Summary of BON TON STORES INC

MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

For purposes of the following discussion, references to the "first quarter of 2009" and the "first quarter of 2008" are to the thirteen-week periods ended May 2, 2009 and May 3, 2008, respectively. References to the "fourth quarter of 2008" are to the thirteen-week period ended January 31, 2009. References to "2009" are to the fifty-two week period ending January 30, 2010; references to "2008" are to the fifty-two week period ended January 31, 2009. References to "the Company," "we," "us," and "our" refer to The Bon-Ton Stores, Inc. and its subsidiaries.
Overview
We are one of the largest regional department store operators in the United States, offering a broad assortment of brand-name fashion apparel and accessories for women, men and children. Our merchandise offerings also include cosmetics, home furnishings and other goods. We currently operate 280 stores in mid-size and metropolitan markets in 23 Northeastern, Midwestern and upper Great Plains states under the Bon-Ton, Bergner's, Boston Store, Carson Pirie Scott, Elder-Beerman, Herberger's and Younkers nameplates and, under the Parisian nameplate, stores in the Detroit, Michigan area, encompassing a total of approximately 26 million square feet.
We operate in the department store segment of the U.S. retail industry, which is a highly competitive and fragmented environment. The department store industry continues to evolve in response to consolidation among merchandise vendors as well as the evolution of competitive retail formats - mass merchandisers, national chain retailers, specialty retailers and online retailers. Our operating results and performance, and that of our competitors, depend significantly on economic conditions and their impact on consumer spending. During 2008 and the first quarter of 2009, a combination of economic factors created an extremely adverse environment for the retail industry, including the department store sector. Given the outlook of continued recessionary factors, we anticipate another difficult year in 2009. As such, in 2009 we expect:
• a comparable store sales decrease in the range of 6.5% to 9.0%;

• a reduction in other income;

• a gross margin rate of 35.5% to 36.0%;

• a reduction of $70.0 million in our selling, general and administrative ("SG&A") expenses; and

• an effective tax rate of 0%.

THE BON-TON STORES, INC. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS Results of Operations
The following table summarizes changes in selected operating indicators of the Company, illustrating the relationship of various income and expense items to net sales for the respective periods presented (components may not add or subtract to totals due to rounding):

                                                           THIRTEEN
                                                         WEEKS ENDED
                                                     May 2,       May 3,
                                                      2009         2008
           Net sales                                   100.0 %      100.0 %
           Other income                                  2.9          3.3
                                                       102.9        103.3

           Costs and expenses:
           Costs of merchandise sold                    65.2         66.0
           Selling, general and administrative          36.7         36.5
           Depreciation and amortization                 4.4          4.1
           Amortization of lease-related interests       0.2          0.2

           Loss from operations                         (3.7 )       (3.6 )
           Interest expense, net                         3.6          3.5

           Loss before income taxes                     (7.2 )       (7.1 )
           Income tax benefit                           (0.2 )       (2.3 )

           Net loss                                     (7.1 )%      (4.9 )%

First Quarter of 2009 Compared with First Quarter of 2008 Net sales: Net sales for the first quarter of 2009 were $644.5 million, compared with $700.2 million for the first quarter of 2008, a decrease of $55.7 million or 8.0%. Comparable store net sales decreased 8.6% in the period. We believe the comparable store net sales decline was due to the continued challenging economic environment, which has pressured consumer spending.
Our customers' spending patterns have shifted as a result of the current economic situation. Sales trends indicate movement toward a value-orientation, with decided emphasis on price. Sales in Moderate Sportswear (included in Women's Apparel), the best performing category in the period, have benefited from this shift as our moderate zone provides the value our customers are seeking. In addition, the poor performances, conversely, of Better Sportswear (included in Women's Apparel) and Furniture (included in Home) suggest our customers are spending their limited discretionary dollars on more moderately-priced merchandise. Better Sportswear is the most difficult business in Women's Apparel at this time as, we believe, customers are choosing price over brand. Furniture sales continue to be adversely impacted by the difficult housing market and continued deterioration in consumer spending for more expensive items.
Other income: Other income, which includes income from revenues received under a credit card program agreement with HSBC Bank Nevada, N.A., leased departments and other customer revenues, was $18.4 million, or 2.9% of net sales, in the first quarter of 2009 as compared with $22.8 million, or 3.3% of net sales, in the first quarter of 2008. This decrease primarily reflects reduced sales volume and reduced income associated with our proprietary credit card program. Costs and expenses: Gross margin in the first quarter of 2009 was $224.2 million as compared with $237.7 million in the comparable prior year period, a decrease of $13.6 million. The decrease in gross margin dollars is attributable to the decreased sales volume. Gross margin as a percentage of net sales increased 80 basis points to 34.8% in the first quarter of 2009 from 34.0% in the same period last year. The increase in the gross margin rate primarily reflects decreased net markdowns.
SG&A expense in the first quarter of 2009 was $236.8 million compared with $255.8 million in the first quarter of 2008, a decrease of $18.9 million. The reduction is largely the result of our cost saving initiatives in response to the difficult economic environment. However, due to the reduced sales volume in the period, the current year expense rate increased to 36.7% of net sales, compared with 36.5% for the same period last year.

THE BON-TON STORES, INC. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS Depreciation and amortization expense and amortization of lease-related interests decreased $0.9 million, to $29.3 million, in the first quarter of 2009 from $30.2 million in the first quarter of 2008, primarily due to significant asset impairments recorded in the fourth quarter of 2008.
Loss from operations: Operating loss was reduced in the first quarter of 2009 to $23.6 million, or 3.7% of net sales, as compared with an operating loss of $25.5 million, or 3.6% of net sales, in the comparable prior year period. Interest expense, net: Net interest expense was $22.9 million, or 3.6% of net sales, in the first quarter of 2009 compared with $24.4 million, or 3.5% of net sales, in the first quarter of 2008. The $1.4 million decrease is primarily due to reduced interest rates in the current period.
Income tax benefit: The income tax benefit reflects an effective tax rate of 2.3%, or $1.1 million, in the first quarter of 2009, compared with 31.7%, or $15.8 million, in the comparable prior year period. The current year decrease principally reflects the continuation in the first quarter of 2009 of a full valuation allowance established during the fourth quarter of 2008 on nearly all the Company's net deferred tax assets.
Net loss: Net loss in the first quarter of 2009 was $45.4 million, or 7.1% of net sales, compared with a net loss of $34.1 million, or 4.9% of net sales, in the first quarter of 2008.
Seasonality
Our business, like that of most retailers, is subject to seasonal fluctuations, with the major portion of sales and income realized during the second half of each fiscal year, which includes the holiday season. Due to the fixed nature of certain costs, SG&A expense is typically higher as a percentage of net sales during the first half of each fiscal year. We typically finance working capital increases in the second half of each fiscal year through additional borrowings under our revolving credit facility.
Because of the seasonality of our business, results for any quarter are not necessarily indicative of results that may be achieved for a full fiscal year. Liquidity and Capital Resources
At May 2, 2009, we had $18.4 million in cash and cash equivalents and $164.6 million available under our asset-based revolving credit facility (before taking into account the minimum borrowing availability covenant under such facility of $75.0 million). In anticipation of continued recessionary pressures in 2009, we heightened our focus on maximizing cash flow by reducing operating expenses and significantly curtailing our planned capital expenditures. Additionally, we are continuing to control inventory levels in order to benefit our working capital needs. We anticipate that these actions, together with projected cash benefits from our cost savings initiatives, will positively impact our 2009 cash flow.
Typically, cash flows from operations are impacted by the effect on sales of
(1) consumer confidence, (2) weather in the geographic markets served by the Company, (3) general economic conditions and (4) competitive conditions existing in the retail industry; a downturn in any single factor or a combination of factors could have a material adverse impact upon our ability to generate sufficient cash flows to operate our business. Currently, our business model is adversely impacted by additional economic drivers reflective of the global recession. While difficult economic conditions affect our assessment of short-term liquidity, and while there can be no assurances, we consider our resources, including cash flows from operations supplemented by borrowings under our revolving credit facility, adequate to satisfy our cash needs for at least the next twelve months.

                            THE BON-TON STORES, INC.
        MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
                             RESULTS OF OPERATIONS
The following table summarizes material measures of the Company's liquidity and
capital resources:

                                                         May 2,       May 3,
        (Dollars in millions)                             2009         2008

        Working capital                                 $  441.1     $  464.3
        Current ratio                                     2.17:1       2.07:1
        Debt to total capitalization (1)                  0.93:1       0.79:1
        Unused availability under lines of credit (2)   $  164.6     $  273.8

(1) Debt includes obligations under capital leases. Total capitalization includes shareholders' equity, debt and obligations under capital leases.

(2) Subject to a minimum borrowing availability covenant of $75.

Our primary sources of working capital are cash flows from operations and borrowings under our revolving credit facility, which provides for up to $800.0 million in borrowings. In the first quarter of 2009, we elected to reduce the previous $1.0 billion commitment under our revolving credit facility by $200.0 million, which will reduce interest expense associated with the unused commitment fee.
The decrease in working capital primarily reflects decreased levels of merchandise inventories due to inventory management efforts in response to sales trends, partially offset by an income tax receivable relating to an anticipated refund in the thirteen weeks ending August 1, 2009. The increase in the current ratio as of May 2, 2009, as compared with May 3, 2008, primarily reflects proportionately larger decreases in current liabilities as compared with current assets, principally due to reduced accounts payable as a result of the reduction in merchandise inventories, reduced vendor/factor support and accelerated discounted vendor payments. The increase in debt to total capitalization is largely due to the significant decrease in shareholders' equity in 2008 and the first quarter of 2009, the result of the net loss in the respective periods, which in 2008 includes the charges for asset impairments and deferred tax valuation allowances, as well as the decline in the funded status of the Company's defined benefit pension plans. The decrease in unused availability under lines of credit as compared with the prior year reflects reduced availability primarily due to decreased inventory levels, operating losses, and increases in trade and standby letters of credit.
Cash provided by (used in) our operating, investing and financing activities is summarized as follows:

                                                  THIRTEEN
                                                 WEEKS ENDED
                                             May 2,      May 3,
                     (Dollars in millions)    2009        2008

                     Operating activities    $ (18.7 )   $ (32.1 )
                     Investing activities       (6.1 )     (25.5 )
                     Financing activities       23.4        55.1

Net cash used in operating activities was $18.7 million and $32.1 million in the first quarter of 2009 and the first quarter of 2008, respectively. The decrease in net cash used in the current year primarily reflects reduced working capital requirements, partially offset by an increased net loss in the period.

THE BON-TON STORES, INC. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS Net cash used in investing activities was $6.1 million in the first quarter of 2009, compared with $25.5 million in the first quarter of 2008, as capital expenditures were significantly reduced in the current year in response to economic conditions.
Net cash provided by financing activities was $23.4 million in the first quarter of 2009, compared with $55.1 million in the comparable prior year period. The change primarily reflects reduced net borrowings due to decreased cash requirements for current year operating activities and reduced capital expenditures.
Our capital expenditures in the first quarter of 2009, which do not reflect reductions for landlord contributions of $1.9 million, totaled $6.1 million. Capital expenditures for 2009, net of approximately $7 million of landlord contributions, are planned at approximately $40 million, a significant reduction from the prior year's capital expenditures of $84.8 million (which do not reflect reductions for landlord contributions of $18.9 million), as we are limiting store expansion and remodel activities in the near term. Included in 2009 planned capital expenditures is continued investment in information technology.
Critical Accounting Policies
Our discussion and analysis of financial condition and results of operations are based upon our consolidated financial statements, which have been prepared in accordance with U.S. generally accepted accounting principles. Preparation of these financial statements required us to make estimates and judgments that affected reported amounts of assets and liabilities, revenues and expenses, and related disclosure of contingent assets and liabilities at the date of our financial statements. On an ongoing basis, we evaluate our estimates, including those related to merchandise returns, inventories, intangible assets, income taxes, financings, contingencies, insurance reserves, litigation, and pension and supplementary retirement plans. We base our estimates on historical experience and on various other assumptions that we believe to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. Actual results may differ from these estimates under different assumptions or conditions.
Critical accounting policies are defined as those that are reflective of significant judgments and uncertainties, and could potentially lead to materially different results under different assumptions and conditions. We believe our critical accounting policies are as described below:
Inventory Valuation
Inventories are stated at the lower of cost or market with cost determined by the retail inventory method. Under the retail inventory method, the valuation of inventories at cost and the resulting gross margin is derived by applying a calculated cost-to-retail ratio to the retail value of inventories. The retail inventory method is an averaging method that has been widely used in the retail industry. Use of the retail inventory method will result in valuing inventories at the lower of cost or market if markdowns are taken timely as a reduction of the retail value of inventories.
Inherent in the retail inventory method calculation are certain significant management judgments and estimates including, among others, merchandise markups, markdowns and shrinkage, which significantly impact both the ending inventory valuation at cost and the resulting gross margin. These significant estimates, coupled with the fact that the retail inventory method is an averaging process, can, under certain circumstances, result in individual inventory components with cost above related net realizable value. Factors that can lead to this result include applying the retail inventory method to a group of products that is not fairly uniform in terms of its cost, selling price relationship and turnover; or applying the retail inventory method to transactions over a period of time that include different rates of gross profit, such as those relating to seasonal merchandise. In addition, failure to take timely markdowns can result in an overstatement of inventory under the lower of cost or market principle. We believe that the retail inventory method we use provides an inventory valuation that approximates cost and results in carrying inventory in the aggregate at the lower of cost or market.

THE BON-TON STORES, INC. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS We regularly review inventory quantities on-hand and record an adjustment for excess or old inventory based primarily on an estimated forecast of merchandise demand for the selling season. Demand for merchandise can fluctuate greatly. A significant increase in the demand for merchandise could result in a short-term increase in the cost of inventory purchases while a significant decrease in demand could result in an increase in the amount of excess inventory quantities on-hand. Additionally, estimates of merchandise demand may prove to be inaccurate, in which case we may have understated or overstated the adjustment required for excess or old inventory. If our inventory is determined to be overvalued in the future, we would be required to recognize such costs in costs of goods sold and reduce operating income at the time of such determination. Likewise, if inventory is later determined to be undervalued, we may have overstated the costs of goods sold in previous periods and would recognize additional operating income when such inventory is sold. Therefore, although every effort is made to ensure the accuracy of forecasts of merchandise demand, any significant unanticipated changes in demand or in economic conditions within our markets could have a significant impact on the value of our inventory and reported operating results.
As of January 31, 2009, approximately 32% of our inventories were valued using a first-in, first-out cost basis and approximately 68% of our inventories were valued using a last-in, first-out ("LIFO") cost basis. As is currently the case with many companies in the retail industry, our LIFO calculations yielded inventory increases in recent prior years due to deflation reflected in price indices used. The LIFO method values merchandise sold at the cost of more recent inventory purchases (which the deflationary indices indicated to be lower), resulting in the general inventory on-hand being carried at the older, higher costs. Given these higher values and the promotional retail environment, we have reduced the carrying value of our LIFO inventories to an estimated realizable value. These reductions totaled $41.6 million as of May 2, 2009 and January 31, 2009. Inherent in the valuation of inventories are significant management judgments and estimates regarding future merchandise selling costs and pricing. Should these estimates prove to be inaccurate, we may have overstated or understated our inventory carrying value. In such cases, operating results would ultimately be impacted.
Vendor Allowances
As is standard industry practice, allowances from merchandise vendors are received as reimbursement for charges incurred on marked-down merchandise. Vendor allowances are generally credited to costs of goods sold, provided the allowance is: (1) collectable, (2) for merchandise either permanently marked down or sold, (3) not predicated on a future purchase, (4) not predicated on a future increase in the purchase price from the vendor, and (5) authorized by internal management. If the aforementioned criteria are not met, the allowances are reflected as an adjustment to the cost of merchandise capitalized in inventory.
Additionally, allowances are received from vendors in connection with cooperative advertising programs and for reimbursement of certain payroll expenses. These allowances received from each vendor are reviewed to ensure reimbursements are for specific, incremental and identifiable advertising or payroll costs incurred to sell the vendor's products. If a vendor reimbursement exceeds the costs incurred, the excess reimbursement is recorded as a reduction of cost purchases from the vendor and reflected as a reduction of costs of merchandise sold when the related merchandise is sold. All other amounts are recognized as a reduction of the related advertising or payroll costs that have been incurred and reflected in SG&A expense.

THE BON-TON STORES, INC. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS Income Taxes
Significant management judgment is required in determining the provision for income taxes, deferred tax assets and liabilities, and the valuation allowance recorded against net deferred tax assets. Pursuant to Statement of Financial Accounting Standards ("SFAS") No. 109, "Accounting for Income Taxes" ("SFAS No. 109"), the process involves summarizing temporary differences resulting from differing treatment of items for tax and accounting purposes. These differences result in deferred tax assets and liabilities, which are included within the consolidated balance sheet. In addition, SFAS No. 109 requires that companies assess whether valuation allowances should be established against their deferred tax assets based on consideration of all available evidence using a "more likely than not" standard. To the extent a valuation allowance is established in a period, an expense must be recorded within the income tax provision in the statement of operations.
We reported net deferred tax liabilities of $0.4 million at May 2, 2009 and net deferred tax assets of $2.7 million at January 31, 2009. In assessing the realizability of our deferred tax assets, we considered whether it is more likely than not that our deferred tax assets will be realized based upon all available evidence, including scheduled reversal of deferred tax liabilities, historical operating results, projected future operating results, tax carry-back availability and limitations pursuant to Section 382 of the Internal Revenue Code, among others. Pursuant to SFAS No. 109, significant weight is to be given to evidence that can be objectively verified. As a result, a company's current or previous losses are given more weight than any projected future taxable income. In addition, a recent three-year historical cumulative loss is considered a significant element of negative evidence that is difficult to overcome.
We evaluate our deferred tax assets each reporting period, including assessment of the Company's cumulative income over the prior three-year period, to determine if valuation allowances are required. With respect to our review for the fourth quarter of 2008, a significant element of negative evidence considered was our three-year historical cumulative loss as of the fourth quarter of 2008. This, combined with uncertain near-term economic conditions, reduced our ability to rely on our projections of future taxable income in establishing the deferred tax assets valuation allowance at January 31, 2009. Accordingly, a nearly full valuation allowance was established on our net deferred tax assets during the fourth quarter of 2008. With respect to our review for the first quarter of 2009, we concluded that it was necessary to continue the position of a nearly full valuation allowance on our net deferred tax assets.
Our deferred tax asset valuation allowance totaled $162.3 million and $145.5 million at May 2, 2009 and January 31, 2009, respectively. If actual results differ from these estimates or these estimates are adjusted in future periods, the valuation allowance may need to be adjusted, which could materially impact our financial position and results of operations. If sufficient positive evidence arises in the future indicating that all or a portion of the deferred tax assets meet the more likely than not standard under SFAS No. 109, the valuation allowance would be reversed accordingly in the period that such a conclusion is reached.
Long-lived Assets
Property, fixtures and equipment are recorded at cost and are depreciated on a straight-line basis over the estimated useful lives of such assets. Changes in our business model or capital strategy can result in the actual useful lives differing from estimates. In cases where we determined that the useful life of property, fixtures and equipment should be shortened, we depreciated the net book value in excess of the salvage value over the revised remaining useful life, thereby increasing depreciation expense. Factors such as changes in the planned use of fixtures or leasehold improvements could also result in shortened useful lives. Our net property, fixtures and equipment amounted to $814.7 million and $832.8 million at May 2, 2009 and January 31, 2009, respectively.
SFAS No. 144, "Accounting for the Impairment or Disposal of Long-Lived Assets," requires us to test a long-lived asset for recoverability whenever events or changes in circumstances indicate that its carrying value may not be . . .