal 2008, compared to $3.0 million and $6.1 million for the prior year's comparable three and six month period, respectively. The decrease resulted primarily from lower finance charges.
Cost of goods sold was $148.0 million, or 64.1% of retail sales and $289.6 million or 63.4% of retail sales for the second quarter and first six months of fiscal 2008, compared to $147.5 million, or 67.4% of retail sales and $290.9 million, or 65.7% of retail sales for the prior year's comparable three and six month period, respectively. The overall decrease in cost of goods sold as a percent of retail sales for the second quarter and first six months of 2008 resulted primarily from lower markdowns partially offset by higher occupancy costs. The decrease in markdowns was primarily attributable to tight inventory management and higher sell-throughs of regular priced merchandise. Cost of goods sold includes merchandise costs, net of discounts and allowances, buying costs, distribution costs, occupancy costs, freight and inventory shrinkage. Net merchandise costs and in-bound freight are capitalized as inventory costs.

THE CATO CORPORATION
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIALCONDITION AND RESULTS OF OPERATIONS (CONTINUED)

RESULTS OF OPERATIONS - (CONTINUED):
Buying and distribution costs include payroll, payroll-related costs and operating expenses for the buying departments and distribution center. Occupancy expenses include rent, real estate taxes, insurance, common area maintenance, utilities and maintenance for stores and distribution facilities. Total gross margin dollars (retail sales less cost of goods sold) increased by 15.9% to $82.9 million and by 9.8% to $167.1 million for the second quarter and first six months of fiscal 2008, compared to $71.5 million and $152.2 million for the prior year's comparable three and six month periods, respectively. Gross margin as presented may not be comparable to those of other entities. Selling, general and administrative expenses ("SG&A") primarily include corporate and store payroll, related payroll taxes and benefits, insurance, supplies, advertising, bank and credit card processing fees and bad debts. SG&A expenses were $63.6 million, or 27.5% of retail sales and $119.9 million, or 26.2% of retail sales for the second quarter and first six months of fiscal 2008, compared to $52.5 million, or 23.9% of retail sales and $103.6 million, or 23.4% of retail sales for prior year's comparable three and six month period, respectively. SG&A expenses as a percentage of retail sales increased 360 basis points for the second quarter of fiscal 2008 as compared to the prior year and increased 280 basis points for the first six months of fiscal 2008 as compared to the prior year. The increase in SG&A expenses as a percentage of retail sales and the overall dollar increase for the second quarter of fiscal 2008 and the first six months of fiscal 2008 was primarily attributable to an increase in incentive based compensation expenses, the closure of 47 underperforming stores, worker's compensation and group health insurance expenses.
Depreciation expense was $5.7 million, or 2.5% of retail sales and $11.3 million or 2.5% of retail sales, for the second quarter and first six months of fiscal 2008, compared to $5.6 million, or 2.6% of retail sales and $11.0 million, or 2.5% of retail sales, for prior year's comparable three and six month periods, respectively.
Interest and other income was $1.7 million, or 0.7% of retail sales and $3.6 million, or 0.8% of retail sales for the second quarter and first six months of fiscal 2008, compared to $2.3 million, or 1.1% of retail sales and $4.2 million, or 1.0% of retail sales, for the prior year's comparable three and six month periods, respectively. The decrease in fiscal 2008 resulted primarily from lower interest rates and lower investment balances.
Income tax expense was $6.2 million, or 2.7% of retail sales and $16.6 million, or 3.6% of retail sales, for the second quarter and first six months of fiscal 2008, compared to $6.1 million, or 2.8% of retail sales and $16.6 million, or 3.8% of retail sales, for the prior year's comparable three and six month periods. The slight increase for the second quarter resulted from a higher effective tax rate primarily due to lower tax credits. The effective income tax rate for the second quarter of fiscal 2008 was 34.0% compared to 32.9% for the second quarter of 2007. The decrease for the six month period resulted from lower pre-tax income offset by a higher effective tax rate. The effective income tax rate for the first six months of fiscal 2008 was 36.4% compared to 34.8% for the six months of fiscal 2007.

THE CATO CORPORATION
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIALCONDITION AND RESULTS OF OPERATIONS (CONTINUED)

LIQUIDITY, CAPITAL RESOURCES AND MARKET RISK:
The Company has consistently maintained a strong liquidity position. Cash provided by operating activities during the first six months of fiscal 2008 was $59.1 million as compared to $57.6 million in the first six months of fiscal 2007. These amounts enable the Company to fund its regular operating needs, capital expenditure program, cash dividend payments and purchase of treasury stock. In addition, the Company maintains a $35 million unsecured revolving credit facility for short-term financing of seasonal cash needs. There were no outstanding borrowings on this facility at August 2, 2008.
Cash provided by operating activities for the first six months of fiscal 2008 was primarily generated by earnings adjusted for depreciation and changes in working capital. The increase of $1.5 million for the first six months of fiscal 2008 as compared to the first six months of fiscal 2007 was primarily due to an increase in inventories, accrued income taxes and excess tax benefits offset by a decrease in accounts payable, accrued expenses and other liabilities and net income in fiscal 2008.
The Company believes that its cash, cash equivalents and short-term investments, together with cash flows from operations and borrowings available under its revolving credit agreement, will be adequate to fund the Company's planned capital expenditures, dividends, share repurchases and other operating requirements for fiscal 2008 and for the foreseeable future.
At August 2, 2008, the Company had working capital of $165.8 million compared to $209.6 million at August 4, 2007. Additionally, the Company had $2.2 million and $1.9 million invested in privately managed investment funds at August 2, 2008 and August 4, 2007, respectively, which are included in other assets on the Condensed Consolidated Balance Sheets.
At August 2, 2008, the Company had an unsecured revolving credit agreement, which provided for borrowings of up to $35 million. The revolving credit agreement is committed until August 2010. 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 2, 2008. There were no borrowings outstanding under this credit facility during the first six months ended August 2, 2008 or the fiscal year ended February 2, 2008. At August 2, 2008 and August 4, 2007, the Company had approximately $4.8 million and $6.6 million, respectively, of outstanding irrevocable letters of credit relating to purchase commitments.
Expenditures for property and equipment totaled $10.5 million in the first six months of fiscal 2008, compared to $9.6 million in last year's first six months. The expenditures for the first six months of 2008 were primarily for store development and investments in new technology. For the full fiscal 2008 year, the Company is planning to invest approximately $22.3 million for capital expenditures. This includes expenditures to open 70 new stores and relocate 9 stores.

THE CATO CORPORATION
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIALCONDITION AND RESULTS OF OPERATIONS (CONTINUED)

LIQUIDITY, CAPITAL RESOURCES AND MARKET RISK (CONTINUED):
Net cash used in investing activities totaled $26.0 million in the first six months of fiscal 2008 compared to $61.3 million used in the comparable period of 2007. The decrease was due primarily to the net decrease in purchases over sales of short-term investments.
On August 28, 2008, the Board of Directors maintained the quarterly dividend at $.165 per share, or an annualized rate of $.66 per share.
On August 30, 2007, the Board authorized an increase in the Company's share repurchase program of two million shares. There is no specified expiration date by which any shares included in this authorization must be purchased. At August 2, 2008, 394,660 shares remain available for repurchase in open authorizations. No shares were repurchased in the first six months of fiscal 2008.
The Company does not use derivative financial instruments. At August 2, 2008, the Company's investment portfolio was primarily invested in governmental and other debt securities with maturities less than 36 months. These securities are classified as available-for-sale and are recorded on the balance sheet at fair value, with unrealized gains and temporary losses reported net of taxes as accumulated other comprehensive income. Other than temporary declines in fair value of investments are recorded as a reduction in the cost of investments in the accompanying Condensed Consolidated Balance Sheets.
The Company had 76 stores closed due to Hurricane Gustav. The Company is in the process of determining any loss due to damages incurred.

THE CATO CORPORATION