Factors That May Effect Future Results

This Quarterly Report on Form 10-Q contains forward-looking statements, within the meaning of the Private Securities Litigation Reform Act of 1995, that involve a number of risks and uncertainties. A number of factors could cause our actual results, performance, achievements or industry results to be materially different from any future results, performance or achievements expressed or implied by these forward-looking statements. These factors include, but are not limited to: general economic conditions in the areas of the United States in which our stores are located; the effects and duration of the current economic downturn and the ailing credit markets; changes in the overall retail environment and more specifically in the apparel and footwear retail sectors; our ability to generate increased sales at our stores; the potential impact of national and international security concerns on the retail environment; changes in our relationships with key suppliers; the impact of competition and pricing; changes in weather patterns, consumer buying trends and our ability to identify and respond to emerging fashion trends; the impact of disruptions in our distribution or information technology operations; the effectiveness of our inventory management; the impact of hurricanes or other natural disasters on our stores, as well as on consumer confidence and purchasing in general; risks associated with the seasonality of the retail industry; our ability to successfully execute our growth strategy, including the availability of desirable store locations at acceptable lease terms, our ability to open new stores in a timely and profitable manner and the availability of sufficient funds to implement our growth plans; higher than anticipated costs associated with the closing of underperforming stores; the inability of manufacturers to deliver products in a timely manner; changes in the political and economic environments in the People's Republic of China, Brazil, Spain and East Asia, the primary manufacturers of footwear; and the continued favorable trade relations between the United States and China and the other countries which are the major manufacturers of footwear. For a more detailed discussion of certain risk factors see the "Risk Factors" section of our Annual Report on Form 10-K for the fiscal year ended January 31, 2009.

General

Management's Discussion and Analysis of Financial Condition and Results of Operations is intended to provide information to assist the reader in better understanding and evaluating our financial condition and results of operations. We encourage you to read this in conjunction with our condensed consolidated financial statements and the notes to those statements included in PART I, ITEM
1. FINANCIAL STATEMENTS of this Quarterly Report on Form 10-Q, as well as our Annual Report on Form 10-K for the fiscal year ended January 31, 2009 as filed with the SEC.

Overview of Our Business

Shoe Carnival, Inc. is one of the nation's largest family footwear retailers. As of May 2, 2009, we operated 313 stores in 29 states primarily in the Midwest, South and Southeast regions of the United States. We offer a distinctive shopping experience, a broad merchandise assortment and value to our customers while maintaining an efficient store level cost structure.

Our stores combine competitive pricing with a highly promotional, in-store marketing effort that encourages customer participation and creates a fun and exciting shopping experience. We believe this highly promotional atmosphere results in various competitive advantages, including increased multiple unit sales; the building of a loyal, repeat customer base; the creation of word-of-mouth advertising; and enhanced sell through of in-season goods. Our objective is to be the destination store-of-choice for a wide range of consumers seeking moderately priced, current season name brand and private label footwear. Our product assortment includes dress and casual shoes, sandals, boots and a wide assortment of athletic shoes for the entire family. We believe that by offering a wide selection of both athletic and non-athletic footwear, we are able to reduce our exposure to shifts in fashion preferences between those categories.

Critical Accounting Policies

It is necessary for us to include certain judgments in our reported financial results. These judgments involve estimates that are inherently uncertain and actual results could differ materially from these estimates. The accounting policies that require the more significant judgments are:

Merchandise Inventories - Merchandise inventories are stated at the lower of cost or market using the first-in, first-out (FIFO) method. In determining market value, we estimate the future sales price of items of merchandise contained in the inventory as of the balance sheet date. Factors considered in this determination include, among others, current and recently recorded sales prices, the length of time product has been held in inventory and quantities of various product styles contained in inventory. The ultimate amount realized from the sale of certain product could differ materially from our estimates. We also estimate a shrinkage reserve for the period between the last physical count and the balance sheet date. The estimate for the shrinkage reserve can be affected by changes in merchandise mix and changes in actual shrinkage trends.

Valuation of Long-Lived Assets - We review long-lived assets whenever events or circumstances indicate the carrying value of an asset may not be recoverable and annually when no such event has occurred. We evaluate the ongoing value of assets associated with retail stores that have been open longer than one year. When events such as these occur, the assets subject to impairment are adjusted to estimated fair value and, if applicable, an impairment loss is recorded in selling, general and administrative expenses. Our assumptions and estimates used in the evaluation of impairment, including current and future economic trends for stores, are subject to a high degree of judgment and if actual results or market conditions differ from those anticipated, additional losses may be recorded.

Income Taxes - We calculate income taxes in accordance with SFAS No. 109, "Accounting for Income Taxes" ("SFAS No. 109") and account for uncertain tax positions in accordance with Interpretation No. 48, "Accounting for Uncertainty in Income Taxes - an interpretation of Financial Accounting Standards Board ("FASB") Statement No. 109" ("FIN 48"). Under SFAS No. 109, deferred tax assets and liabilities are recognized based on the difference between the consolidated financial statement carrying amounts of existing assets and liabilities and their respective tax basis. Deferred tax assets and liabilities are measured using the estimated tax rates in effect in the years when those temporary differences are expected to reverse. Under FIN 48, we are required to make many subjective assumptions and judgments regarding our income tax exposures. Interpretations of and guidance surrounding income tax laws and regulations are often complex, ambiguous and change over time. As such, changes in our subjective assumptions and judgments can materially affect amounts recognized in the consolidated financial statements.

Insurance Reserves - We use a combination of self-insurance and third-party insurance for workers' compensation, employee medical and general liability insurance. These plans have stop-loss provisions that protect us from individual and aggregate losses over specified dollar values. When estimating our self-insured liabilities, we consider a number of factors, including historical claims experience, severity factors, statistical trends and, in certain instances, valuation assistance provided by independent third-parties. We will continue to evaluate our self-insured liabilities and the underlying assumptions on a quarterly basis and make adjustments as needed. The ultimate cost of these claims may be greater than or less than the established accruals. While we believe that the recorded amounts are adequate, there can be no assurance that changes to management's estimates will not occur due to limitations inherent in the estimating process. In the event we determine an accrual should be increased or reduced, we will record such adjustments in the period in which such determination is made.

Results of Operations Summary Information

                               Number of Stores                  Store Square Footage
                    Beginning                        End of       Net            End         Comparable
Quarter Ended       Of Period    Opened    Closed    Period      Change       of Period     Store Sales
May 2, 2009           304         10         1        313          78,000      3,413,000       (0.3 )%
May 3, 2008           291          2         0        293          16,000      3,254,000       (4.9 )%

Comparable store sales for the periods indicated include stores that have been open for 13 full months prior to the beginning of the period, including those stores that have been relocated or remodeled. Therefore, stores opened or closed during the periods indicated are not included in comparable store sales.

The following table sets forth our results of operations expressed as a percentage of net sales for the periods indicated:

                                            Thirteen        Thirteen
                                          Weeks Ended     Weeks Ended
                                          May 2, 2009     May 3, 2008
Net sales                                      100.0 %         100.0 %
Cost of sales (including buying,
    distribution and occupancy costs)           72.1            71.0
Gross profit                                    27.9            29.0
Selling, general and
     administrative expenses                    24.0            24.2
Operating income                                 3.9             4.8
Interest (income) expense, net                   0.0             0.0
Income before income taxes                       3.9             4.8
Income tax expense                               1.4             1.8
Net income                                       2.5 %           3.0 %

Operational Summary

We experienced stronger than anticipated sales during the month of February and although the last two months of the quarter did not result in a combined comparable store sales gain, our early quarter performance was strong enough to limit the decline in comparable sales to just 0.3% for the quarter. Comparable store sales performance was driven largely by athletic footwear, including both children's and adult sizes, which recorded a mid-single digit increase for the quarter.

Our customers continued to react to value pricing of our adult dress and casual product, especially during the clearance period of February through early March. The decline in our gross profit margin during the first quarter of fiscal 2009 was a direct result of this aggressive liquidation within our non-athletic categories. However, this did enable us to reduce inventory levels and end the quarter with per-store inventories down 8.4% as compared to the first quarter of fiscal 2008.

We were able to leverage our buying, distribution and occupancy costs, as well as our selling, general and administrative expenditures. Through the efforts of our store-level, distribution center and administrative management groups, total dollar increases in these areas of expense were held to a minimum.

As we look forward, we recognize our targeted middle income customer will continue to be impacted by the economic downturn and sales within the retail sector may continue to experience downward pressure. Therefore, we will continue to manage our business conservatively, maintaining tight control over both our inventories and our cost structure through the remainder of fiscal 2009.

Net Sales

Net sales increased $5.2 million to $167.3 million during the first quarter of fiscal 2009, a 3.2% increase over the prior year's net sales of $162.1 million. The increase in net sales was primarily due to a $9.4 million increase in sales generated by the 34 new stores opened since the beginning of fiscal 2008. This increase was partially offset by a 0.3% decrease in comparable store sales and the loss of sales from the 12 stores closed since the beginning of fiscal 2008.

Gross Profit

Gross profit decreased $440,000 to $46.6 million in the first quarter of fiscal 2009 from gross profit of $47.1 million in the comparable prior year period. Gross margins for the first quarter of 2009 decreased 1.1% over the same period last year to 27.9%. The merchandise margin decreased 1.3% primarily due to the aggressive liquidation efforts we undertook during the quarter to significantly lower our per-store inventories in women's footwear. We were able to leverage buying, distribution and occupancy costs, as a percentage of sales, by 0.2% and to limit the total dollar increase to approximately $305,000. This increase in expense was primarily related to the additional occupancy costs incurred for the operation of our new stores. The increase was partially offset by rent reductions on certain comparable stores, the elimination of rent from the stores closed since the beginning of fiscal 2008 and, to a lesser extent, other cost savings initiatives in our buying and distribution functions.

Selling, General and Administrative Expenses

Selling, general and administrative expenses increased $733,000 in the first quarter of fiscal 2009 to $40.1 million, but as a percentage of sales decreased 0.2% to 24.0%. The increase in expense was primarily the result of the $1.6 million of additional cost incurred from the operation and support of the net new stores opened since the beginning of fiscal 2008, along with a $594,000 increase in self-insured health care costs resulting predominantly from several large medical claims. In addition to our continued focus on expense control and the resulting savings, these increases were partially offset by a reversal of $653,000 in stock-based compensation expense related to the reduction in the number of performance-based restricted shares anticipated to vest prior to their expiration.

Pre-opening costs were $481,000, or 0.3% of sales, for the first quarter of fiscal 2009 as compared to $34,000, or less than 0.1% of sales, for the first quarter of fiscal 2008. We opened ten stores in the first quarter of fiscal 2009 as compared to two stores in the first quarter of fiscal 2008. Pre-opening costs, such as advertising, payroll and supplies, incurred prior to the opening of a new store are charged to expense in the period they are incurred. The total amount of pre-opening expense incurred will vary on a store-by-store basis depending on the specific market and the promotional activities involved.

Interest (Income) Expense, Net

We recorded net interest expense of $39,000 in the first quarter of fiscal 2009 as compared to net interest income of $4,000 in the first quarter of the prior year.

Income Taxes

The effective income tax rate for the first quarter of fiscal 2009 decreased to 36.9% from 38.4% for the same time period in fiscal 2008.

Liquidity and Capital Resources

Our primary sources of funds are cash flows from operations and borrowings under our revolving credit facility. Our net cash used in operating activities was $1.5 million in the first quarter of fiscal 2009 as compared to cash provided by operations of $3.0 million in the first quarter of 2008. The change in operating cash flow, when comparing the two periods of each year, was primarily driven by our aggressive management of inventory levels partially offset by the timing of payments for accounts payable and accrued liabilities.

We expended $3.2 million in cash during the first quarter of fiscal 2009 for the purchase of property and equipment, of which $2.9 million was for new stores.

During the first quarter of fiscal 2009, we opened ten new stores and we anticipate opening an additional five stores through the end of the year. Additional capital expenditures of approximately $6 million to $9 million will be made over the remainder of fiscal 2009, with $1 million to $3 million of this representing our anticipated investment in the remediation of our distribution center. The remaining capital expenditures will be incurred for the opening of new stores, store remodels and various other store improvements, along with continued investments in technology and normal asset replacement activities. We currently anticipate receiving an additional $1.0 million in landlord incentives through the end of fiscal 2009. The actual amount of cash required for capital expenditures for store operations depends in part on the number of new stores opened, the amount of lease incentives, if any, received from landlords and the number of stores remodeled. The opening of new stores will be dependent upon, among other things, the availability of desirable locations, the negotiation of acceptable lease terms and general economic and business conditions affecting consumer spending in areas we target for expansion.

Our current store prototype uses between 8,000 and 12,000 square feet depending upon, among other factors, the location of the store and the population base the store is expected to service. Capital expenditures for a new store in fiscal 2009 are expected to average approximately $338,000. The average inventory investment in a new store is expected to range from $350,000 to $500,000 depending on the size and sales expectation of the store and the timing of the new store opening. Pre-opening expenses, such as advertising, salaries and supplies, are expected to average approximately $62,000 per store in fiscal 2009.

We closed one store in the first quarter of fiscal 2009 and expect to close nine stores during the remainder of fiscal 2009. In connection with the 10 stores we plan on closing in fiscal 2009, we expect to incur $400,000 in store closing costs of which $140,000 was incurred during the first quarter. We will continue to evaluate under performing stores for possible closing on a routine basis, which may result in the identification of additional store closings for the current or future fiscal years. The timing and actual amount of expense recorded in closing a store can vary significantly on a store-by-store basis depending in part on the period in which management commits to a closing plan, the remaining basis in the fixed assets to be disposed of at closing and the amount of any lease buyout.

As of May 2, 2009, our unsecured credit agreement provided for up to $95.0 million in cash advances on a revolving basis and commercial and standby letters of credit. Borrowings under the revolving credit line are based on eligible inventory and the following covenants: (1) Total Shareholders' Equity, adjusted for the effect of any share repurchases, will not fall below that of the prior fiscal year-end; (2) the ratio of funded debt plus rent to EBITDA plus rent will not exceed 2.5 to 1.0; (3) total distributions for stock repurchases will not exceed $50.0 million; and (4) cash dividends will not reduce our Total Shareholders' Equity, adjusted for the effect of any share repurchases, below that of the prior fiscal year-end. We were in compliance with these covenants as of May 2, 2009. Should a default condition be reported, the lenders may preclude additional borrowings and call all loans and accrued interest at their discretion. As of May 2, 2009, there were no borrowings outstanding and letters of credit outstanding were $3.9 million. The amount available to us for additional borrowings was $87.8 million as of May 2, 2009.

Our $50.0 million share repurchase program will terminate on December 31, 2009, unless extended by our Board of Directors. Share repurchases under this authorization may be made in the open market or in privately negotiated transactions. The timing and actual number of shares repurchased will depend on a variety of factors including price, corporate and regulatory requirements and other market conditions. As of May 2, 2009, approximately 1.2 million shares had been repurchased at an aggregate cost of $28.1 million. The amount that remained available under the existing repurchase authorization at May 2, 2009 was $21.9 million. No shares were repurchased during the first quarter of fiscal 2009.

On May 30, 2009, the parties entered into a settlement of the above matter. Under the terms of the settlement, SDI agreed to pay us $1.2 million towards the remediation of the distribution center's material handling system and to forego collection of the $1.2 million in unpaid retainage. In addition, both parties agreed to the dismissal of all pending litigation currently under arbitration. The $1.2 million will be paid in installments over seven years and is evidenced by a promissory note secured by a security interest in SDI's accounts receivable and by a standby letter of credit, renewable annually, in an amount not less than $200,000.

Although the investment we made in the distribution center will satisfy our distribution needs throughout fiscal 2009, we have not achieved the productivity that we expect will be required based on our plan for long-term store growth. We have contracted with a company to provide recommendations as to system upgrades to improve throughput. Modifications in the range of $1 million to $3 million are expected to be complete prior to the end of fiscal 2009.

We anticipate that our existing cash and cash flow from operations, supplemented by borrowings under our revolving credit line, will be sufficient to fund our planned store expansion along with other capital expenditures, any future repurchase of our common stock under our current repurchase plan and working capital requirements for at least the next 12 months.

Seasonality

Our quarterly results of operations have fluctuated and are expected to continue to fluctuate in the future primarily as a result of seasonal variances and the timing of sales and costs associated with opening new stores. Non-capital expenditures, such as advertising and payroll, incurred prior to opening a new store are charged to expense as incurred. Therefore, our results of operations may be adversely affected in any quarter in which we incur pre-opening expenses related to the opening of new stores.

We have three distinct peak selling periods: Easter, back-to-school and Christmas.

New Accounting Pronouncements

Recent accounting pronouncements applicable to our operations are contained in Note 3 - "Recently Issued Accounting Pronouncements" contained in the Notes to Condensed Consolidated Financial Statements included in PART I, ITEM 1. FINANCIAL STATEMENTS of this Quarterly Report on Form 10-Q.