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Table of Contents

 

 

 

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C.  20549

 

FORM 10-Q

 

x

 

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

 

For the Quarterly Period Ended October 31, 2009

 

OR

 

o

 

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

 

Commission file no. 333-133184-12

 

Neiman Marcus, Inc.

(Exact name of registrant as specified in its charter)

 

Delaware
(State or other jurisdiction of
incorporation or organization)

 

20-3509435
(I.R.S. Employer
Identification No.)

 

 

 

1618 Main Street
Dallas, Texas
(Address of principal executive offices)

 

75201
(Zip code)

 

Registrant’s telephone number, including area code: (214) 743-7600

 

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes x  No ¨

 

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data file required to be submitted and posted pursuant to Rule 405 of Regulation S-T during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).  Yes ¨  No ¨

 

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer or a smaller reporting company.  See definition of “accelerated filer and large accelerated filer” in Rule 12b-2 of the Exchange Act.

 

Large accelerated filer ¨

 

Accelerated filer ¨

 

 

 

Non-accelerated filer x

 

Smaller reporting company ¨

 

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes ¨  No x

 

There were 1,013,082 shares of the registrant’s common stock, par value $.01 per share, outstanding at October 31, 2009.

 

 

 



Table of Contents

 

NEIMAN MARCUS, INC.

 

INDEX

 

 

 

Page

Part I.

Financial Information

 

 

 

 

Item 1.

Condensed Consolidated Balance Sheets as of October 31, 2009, August 1, 2009 and November 1, 2008

1

 

 

 

 

Condensed Consolidated Statements of Operations for the Thirteen Weeks Ended October 31, 2009 and November 1, 2008

2

 

 

 

 

Condensed Consolidated Statements of Cash Flows for the Thirteen Weeks Ended October 31, 2009 and November 1, 2008

3

 

 

 

 

Notes to Condensed Consolidated Financial Statements

4

 

 

 

Item 2.

Management’s Discussion and Analysis of Financial Condition and Results of Operations

23

 

 

 

Item 3.

Quantitative and Qualitative Disclosures about Market Risk

39

 

 

 

Item 4.

Controls and Procedures

40

 

 

 

Part II.

Other Information

 

 

 

 

Item 1.

Legal Proceedings

41

 

 

 

Item 1A.

Risk Factors

41

 

 

 

Item 2.

Unregistered Sales of Equity Securities and Use of Proceeds

49

 

 

 

Item 4.

Submission of Matters to a Vote of Security Holders

49

 

 

 

Item 6.

Exhibits

49

 

 

 

Signatures

56

 


 

 


Table of Contents

 

NEIMAN MARCUS, INC.

CONDENSED CONSOLIDATED BALANCE SHEETS

(UNAUDITED)

 

(in thousands, except shares)

 

October 31,
2009

 

August 1,
2009

 

November 1,
 2008

 

 

 

 

 

 

 

 

 

ASSETS

 

 

 

 

 

 

 

Current assets:

 

 

 

 

 

 

 

Cash and cash equivalents

 

$

319,215

 

$

323,425

 

$

115,350

 

Merchandise inventories

 

863,682

 

755,034

 

1,084,308

 

Deferred income taxes

 

19,136

 

19,136

 

32,659

 

Other current assets

 

103,757

 

123,932

 

115,352

 

Total current assets

 

1,305,790

 

1,221,527

 

1,347,669

 

 

 

 

 

 

 

 

 

Property and equipment, net

 

973,630

 

992,715

 

1,068,467

 

Goodwill and intangible assets, net

 

3,260,633

 

3,278,947

 

4,024,580

 

Other assets

 

88,075

 

87,837

 

74,776

 

Total assets

 

$

5,628,128

 

$

5,581,026

 

$

6,515,492

 

 

 

 

 

 

 

 

 

LIABILITIES AND SHAREHOLDERS’ EQUITY

 

 

 

 

 

 

 

Current liabilities:

 

 

 

 

 

 

 

Accounts payable

 

$

237,972

 

$

233,990

 

$

249,624

 

Accrued liabilities

 

349,130

 

302,886

 

400,604

 

Current maturities of long-term liabilities

 

 

26,617

 

 

Total current liabilities

 

587,102

 

563,493

 

650,228

 

 

 

 

 

 

 

 

 

Long-term liabilities:

 

 

 

 

 

 

 

Long-term debt

 

2,972,173

 

2,954,221

 

2,946,150

 

Deferred income taxes

 

690,970

 

697,810

 

916,072

 

Deferred real estate credits

 

100,239

 

96,420

 

89,865

 

Other long-term liabilities

 

346,146

 

350,247

 

230,576

 

Total long-term liabilities

 

4,109,528

 

4,098,698

 

4,182,663

 

 

 

 

 

 

 

 

 

Common stock (par value $0.01 per share, 5,000,000 shares authorized and 1,013,082 shares issued and outstanding at October 31, 2009 and August 1, 2009 and 1,012,919 shares issued and outstanding at November 1, 2008)

 

10

 

10

 

10

 

Additional paid-in capital

 

1,425,385

 

1,424,258

 

1,420,106

 

Accumulated other comprehensive loss

 

(101,572

)

(104,587

)

(17,593

)

Retained (deficit) earnings

 

(392,325

)

(400,846

)

280,078

 

Total shareholders’ equity

 

931,498

 

918,835

 

1,682,601

 

Total liabilities and shareholders’ equity

 

$

5,628,128

 

$

5,581,026

 

$

6,515,492

 

 

See Notes to Condensed Consolidated Financial Statements.

 

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Table of Contents

 

NEIMAN MARCUS, INC.

CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS

(UNAUDITED)

 

 

 

Thirteen weeks ended

 

(in thousands)

 

October 31,
2009

 

November 1,
2008

 

 

 

 

 

 

 

Revenues

 

$

868,900

 

$

985,787

 

Cost of goods sold including buying and occupancy costs (excluding depreciation)

 

534,223

 

617,743

 

Selling, general and administrative expenses (excluding depreciation)

 

218,819

 

242,829

 

Income from credit card program, net

 

(13,087

)

(13,001

)

Depreciation expense

 

35,782

 

38,599

 

Amortization of intangible assets

 

13,845

 

13,568

 

Amortization of favorable lease commitments

 

4,469

 

4,469

 

 

 

 

 

 

 

Operating earnings

 

74,849

 

81,580

 

 

 

 

 

 

 

Interest expense, net

 

59,365

 

57,845

 

 

 

 

 

 

 

Earnings before income taxes

 

15,484

 

23,735

 

 

 

 

 

 

 

Income tax expense

 

6,963

 

10,857

 

 

 

 

 

 

 

Net earnings

 

$

8,521

 

$

12,878

 

 

See Notes to Condensed Consolidated Financial Statements.

 

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Table of Contents

 

NEIMAN MARCUS, INC.

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS

(UNAUDITED)

 

 

 

Thirteen weeks ended

 

(in thousands)

 

October 31,
2009

 

November 1,
2008

 

 

 

 

 

 

 

CASH FLOWS - OPERATING ACTIVITIES

 

 

 

 

 

Net earnings

 

$

8,521

 

$

12,878

 

Adjustments to reconcile net earnings to net cash provided by operating activities:

 

 

 

 

 

Depreciation and amortization expense

 

58,611

 

60,190

 

Paid-in-kind interest

 

14,362

 

 

Deferred income taxes

 

(8,756

)

(8,722

)

Other, primarily costs related to defined benefit pension and other long-term benefit plans

 

4,318

 

4,143

 

 

 

77,056

 

68,489

 

Changes in operating assets and liabilities:

 

 

 

 

 

Merchandise inventories

 

(108,648

)

(106,264

)

Other current assets

 

20,175

 

(1,576

)

Other assets

 

(5,379

)

(3,293

)

Accounts payable and accrued liabilities

 

51,231

 

(54,209

)

Deferred real estate credits

 

5,379

 

6,973

 

Net cash provided by (used for) operating activities

 

39,814

 

(89,880

)

CASH FLOWS – INVESTING ACTIVITIES

 

 

 

 

 

Capital expenditures

 

(17,261

)

(33,461

)

Net cash used for investing activities

 

(17,261

)

(33,461

)

CASH FLOWS – FINANCING ACTIVITIES

 

 

 

 

 

Repayment of borrowings under senior term loan facility

 

(26,617

)

 

Repayment of borrowings

 

(146

)

(489

)

Net cash used for financing activities

 

(26,763

)

(489

)

CASH AND CASH EQUIVALENTS

 

 

 

 

 

Decrease during the period

 

(4,210

)

(123,830

)

Beginning balance

 

323,425

 

239,180

 

Ending balance

 

$

319,215

 

$

115,350

 

 

 

 

 

 

 

Supplemental Schedule of Cash Flow Information

 

 

 

 

 

 

 

 

 

 

 

Cash paid (received) during the period for:

 

 

 

 

 

Interest

 

$

48,378

 

$

66,643

 

Income taxes

 

$

(3,310

)

$

1,849

 

 

See Notes to Condensed Consolidated Financial Statements.

 

3


 


Table of Contents

 

NEIMAN MARCUS, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(UNAUDITED)

 

1.              Basis of Presentation

 

We have prepared the accompanying unaudited condensed consolidated financial statements in accordance with generally accepted accounting principles for interim financial information and the instructions to Form 10-Q and Article 10 of Regulation S-X.  Accordingly, these financial statements do not include all of the information and footnotes required by generally accepted accounting principles for complete financial statements. Therefore, these financial statements should be read in conjunction with our Annual Report on Form 10-K for the fiscal year ended August 1, 2009.

 

In our opinion, the accompanying unaudited condensed consolidated financial statements contain all adjustments, consisting of normal recurring adjustments, necessary to present fairly our financial position, results of operations and cash flows for the applicable interim periods.

 

The specialty retail industry is seasonal in nature, with a higher level of sales typically generated in the fall and holiday selling seasons.  Due to seasonal and other factors, the results of operations for the first quarter of fiscal year 2010 are not necessarily comparable to, or indicative of, results of any other interim period or for the fiscal year as a whole.

 

Neiman Marcus, Inc. (the Company) is a wholly-owned subsidiary of and is controlled by Newton Holding, LLC (Holding).  Holding is controlled by investment funds affiliated with TPG Capital and Warburg Pincus (collectively, the Sponsors).  The Company was formed by Holding for the purpose of acquiring The Neiman Marcus Group, Inc. (NMG), which acquisition was completed on October 6, 2005 (the Acquisition).  The accompanying unaudited condensed consolidated financial statements include the amounts of the Company and its subsidiaries.  All significant intercompany accounts and transactions have been eliminated.

 

Our fiscal year ends on the Saturday closest to July 31.  All references to the first quarter of fiscal year 2010 relate to the thirteen weeks ended October 31, 2009.  All references to the first quarter of fiscal year 2009 relate to the thirteen weeks ended November 1, 2008.

 

A detailed description of our critical accounting policies is included in our Annual Report on Form 10-K for the fiscal year ended August 1, 2009.

 

We have evaluated all material events occurring subsequent to the date of the financial statements up to the date and time this Quarterly Report on Form 10-Q was filed.

 

Use of Estimates.  We are required to make estimates and assumptions about future events in preparing financial statements in conformity with generally accepted accounting principles.  These estimates and assumptions affect the amounts of assets, liabilities, revenues and expenses and the disclosure of gain and loss contingencies at the date of the unaudited condensed consolidated financial statements.  While we believe that our past estimates and assumptions have been materially accurate, our current estimates are subject to change if different assumptions as to the outcome of future events were made. We evaluate our estimates and judgments on an ongoing basis and predicate those estimates and judgments on historical experience and on various other factors that we believe to be reasonable under the circumstances.  We make adjustments to our assumptions and judgments when facts and circumstances dictate.  Since future events and their effects cannot be determined with absolute certainty, actual results may differ from the estimates used in preparing the accompanying unaudited condensed consolidated financial statements.

 

We believe the following critical accounting policies, among others, encompass the more significant judgments and estimates used in the preparation of our financial statements:

 

·                  Recognition of revenues;

 

·                  Valuation of merchandise inventories, including determination of original retail values, recognition of markdowns and vendor allowances, estimation of inventory shrinkage, and determination of cost of goods sold;

 

·                  Determination of impairment of long-lived assets;

 

·                  Recognition of advertising and catalog costs;

 

·                  Measurement of liabilities related to our loyalty programs;

 

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·                  Recognition of income taxes; and

 

·                  Measurement of accruals for general liability, workers’ compensation and health insurance claims and pension and postretirement health care benefits.

 

Fair Value Measurements.  Under generally accepted accounting principles, we are required 1) to measure certain assets and liabilities at fair value or 2) to disclose the fair value of certain assets and liabilities recorded at cost.  Pursuant to these fair value measurement and disclosure requirements, fair value is defined as the price that would be received upon sale of an asset or paid upon transfer of a liability in an orderly transaction between market participants at the measurement date and in the principal or most advantageous market for that asset or liability. The fair value is calculated based on assumptions that market participants would use in pricing the asset or liability, not on assumptions specific to the entity. In addition, the fair value of liabilities includes consideration of non-performance risk, including our own credit risk.  Each fair value measurement is reported in one of the following three levels:

 

·                  Level 1 — valuation inputs are based upon unadjusted quoted prices for identical instruments traded in active markets.

 

·                  Level 2 — valuation inputs are based upon quoted prices for similar instruments in active markets, quoted prices for identical or similar instruments in markets that are not active, and model-based valuation techniques for which all significant assumptions are observable in the market or can be corroborated by observable market data for substantially the full term of the assets or liabilities.

 

·                  Level 3 — valuation inputs are unobservable and typically reflect management’s estimates of assumptions that market participants would use in pricing the asset or liability. The fair values are therefore determined using model-based techniques that include option pricing models, discounted cash flow models and similar techniques.

 

At October 31, 2009, August 1, 2009 and November 1, 2008, the fair values of cash and cash equivalents, receivables and accounts payable approximated their carrying values due to the short-term nature of these instruments.  See Notes 3 and 4 to the condensed consolidated financial statements for the estimated fair values of our debt instruments and interest rate swap financial instruments subject to fair value disclosures.

 

Recent Accounting Pronouncements.  In December 2007, the FASB issued guidance that addresses the recognition and accounting for identifiable assets acquired, liabilities assumed and non-controlling interests in business combinations.  In addition, this guidance changes the accounting treatment for certain acquisition-related items, including requirements to expense acquisition-related costs as incurred, expense restructuring costs associated with an acquired business and recognize post-acquisition changes in tax uncertainties associated with a business combination as a component of tax expense.  These rules are to be applied prospectively to business combinations for which the acquisition date is on or after December 15, 2008.  Generally, the effect of this guidance will depend on future acquisitions.  However, the accounting for the resolution of any tax uncertainties remaining as of October 31, 2009 related to the Acquisition will be subject to the provisions of this guidance.  As to the future resolution of these tax uncertainties, we do not believe these requirements will have a material impact on our future financial statements.

 

In February 2008, the FASB issued guidance that delays the effective date of fair value disclosures required for all nonfinancial assets, such as intangible assets and goodwill, and nonfinancial liabilities that are recognized or disclosed at fair value in the financial statements on a nonrecurring basis.  We implemented this guidance in the preparation of our condensed consolidated financial statements for the quarter ended October 31, 2009, however, no additional disclosures were required.

 

In December 2008, the FASB issued guidance related to an employer’s disclosures about plan assets of a defined benefit pension or other postretirement plan.  This guidance is effective for fiscal years ending after December 15, 2009, or our fiscal year ending July 31, 2010.  We have not yet evaluated the impact of adopting the disclosure requirements on our consolidated financial statements for our fiscal year ending July 31, 2010.

 

In April 2009, the FASB issued guidance requiring additional disclosures in interim financial statements regarding determining and reporting fair values for certain assets and liabilities.  We adopted this guidance in the first quarter of fiscal year 2010 related to the fair value of our debt instruments.

 

In June 2009, the FASB issued guidance that establishes the Accounting Standards Codification (ASC) as the source of authoritative accounting principles recognized by the FASB to be applied by nongovernmental entities in the preparation of

 

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financial statements in conformity with generally accepted accounting principles.  This guidance is effective for financial statements issued for interim and annual periods ending after September 15, 2009, or our first quarter of fiscal year 2010 ending October 31, 2009.  The adoption of this guidance did not have an impact on our consolidated financial statements.

 

2.              Goodwill and Intangible Assets, Net

 

(in thousands)

 

October 31,
2009

 

August 1,
2009

 

November 1,
2008

 

 

 

 

 

 

 

 

 

Goodwill

 

$

1,263,433

 

$

1,263,433

 

$

1,611,191

 

Tradenames

 

1,235,012

 

1,235,290

 

1,579,054

 

Customer lists, net

 

355,093

 

368,660

 

409,363

 

Favorable lease commitments, net

 

407,095

 

411,564

 

424,972

 

Goodwill and intangible assets, net

 

$

3,260,633

 

$

3,278,947

 

$

4,024,580

 

 

Indefinite-Lived Intangible Assets and Goodwill.  Indefinite-lived intangible assets, such as tradenames and goodwill, are not subject to amortization. Rather, we assess the recoverability of indefinite-lived intangible assets and goodwill in the fourth quarter of each fiscal year and upon the occurrence of certain events.

 

Intangible Assets Subject to Amortization.  Customer lists and amortizable tradenames are amortized using the straight-line method over their estimated useful lives, ranging from 5 to 24 years (weighted average life of 13 years).  Favorable lease commitments are amortized straight-line over the remaining lives of the leases, ranging from 6 to 49 years (weighted average life of 33 years).  Total estimated amortization of all acquisition-related intangible assets for the next five fiscal years is currently estimated as follows (in thousands):

 

2011

 

$

62,548

 

2012

 

50,123

 

2013

 

47,436

 

2014

 

46,881

 

2015

 

46,881

 

 

Impairment of Long-Lived Assets.  We assess the recoverability of indefinite-lived assets and goodwill in the fourth quarter of each year and upon the occurrence of certain events.  In connection with the preparation of our consolidated financial statements for the second quarter of fiscal year 2009, we concluded that it was appropriate to test our long-lived assets for recoverability in light of the significant declines in the domestic and global financial markets during the first and second quarters of fiscal year 2009. Utilizing our then-current operating forecasts to estimate the fair values of our Neiman Marcus stores, Bergdorf Goodman stores and Direct Marketing operation, we determined certain of our property and equipment, tradenames and goodwill to be impaired and recorded impairment charges in the second quarter of fiscal year 2009 aggregating $560.1 million.

 

In the fourth quarter of fiscal year 2009, we updated our short-term and long-term operating forecasts in connection with our annual planning process in light of our updated expectations of future business conditions and trends.  Utilizing these updated operating forecasts to estimate the fair values of our reporting units, we determined further impairment with respect to certain of our property and equipment, tradenames and goodwill and recorded additional impairment charges in the fourth quarter of fiscal year 2009 aggregating $143.1 million.

 

Total impairment charges recorded in fiscal year 2009 were as follows:

 

(in thousands)

 

Specialty
Retail stores

 

Direct
Marketing

 

Total

 

 

 

 

 

 

 

 

 

Property and equipment

 

$

30,348

 

$

 

$

30,348

 

Tradenames

 

311,835

 

31,374

 

343,209

 

Goodwill

 

329,709

 

 

329,709

 

 

 

$

671,892

 

$

31,374

 

$

703,266

 

 

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3.              Long-term Debt

 

The significant components of our long-term debt are as follows:

 

(in thousands)

 

Interest
Rate

 

October 31,
2009

 

August 1,
2009

 

November 1,
2008

 

 

 

 

 

 

 

 

 

 

 

Senior Secured Term Loan Facility

 

variable

 

$

1,598,383

 

$

1,625,000

 

$

1,625,000

 

2028 Debentures

 

7.125%

 

121,345

 

121,297

 

121,150

 

Senior Notes

 

9.0%/9.75%

 

752,445

 

734,541

 

700,000

 

Senior Subordinated Notes

 

10.375%

 

500,000

 

500,000

 

500,000

 

Total debt

 

 

 

2,972,173

 

2,980,838

 

2,946,150

 

Less: current portion of Senior Secured Term Loan Facility

 

 

 

 

(26,617

)

 

Long-term debt

 

 

 

$

2,972,173

 

$

2,954,221

 

$

2,946,150

 

 

Senior Secured Asset-Based Revolving Credit Facility.  On July 15, 2009, NMG amended and restated the terms of its prior asset-based revolving credit facility (which had been scheduled to mature on October 6, 2010).  The terms of the amended and restated Asset-Based Revolving Credit Facility include a scheduled maturity date of January 15, 2013 and a maximum committed borrowing capacity of $600.0 million (the same amount as the prior facility).  The new facility also provides an uncommitted accordion feature that allows NMG to request the lenders to provide additional capacity in either the form of increased revolving commitments or incremental term loans, subject to a potential total maximum facility of $800 million.

 

The Asset-Based Revolving Credit Facility provides committed financing of up to $600.0 million, subject to a borrowing base.  The Asset-Based Revolving Credit Facility includes borrowing capacity available for letters of credit and for borrowings on same-day notice.  The borrowing base for the Asset-Based Revolving Credit Facility is equal to at any time the sum of (a) the lesser of (i) 80% of eligible inventory (valued at the lower of cost or market value) and (ii) 85% of the net orderly liquidation value of eligible inventory, and (b) 85% of the amounts owed by credit card processors in respect of eligible credit card accounts constituting proceeds arising from the sale or disposition of inventory, less certain reserves.  Through April 30, 2011, NMG is required to maintain excess availability under the terms of the Asset-Based Revolving Credit Facility of at least the greater of (a) 10% of the lesser of (i) the aggregate revolving commitments and (ii) the borrowing base and (b) $50 million.  After April 30, 2011, if at any time, excess availability is less than the greater of (a) 15% of the lesser of (i) the aggregate revolving commitments and (ii) the borrowing base and (b) $60 million, NMG will be required to maintain a pro forma ratio of consolidated EBITDA to consolidated Fixed Charges (as such terms are defined in the credit agreement) of at least 1.1 to 1.0.  On October 31, 2009, NMG had no borrowings outstanding under this facility, $32.6 million of outstanding letters of credit and $507.4 million of unused borrowing availability.

 

The Asset-Based Revolving Credit Facility provides that NMG has the right at any time to request up to $300 million of additional revolving facility commitments and/or incremental term loans; provided that the aggregate amount of loan commitments under the Asset-Based Revolving Credit Facility may not exceed $800 million. However, the lenders are under no obligation to provide any such additional commitments or loans, and any increase in commitments or incremental term loans will be subject to customary conditions precedent.  If NMG were to request any such additional commitments and the existing lenders or new lenders were to agree to provide such commitments, the Asset-Based Revolving Credit Facility size could be increased to up to $800 million, but NMG’s ability to borrow would still be limited by the amount of the borrowing base. Incremental term loans may be exchanged by NMG for any of NMG’s existing senior notes and senior subordinated notes, or the cash proceeds of any incremental term loans may be used to repurchase any of such notes, but neither the incremental term loans nor the proceeds thereof may be used for any other purpose.

 

Borrowings under the Asset-Based Revolving Credit Facility bear interest at a rate per annum equal to, at NMG’s option, either (a) a base rate determined by reference to the highest of (i) a defined prime rate, (ii) the federal funds effective rate plus 1/2 of 1% or (iii) a one-month LIBOR rate plus 1% or (b) a LIBOR rate, subject to certain adjustments, in each case plus an applicable margin.  The applicable margin is up to 3.50% with respect to base rate borrowings and up to 4.50% with respect to LIBOR borrowings, provided that until October 1, 2010, the applicable margin will be 3.25% with respect to base rate borrowings and 4.25% with respect to LIBOR borrowings. The applicable margin is subject to adjustment based on the historical availability under the Asset-Based Revolving Credit Facility. In addition, NMG is required to pay a commitment fee in respect of unused commitments of (a) 0.750% per annum during any applicable period in which the average revolving loan

 

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utilization is 50% or more or (b) 1% per annum during any applicable period in which the average revolving loan utilization is less than 50%.  NMG must also pay customary letter of credit fees and agency fees.

 

If at any time the aggregate amount of outstanding revolving loans, unreimbursed letter of credit drawings and undrawn letters of credit under the Asset-Based Revolving Credit Facility exceeds the lesser of (a) the commitment amount and (b) the borrowing base (including as a result of reductions to the borrowing base that would result from certain non-ordinary course sales of inventory with a value in excess of $25 million, if applicable), NMG will be required to repay outstanding loans or cash collateralize letters of credit in an aggregate amount equal to such excess, with no reduction of the commitment amount.  In addition, if at any time the aggregate amount of outstanding revolving loans and incremental term loans, unreimbursed letter of credit drawings and undrawn letters of credit under the Asset-Based Revolving Credit Facility exceeds the reported value of inventory owned by the borrowers and guarantors, NMG will be required to eliminate such excess within the earlier of 30 days from such occurrence or 5 business days from the first date on or after such occurrence at which excess availability is less than $75 million.  If (a) the amount available under the Asset-Based Revolving Credit Facility is less than the greater of (i) 20% of the lesser of (A) the aggregate revolving commitments and (B) the borrowing base and (ii) $75 million or (b) an event of default has occurred, NMG will be required to repay outstanding loans and cash collateralize letters of credit with the cash NMG would then be required to deposit daily in a collection account maintained with the agent under the Asset-Based Revolving Credit Facility.

 

NMG may voluntarily reduce the unutilized portion of the commitment amount and repay outstanding loans at any time without premium or penalty other than customary “breakage” costs with respect to LIBOR loans.  There is no scheduled amortization under the Asset-Based Revolving Credit Facility; the principal amount of the revolving loans outstanding thereunder will be due and payable in full on January 15, 2013.

 

All obligations under the Asset-Based Revolving Credit Facility are guaranteed by the Company and certain of NMG’s existing and future domestic subsidiaries.  All obligations under NMG’s Asset-Based Revolving Credit Facility, and the guarantees of those obligations, are secured, subject to certain significant exceptions, by substantially all of the assets of the Company, NMG and the subsidiaries that have guaranteed the Asset-Based Revolving Credit Facility (subsidiary guarantors).  As of October 31, 2009, there were no assets or liabilities held by non-guarantor subsidiaries.

 

The Asset-Based Revolving Credit Facility contains covenants (which are described in our Annual Report on Form 10-K for the fiscal year ended August 1, 2009), including covenants limiting dividends and other restricted payments; investments, loans, advances and acquisitions; and prepayments or redemptions of other indebtedness. These covenants permit the restricted actions in an unlimited amount, subject to the satisfaction of certain payment conditions, principally that NMG must have pro forma excess availability under the Asset-Based Revolving Credit Facility equal to at least 25% of the lesser of (a) the revolving commitments under the facility and (b) the borrowing base, NMG delivering projections demonstrating that projected excess availability for the next twelve months will be equal to such thresholds and that NMG have a pro forma ratio of consolidated EBITDA to consolidated Fixed Charges (as such terms are defined in the credit agreement) of at least 1.2 to 1.0 (or 1.1 to 1.0 for prepayments or redemptions of other indebtedness).  The Asset-Based Revolving Credit Facility also contains customary affirmative covenants and events of default, including a cross-default provision in respect of any other indebtedness that has an aggregate principal amount exceeding $50 million.

 

For a more detailed description of NMG’s Asset-Based Revolving Credit Facility, refer to our Annual Report on Form 10-K for the fiscal year ended August 1, 2009.

 

Senior Secured Term Loan Facility.  In October 2005, NMG entered into a credit agreement and related security and other agreements for a $1,975.0 million Senior Secured Term Loan Facility.  At October 31, 2009, the outstanding balance under the Senior Secured Term Loan Facility was $1,598.4 million.  The principal amount of the loans outstanding is due and payable in full on April 6, 2013.

 

At October 31, 2009, borrowings under the Senior Secured Term Loan Facility bore interest at a rate per annum equal to, at NMG’s option, either (a) a base rate determined by reference to the higher of (1) the prime rate of Credit Suisse and (2) the federal funds effective rate plus  ½ of 1% or (b) a LIBOR rate, subject to certain adjustments, in each case plus an applicable margin. The interest rate on the outstanding borrowings pursuant to the Senior Secured Term Loan Facility was 2.29% at October 31, 2009.  The applicable margin is subject to adjustment based on contractually defined debt coverage ratios.  At October 31, 2009, the applicable margin with respect to base rate borrowings was 1.00% and the applicable margin with respect to LIBOR borrowings was 2.00%.

 

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The credit agreement governing the Senior Secured Term Loan Facility requires NMG to prepay outstanding term loans with 50% (which percentage will be reduced to 25% if NMG’s total leverage ratio is less than a specified ratio and will be reduced to 0% if NMG’s total leverage ratio is less than a specified ratio) of its annual excess cash flow (as defined in the credit agreement). For fiscal year 2009, NMG was required to prepay $26.6 million of outstanding term loans in the first quarter of fiscal year 2010 pursuant to the annual excess cash flow requirements.  If a change of control (as defined in the credit agreement) occurs, NMG will be required to offer to prepay all outstanding term loans, at a prepayment price equal to 101% of the principal amount to be prepaid, plus accrued and unpaid interest to the date of prepayment. NMG also must offer to prepay outstanding term loans at 100% of the principal amount to be prepaid, plus accrued and unpaid interest, with the proceeds of certain asset sales under certain circumstances.

 

NMG may voluntarily prepay outstanding loans under the Senior Secured Term Loan Facility at any time without premium or penalty other than customary “breakage” costs with respect to LIBOR loans. There is no scheduled amortization under the Senior Secured Term Loan Facility.

 

All obligations under the Senior Secured Term Loan Facility are unconditionally guaranteed by the Company and each direct and indirect domestic subsidiary of NMG that guarantees the obligations of NMG under its Asset-Based Revolving Credit Facility. All obligations under the Senior Secured Term Loan Facility, and the guarantees of those obligations, are secured, subject to certain significant exceptions, by substantially all of the assets of the Company, NMG and the subsidiary guarantors.

 

The credit agreement governing the Senior Secured Term Loan Facility contains a number of negative covenants that are substantially similar to those governing the Senior Notes and additional covenants related to the security arrangements for the Senior Secured Term Loan Facility. The credit agreement also contains customary affirmative covenants and events of default, including a cross-default provision in respect of any other indebtedness that has an aggregate principal amount exceeding $50 million.

 

For a more detailed description of the Senior Secured Term Loan Facility, refer to our Annual Report on Form 10-K for the fiscal year ended August 1, 2009.

 

The fair value of the Senior Secured Term Loan Facility was approximately $1,382.6 million at October 31, 2009, $1,332.5 million at August 1, 2009 and $1,235.0 million at November 1, 2008 based on prevailing market rates at this time.

 

2028 Debentures.  In May 1998, NMG issued $125.0 million aggregate principal amount of its 7.125% 2028 Debentures. NMG equally and ratably secures its 2028 Debentures by a first lien security interest on certain collateral subject to liens granted under NMG’s Senior Secured Credit Facilities. The 2028 Debentures are guaranteed on an unsecured, senior basis by the Company.  The 2028 Debentures are not guaranteed by certain subsidiaries of NMG.  The 2028 Debentures include a cross-acceleration provision in respect of any other indebtedness that has an aggregate principal amount exceeding $15 million.  NMG’s 2028 Debentures mature on June 1, 2028.

 

For a more detailed description of the 2028 Debentures, refer to our Annual Report on Form 10-K for the fiscal year ended August 1, 2009.

 

The fair value of the 2028 Debentures was approximately $105.6 million at October 31, 2009, $95.6 million at August 1, 2009 and $106.3 million at November 1, 2008 based on quoted market prices.

 

Senior Notes.  NMG has $752.4 million aggregate principal amount of 9.0% / 9.75% Senior Notes under a senior indenture (Senior Indenture).  NMG’s Senior Notes mature on October 15, 2015.

 

Interest on the Senior Notes is payable quarterly in arrears on each January 15, April 15, July 15 and October 15.  For any interest payment period through October 15, 2010, NMG may, at its option, elect to pay interest on the Senior Notes entirely in cash (Cash Interest) or entirely by increasing the principal amount of the outstanding Senior Notes by issuing additional Senior Notes (PIK Interest). Cash Interest on the Senior Notes accrues at the rate of 9% per annum. PIK Interest on the Senior Notes accrues at the rate of 9.75% per annum. We negotiated for the right to include the PIK feature in our Senior Notes because of our belief that this feature could be a useful tool to enhance liquidity under appropriate circumstances. In the second quarter of fiscal year 2009, given the dislocation in the financial markets and the uncertainty as to when reasonable conditions will return, we believed that it was appropriate to utilize this feature, even though we had available borrowing capacity under our $600.0 million revolving credit facility. Accordingly, we elected to pay PIK Interest for the three quarterly interest periods ending October 14, 2009 and to make such interest payments with the issuance of additional Senior Notes at the PIK Interest rate of

 

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9.75% instead of paying interest in cash.  As a result, the original principal amount of Senior Notes of $700.0 million increased by $17.1 million on April 14, 2009, $17.4 million on July 14, 2009 and $17.9 million on October 14, 2009.

 

For the quarterly interest period ending on January 15, 2010, we have elected to pay cash interest.  Prior to the beginning of each eligible interest period in the future, we will evaluate whether to continue utilizing this PIK feature, taking into account market conditions and other relevant factors at that time. After October 15, 2010, we are required to make all interest payments on the Senior Notes entirely in cash.

 

The Senior Notes are fully and unconditionally guaranteed, on a joint and several unsecured, senior basis, by each of NMG’s wholly-owned domestic subsidiaries that guarantee NMG’s obligations under its Senior Secured Credit Facilities and by the Company. The Senior Notes and the guarantees thereof are NMG’s and the guarantors’ unsecured, senior obligations and rank (i) equal in the right of payment with all of NMG’s and the guarantors’ existing and future senior indebtedness, including any borrowings under NMG’s Senior Secured Credit Facilities and the guarantees thereof and NMG’s 2028 Debentures; and (ii) senior to all of NMG’s and its guarantors’ existing and future subordinated indebtedness, including the Senior Subordinated Notes due 2015 and the guarantees thereof. The Senior Notes also are effectively junior in priority to NMG’s and its guarantors’ obligations under all secured indebtedness, including NMG’s Senior Secured Credit Facilities, the 2028 Debentures, and any other secured obligations of NMG, in each case, to the extent of the value of the assets securing such obligations. In addition, the Senior Notes are structurally subordinated to all existing and future liabilities, including trade payables, of NMG’s subsidiaries that are not providing guarantees.

 

NMG is not required to make any mandatory redemption or sinking fund payments with respect to the Senior Notes.  The indenture governing the Senior Notes contains a number of customary negative covenants and events of default, including a cross-default provision in respect of any other indebtedness that has an aggregate principal amount exceeding $50 million, which, if any of them occurs, would permit or require the principal, premium, if any, interest and any other monetary obligations on all outstanding Senior Notes to be due and payable immediately.

 

For a more detailed description of NMG’s Senior Notes, refer to our Annual Report on Form 10-K for the fiscal year ended August 1, 2009.

 

The fair value of NMG’s Senior Notes was approximately $667.8 million at October 31, 2009, $539.9 million at August 1, 2009 and $476.0 million at November 1, 2008 based on quoted market prices.

 

Senior Subordinated Notes.  NMG has $500.0 million aggregate principal amount of 10.375% Senior Subordinated Notes under a senior subordinated indenture (Senior Subordinated Indenture). NMG’s Senior Subordinated Notes mature on October 15, 2015.

 

The Senior Subordinated Notes are fully and unconditionally guaranteed, on a joint and several unsecured, senior subordinated basis, by each of NMG’s wholly-owned domestic subsidiaries that guarantee NMG’s obligations under its Senior Secured Credit Facilities and by the Company. The Senior Subordinated Notes and the guarantees thereof are NMG’s and the guarantors’ unsecured, senior subordinated obligations and rank (i) junior to all of NMG’s and the guarantors’ existing and future senior indebtedness, including the Senior Notes and any borrowings under NMG’s Senior Secured Credit Facilities, and the guarantees thereof and NMG’s 2028 Debentures; (ii) equally with any of NMG’s and the guarantors’ future senior subordinated indebtedness; and (iii) senior to any of NMG’s and the guarantors’ future subordinated indebtedness. In addition, the Senior Subordinated Notes are structurally subordinated to all existing and future liabilities, including trade payables, of NMG’s subsidiaries that are not providing guarantees.

 

NMG is not required to make any mandatory redemption or sinking fund payments with respect to the Senior Subordinated Notes. The indenture governing the Senior Subordinated Notes contains a number of customary negative covenants and events of defaults, including a cross-default provision in respect of any other indebtedness that has an aggregate principal amount exceeding $50 million, which, if any of them occurs, would permit or require the principal, premium, if any, interest and any other monetary obligations on all outstanding Senior Subordinated Notes to be due and payable immediately, subject to certain exceptions.

 

For a more detailed description of NMG’s Senior Subordinated Notes, refer to our Annual Report on Form 10-K for the fiscal year ended August 1, 2009.

 

The fair value of NMG’s Senior Subordinated Notes was approximately $440.0 million at October 31, 2009, $355.0 million at August 1, 2009 and $342.5 million at November 1, 2008 based on quoted market prices.

 

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Maturities of Long-Term Debt.  At October 31, 2009, annual maturities of long-term debt during the next five fiscal years and thereafter are as follows (in millions):

 

2011

 

$

 

2012

 

 

2013

 

1,598.4

 

2014

 

 

2015

 

 

Thereafter

 

1,373.8

 

 

The above table does not reflect either future excess cash flow prepayments, if any, that may be required under the Senior Secured Term Loan Facility or any future PIK Interest election that we may make through October 15, 2010.

 

Interest expense.  The significant components of interest expense are as follows:

 

 

 

Thirteen weeks ended

 

(in thousands)

 

October 31,
2009

 

November 1,
2008

 

 

 

 

 

 

 

Senior Secured Term Loan Facility

 

$

20,786

 

$

23,930

 

2028 Debentures

 

2,227

 

2,227

 

Senior Notes

 

17,525

 

15,750

 

Senior Subordinated Notes

 

12,826

 

12,969

 

Amortization of debt issue costs

 

4,661

 

3,554

 

Other

 

1,738

 

825

 

Total interest expense

 

59,763

 

59,255

 

Less:

 

 

 

 

 

Interest income

 

177

 

1,104

 

Capitalized interest

 

221

 

306

 

Interest expense, net

 

$

59,365

 

$

57,845

 

 

4.              Interest Rate Swaps

 

In connection with the Acquisition, we obtained $2,575.0 million of floating rate debt agreements, of which $2,125.0 million was outstanding at the Acquisition date and $1,598.4 million is outstanding at October 31, 2009.  Effective December 6, 2005, NMG entered into floating to fixed interest rate swap agreements for an aggregate notional amount of $1,000.0 million to limit our exposure to interest rate increases related to a portion of our floating rate indebtedness.  These swap agreements hedge a portion of our contractual floating rate interest commitments through the expiration of the agreements in December 2010.  As a result of the swap agreements, NMG’s effective fixed interest rates as to the $1,000.0 million in floating rate indebtedness will currently range from 6.850% to 6.983% per quarter through 2010 and result in an average fixed rate of 6.914%.

 

As of the effective date, NMG designated the interest rate swaps as cash flow hedges. As cash flow hedges, unrealized gains on our outstanding interest rate swaps are recognized as assets while unrealized losses are recognized as liabilities.  Our interest rate swap agreements are highly, but not perfectly, correlated to the changes in interest rates to which we are exposed.  As a result, unrealized gains and losses on our interest rate swap agreements are designated as effective or ineffective.  The effective portion of such gains or losses is recorded as a component of accumulated other comprehensive loss while the ineffective portion of such gains or losses is recorded as a component of interest expense.

 

In addition, we realize a gain or loss on our interest rate swap agreements in connection with each required interest payment on our floating rate indebtedness.  These realized gains or losses are reclassified from accumulated other comprehensive loss to interest expense.  The realized gains and losses effectively adjust the contractual interest requirements pursuant to the terms of our floating rate indebtedness to the interest requirements at the fixed rates established in the interest rate swaps agreements.  The cash flows from our interest rate swaps are recorded in operating activities in the condensed consolidated statements of cash flows.

 

The fair values of the interest rate swaps are estimated using industry standard valuation models using market-based observable inputs including interest rate curves (Level 2).  A summary of the recorded balances with respect to our interest rate swaps

 

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included in our condensed consolidated balance sheets is as follows:

 

(in thousands)

 

October 31,
2009

 

August 1,
2009

 

November 1,
2008

 

 

 

 

 

 

 

 

 

Unrecognized losses – included in other long-term liabilities

 

$

53,104

 

$

57,750

 

$

47,662

 

 

 

 

 

 

 

 

 

Accumulated other comprehensive loss, net of taxes

 

$

32,561

 

$

35,508

 

$

29,717

 

 

A summary of the recorded amounts related to our interest rate swaps reflected in our condensed consolidated statements of operations are as follows:

 

 

 

Thirteen weeks ended

 

(in thousands)

 

October 31,
2009

 

November 1,
2008

 

 

 

 

 

 

 

Realized hedging losses – included in interest expense, net

 

$

11,098

 

$

5,111

 

 

 

 

 

 

 

Ineffective hedging losses – included in interest expense, net

 

$

216

 

$

137

 

 

The amount of losses recorded in other comprehensive loss at October 31, 2009 that is expected to be reclassified into interest expense in the next twelve months, if interest rates remain unchanged, is approximately $43.9 million.

 

5.              Employee Benefit Plans

 

Description of Benefit Plans.  We sponsor a defined benefit pension plan (Pension Plan) and an unfunded supplemental executive retirement plan (SERP Plan) which provides certain employees additional pension benefits. Benefits under both plans are based on the employees’ years of service and compensation over defined periods of employment.  We froze benefits offered under our Pension and SERP Plans effective December 31, 2007.  Retirees and active employees hired prior to March 1, 1989 are eligible for certain limited postretirement health care benefits (Postretirement Plan) if they meet certain service and minimum age requirements.

 

We also maintain defined contribution plans consisting of a 401(k) Plan, a retirement savings plan (RSP) and defined contribution supplemental executive retirement plan (Defined Contribution SERP Plan).  Employees make contributions to the 401(k) Plan and RSP and we match an employee’s contribution up to a maximum of 6% of the employee’s compensation subject to statutory limitations for a potential maximum match of 50% of employee contributions to the 401(k) Plan and 75% of employee contributions to the RSP. We also sponsor an unfunded key employee deferred compensation plan, which provides certain employees with additional benefits.

 

Benefit Obligations.  Obligations for our employee benefit plans, included in other long-term liabilities, are as follows:

 

(in thousands)

 

October 31,
2009

 

August 1,
2009

 

November 1,
2008

 

 

 

 

 

 

 

 

 

Pension Plan

 

$

157,576

 

$

156,001

 

$

41,765

 

SERP Plan

 

93,083

 

92,152

 

78,524

 

Postretirement Plan

 

17,941

 

17,920

 

20,425

 

 

 

268,600

 

266,073

 

140,714

 

Less: current portion

 

(5,069

)

(5,069

)

(4,165

)

Long-term portion of benefit obligations

 

$

263,531

 

$

261,004

 

$

136,549

 

 

As of October 31, 2009, we have $69.0 million (net of taxes of $44.8 million) of adjustments to our benefit obligations recorded as increases to accumulated other comprehensive loss.

 

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Costs of Benefits.  The components of the expenses we incurred under our Pension Plan, SERP Plan and Postretirement Plan are as follows:

 

 

 

Thirteen weeks ended

 

(in thousands)

 

October 31,
2009

 

November 1,
2008

 

Pension Plan:

 

 

 

 

 

Service cost

 

$

1,429

 

$

1,431

 

Interest cost

 

6,329

 

6,038

 

Expected return on plan assets

 

(6,463

)

(6,507

)

Net amortization of losses

 

282

 

 

Pension Plan expense

 

$

1,577

 

$

962

 

 

 

 

 

 

 

SERP Plan:

 

 

 

 

 

Service cost

 

$

171

 

$

162

 

Interest cost

 

1,377

 

1,336

 

SERP Plan expense

 

$

1,548

 

$

1,498

 

 

 

 

 

 

 

Postretirement Plan:

 

 

 

 

 

Service cost

 

$

18

 

$

23

 

Interest cost

 

254

 

336

 

Net amortization of prior service cost

 

(172

)

 

Net amortization of losses

 

90

 

70

 

Postretirement Plan expense

 

$

190

 

$

429

 

 

Funding Policy and Plan Assets.  Our policy is to fund the Pension Plan at or above the minimum required by law. In fiscal year 2009, we were not required to make contributions to the Pension Plan; however, we made a voluntary $15.0 million contribution to our Pension Plan in the fourth quarter of fiscal year 2009.  Based upon currently available information, we will not be required to make contributions to the Pension Plan during fiscal year 2010.  However, we will continue to evaluate voluntary contributions to our Pension Plan based upon the unfunded position of the Pension Plan, our available liquidity and other factors.

 

6.              Income Taxes

 

Our effective income tax rate for the first quarter of fiscal year 2010 was 45.0% compared to 45.7% for the first quarter of fiscal year 2009.  Our effective tax rates for the first quarter of fiscal years 2010 and 2009 were unfavorably impacted by a lower level of projected earnings for fiscal years 2010 and 2009.

 

At October 31, 2009, the gross amount of unrecognized tax benefits was $6.7 million, all of which would impact our effective tax rate, if recognized.  We classify interest and penalties as a component of income tax expense and our liability for accrued interest and penalties was $6.0 million as of October 31, 2009.

 

We file income tax returns in the U.S. federal jurisdiction and various state and local jurisdictions.  During the third quarter of fiscal year 2009, we closed the IRS examination of fiscal years 2005 and 2006 and received net refunds of approximately $2.8 million.  In addition, as a result of the completion of the audit and IRS determination regarding certain deductions taken in connection with the Acquisition, we recorded a decrease in the gross amount of unrecognized tax benefits of $13.7 million and a decrease in accrued interest and penalties of $2.2 million. This $15.9 million reduction in our liability for unrecognized tax benefits resulted in a decrease to goodwill of $17.3 million and a tax benefit of $1.3 million, offset by a decrease to deferred tax liabilities of $2.7 million.

 

The IRS is examining our federal tax return for fiscal year 2007.  We believe our recorded tax liabilities as of October 31, 2009 are sufficient to cover any potential assessments to be made by the IRS upon the completion of their examination. We will continue to monitor the progress of the IRS examination and review our recorded tax liabilities for potential audit assessments.  With respect to state and local jurisdictions, with limited exceptions, the Company and its subsidiaries are no longer subject to income tax audits for fiscal years before 2005.  We believe it is reasonably possible that additional adjustments in the amounts of our unrecognized tax benefits could occur within the next 12 months as a result of settlements with tax authorities or

 

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expiration of statutes of limitation.  At this time, we do not believe such adjustments will have a material impact on our consolidated financial statements.

 

7.              Stock-Based Compensation

 

The Company has approved equity-based management arrangements which authorize equity awards to be granted to certain management employees for up to 87,992.0 shares of the common stock of the Company.  Options generally vest over four to five years and expire 10 years from the date of grant.

 

A summary of the status of our stock option plan is as follows:

 

 

 

October 31, 2009

 

August 1, 2009

 

November 1, 2008

 

 

 

Shares

 

Weighted
Average
Exercise
Price

 

Shares

 

Weighted
Average
Exercise
Price

 

Shares

 

Weighted
Average
Exercise
Price

 

Outstanding at beginning of period

 

79,399.0

 

$

 1,585

 

83,146.6

 

$

 1,507

 

83,146.6

 

$

 1,507

 

Granted

 

6,790.0

 

1,000

 

 

 

 

 

Exercised

 

 

 

(854.5

)

1,684

 

 

 

Forfeited

 

(3,115.6

)

1,684

 

(2,893.1

)

1,617

 

 

 

Outstanding at end of period

 

83,073.4

 

$

 1,611

 

79,399.0

 

$

 1,585

 

83,146.6

 

$

 1,585

 

Options exercisable at end of period

 

64,942.4

 

$

 1,637

 

60,856.7

 

$

 1,542

 

54,084.1

 

$

 1,517

 

 

All grants of stock options have an exercise price equaling or exceeding the fair market value of our common stock on the date of grant.  Because we are privately held and there is no public market for our common stock, the fair market value of our common stock is determined by our Compensation Committee at the time option grants are awarded (Level 3 determination of fair value).  In determining the fair value of our common stock, the Compensation Committee considers such factors as the Company’s actual and projected financial results, the principal amount of the Company’s indebtedness, valuations of the Company performed by third parties and other factors it believes are material to the valuation process.

 

The exercise price of approximately 50% of our options escalate at a 10% compound rate per year (Accreting Options) until the earlier to occur of (i) exercise, (ii) the fifth anniversary of the date of grant or (iii) the occurrence of a change in control. However, in the event the Sponsors cause the sale of shares of the Company to an unaffiliated entity, the exercise price will cease to accrete at the time of the sale with respect to a pro rata portion of the accreting options.  The exercise price with respect to all other options (Fixed Price Options) is fixed at the grant date.  At October 31, 2009, Accreting Options were outstanding for 38,511 shares and Fixed Price Options were outstanding for 44,562 shares.

 

We use the Black-Scholes option-pricing model to determine the fair value of our options as of the date of grant.  A summary of our fiscal year 2010 grants and fair value assumptions is as follows:

 

 

 

Fixed Price
Options

 

Accreting
Options

 

Options Granted

 

3,395.0

 

3,395.0

 

Exercise Price at October 31, 2009

 

$

1,000

 

$

1,000

 

Term

 

8

 

8

 

Volatility

 

53.4

%

53.4

%

Risk-Free Rate

 

3.3

%

3.3

%

Dividend Yield

 

 

 

Fair Value

 

$

 541

 

$

 462

 

 

Expected volatility is based on a combination of NMG’s historical volatility adjusted for our leverage and estimates of implied volatility of our peer group.

 

We recognize compensation expense for stock options on a straight-line basis over the vesting period.  We recognized non-cash stock compensation expense of $1.1 million in the first quarter of fiscal year 2010 and $1.6 million in the first quarter of fiscal year 2009, which is included in selling, general and administrative expenses.  At October 31, 2009, unearned non-cash stock-based compensation that we expect to recognize as expense through fiscal year 2015 aggregates approximately $8.4 million.

 

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In September 2009, the Compensation Committee approved 1) a tender offer for outstanding Accreting Options to purchase approximately 26,614 shares (Eligible Options) and 2) the extension of the option term with respect to Fixed Price Options, which are currently out of the money, for 26,614 shares to October 6, 2017.  These actions were taken in response to recent declines in capital markets and general economic conditions that have resulted in the current exercise prices for these options to be in excess of the current estimated fair value of our common stock.

 

In connection with the tender offer to purchase certain Accreting Options and pursuant to the Issuer Tender Offer Statement on Schedule TO initially filed with the Securities and Exchange Commission on November 17, 2009 and amended on November 24, 2009, option holders will be allowed to tender their Eligible Options (with an average exercise price at October 31, 2009 of $2,131 per share) for new options at an exchange rate of 1.5 Eligible Options to 1.0 new option.  The new options will 1) have an initial exercise price of $1,000 per share which exercise price will escalate at a 10% compound rate per year, 2) vest over four years and 3) expire eight years after the grant date.  The tender offer commenced in November 2009 and is expected to be completed in December 2009.

 

The Compensation Committee is still evaluating modifications with respect to Accreting Options and Fixed Price Options for an additional 23,054 shares, which were not part of the programs described above.

 

8.              Transactions with Sponsors

 

Pursuant to a management services agreement with affiliates of the Sponsors, and in exchange for on-going consulting and management advisory services that are provided to us by the Sponsors and their affiliates, affiliates of the Sponsors receive an aggregate annual management fee equal to the lesser of (i) 0.25% of our consolidated annual revenues or (ii) $10 million. Affiliates of the Sponsors also receive reimbursement for out-of-pocket expenses incurred by them or their affiliates in connection with services provided pursuant to the agreement. These management fees are payable quarterly in arrears.  We recorded management fees of $2.2 million during the first quarter of fiscal year 2010 and $2.5 million during the first quarter of fiscal year 2009, which are included in selling, general and administrative expenses in the condensed consolidated statements of operations.

 

The management services agreement also provides that affiliates of the Sponsors may receive future fees in connection with certain future financing and acquisition or disposition transactions. The management services agreement includes customary exculpation and indemnification provisions in favor of the Sponsors and their affiliates.

 

9.              Income from Credit Card Program, Net

 

In June 2005, we entered into a marketing and servicing alliance with HSBC.  Pursuant to the agreement with HSBC (Program Agreement), HSBC offers credit cards and non-card payment plans and bears substantially all credit risk with respect to sales transacted on the cards bearing our brands. We receive ongoing payments from HSBC related to credit card sales and compensation for marketing and servicing activities (HSBC Program Income).  The Program Agreement expires in June 2010.  We recognize HSBC Program Income when earned.

 

The Program Agreement, as amended, provides for 1) the allocation between HSBC and NMG of additional income, if any, to be generated from the credit card program as a result of certain changes made to the terms of credit extended to our customers since the inception of the Program Agreement and 2) the allocation of certain credit card losses between HSBC and NMG.  In light of current economic conditions that have led to higher delinquencies and losses on consumer indebtednesses, net losses are currently allocable to NMG.  Our reserve for credit card net losses aggregated $3.5 million as of October 31, 2009 and August 1, 2009 and $2.9 million as of November 1, 2008, which is included in accrued liabilities in the condensed consolidated balance sheets.

 

10.       Commitments and Contingencies

 

Long-term Incentive Plan.  The Company has a long-term incentive plan (Long-term Incentive Plan) that provides for a cash incentive payable to certain employees upon a change of control, as defined, subject to the attainment of certain performance objectives.  Performance objectives and targets are based on cumulative EBITDA percentages for three year periods beginning in fiscal year 2006.  Earned awards for each completed performance period will be credited to a book account and will earn interest at a contractually defined annual rate until the award is paid.  Awards will be paid within 30 days of a change of control or the first day there is a public market of at least 20% of our total outstanding common stock.  As of October 31, 2009, the vested participant balance in the Long-Term Incentive Plan aggregated $5.3 million.

 

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Cash Incentive Plan.  The Company also has a cash incentive plan (Cash Incentive Plan) to aid in the retention of certain key executives.  The Cash Incentive Plan provides for the creation of a $14 million cash bonus pool. Each participant in the Cash Incentive Plan will be entitled to a cash bonus upon the earlier to occur of a change of control or an initial public offering, as defined in the Cash Incentive Plan, provided that the internal rate of return to the Sponsors is positive.

 

Litigation.  We are currently involved in various legal actions and proceedings that arose in the ordinary course of business. We believe that any liability arising as a result of these actions and proceedings will not have a material adverse effect on our financial position, results of operations or cash flows.

 

11.       Accumulated Other Comprehensive Loss

 

The following table shows the components of accumulated other comprehensive loss (amounts are recorded net of related income taxes):

 

(in thousands)

 

October 31,
2009

 

August 1,
2009

 

November 1,
2008

 

 

 

 

 

 

 

 

 

Unrealized loss on financial instruments

 

$

 (32,561

)

$

 (35,508

)

$

 (29,717

)

Change in unfunded benefit obligations

 

(69,011

)

(69,011

)

12,302

 

Other

 

 

(68

)

(178

)

Total accumulated other comprehensive loss

 

$

 (101,572

)

$

 (104,587

)

$

 (17,593

)

 

 

 

Thirteen weeks ended

 

(in thousands)

 

October 31,
2009

 

 

 

November 1,
2008

 

Net earnings from condensed consolidated statements of operations

 

$

 8,521

 

 

 

$

 12,878

 

Change in unrealized loss on financial instruments

 

2,947

 

 

 

(7,962

)

Other

 

68

 

 

 

(467

)

Total comprehensive income for the period

 

$

 11,536

 

 

 

$

 4,449

 

 

12.       Segment Reporting

 

We have identified two reportable segments: Specialty Retail stores and Direct Marketing. The Specialty Retail stores segment aggregates the activities of our Neiman Marcus and Bergdorf Goodman retail stores, including Neiman Marcus clearance stores. The Direct Marketing segment conducts both online and print catalog operations under the Neiman Marcus, Bergdorf Goodman and Horchow brand names.  Both the Specialty Retail stores and Direct Marketing segments derive their revenues from the sales of high-end fashion apparel, accessories, cosmetics and fragrances from leading designers, precious and fashion jewelry and decorative home accessories.

 

Operating earnings for the segments include 1) revenues, 2) cost of sales, 3) direct selling, general, and administrative expenses, 4) other direct operating expenses, 5) income from credit card program and 6) depreciation expense for the respective segment.  Items not allocated to our operating segments include those items not considered by management in measuring the assets and profitability of our segments. These amounts include 1) corporate expenses including, but not limited to, treasury, investor relations, legal and finance support services, and general corporate management, 2) charges related to the application of purchase accounting adjustments made in connection with the Acquisition including amortization of intangible assets and favorable lease commitments and other non-cash items and 3) interest expense.  These items, while often related to the operations of a segment, are not considered by segment operating management, corporate operating management and the chief operating decision maker in assessing segment operating performance.  The accounting policies of the operating segments are the same as those described in the summary of significant accounting policies (except with respect to purchase accounting adjustments not allocated to the operating segments).

 

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The following tables set forth the information for our reportable segments:

 

 

 

Thirteen weeks ended

 

(in thousands)

 

October 31,
2009

 

November 1,
2008

 

 

 

 

 

 

 

REVENUES

 

 

 

 

 

Specialty Retail stores

 

$

 721,619

 

$

 827,126

 

Direct Marketing

 

147,281

 

158,661

 

Total

 

$

 868,900

 

$

 985,787

 

 

 

 

 

 

 

OPERATING EARNINGS

 

 

 

 

 

Specialty Retail stores

 

$

 87,198

 

$

 94,436

 

Direct Marketing

 

21,682

 

19,361

 

Corporate expenses

 

(15,717

)

(14,180

)

Amortization of intangible assets and favorable lease commitments

 

(18,314

)

(18,037

)

Total

 

$

 74,849

 

$

 81,580

 

 

 

 

 

 

 

CAPITAL EXPENDITURES

 

 

 

 

 

Specialty Retail stores

 

$

 14,181

 

$

 29,826

 

Direct Marketing

 

3,080

 

3,635

 

Total

 

$

 17,261

 

$

 33,461

 

 

 

 

 

 

 

DEPRECIATION EXPENSE

 

 

 

 

 

Specialty Retail stores

 

$

 30,195

 

$

 32,948

 

Direct Marketing

 

3,866

 

4,312

 

Other

 

1,721

 

1,339

 

Total

 

$

 35,782

 

$

 38,599

 

 

 

 

October 31,  
2009

 

November 1, 
2008

 

ASSETS

 

 

 

 

 

Tangible assets of Specialty Retail stores

 

$

 1,769,973

 

$

 2,083,389

 

Tangible assets of Direct Marketing

 

168,730

 

203,516

 

Corporate assets:

 

 

 

 

 

Intangible assets related to Specialty Retail stores

 

2,790,095

 

3,504,700

 

Intangible assets related to Direct Marketing

 

470,538

 

519,880

 

Other

 

428,792

 

204,007

 

Total

 

$

 5,628,128

 

$

 6,515,492

 

 

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13.  Condensed Consolidating Financial Information

 

2028 Debentures.  All of NMG’s obligations under the 2028 Debentures are guaranteed by the Company. The guarantee by the Company is full and unconditional and joint and several. Currently, the Company’s non-guarantor subsidiaries consist principally of Bergdorf Goodman, Inc. through which NMG conducts the operations of its Bergdorf Goodman stores and NM Nevada Trust which holds legal title to certain real property and intangible assets used by NMG in conducting its operations. Previously, our non-guarantor subsidiaries also included an operating subsidiary domiciled in Canada providing support services to our Direct Marketing operation through January 2009.

 

The following condensed consolidating financial information represents the financial information of Neiman Marcus, Inc. and its non-guarantor subsidiaries, prepared on the equity basis of accounting. The information is presented in accordance with the requirements of Rule 3-10 under the Securities and Exchange Commission’s Regulation S-X. The financial information may not necessarily be indicative of results of operations, cash flows or financial position had the non-guarantor subsidiaries operated as independent entities.

 

 

 

October 31, 2009

 

(in thousands)

 

Company

 

NMG

 

Non-
Guarantor
Subsidiaries

 

Eliminations

 

Consolidated

 

ASSETS

 

 

 

 

 

 

 

 

 

 

 

Current assets:

 

 

 

 

 

 

 

 

 

 

 

Cash and cash equivalents

 

$

 

$

318,421

 

$

794

 

$

 

$

319,215

 

Merchandise inventories

 

 

765,673

 

98,009

 

 

863,682

 

Other current assets

 

 

112,159

 

10,734

 

 

122,893

 

Total current assets

 

 

1,196,253

 

109,537

 

 

1,305,790

 

Property and equipment, net

 

 

854,515

 

119,115

 

 

973,630

 

Goodwill and intangible assets, net

 

 

1,520,745

 

1,739,888

 

 

3,260,633

 

Other assets

 

 

86,242

 

1,833

 

 

88,075

 

Investments in subsidiaries

 

931,498

 

1,871,910

 

 

(2,803,408

)

 

Total assets

 

$

931,498

 

$

5,529,665

 

$

1,970,373

 

$

(2,803,408

)

$

5,628,128

 

LIABILITIES AND SHAREHOLDERS’ EQUITY

 

 

 

 

 

 

 

 

 

 

 

Current liabilities:

 

 

 

 

 

 

 

 

 

 

 

Accounts payable

 

$

 

$

209,321

 

$

28,651

 

$

 

$

237,972

 

Accrued liabilities

 

 

280,762

 

68,368

 

 

349,130

 

Total current liabilities

 

 

490,083

 

97,019

 

 

587,102

 

Long-term liabilities:

 

 

 

 

 

 

 

 

 

 

 

Long-term debt

 

 

2,972,173

 

 

 

2,972,173

 

Deferred income taxes

 

 

690,970

 

 

 

690,970

 

Other long-term liabilities

 

 

444,941

 

1,444

 

 

446,385

 

Total long-term liabilities

 

 

4,108,084

 

1,444

 

 

4,109,528

 

Total shareholders’ equity

 

931,498

 

931,498

 

1,871,910

 

(2,803,408

)

931,498

 

Total liabilities and shareholders’ equity

 

$

931,498

 

$

5,529,665

 

$

1,970,373

 

$

(2,803,408

)

$

5,628,128

 

 

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Table of Contents

 

 

 

August 1, 2009

 

(in thousands)

 

Company

 

NMG

 

Non-
Guarantor
Subsidiaries

 

Eliminations

 

Consolidated

 

ASSETS

 

 

 

 

 

 

 

 

 

 

 

Current assets:

 

 

 

 

 

 

 

 

 

 

 

Cash and cash equivalents

 

$

 

$

322,766

 

$

659

 

$

 

$

323,425

 

Merchandise inventories

 

 

676,973

 

78,061

 

 

755,034

 

Other current assets

 

 

133,438

 

9,630

 

 

143,068

 

Total current assets

 

 

1,133,177

 

88,350

 

 

1,221,527

 

Property and equipment, net

 

 

870,300

 

122,415

 

 

992,715

 

Goodwill and intangible assets, net

 

 

1,535,834

 

1,743,113

 

 

3,278,947

 

Other assets

 

 

85,983

 

1,854

 

 

87,837

 

Investments in subsidiaries

 

918,835

 

1,868,405

 

 

(2,787,240

)

 

Total assets

 

$

918,835

 

$

5,493,699

 

$

1,955,732

 

$

(2,787,240

)

$

5,581,026

 

LIABILITIES AND SHAREHOLDERS’ EQUITY

 

 

 

 

 

 

 

 

 

 

 

Current liabilities:

 

 

 

 

 

 

 

 

 

 

 

Accounts payable

 

$

 

$

210,219

 

$

23,771

 

$

 

$

233,990

 

Accrued liabilities

 

 

240,750

 

62,136

 

 

302,886

 

Current maturities of long-term liabilities

 

 

26,617

 

 

 

26,617

 

Total current liabilities

 

 

477,586

 

85,907

 

 

563,493

 

Long-term liabilities:

 

 

 

 

 

 

 

 

 

 

 

Long-term debt

 

 

2,954,221

 

 

 

2,954,221

 

Deferred income taxes

 

 

697,810

 

 

 

697,810

 

Other long-term liabilities

 

 

445,247

 

1,420

 

 

446,667

 

Total long-term liabilities

 

 

4,097,278

 

1,420

 

 

4,098,698

 

Total shareholders’ equity

 

918,835

 

918,835

 

1,868,405

 

(2,787,240

)

918,835

 

Total liabilities and shareholders’ equity

 

$

918,835

 

$

5,493,699

 

$

1,955,732

 

$

(2,787,240

)

$

5,581,026

 

 

 

 

November 1, 2008

 

(in thousands)

 

Company

 

NMG

 

Non-
Guarantor
Subsidiaries

 

Eliminations

 

Consolidated

 

ASSETS

 

 

 

 

 

 

 

 

 

 

 

Current assets:

 

 

 

 

 

 

 

 

 

 

 

Cash and cash equivalents

 

$

 

$

114,309

 

$

1,041

 

$

 

$

115,350

 

Merchandise inventories

 

 

958,320

 

125,988

 

 

1,084,308

 

Other current assets

 

 

136,494

 

11,517

 

 

148,011

 

Total current assets

 

 

1,209,123

 

138,546

 

 

1,347,669

 

Property and equipment, net

 

 

935,188

 

133,279

 

 

1,068,467

 

Goodwill and intangible assets, net

 

 

1,874,355

 

2,150,225

 

 

4,024,580

 

Other assets

 

 

74,776

 

 

 

74,776

 

Investments in subsidiaries

 

1,682,601

 

2,323,610

 

 

(4,006,211

)

 

Total assets

 

$

1,682,601

 

$

6,417,052

 

$

2,422,050

 

$

(4,006,211

)

$

6,515,492

 

LIABILITIES AND SHAREHOLDERS’ EQUITY

 

 

 

 

 

 

 

 

 

 

 

Current liabilities:

 

 

 

 

 

 

 

 

 

 

 

Accounts payable

 

$

 

$

220,070

 

$

29,554

 

$

 

$

249,624

 

Accrued liabilities

 

 

331,156

 

69,448

 

 

400,604

 

Total current liabilities

 

 

551,226

 

99,002

 

 

650,228

 

Long-term liabilities:

 

 

 

 

 

 

 

 

 

 

 

Long-term debt

 

 

2,946,150

 

 

 

2,946,150

 

Deferred income taxes

 

 

916,072

 

 

 

916,072

 

Other long-term liabilities

 

 

321,003

 

(562

)

 

320,441

 

Total long-term liabilities

 

 

4,183,225

 

(562

)

 

4,182,663

 

Total shareholders’ equity

 

1,682,601

 

1,682,601

 

2,323,610

 

(4,006,211

)

1,682,601

 

Total liabilities and shareholders’ equity

 

$

1,682,601

 

$

6,417,052

 

$

2,422,050

 

$

(4,006,211

)

$

6,515,492

 

 

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Table of Contents

 

 

 

Thirteen weeks ended October 31, 2009

 

(in thousands)

 

Company

 

NMG

 

Non-
Guarantor
Subsidiaries

 

Eliminations

 

Consolidated

 

Revenues

 

$

 

$

715,918

 

$

152,982

 

$

 

$

868,900

 

Cost of goods sold including buying and occupancy costs (excluding depreciation)

 

 

443,554

 

90,669

 

 

534,223

 

Selling, general and administrative expenses (excluding depreciation)

 

 

191,066

 

27,753

 

 

218,819

 

Income from credit card program, net

 

 

(11,881

)

(1,206

)

 

(13,087

)

Depreciation expense

 

 

31,833

 

3,949

 

 

35,782

 

Amortization of intangible assets and favorable lease commitments

 

 

15,089

 

3,225

 

 

18,314

 

Operating earnings

 

 

46,257

 

28,592

 

 

74,849

 

Interest expense, net

 

 

59,364

 

1

 

 

59,365

 

Intercompany royalty charges (income)

 

 

44,271

 

(44,271

)

 

 

Equity in (earnings) loss of subsidiaries

 

(8,521

)

(72,862

)

 

81,383

 

 

Earnings (loss) before income taxes

 

8,521

 

15,484

 

72,862

 

(81,383

)

15,484

 

Income tax expense

 

 

6,963

 

 

 

6,963

 

Net earnings (loss)

 

$

8,521

 

$

8,521

 

$

72,862

 

$

(81,383

)

$

8,521

 

 

 

 

Thirteen weeks ended November 1, 2008

 

(in thousands)

 

Company

 

NMG

 

Non-
Guarantor
Subsidiaries

 

Eliminations

 

Consolidated

 

Revenues

 

$

 

$

817,724

 

$

168,063

 

$

 

$

985,787

 

Cost of goods sold including buying and occupancy costs (excluding depreciation)

 

 

519,088

 

98,655

 

 

617,743

 

Selling, general and administrative expenses (excluding depreciation)

 

 

213,152

 

29,677

 

 

242,829

 

Income from credit card program, net

 

 

(11,534

)

(1,467

)

 

(13,001

)

Depreciation expense

 

 

34,316

 

4,283

 

 

38,599

 

Amortization of intangible assets and favorable lease commitments

 

 

15,090

 

2,947

 

 

18,037

 

Operating earnings

 

 

47,612

 

33,968

 

 

81,580

 

Interest expense, net

 

 

57,843

 

2

 

 

57,845

 

Intercompany royalty charges (income)

 

 

56,830

 

(56,830

)

 

 

Equity in (earnings) loss of subsidiaries

 

(12,878

)

(90,796

)

 

103,674

 

 

Earnings (loss) before income taxes

 

12,878

 

23,735

 

90,796

 

(103,674

)

23,735

 

Income tax expense

 

 

10,857

 

 

 

10,857

 

Net earnings (loss)

 

$

12,878

 

$

12,878

 

$

90,796

 

$

(103,674

)

$

12,878

 

 

20



Table of Contents

 

 

 

Thirteen weeks ended October 31, 2009

 

(in thousands)

 

Company

 

NMG

 

Non-
Guarantor
Subsidiaries

 

Eliminations

 

Consolidated

 

CASH FLOWS—OPERATING ACTIVITIES

 

 

 

 

 

 

 

 

 

 

 

Net earnings (loss)

 

$

8,521

 

$

8,521

 

$

72,862

 

$

(81,383

)

$

8,521

 

Adjustments to reconcile net earnings (loss) to net cash provided by operating activities:

 

 

 

 

 

 

 

 

 

 

 

Depreciation and amortization expense

 

 

51,437

 

7,174

 

 

58,611

 

Paid-in-kind interest

 

 

14,362

 

 

 

14,362

 

Deferred income taxes

 

 

(8,756

)

 

 

(8,756

)

Other, primarily costs related to defined benefit pension and other long-term benefit plans

 

 

4,273

 

45

 

 

4,318

 

Intercompany royalty income payable (receivable)

 

 

44,271

 

(44,271

)

 

 

Equity in (earnings) loss of subsidiaries

 

(8,521

)

(72,862

)

 

81,383

 

 

Changes in operating assets and liabilities, net

 

 

(1,921

)

(35,321

)

 

(37,242

)

Net cash provided by operating activities

 

 

39,325

 

489

 

 

39,814

 

CASH FLOWS—INVESTING ACTIVITIES

 

 

 

 

 

 

 

 

 

 

 

Capital expenditures

 

 

(16,907

)

(354

)

 

(17,261

)

Net cash used for investing activities

 

 

(16,907

)

(354

)

 

(17,261

)