UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

FORM 10-Q

QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the quarterly period ended January 31, 2008

Commission File Number 1-04129

Zale Corporation

A Delaware Corporation

IRS Employer Identification No. 75-0675400

901 W. Walnut Hill Lane

Irving, Texas 75038-1003

(972) 580-4000

Zale Corporation (1) has filed all reports required to be filed by Section 13 or 15 (d) of the Securities Exchange Act of 1934, as amended, during the preceding 12 months, and (2) has been subject to such filing requirements for the past 90 days.

Zale Corporation is a large accelerated filer.

Zale Corporation is not a shell company.

As of February 29, 2008, 42,745,985 shares of Zale Corporation’s Common Stock, par value $.01 per share, were outstanding.

ZALE CORPORATION AND SUBSIDARIES

Index

PART I.   FINANCIAL INFORMATION

Item 1.  Financial Statements

ZALE CORPORATION AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF OPERATIONS

(In thousands, except per share amounts)

(Unaudited)

See notes to consolidated financial statements.

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ZALE CORPORATION AND SUBSIDIARIES

CONSOLIDATED BALANCE SHEETS

(In thousands)

(Unaudited)

See notes to consolidated financial statements.

2

ZALE CORPORATION AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF CASH FLOWS

(In thousands)

(Unaudited)

See notes to consolidated financial statements.

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ZALE CORPORATION AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

1.  BASIS OF PRESENTATION

References to “the Company,” “we,” “us,” and “our” in this Form 10-Q are references to Zale Corporation and its subsidiaries.  We are, through our wholly owned subsidiaries, a leading specialty retailer of fine jewelry in North America. As of January 31, 2008, we operated 1,401 specialty retail jewelry stores and 766 kiosk locations primarily in shopping malls throughout the United States of America, Canada and Puerto Rico.  We report our operations under three segments: Fine Jewelry, Kiosk Jewelry and All Other.

Our Fine Jewelry segment is comprised of five brands: Zales Jewelers®; Zales Outlet®; Gordon’s Jewelers®; Peoples Jewellers®; and Mappins Jewellers®; and our e-commerce businesses which include zales.com and gordonsjewelers.com.

The Kiosk Jewelry segment operates primarily under the brand names Piercing Pagoda®; Plumb Gold™; and Silver and Gold Connection®.

The All Other segment includes insurance and reinsurance operations.

We consolidate substantially all of our U.S. and Puerto Rican operations into Zale Delaware, Inc. (“ZDel”), a wholly owned subsidiary of Zale Corporation.  ZDel is the parent company for several subsidiaries, including three that are engaged primarily in providing credit insurance to our credit customers.  We consolidate our Canadian retail operations into Zale International, Inc., which is a wholly owned subsidiary of Zale Corporation.  All significant intercompany transactions have been eliminated.  The consolidated financial statements are unaudited and have been prepared by the Company in accordance with accounting principles generally accepted in the United States of America for interim financial information.  Accordingly, they do not include all of the information and footnotes required by generally accepted accounting principles for complete financial statements.  In management’s opinion, all material adjustments and disclosures necessary for a fair presentation have been made.  The accompanying consolidated financial statements should be read in conjunction with the audited consolidated financial statements and related notes thereto included in the Company’s Form 10-K for the fiscal year ended July 31, 2007.

Certain prior year amounts in the accompanying consolidated financial statements have been reclassified to conform with fiscal year 2008 classifications.

2.  EARNINGS PER COMMON SHARE

Basic earnings per common share is computed by dividing income available to common stockholders by the weighted average number of common shares outstanding for the reporting period.  Diluted earnings per share reflect the potential dilution that could occur if securities or other contracts to issue common stock were exercised or converted into common stock.  For the calculation of diluted earnings per share, the basic weighted average number of shares is increased by the dilutive effect of stock options and restricted share awards determined using the treasury stock method.  We had approximately 2.9 million and 1.7 million stock options outstanding at January 31, 2008 and 2007, respectively, that were not included in the diluted earnings per share calculation because the effect would have been antidilutive.

3.  COMPREHENSIVE INCOME

Comprehensive income is net earnings plus certain other items that are recorded directly to stockholders’ investment and consist of currency translation adjustments and unrealized gains and losses related to investments classified as available-for-sale.  Comprehensive income was $49.2 million and $80.6 million for the three months ended January 31, 2008 and 2007, respectively, and $42.6 million and $55.5 million for the six months ended January 31, 2008 and 2007, respectively.

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4.  DISPOSITION OF BAILEY BANKS & BIDDLE

In September 2007, we entered into a definitive agreement to sell substantially all of the assets and certain liabilities related to the Bailey Banks & Biddle brand.  The assets consisted primarily of inventory and property and equipment totaling approximately $190 million and $28 million, respectively.  The sale was completed on November 9, 2007 and resulted in a pre-tax gain of approximately $13 million, which includes a $24.7 million reduction in the last-in, first-out provision resulting from the liquidation of the Bailey Banks & Biddle inventory.  The decision to sell was a result of our strategy to focus on our moderately priced business and our continued focus on maximizing return on investments.  We have reported the results of operations of Bailey Banks & Biddle as discontinued operations, which consist of the following (in thousands):

5.  SEGMENTS

We report our business under three operating segments:  Fine Jewelry, Kiosk Jewelry and All Other.  We group our brands into segments based on the similarities in commodity characteristics of the merchandise and the product mix.  The All Other segment includes insurance and reinsurance operations.  Segment revenues are not provided by product type or geographically as we believe such disclosure would not add value and is not consistent with the manner in which we make decisions.

Operating earnings for segments in continuing operations are calculated before unallocated corporate overhead, interest and taxes but include an internal charge for inventory carrying cost to evaluate segment profitability.  Unallocated costs are before income taxes and include corporate employee-related costs, administrative costs, information technology costs, corporate facilities costs and depreciation and amortization.

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(a) Includes $130.4 and $111.0 million for the three month periods ended January 31, 2008 and 2007, respectively, and $184.1 and $153.7 million for the six month periods ended January 31, 2008, respectively, related to foreign operations.

(b) Includes $2.5 million for the three month period ended January 31, 2007 and $4.6 million for the six month period ending January 31, 2007, related to foreign operations.

(c) Includes $19.2 and $18.3 million for the three month periods ended January 31, 2008 and 2007, and $35.8 and $33.9 for the six month periods ended January 31, 2008 and 2007, respectively, to offset internal carrying costs charged to segments and $1.3 million for the three month period ended January 31, 2007 related to gains on derivatives settled and $7.2 million for the six month period ending January 31, 2007 related to losses on derivatives settled.

Income tax information by segment has not been included as taxes are calculated on a consolidated basis and not allocated to each segment.

6.  TAXES

Effective August 1, 2007, we adopted the provisions of the Financial Accounting Standards Board’s Interpretation No. 48, “Accounting for Uncertainty in Income Taxes” (“FIN 48”).  As a result of the adoption of FIN 48 in the first quarter fiscal 2008, we recognized a decrease of $603,000 in the liability for unrecognized tax benefits, net of the federal deferred tax benefit, with a corresponding increase to accumulated earnings.

We file income tax returns in the U.S. federal jurisdiction in various states and in certain foreign jurisdictions.  We are no longer subject to U.S. federal examinations by tax authorities for fiscal years before July 31, 2004.  We are subject to audit by taxing authorities of most states and certain foreign countries and are subject to examination by these taxing jurisdictions for fiscal years generally after July 31, 2003.

The total amount of unrecognized tax benefits as of July 31, 2007 was $4.6 million, of which $3.1 million would favorably affect the effective tax rate if resolved in our favor due to the effect of deferred tax benefits.  Over the next twelve months, management anticipates that it is reasonably possible that the amount of unrecognized tax benefits could be reduced by approximately $428,000, either because our tax position will be sustained upon audit or as a result of the expiration of the statute of limitations for specific jurisdictions.  Of this possible reduction, $278,000 would affect the effective tax rate due to the effect of deferred tax benefits.

We recognize accrued interest and penalties related to unrecognized tax benefits within our income tax expense.  We had $1.1 million of interest and penalties accrued at July 31, 2007.

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7.  CONTINGENCIES

In connection with the sale of the Bailey Banks & Biddle brand on November 9, 2007, we assigned the buyers the obligations for the store operating leases.  As a condition of this assignment, we remain contingently liable for the leases for the remainder of the respective current lease terms, which generally range from fiscal 2008 through fiscal 2017.  The maximum potential liability under the leases totals approximately $89 million.

See Note 12 to the consolidated financial statements in Item 8 of our Form 10-K for information relating to certain litigation matters.

On February 29, 2008, a Stipulation and Settlement Agreement was filed in In re Zale Corporation Securities Litigation that will result in the dismissal of that litigation without any cost to Zale Corporation, subject to approval by the court and the possible appeal of that approval.

We are involved in a number of other legal and governmental proceedings as part of the normal course of our business.  Reserves have been established based on management’s best estimates of our potential liability in these matters.  These estimates have been developed in consultation with internal and external counsel and are based on a combination of litigation and settlement strategies.  Management believes that such litigation and claims will be resolved without material effect on our financial position or results of operations.

8.  DEFERRED REVENUE

We offer our customers lifetime warranties on certain products that cover sizing and breakage with an option to purchase theft protection.  The revenue from the lifetime warranties is recognized on a straight-line basis over a five-year period.  The change in deferred revenue from continuing operations associated with the sale of warranties is as follows (in thousands):

9.  STOCK REPURCHASE PROGRAM

In November 2007, the Board of Directors approved a stock repurchase program of up to $200 million.  As part of the stock repurchase program, we entered into an accelerated share repurchase agreement (“ASR”) for $100 million, or approximately 6 million shares of our common stock, and a Rule 10b5-1 plan under which we may repurchase approximately 2 million shares of our common stock.  In November 2007, the counterparty delivered 4.3 million shares to us under the ASR.  The remaining shares will be delivered within 4.5 months from November 21, 2007, the initial execution date of the ASR.  Upon completion, the ASR is subject to a price adjustment based on the volume weighted average share price over a period of up to 4.5 months, minus a discount.  We may elect, at our option, to settle the price adjustment in shares or cash.  During the second quarter of fiscal 2008, we repurchased $23.6 million, or 1.5 million shares of our common stock under the 10b5-1 plan.  As of January 31, 2008, approximately $76 million was available under our stock repurchase program.

10.  SUBSEQUENT EVENT

In February 2008, we announced a program designed to enhance our profitability and improve overall effectiveness.  The program consists of organizational streamlining, primarily involving a reduction in headquarters staff, a reduction in planned capital spending, continued optimization of our store portfolio including the closure of certain underperforming stores and a reduction in inventory.  The program costs, including approximately $2 million of severance-related benefits, is estimated to be less than $4 million before taxes and will be primarily incurred in the third quarter of fiscal 2008.

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Item 2.

MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

This discussion and analysis should be read in conjunction with the unaudited consolidated financial statements of the Company (and the related notes thereto) which preceded this report and the audited consolidated financial statements of the Company (and the related notes thereto) and Management’s Discussion and Analysis of Financial Condition and Results of Operations in the Company’s Form 10-K for the fiscal year ended July 31, 2007.

Overview

We are a leading specialty retailer of fine jewelry in North America.  At January 31, 2008, we operated 1,401 fine jewelry stores and 766 kiosk locations primarily in shopping malls throughout the United States of America, Canada and Puerto Rico.  Our operations are divided into three business segments:  Fine Jewelry, Kiosk Jewelry and All Other.

The Fine Jewelry segment focuses on diamond product, but differentiates its five brands through merchandise assortments and marketing.  The Kiosk Jewelry segment reaches the opening price point of fine jewelry customers primarily through mall-based kiosks in the United States of America under the name Piercing Pagoda^®.  The All Other segment consists primarily of our insurance operations, which provide insurance and reinsurance facilities for various types of insurance coverage offered primarily to our private label credit card customers.

During the second quarter of fiscal 2008, we were disappointed in our sales and earnings results.   Despite weaker consumer spending and a lack of mall traffic, we believe that better execution across all of our initiatives will help drive long-term shareholder value.  Our strategy is concentrated in three areas which include (1) a focus on our value-oriented customer by providing clarity and simplicity associated with our merchandise presentation and marketing message as well as improved training for our sales associates, (2) enhancing our operational effectiveness to ensure that our people and processes are aligned and focused on providing outstanding products, service and value to our customers and (3) maintaining financial discipline with a continued focus on free cash flow generation and prudent use of capital.

As part of our strategy to enhance operating effectiveness, we have developed a program designed to improve profitability and overall effectiveness.  The key elements of the program include:

·                Estimated $65 plus million in ongoing annualized savings;

·                Organizational streamlining, primarily involving a reduction of the headquarters staff by approximately 20%;

·                Anticipated total program cost, including severance-related benefits, of less than $4 million before taxes;

·                A reduction of planned capital spending from an expected $85 million in fiscal 2008 to approximately $45 million in fiscal 2009;

·                Continued optimization of our store portfolio, including the closure of an additional 23 underperforming locations, bringing the total number of planned closures to approximately 55 stores and 50 kiosks in fiscal 2008; and,

·                A $100 million reduction in inventory in fiscal 2008.

In September 2007, we entered into a definitive agreement to sell substantially all of the assets and certain liabilities related to the Bailey Banks & Biddle brand.  The assets consisted primarily of inventory and property and equipment totaling approximately $190 million and $28 million, respectively.  The sale was completed on November 9, 2007 and resulted in a pre-tax gain of approximately $13 million.  The decision to sell was a result of our strategy to focus on our moderately priced business and our continued focus on maximizing return on investments.

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In November 2007, the Board of Directors approved a stock repurchase program of up to $200 million.  As part of the stock repurchase program, we entered into an accelerated share repurchase agreement (“ASR”) for $100 million, or approximately 6 million shares of our common stock, and a Rule 10b5-1 plan under which we may repurchase approximately 2 million shares of our common stock.  In November 2007, the counterparty delivered 4.3 million shares to us under the ASR.  The remaining shares will be delivered within 4.5 months from November 21, 2007, the initial execution date of the ASR.  Upon completion, the ASR is subject to a price adjustment based on the volume weighted average share price over a period of up to 4.5 months, minus a discount.  We may elect, at our option, to settle the price adjustment in shares or cash.  During the second quarter of fiscal 2008, we repurchased $23.6 million or 1.5 million shares of our common stock under the 10b5-1 plan.  We intend to complete the $200 million stock repurchase program through the remainder of fiscal year 2008.  As of January 31, 2008, approximately $76 million was available under our stock repurchase program.

Comparable store sales include internet sales and exclude revenue recognized from warranties and insurance premiums related to credit insurance policies sold to customers who purchase merchandise under our proprietary credit program.  The sales results of new stores are included beginning their thirteenth full month of operation. The results of stores that have been relocated, renovated or refurbished are included in the calculation of comparable store sales on the same basis as other stores.  However, stores closed for more than 90 days due to unforeseen events (hurricanes, etc.) are excluded from the calculation of comparable store sales.

From time to time, we include non-GAAP measurements of financial information in Management’s Discussion and Analysis of Financial Condition and Results of Operations, including information relating to the lifetime warranties we began selling during the second quarter of fiscal year 2007. We use these measurements as part of our evaluation of the performance of the Company. In addition, we believe these measures provide useful information to investors, particularly in evaluating the performance of the Company in the current fiscal year as compared to prior periods.

Results of Operations

The following table sets forth certain financial information from our unaudited consolidated statements of operations expressed as a percentage of total revenues.

Three Months Ended January 31, 2008 Compared to Three Months Ended January 31, 2007

Revenues.  Revenues for the quarter ended January 31, 2008 were $827.8 million, a decrease of 7.1 percent compared to revenues of $891.5 million for the same period in the prior year. Comparable store sales decreased 7.3 percent as compared to the same period in the prior year.  The decline in comparable store sales was driven primarily by an approximately 10 percent decrease in the number of customer transactions, partially offset

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by an increase in the average transaction price.  The decline was also partially the result of a decrease in revenues recognized related to lifetime warranties of $2.5 million.  In the second quarter of fiscal year 2007, we changed our warranty offering to customers from a two-year coverage plan to a lifetime warranty.  While revenues recognized have decreased, sales related to warranties have increased compared to the same period in the prior year.

The Fine Jewelry segment contributed $735.1 million of revenues in the quarter ended January 31, 2008, compared to $785.5 million for the same period in the prior year, representing a decrease of 6.4 percent.

Revenues include $89.9 million in the Kiosk Jewelry segment compared to $102.8 million in the prior year, representing a decrease of 12.6 percent.  The decrease relates primarily to a decline in the number of open stores from 882 to 766 as of January 31, 2007 and 2008, respectively.

The All Other segment operations provided $2.9 million in revenues for the quarter ended January 31, 2008 as compared to $3.2 million for the same period in the prior year, for a decrease of 9.2 percent.

During the quarter ended January 31, 2008, we opened 10 stores in the Fine Jewelry segment.  In addition, we closed 20 stores in the Fine Jewelry segment and 26 locations in the Kiosk Jewelry segment during the quarter.

Cost of Sales.  Cost of sales includes cost of merchandise sold, as well as receiving and distribution costs.  Cost of sales as a percentage of revenues was 50.7 percent for the quarter ended January 31, 2008, compared to 48.5 percent for the same period in the prior year.  The increase primarily relates to a 140 basis point charge resulting from the decision to liquidate certain discontinued and damaged inventory in lieu of refurbishing and selling the inventory through store channels, a 60 basis point charge associated with excess inventory and a decline in revenues recognized associated with lifetime warranties.

Selling, General and Administrative.  Included in selling, general and administrative (“SG&A”) are store operating, advertising, buying and general corporate overhead expenses.  SG&A was 36.7 percent of revenues for the quarter ended January 31, 2008 compared to 35.4 percent for the same period in the prior year.  The increase relates primarily to a decrease in sales leverage compared to the same period of the prior year and the 10 basis point impact of the decline in revenues recognized associated with lifetime warranties.

Depreciation and Amortization.  Depreciation and amortization as a percentage of revenues for the quarter ended January 31, 2008 and 2007 was 1.8 percent and 1.6 percent, respectively.  The increase relates primarily to a decrease in sales leverage.

Derivative Gain.  During the quarter ended January 31, 2007, we recognized a derivative gain in the amount of $1.3 million.  As of January 31, 2008, there were no outstanding forward contracts.

Interest Expense.  Interest expense as a percentage of revenues for the quarters ended January 31, 2008 and 2007 was 0.4 percent and 0.6 percent, respectively.  The decrease in interest expense was a result of a decrease in the weighted average effective interest rate from 6.9 percent last year to 6.4 percent this year and decreased borrowings compared to the same period in the prior year.

Income Tax Expense.  The effective tax rate for the quarters ended January 31, 2008 and 2007 was 37.7 percent and 37.4 percent, respectively. The increase is primarily attributable to an increase in the state effective tax rate as a result of lower earnings compared to the same period of the prior year.  The increase was partially offset as a result of a decision made in the fourth quarter of fiscal year 2007 to indefinitely reinvest certain undistributed foreign earnings outside of the U.S. in accordance with Accounting Principles Board No. 23, “Accounting for Income Taxes-Special Areas” (“APB 23”).

Six Months Ended January 31, 2008 Compared to Six Months Ended January 31, 2007

Revenues.  Revenues for the six months ended January 31, 2008 were $1,205.1 million, a decrease of 5.4 percent compared to revenues of $1,273.9 million for the same period in the prior year. Comparable store sales decreased 5.1 percent as compared to the same period in the prior year.  The decline in comparable store sales was driven primarily by an approximately 8 percent decrease in the number of customer transactions, partially offset by

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an increase in the average transaction price.  The decline was also partially the result of a decrease in revenues recognized related to lifetime warranties of $8.6 million.  While revenues recognized have decreased, sales related to warranties have increased compared to the same period in the prior year.

The Fine Jewelry segment contributed $1,060.8 million of revenues in the six months ended January 31, 2008, compared to $1,111.9 million for the same period in the prior year, representing a decrease of 4.6 percent.

Revenues include $138.3 million in the Kiosk Jewelry segment compared to $155.3 million in the prior year, representing a decrease of 10.9 percent.  The decrease relates primarily to a decline in the number of open stores from 882 to 766 as of January 31, 2007 and 2008, respectively.

The All Other segment operations provided $6.0 million in revenues for the six months ended January 31, 2008 as compared to $6.7 million for the same period in the prior year, representing a decrease of 9.5 percent.

During the six months ended January 31, 2008, we opened 22 stores in the Fine Jewelry segment and 4 kiosks in the Kiosk Jewelry segment.  In addition, we closed 22 stores in the Fine Jewelry segment and 31 locations in the Kiosk Jewelry segment during the six month period.

Cost of Sales.  Cost of sales includes cost of merchandise sold, as well as receiving and distribution costs.  Cost of sales as a percentage of revenues was 49.7 percent for the six months ended January 31, 2008, compared to 48.1 percent for the same period in the prior year.  The increase relates to a 120 basis point charge resulting from the decision to liquidate certain discontinued and damaged inventory in lieu of refurbishing and selling the inventory through store channels, a 40 basis point increase in charges associated with excess inventory and a decline in revenues recognized associated with lifetime warranties.

Selling, General and Administrative.  Included in SG&A are store operating, advertising, buying and general corporate overhead expenses.  SG&A was 43.4 percent of revenues for the six months ended January 31, 2008 compared to 41.5 percent for the same period in the prior year.  The increase primarily relates to a decrease in sales leverage compared to the same period in the prior year and the 30 basis point impact of the decline in revenues recognized associated with lifetime warranties.

Depreciation and Amortization.  Depreciation and amortization as a percentage of revenues for the six months ended January 31, 2008 and 2007 was 2.5 percent and 2.2 percent, respectively.  The increase relates primarily to a decrease in sales leverage.

Derivative Loss.  During the six months ended January 31, 2007, we recognized a derivative loss in the amount of $7.2 million.  As of January 31, 2008, there were no outstanding forward contracts.

Interest Expense.  Interest expense as a percentage of revenues for the six months ended January 31, 2008 and 2007 was 0.6 percent and 0.9 percent, respectively.  The decrease in interest expense was a result of a decrease in the weighted average effective interest rate from 6.8 percent last year to 6.4 percent this year and decreased borrowings compared to the same period in the prior year.

Income Tax Expense.  The effective tax rate for the six months ended January 31, 2008 and 2007 was 38.4 percent and 37.5 percent, respectively. The increase is primarily attributable to an increase in the state effective tax rate as a result of lower earnings compared to the same period of the prior year.  The increase was partially offset as a result of a decision made in the fourth quarter of fiscal year 2007 to indefinitely reinvest certain undistributed foreign earnings outside of the U.S. in accordance with APB 23.

Liquidity and Capital Resources

Our cash requirements consist primarily of funding ongoing operations, including seasonal inventory requirements, capital expenditures for new stores, renovations of existing stores, upgrades to our information technology systems and distribution facilities, share repurchases and debt service.

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Net cash provided by operating activities of continuing operations improved from $8.4 million for the six months ended January 31, 2007 to $18.6 million for the six months ended January 31, 2008.  The increase is due to a decrease in purchased inventory of $98.3 million and an $18.5 million increase in net cash received related to deferred revenues for lifetime warranties.  The increase was partially offset by a $66.0 decrease in outstanding accounts payable and accrued liabilities and a $29.2 million decrease in net earnings.

Our business is highly seasonal, with a disproportionate amount of sales (approximately 41 percent) and substantially all of our operating income occurring in November and December of each year, the Holiday season.  Other important periods include Valentine’s Day and Mother’s Day.  We purchase inventory in anticipation of these periods and, as a result, have higher inventory and inventory financing needs immediately prior to these periods.  Our maximum inventory level typically occurs prior to the Holiday season.  Owned inventory at January 31, 2008 and January 31, 2007 was $949.4 million and $1,118.2 million, respectively.  The decrease in inventory in fiscal 2008 is due to the disposition of Bailey Banks & Biddle in November 2007.

Our cash requirements are funded through cash flows from operations, funds available under our revolving credit facilities and vendor payment terms.  Under our U.S. and Canadian revolving credit facilities we may borrow up to $500 million and CAD $30 million, respectively.  In addition, the U.S. agreement provides for increased seasonal borrowing capabilities of up to $100 million and contains an accordion feature that allows us to permanently increase the facility size in $25 million increments up to another $100 million. Vendor purchase order terms typically require payment within 60 days.

In February 2008, we announced a program designed to improve profitability and overall effectiveness.  The key elements of the program include:

·                Estimated $65 plus million in ongoing annualized savings;

·                Organizational streamlining, primarily involving a reduction of the headquarters staff by approximately 20%;

·                Anticipated total program cost, including severance-related benefits, of less than $4 million before taxes;

·                A reduction of planned capital spending from an expected $85 million in fiscal 2008 to approximately $45 million in fiscal 2009;

·                Continued optimization of our store portfolio, including the closure of an additional 23 underperforming locations, bringing the total number of planned closures to approximately 55 stores and 50 kiosks in fiscal 2008; and,

·                A $100 million reduction in inventory in fiscal 2008.

In September 2007, we entered into a definitive agreement to sell substantially all of the assets and certain liabilities related to the Bailey Banks & Biddle brand.  The assets consisted primarily of inventory and property and equipment totaling approximately $190 million and $28 million, respectively.  The sale was completed on November 9, 2007 and resulted in a pre-tax gain of approximately $13 million.  The decision to sell was a result of our strategy to focus on our moderately priced business and our continued focus on maximizing return on investments.

In November 2007, the Board of Directors approved a stock repurchase program of up to $200 million.  As part of the stock repurchase program, we entered into an ASR agreement for $100 million, or approximately 6 million shares of our common stock, and a Rule 10b5-1 plan under which we may repurchase approximately 2 million shares of our common stock.  In November 2007, the counterparty delivered 4.3 million shares to us under the ASR.  The remaining shares will be delivered within 4.5 months from November 21, 2007, the initial execution date of the ASR.  Upon completion, the ASR is subject to a price adjustment based on the volume weighted average share price over a period of up to 4.5 months, minus a discount.  We may elect, at our option, to settle the price adjustment in shares or cash.  During the second quarter of fiscal 2008, we repurchased $23.6 million or 1.5 million shares of our common stock under the 10b5-1 plan.  We intend to complete the $200 million stock repurchase program through the remainder of fiscal year 2008.  As of January 31, 2008, approximately $76 million was available under our stock repurchase program.

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As of January 31, 2008, we had cash and cash equivalents totaling $56.8 million.  We also had approximately $314 million and CAD $30 million available in borrowing capacity under our U.S. and Canadian revolving credit facilities, respectively.  We believe that we have sufficient capacity under our revolving credit facilities to meet our foreseeable financing needs.

Capital Expenditures

During the six months ended January 31, 2008, we invested approximately $9 million in capital expenditures to open 22 new stores in the Fine Jewelry segment and four new kiosks in the Kiosk Jewelry segment.  We invested approximately $15 million to remodel, relocate and refurbish 52 locations in our Fine Jewelry segment and 14 locations in our Kiosk Jewelry segment.  We also invested approximately $15 million in infrastructure, primarily related to our information technology portfolio.  We estimate that for the remainder of fiscal year 2008, we will incur $34 million to open approximately 30 new stores and kiosks and to remodel, relocate and refurbish approximately 85 locations.  We also expect to invest an additional $12 million in infrastructure, primarily related to our information technology portfolio.

Inflation

In management’s opinion, changes in revenues, net earnings, and inventory valuation that have resulted from inflation and changing prices have not been material during the periods presented.  Although currently not material, recent increases in gold prices have negatively effected the cost of merchandise inventory.  The trends in inflation rates pertaining to merchandise inventories, especially as they relate to gold and diamond costs, are primary components in determining our last-in, first-out inventory.  There is no assurance that inflation will not materially affect us in the future.

Item 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

At January 31, 2008, there had not been a material change in any of the market risk information disclosed by us in our Annual Report on Form 10-K for the fiscal year ended July 31, 2007.  More detailed information concerning market risk can be found under the sub-caption “Quantitative and Qualitative Disclosures about Market Risk” of the caption “Management’s Discussion and Analysis of Financial Condition and Results of Operations” on page 33 of our Annual Report on Form 10-K for the fiscal year ended July 31, 2007.

Item 4. CONTROLS AND PROCEDURES

Disclosure Controls and Procedures

Under the supervision and with the participation of our management, including our Chief Executive Officer and Chief Financial Officer, we have evaluated the effectiveness of our disclosure controls and procedures as of the end of the period covered by this report. Based on that evaluation, the Chief Executive Officer and Chief Financial Officer have concluded that these disclosure controls and procedures are effective in enabling us to record, process, summarize and report information required to be included in the Company’s periodic SEC filings within the required time period, and that such information is accumulated and communicated to the Company’s management, including the Chief Executive Officer and Chief Financial Officer, to allow timely decisions regarding required disclosure.

PART II. OTHER INFORMATION

Item 1.  LEGAL PROCEEDINGS

Information regarding legal proceedings is incorporated by reference from Note 7 to our consolidated financial statements set forth in Part I of this report.

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Item 1A.    RISK FACTORS

We make forward-looking statements in the Annual Report on Form 10-K and in other reports we file with the SEC. In addition, members of our senior management make forward-looking statements orally in presentations to analysts, investors, the media and others. Forward-looking statements include statements regarding our objectives and expectations with respect to our financial plan, sales and earnings, merchandising and marketing strategies, acquisitions and dispositions, share repurchases, store opening, renovation, remodeling and expansion, inventory management and performance, liquidity and cash flows, capital structure, capital expenditures, development of our information technology and telecommunications plans and related management information systems, e-commerce initiatives, human resource initiatives and other statements regarding our plans and objectives. In addition, the words “plans to,” “anticipate,” “estimate,” “project,” “intend,” “expect,” “believe,” “forecast,” “can,” “could,” “should,” “will,” “may,” or similar expressions may identify forward-looking statements, but some of these statements may use other phrasing. These forward-looking statements are intended to relay our expectations about the future, and speak only as of the date they are made. We disclaim any obligation to update or revise publicly or otherwise any forward-looking statements to reflect subsequent events, new information or future circumstances.

Forward-looking statements are not guarantees of future performance and a variety of factors could cause our actual results to differ materially from the anticipated or expected results expressed in or suggested by these forward-looking statements.

If the general economy performs poorly, discretionary spending on goods that are, or are perceived to be “luxuries” may not grow and may even decrease.

Jewelry purchases are discretionary and may be affected by adverse trends in the general economy (and consumer perceptions of those trends). In addition, a number of other factors affecting consumers such as employment, wages and salaries, business conditions, energy costs, credit availability and taxation policies, for the economy as a whole and in regional and local markets where we operate, can impact sales and earnings.

The concentration of a substantial portion of our sales in three relatively brief selling periods means that our performance is more susceptible to disruptions.

A substantial portion of our sales are derived from three selling periods—Holiday (Christmas), Valentine’s Day, and Mother’s Day. Because of the briefness of these three selling periods, the opportunity for sales to recover in the event of a disruption or other difficulty is limited, and the impact of disruptions and difficulties can be significant. For instance, adverse weather (such as a blizzard or hurricane), a significant interruption in the receipt of products (whether because of vendor or other product problems), or a sharp decline in mall traffic occurring during one of these selling periods could materially impact sales for the affected period and, because of the importance of each of these selling periods, commensurately impact overall sales and earnings.

Most of our sales are of products that include diamonds, precious metals and other commodities. Fluctuations in the availability and pricing of commodities could impact our ability to obtain and produce products at favorable prices, and consumer awareness regarding the issue of “conflict diamonds” may affect consumer demand for diamonds.

The supply and price of diamonds in the principal world market are significantly influenced by a single entity, which has traditionally controlled the marketing of a substantial majority of the world’s supply of diamonds and sells rough diamonds to worldwide diamond cutters at prices determined in its sole discretion. The availability of diamonds also is somewhat dependent on the political conditions in diamond-producing countries and on the continuing supply of raw diamonds. Any sustained interruption in this supply could have an adverse affect on our business.

We are also affected by fluctuations in the price of diamonds, gold and other commodities. A significant change in prices of key commodities could adversely affect our business by reducing operating margins or decreasing consumer demand if retail prices are increased significantly.  In addition, foreign currency exchange

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rates and fluctuations may have an impact on our future costs or on future cash flows associated with our Canadian operations and the acquisition of inventory from international vendors.

Our sales are dependent upon mall traffic.

Our stores and kiosks are located primarily in shopping malls throughout the U.S., Canada and Puerto Rico. Our success is in part dependent upon the continued popularity of malls as a shopping destination and the ability of malls, their tenants and other mall attractions to generate customer traffic. Accordingly, a significant decline in this popularity, especially if it is sustained, would substantially harm our sales and earnings.

We operate in a highly competitive and fragmented industry.

The retail jewelry business is highly competitive and fragmented, and we compete with nationally recognized jewelry chains as well as a large number of independent regional and local jewelry retailers and other types of retailers who sell jewelry and gift items, such as department stores, mass merchandisers and catalog showrooms. We also compete with internet sellers of jewelry. Because of the breadth and depth of this competition, we are constantly under competitive pressure that both constrains pricing and requires extensive merchandising efforts in order for us to remain competitive.

Any failure by us to manage our inventory effectively will negatively impact sales and earnings.

We purchase much of our inventory well in advance of each selling period. In the event we misjudge consumer preferences or demand, we will experience lower sales than expected and will have excessive inventory that may need to be written down in value or sold at prices that are less than expected.

Because of our dependence upon a small concentrated number of landlords for a substantial number of our locations, any significant erosion of our relationships with those landlords would negatively impact our ability to obtain and retain store locations.

We are significantly dependent on our ability to operate stores in desirable locations with capital investment and lease costs that allow us to earn a reasonable return on our locations. We depend on the leasing market and our landlords to determine supply, demand, lease cost and operating costs and conditions. We cannot be certain as to when or whether desirable store locations will become or remain available to us at reasonable lease and operating costs. Further, several large landlords dominate the ownership of prime malls, and we are dependent upon maintaining good relations with those landlords in order to obtain and retain store locations on optimal terms. From time to time, we do have disagreements with our landlords and a significant disagreement, if not resolved, could have an adverse impact on our business.

Changes in regulatory requirements relating to the extension of credit may increase the cost of or adversely affect our operations.

Our operations are affected by numerous U.S. and Canadian federal and state or provincial laws that impose disclosure and other requirements upon the origination, servicing and enforcement of credit accounts and limitations on the maximum aggregate amount of finance charges that may be charged by a credit provider. Any change in the regulation of credit (including changes in the application of current laws) which would materially limit the availability of credit to our customer base could adversely affect our sales and earnings.

Any disruption in, or changes to, our private label credit card arrangement with Citibank, N.A. may adversely affect our ability to provide consumer credit and write credit insurance.

Our agreement with Citibank, N.A., which provides financing for our customers to purchase merchandise through private label credit cards, enhances our ability to provide consumer credit and write credit insurance. Any disruption in, or change to, this agreement could have an adverse effect on our business, especially to the extent that it materially limits credit availability to our customer base.

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Acquisitions and dispositions involve special risk, including the risk that we may not be able to complete proposed acquisitions or dispositions or that such transactions may not be beneficial to us.

We have made significant acquisitions and dispositions in the past and may in the future make additional acquisitions and dispositions. Difficulty integrating an acquisition into our existing infrastructure and operations may cause us to fail to realize expected return on investment through revenue increases, cost savings, increases in geographic or product presence and customer reach, and/or other projected benefits from the acquisition. In addition, we may not achieve anticipated cost savings or may be unable to find attractive investment opportunities for funds received in connection with a disposition. Additionally, attractive acquisition or disposition opportunities may not be available at the time or pursuant to terms acceptable to us and we may be unable to complete acquisitions or dispositions.

                We currently are contingently liable for substantially all of the store operating leases associated with the Bailey Banks & Biddle brand that was sold in November 2007.  As those leases are extended, or materially amended, we generally will be released from our contingent obligation.  If the purchaser of Bailey Banks & Biddle fails to perform under the leases, we could be liable for any remaining amounts due under the leases, which could be a significant amount and would negatively impact our earnings and financial condition.

Item 2.    UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS

Shares repurchased during the second quarter of fiscal 2008 are as follows:

(a)  These amounts include shares purchased as part of the publicly announced programs described in Part I of this report.

(b)  The shares repurchased in November 2007 include 4.3 million shares repurchased under the ASR discussed in Part I of this report. The average price paid under the ASR is calculated using the initial price of $19.74 per share. The final average price paid per share will not be determined until the program is completed during the third quarter of fiscal 2008.

(c)  The $91.4 million remaining at January 31, 2008 that may yet be spent on stock repurchases does not include a $15 million payment advanced to our broker as part of the ASR. A final number of shares related to this $15 million will not be determined and transferred to treasury stock until the ASR program is completed during the third quarter of fiscal 2008. Taking this into account, the Company has $76.4 million in available funds to be used for further purchases.

Item 6.  EXHIBITS

10.1         Employment Agreement with Neal Goldberg dated as of January 21, 2008

31.1         Rule 13a-14(a) Certification of Chief Executive Officer

31.2         Rule 13a-14(a) Certification of Chief Financial Officer

32.1         Section 1350 Certification of Chief Executive Officer

32.2         Section 1350 Certification of Chief Financial Officer

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SIGNATURE

Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.

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