2.	RESTATEMENT OF PREVIOUSLY ISSUED CONSOLIDATED FINANCIAL STATEMENTS

We are filing this Quarterly Report on Form 10-Q for the three and nine-month periods ended September 30, 2019 as part of our efforts to become current in our filing obligations under the Securities Exchange Act of 1934, as amended (the “Exchange Act”). This Form 10-Q contains our unaudited consolidated financial statements as of and for the three and nine months ended September 30, 2019 as well as restatements of the comparable periods, specifically: (i) our audited Consolidated Balance Sheet as of December 31, 2018, (ii) our unaudited Consolidated Statements of Comprehensive Income for the three and nine months ended September 30, 2018, (iii) our unaudited Consolidated Statement of Cash Flows for the nine months ended September 30, 2018, and (iv) our unaudited Consolidated Statements of Stockholders’ Equity as of December 31, 2017, March 31, June 30, September 30, and December 31, 2018 and March 31, 2019.

Restatement Background

As previously disclosed, on October 14, 2019, as a result of the findings of the Independent Investigation and the Company's ongoing reviews, the Company, in consultation with the Audit Committee, determined that Tandy's previously issued Consolidated Financial Statements as of and for (i) the years ended December 31, 2018 and 2017, (ii) the three and six-month periods ended June 30, 2018, (iii) the three and nine-month periods ended September 30, 2018, and (iv) the three-month period ended March 31, 2019, should no longer be relied upon due to misstatements related to our accounting processes for inventory transactions, and we would make the necessary accounting corrections and restate such financial statements. In addition to inventory misstatements, management identified additional areas that required restatement adjustments as described below, with all such restatement items constituting the “Restatement Process.” The restatement adjustments described below pertain to all restatement periods noted above, and restatement adjustments specific to the periods reported in this Form 10-Q are reflected in the tables below.

Such errors included: (i) methods used by the Company in the valuation and expensing of costs related to inventory which was not correctly stated and was not consistent with the first-in, first-out (“FIFO”) methodology, (ii) warehousing and handling expenditures which were not properly capitalized during the first and third quarters but were subsequently corrected on a semi-annual basis in the second and fourth quarters resulting in the understatement of inventory and net income in the first and third quarters and the overstatement of net income in the second and fourth quarters, (iii) warehouse and handling expenditures which were improperly classified in operating expenses in all quarters resulting in an overstatement of operating expenses in all restated periods, (iv) freight-in, warehousing and handling expenditures, factory labor and overhead, and freight-out costs which were being capitalized to inventory using historical standard rates that were not based on the actual costs incurred in each period resulting in misstatements of inventory value, (v) inventory reserve levels which did not reflect the Company’s accounting policy of carrying inventory at the lower of cost or net realizable value resulting in misstatements of inventory value, (vi) sales returns were not accounted for until November 2018, and through year end 2017 gift cards were initially recorded to net sales causing net sales to be overstated, (vii) lease accounting errors upon the adoption of Accounting Standards Update (“ASU”) 2016-02, Leases (“Topic 842”) on January 1, 2019, which resulted in the understatement of operating lease assets and operating lease liabilities, (viii) the income tax effect of pre-tax restatement adjustments as well as correction of income tax misstatements related to tax effected items recognized in the 2018 income tax provision but related to the previous 2017 tax year, including adjustments related to the Tax Cuts and Jobs Act (“TCJA”) and recognition of uncertain tax position (“UTP”) liability and related interest expense, and (ix) other smaller matters as described further below.

All financial statements, schedules and footnotes impacted indicate the restated amounts under the caption “Restated.” In connection with process of restating our financial statements, we are also undergoing remediation efforts to fix the internal control failures that contributed to these misstatements. See Item 4 – Controls and Procedures for further detail on remediation efforts.

Description of Restatement Adjustments

Following is a comprehensive list of all restatement adjustments made during the Restatement Process. Some of the adjustments may apply to periods other than those applicable to this particular filing.

Inventory

Under the Company’s inventory accounting policy, inventory is stated using the FIFO methodology for cost, and such cost includes merchandise purchases, the costs to bring the merchandise to its Texas distribution center (freight-in), warehousing and handling expenditures, factory labor and overhead for items that are internally manufactured, and distributing and delivering merchandise to stores (freight-out). The Company carries inventory at the lower of this cost or net realizable value.

The inventory restatement adjustments below were first identified by management as a result of a deeper analysis of legacy systems and practices that were in place for many years and which the Company is now working to replace. Management identified the following areas in which the accounting for inventory did not adhere to the Company’s inventory accounting policy:

(1)	FIFO adjustment: inventory was not correctly stated and was not consistent with the FIFO methodology;

(2)	Freight-in, warehousing and handling expenditures, factory labor and overhead, and freight-out adjustment:

warehousing and handling expenditures were not properly capitalized during the first and third quarters but were subsequently corrected on a semi-annual basis in the second and fourth quarters resulting in the understatement of inventory and net income in the first and third quarters and the overstatement of net income in the second and fourth quarters; and

ii.

freight-in, warehousing and handling expenditures, factory labor and overhead, and freight-out costs were being capitalized to inventory using historical standard rates that were not based on the actual costs incurred in each period resulting in misstatements;

(3)

Inventory reserve adjustment: Tandy’s accounting policy is to carry inventory at the lower of cost or net realizable value. Management noted inventory reserve levels did not reflect the Company’s accounting policy of carrying inventory at the lower of cost or net realizable value. This resulted in cumulative understatements of inventory.

Sales Returns, Gift Card Liabilities and Class Fees

(4)

Sales returns: management noted estimates for sales returns had not been accounted for until November 2018. Using historical sales return trends for 2017 and 2018, management has estimated a sales return liability along with a corresponding inventory asset for all restatement periods. In addition, estimated sales returns previously recorded in the fourth quarter of 2018 were incorrectly presented on a net basis in cost of sales and have since been restated to reflect accounting on a gross basis in both net sales and cost of sales.

Gift cards: for the restatement year 2017, management noted sales of gift cards were initially recorded to net sales causing net sales to be overstated. Management has estimated a gift card liability as of December 31, 2017 based on historical gift card issuances and the redemption activity. Starting January 1, 2018, management noted the Company had begun to account for the sale of gift cards properly by recording a gift card liability on the date a gift card is issued to a customer and recognizing revenue with a corresponding reduction to the gift card liability as the customer redeems the gift card.

Class fees: for the restatement year 2018, management noted fees paid to instructors for in-store classes were initially netted against net sales causing operating expense and net sales to be understated. These fees incurred have been properly recorded to operating expense. There was no impact to net income (loss) related to this reclassification.

Warehouse and Handling Reclassifications

(5)

Warehousing and handling expenditures were classified as operating expenses, resulting in overstatement of operating expenses in all periods. These costs have been reclassified to cost of sales since the inventory restatement in adjustment (2) above is properly adjusting the inventory balance for such costs with the offset recorded to cost of sales. There was no impact to net income (loss) related to this reclassification.

Income Tax

(6)

Management noted the 2018 income tax provision included tax effected items related to the previous 2017 tax year, including adjustments related to the TCJA which was enacted on December 22, 2017, among other smaller tax correcting adjustments. Management noted the 2017 income tax provision had misstatements related not only to TCJA but also related to the recognition of UTP liability and related interest expense among other smaller tax correcting adjustments. Also, income tax restatement adjustments were made to reflect the tax effect of the pre-tax restatement adjustments for 2018 and 2017.

The 2018 tax provision restatement adjustments consisted of a $0.6 million increase to income tax expense for the tax effect of pre-tax restatement adjustments and offset by a $0.5 million decrease to income tax expense primarily for the correction of the 2017 tax related items noted above ($0.4 million) along with smaller adjustments to correct return to provision amounts and correction of tax on income earned from wholly-owned foreign subsidiaries ($0.1 million).

The 2017 provision restatement adjustments consisted of a $0.2 million decrease to income tax expense for the tax effect of pre-tax restatement adjustments and a $1.3 million increase to income tax expense for the correction of the TCJA misstatement noted above ($0.9 million) and other corrections such as uncertain tax position (UTP) liability and related interest expense ($0.2 million), correction of taxable income on the return of our Canada and Spain foreign subsidiaries ($0.2 million), and other smaller correcting adjustments.

For the three and nine months ended September 30, 2018, restatement adjustments related to the tax effect of pre-tax restatement adjustments totaled $0.1 million of income tax expense for both periods. Restatement adjustments related to correction of tax related misstatements totaled $0.3 million of income tax benefit for the three months ended September 30, 2018, and $0.2 million of income tax benefit for the nine months ended September 30, 2018.

Accruals and Other

(7)

There were misstatements related to the recognition of accrued paid-time-off (PTO) resulting in understatement of accrued expenses and other liabilities as well as other misstatements primarily related to recognition of other accrued operating expenses, payroll related costs, long-term debt classification and cash cutoff for outstanding checks, break out impairment expense previously included in operating expenses, and reclass of leasehold improvements from prepaid expenses to property and equipment, all of which are being corrected in connection with the restatement of previously issued financial statements.

Leases

(8)

During the first quarter of 2019, we adopted the new lease accounting standard under Topic 842. Management noted as part of the adoption that the Company did not ensure the appropriateness of inputs being used to calculate the present value of lease payments over the lease terms. This resulted in the misstatement of operating lease assets, and the current and long-term portion of operating lease liabilities upon initial recognition on January 1, 2019.

Foreign Currency Gains & Losses and Cumulative Translation Adjustments

(9)	Foreign currency gains and losses associated with the activity of the Company’s Canadian subsidiary were incorrectly classified as a component of accumulated other comprehensive income (loss). These gains and losses have been restated and are now included in net income (loss).

Cumulative translation adjustments (“CTA”) included in accumulated other comprehensive income (loss) were not tax effected. Management has corrected this error by tax effecting CTA and by presenting CTA net of tax within accumulated other comprehensive income (loss).

Common Stock

(10)

A number of shares of the Company’s common stock were repurchased by the Company and cancelled prior to 2010. Management noted these repurchases were incorrectly accounted for as treasury stock. The number of shares issued, and the number of shares held in treasury, were both overstated by 993,623 shares. The number of shares outstanding has been properly presented in all periods. This correction will not result in any change to net stockholders’ equity, nor will it affect any weighted average shares outstanding calculations used in the determination of earnings per share.

Restatement Reconciliation Tables

The following tables present a reconciliation of our Consolidated Balance Sheet as previously reported as of December 31, 2018 to the restated amounts shown in this filing. We have also presented a reconciliation of our Consolidated Statements of Comprehensive Income (Loss) for the three and nine months ended September 30, 2018, and Consolidated Statement of Cash Flows for the nine months ended September 30, 2018, as previously reported to the restated amounts shown in this filing. The following restatement adjustment footnote numbers correspond to the restatement adjustment descriptions above.

Tandy Leather Factory, Inc.

Consolidated Balance Sheet

	December 31, 2018
	As Reported			Adjustments					As Restated
ASSETS
CURRENT ASSETS:
Cash	$	24,070,351		$	-				$	24,070,351
Accounts receivable-trade, net of allowance for doubtful accounts of $15,703		408,170			-					408,170
Inventory		33,867,276			(564,727	)	(1)	(2)(3)(4)(7)		33,302,549
Prepaid income taxes		383,478			36,430		(6	)		419,908
Prepaid expenses		1,244,754			39,041		(7	)		1,283,795
Other current assets		161,208			170,597		(7	)		331,805
Total current assets		60,135,237			(318,659	)				59,816,578

Property and equipment, at cost		28,005,563			134,782		(7	)		28,140,345
Less accumulated depreciation		(13,606,266	)		(18,995	)	(7	)		(13,625,261	)
Property and equipment, net		14,399,297			115,787					14,515,084

Deferred income taxes		248,228			844,065		(6	)		1,092,293
Goodwill		954,765			-					954,765
Other intangibles, net of accumulated amortization of $690,869		16,500			-					16,500
Other assets		386,107			-					386,107
TOTAL ASSETS		76,140,134			641,193					76,781,327

LIABILITIES AND STOCKHOLDERS' EQUITY
CURRENT LIABILITIES:
Accounts payable-trade		1,978,840			175,554		(7	)		2,154,394
Accrued expenses and other liabilities		4,176,479			1,225,029		(4	)(7)		5,401,508
Current maturities of long-term debt		747,335			(227,819	)	(7	)		519,516
Total current liabilities		6,902,654			1,172,764					8,075,418

Uncertain tax positions		-			1,415,715		(6	)		1,415,715
Deferred income taxes		1,556,493			(1,556,493	)	(6	)(9)		-
Other non-current liabilities		-			555,296		(6	)		555,296
Long-term debt, net of current maturities		8,220,683			227,819		(7	)		8,448,502

COMMITMENTS AND CONTINGENCIES (Note 10)

STOCKHOLDERS' EQUITY:		-			-					-
Preferred stock, $0.10 par value; 20,000,000 shares authorized; none issued or outstanding; attributes to be determined on issuance		-			-					-
Common stock, $0.0024 par value; 25,000,000 shares authorized; 10,353,155 shares issued		27,232			(2,384	)	(10	)		24,848
Paid-in capital		7,158,821			(2,891,683	)	(10	)		4,267,138
Retained earnings		65,716,761			(1,240,383	)	(1) (2	)(3)(4)(6)(7)(9)		64,476,378
Treasury stock at cost (1,292,594 shares)		(11,931,850	)		2,894,067		(10	)		(9,037,783	)
Accumulated other comprehensive loss (net of tax of $480,112)		(1,510,660	)		66,475		(9	)		(1,444,185	)
Total stockholders' equity		59,460,304			(1,173,908	)				58,286,396
TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY		76,140,134			641,193					76,781,327

Tandy Leather Factory, Inc.

Consolidated Statement of Comprehensive Income (Loss)

Unaudited

	Three Months Ended September 30, 2018
	As Reported			Adjustments					As Restated

Net sales	$	18,887,099		$	(8,836	)	(4	)	$	18,878,263
Cost of sales		7,040,266			(57,886	)	(1)	(2)(3)(4)(5)		6,982,380
Gross profit		11,846,833			49,050					11,895,883

Operating expenses		11,531,389			(535,400	)	(5	)(7)		10,995,989

Income from operations		315,444			584,450					899,894

Other expense:
Interest expense		80,710			-					80,710
Other, net		(40,846	)		-					(40,846	)
Total other expense		39,864			-					39,864

Income before income taxes		275,580			584,450					860,030

Provision (benefit) for income taxes		397,114			(145,785	)	(6	)		251,329

Net income (loss)	$	(121,534	)	$	730,235				$	608,701

Foreign currency translation adjustments, net of tax		118,165			(29,541	)	(9	)		88,624

Comprehensive income (loss)	$	(3,369	)	$	700,694				$	697,325

Net income (loss) per common share:
Basic	$	(0.01	)	$	0.08				$	0.07
Diluted	$	(0.01	)	$	0.08				$	0.07

Weighted average number of shares outstanding:
Basic		9,154,209			9,154,215					9,154,215
Diluted		9,155,031			9,160,022					9,160,022

Tandy Leather Factory, Inc.

Consolidated Statement of Comprehensive Income

Unaudited

	Nine Months Ended September 30, 2018
	As Reported			Adjustments					As Restated

Net sales	$	58,353,784		$	212,279		(4	)	$	58,566,063
Cost of sales		20,545,547			1,202,081		(1)	(2)(3)(4)(5)(7)		21,747,628
Gross profit		37,808,237			(989,802	)				36,818,435

Operating expenses		33,742,351			(1,460,053	)	(5	)(7)		32,282,298

Income from operations		4,065,886			470,251					4,536,137

Other (income) expense:
Interest expense		223,534			-					223,534
Other, net		(126,459	)		(199,607	)	(9	)		(326,066	)
Total other (income) expense		97,075			(199,607	)				(102,532	)

Income before income taxes		3,968,811			669,858					4,638,669

Provision (benefit) for income taxes		1,376,634			(21,065	)	(6	)		1,355,569

Net income	$	2,592,177		$	690,923				$	3,283,100

Foreign currency translation adjustments, net of tax		(154,642	)		(100,500	)	(9	)		(255,142	)

Comprehensive income	$	2,437,535		$	590,423				$	3,027,958

Net income per common share:
Basic	$	0.28		$	0.08				$	0.36
Diluted	$	0.28		$	0.08				$	0.36

Weighted average number of shares outstanding:
Basic		9,199,173			9,199,173					9,199,173
Diluted		9,199,959			9,201,577					9,201,577

Tandy Leather Factory, Inc.

Consolidated Statement of Cash Flows

Unaudited

	For the Nine Months Ended September 30, 2018
	As Reported			Adjustments					As Restated
Cash flows from operating activities:
Net income	$	2,592,177		$	690,923				$	3,283,100
Adjustments to reconcile net income to net cash provided by operating activities:
Depreciation and amortization		1,310,774			2,056		(7	)		1,312,830
(Gain) loss on disposal of assets		4,556			-					4,556
Stock-based compensation		76,447			-					76,447
Deferred income taxes		(115,460	)		(174,831	)	(6	)(9)		(290,291	)
Exchange (gain) loss		(93,163	)		(43,735	)	(9	)		(136,898	)
Changes in operating assets and liabilities:
Accounts receivable-trade		42,600			(53,500	)	(7	)		(10,900	)
Inventory		(3,409,433	)		(552,298	)	(1)	)(2)(4)		(3,961,731	)
Prepaid expenses		125,034			(90,533	)	(6	)(7)		34,501
Other current assets		(111,688	)		111,688		(7	)		-
Accounts payable-trade		28,525			1,374,694		(7	)		1,403,219
Accrued expenses and other liabilities		(609,577	)		(1,043,249	)	(4	)(7)		(1,652,826	)
Income taxes		(475,082	)		56,112		(6	)		(418,970	)
Other assets		(5,736	)		358,049		(7	)		352,313
Total adjustments		(3,232,203	)		(55,547	)				(3,287,750	)
Net cash provided (used) by operating activities		(640,026	)		635,376					(4,650	)

Cash flows from investing activities:
Purchase of property and equipment		(887,679	)		-					(887,679	)
Proceeds from sales of assets		17,718			-					17,718
Net cash used in investing activities		(869,961	)		-					(869,961	)

Cash flows from financing activities:
Proceeds from long-term debt		982,939			-					982,939
Repurchase of treasury stock		(995,238	)		-					(995,238	)
Net cash used in financing activities		(12,299	)		-					(12,299	)

Effect of exchange rate changes on cash and cash equivalents		-			(380,975	)	(9	)		(380,975	)

Net (decrease) increase in cash and cash equivalents		(1,522,286	)		254,401					(1,267,885	)
Cash and cash equivalents, beginning of period		18,337,258			(254,401	)				18,082,857

Cash and cash equivalents, end of period	$	16,814,972		$	-				$	16,814,972