UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, DC 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 July 1, 2012

 

OR

 

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

 

For the transition period from ______________to __________________

 

Commission file number: 000-32233

 

PEET’S COFFEE & TEA, INC.

(Exact Name of Registrant as Specified in Its Charter)

 

 

Washington		91-0863396
(State or Other Jurisdiction of Incorporation or Organization)		(I.R.S. Employer Identification No.)

 

1400 Park Avenue

Emeryville, California 94608-3520

(Address of Principal Executive Offices)(Zip Code)

 

(510) 594-2100

(Registrant’s telephone number, including area code)

 

  

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 o

 

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 (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).   Yes x No o

 

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 the definitions of “large accelerated filer”, “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act:

 

Large Accelerated Filer o	Accelerated Filer x
Non-Accelerated Filer o	Smaller reporting company o

 

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

 

As of July 31, 2012, 13,165,869 shares of registrant’s Common Stock were outstanding.

 

	INDEX	Page
PART I	FINANCIAL INFORMATION
Item 1.	Financial Statements
	Condensed Consolidated Balance Sheets – July 1, 2012 (unaudited) and January 1, 2012	3
	Condensed Consolidated Statements of Income and Comprehensive Income (unaudited) – Thirteen and Twenty-six weeks ended July 1, 2012 and July 3, 2011	4
	Condensed Consolidated Statements of Cash Flows (unaudited) – Twenty-six weeks ended July 1, 2012 and July 3, 2011	5
	Notes to Unaudited Condensed Consolidated Financial Statements	6
Item 2.	Management’s Discussion and Analysis of Financial Condition and Results of Operations	12
Item 3.	Quantitative and Qualitative Disclosures About Market Risk	17
Item 4.	Controls and Procedures	18
PART II	OTHER INFORMATION
Item 1.	Legal Proceedings	18
Item 1A.	Risk Factors	18
Item 2.	Unregistered Sales of Equity Securities and Use of Proceeds	20
Item 3.	Defaults Upon Senior Securities	20
Item 4.	Mine Safety Disclosures	20
Item 5.	Other Information	20
Item 6.	Exhibits	20
	Signatures	21

 

 

PART I – FINANCIAL INFORMATION

 

ITEM 1. FINANCIAL STATEMENTS

 

 

PEET’S COFFEE & TEA, INC.
CONDENSED CONSOLIDATED BALANCE SHEETS
(Unaudited, in thousands, except share amounts)

 

		July 1,				January 1,
		2012				2012
ASSETS
Current assets
Cash and cash equivalents		$	32,428			$	30,755
Short-term marketable securities			5,791				3,800
Accounts receivable, net			19,595				20,522
Inventories			68,417				54,265
Deferred income taxes - current			5,041				5,041
Prepaid expenses and other			10,240				9,368
Total current assets			141,512				123,751
Long-term marketable securities			634				888
Property, plant and equipment, net			85,458				89,304
Other assets, net			2,261				1,328
Total assets		$	229,865			$	215,271
LIABILITIES AND SHAREHOLDERS' EQUITY
Current liabilities
Accounts payable and other accrued liabilities		$	13,348			$	11,547
Accrued compensation and benefits			9,132				10,283
Deferred revenue			7,524				7,382
Total current liabilities			30,004				29,212
Deferred income taxes - non current			372				367
Deferred lease credits			6,463				6,668
Other long-term liabilities			2,396				1,068
Total liabilities			39,235				37,315
Shareholders' equity
Common stock, no par value; authorized 50,000,000 shares; issued and outstanding: 13,245,000 and 13,136,000 shares			74,940				69,664
Accumulated other comprehensive income			3				2
Retained earnings			115,687				108,290
Total shareholders' equity			190,630				177,956
Total liabilities and shareholders' equity		$	229,865			$	215,271

See notes to condensed consolidated financial statements.  

 

 

PEET’S COFFEE & TEA, INC.

CONDENSED CONSOLIDATED STATEMENTS OF INCOME AND COMPREHENSIVE INCOME

(Unaudited, in thousands, except per share amounts)

 

		Thirteen weeks ended								Twenty-six weeks ended
		July 1,				July 3,				July 1,				July 3,
		2012				2011				2012				2011
Retail stores		$	55,424			$	53,351			$	109,539			$	105,440
Specialty sales			39,968				37,265				80,627				73,648
Net revenue			95,392				90,616				190,166				179,088
Cost of sales and related occupancy expenses			48,064				44,558				96,420				85,778
Operating expenses			29,734				28,146				59,560				56,030
Litigation related expenses			-				38				-				79
General and administrative expenses			7,428				6,011				14,810				12,779
Depreciation and amortization expenses			3,930				3,881				7,872				7,800
Total costs and expenses from operations			89,156				82,634				178,662				162,466
Income from operations			6,236				7,982				11,504				16,622
Interest income, net			16				7				22				18
Income before income taxes			6,252				7,989				11,526				16,640
Income tax provision			2,239				2,878				4,129				6,016
Net income		$	4,013			$	5,111			$	7,397			$	10,624
Unrealized gain (loss) on investments			-				(2	)			1				3
Comprehensive income		$	4,013			$	5,109			$	7,398			$	10,627
Net income per share:
Basic		$	0.30			$	0.40			$	0.56			$	0.82
Diluted		$	0.30			$	0.38			$	0.55			$	0.79
Shares used in calculation of net income per share:
Basic			13,260				12,892				13,215				13,000
Diluted			13,547				13,309				13,515				13,414

 

See notes to condensed consolidated financial statements.

 

 

PEET’S COFFEE & TEA, INC.

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS

(Unaudited, in thousands)

 

		Twenty-six weeks ended
		July 1,				July 3,
		2012				2011
Cash flows from operating activities:
Net income		$	7,397			$	10,624
Adjustments to reconcile net income to net cash provided by
operating activities:
Depreciation and amortization			8,932				8,956
Amortization of interest purchased			150				197
Stock-based compensation			2,303				2,035
Excess tax benefit from exercise of stock options			(1,696	)			(5,763	)
Tax benefit from exercise of stock options			1,612				5,224
Loss on disposition of assets and asset impairment			140				325
Deferred income taxes			5				67
Changes in other assets and liabilities:
Accounts receivable, net			927				(197	)
Inventories			(14,152	)			(13,946	)
Prepaid expenses and other current assets			(872	)			(1,147	)
Other assets			(1,238	)			(2	)
Accounts payable, accrued liabilities and deferred revenue			593				(3,021	)
Deferred lease credits and other long-term liabilities			1,123				(379	)
Net cash provided by operating activities			5,224				2,973
Cash flows from investing activities:
Purchases of property, plant and equipment			(5,021	)			(4,851	)
Proceeds from sales of property, plant and equipment
Changes in restricted investments			299				798
Proceeds from sales and maturities of marketable securities			4,056				3,013
Purchases of marketable securities			(5,942	)			(8,384	)
Net cash used in investing activities			(6,608	)			(9,424	)
Cash flows from financing activities:
Net proceeds from issuance of common stock			4,060				15,023
Purchase of common stock			(2,699	)			(39,529	)
Excess tax benefit from exercise of stock options			1,696				5,763
Net cash provided by/(used in) financing activities			3,057				(18,743	)
Increase/(decrease) in cash and cash equivalents			1,673				(25,194	)
Cash and cash equivalents, beginning of period			30,755				44,629
Cash and cash equivalents, end of period		$	32,428			$	19,435
Non-cash investing activities:
Capital expenditures incurred, but not yet paid		$	444			$	449
Other cash flow information:
Cash paid for income taxes			2,807				2,896

 

See notes to condensed consolidated financial statements.

 

Peet’s Coffee & Tea, Inc.

 

NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

 

1.

Basis of Presentation

 

The accompanying condensed consolidated financial statements of Peet’s Coffee & Tea, Inc. and its subsidiaries (collectively, the “Company” or “Peet’s”) as of July 1, 2012 and for the thirteen and twenty-six weeks ended July 1, 2012 and July 3, 2011 are unaudited and, in the opinion of management, contain all adjustments, consisting only of normal recurring items necessary to present fairly the financial position and results of operations for such periods. The condensed consolidated financial statements have been prepared in accordance with generally accepted accounting principles in the United States (“GAAP”) for interim financial information and with the instructions to Form 10-Q and Article 10 Regulation S-X. Accordingly, they do not include all of the information and footnotes required by GAAP for complete financial statements. The information included in this Quarterly Report on Form 10-Q (this “Quarterly Report”) should be read in conjunction with the Company’s annual consolidated financial statements in Peet’s Annual Report on Form 10-K for the year ended January 1, 2012 (the “2011 Annual Report”).

 

The results of operations for the thirteen and twenty-six weeks ended July 1, 2012 are not necessarily indicative of the results expected for the full year. Litigation-related expenses have been presented separately from operating expense in the condensed consolidated statements of income and comprehensive income for all periods presented to conform to current period presentation. These reclassifications did not have an impact on income from operations, income before income taxes, net income, operating or total cash flows, or the financial position for any period presented.

 

 

Recent Accounting Pronouncements

 

In May 2011, the Financial Accounting Standards Board (“FASB”) issued Accounting Standards Update (“ASU”) No. 2011-04, “Fair Value Measurements (Topic 820): Amendments to Achieve Common Fair Value Measurement and Disclosure Requirements in U.S. GAAP and IFRSs.” The ASU changes the wording used to describe many of the requirements in U.S. GAAP for measuring fair value and for disclosing information about fair value measurements to ensure consistency between U.S. GAAP and IFRS. The ASU also expands the disclosures for fair value measurements that are estimated using significant unobservable (Level 3) inputs. This new guidance is to be applied prospectively beginning after December 15, 2011. The Company adopted the guidance in the first quarter of 2012 and there was no material impact on the condensed consolidated financial statements or related footnotes.

 

In June 2011, the FASB issued ASU No. 2011-05, “Comprehensive Income (Topic 220): Presentation of Comprehensive Income.”  This ASU eliminates the option to report other comprehensive income and its components in the statement of changes in equity.  The ASU requires that all non-owner changes in stockholders’ equity be presented in either a single continuous statement of comprehensive income or in two separate but consecutive statements. In December 2011, the FASB issued ASU 2011-12, “Comprehensive Income — Deferral of the Effective Date for Amendments to the Presentation of Reclassifications of Items Out of Accumulated Other Comprehensive Income in ASU 2011-05,” to defer the effective date of the specific requirement to present items that are reclassified out of accumulated other comprehensive income to net income alongside their respective components of net income and other comprehensive income. All other provisions of this update, which are to be applied retrospectively, are effective for fiscal years, and interim periods within those years, beginning after December 15, 2011. The Company adopted the guidance in the first quarter of 2012 with no material impact on the condensed consolidated financial statements or related footnotes.

  

Net Income per Share

 

Basic net income per share is computed as net income divided by the weighted average number of common shares outstanding for the period. Diluted net income per share reflects the potential dilution that could occur from common shares issued through stock options and awards. Anti-dilutive shares of 118,898 and 126,303 have been excluded from diluted weighted average shares outstanding for the thirteen-week periods ended July 1, 2012 and July 3, 2011, respectively, and 73,733 and 168,362 for the twenty-six-week periods, respectively.

 

 

 

 

The number of incremental shares from the assumed exercise of stock options was calculated by applying the treasury stock method. The following table summarizes the differences between basic weighted average shares outstanding and diluted weighted average shares outstanding used to compute diluted net income per share (in thousands):

  

 

		Thirteen weeks								Twenty-six weeks
		July 1,				July 3,				July 1,				July 3,
		2012				2011				2012				2011
Basic weighted average shares
outstanding			13,260				12,892				13,215				13,000
Incremental shares from assumed
exercise of stock options and awards			287				417				300				414
Diluted weighted average shares
outstanding			13,547				13,309				13,515				13,414

  

2.

Fair Value Measurements

 

ASU 820, “Fair Value Measurements and Disclosures,” defines fair value as the exchange price that would be received for an asset or paid to transfer a liability (an exit price) in the principal or most advantageous market for the asset or liability in an orderly transaction between market participants on the measurement date. ASU 820 also establishes a fair value hierarchy which requires an entity to maximize the use of observable inputs and minimize the use of unobservable inputs when measuring fair value. The standard describes three levels of inputs that may be used to measure fair value:

 

Level 1 - Quoted prices in active markets for identical assets or liabilities.

 

Level 2 - Inputs other than quoted prices included within Level 1 that are either directly or indirectly observable.

 

Level 3 - Unobservable inputs that are supported by little or no market activity, therefore requiring an entity to develop its own assumptions about the assumptions that market participants would use in pricing.

 

Recurring Fair Value Measurements

 

In accordance with accounting principles generally accepted in the United States, certain assets and liabilities are required to be recorded at fair value on a recurring basis. The Company has the following assets that are adjusted to fair value on a recurring basis.

 

						July 1,				January 1,
		Level				2012				2012
State and local government obligations - short-term (a)			1			$	5,791			$	3,800
State and local government obligations - long-term (a)			1				634				888
Deferred compensation plan assets (b)			1				1,234				-
Total						$	7,659			$	4,688

 

 

(a)

The fair values of our investments in our marketable securities were determined using quoted market prices from daily exchange traded markets. The fair values of these instruments were based on the closing price as of the balance sheet date and were classified as Level 1. The Company’s marketable securities consist of equity securities and interest-bearing, U.S. government, agency, and municipal securities.

 

Unrealized gains or losses on marketable securities are recorded in accumulated other comprehensive income at each measurement date.

 

 

 

 

(b)

Represents the fair value of plan assets invested in frequently-priced mutual funds established under a Rabbi Trust for the Company’s non-qualified deferred compensation plan and are classified as Level 1. The plan assets are recorded in other assets.

 

Assets and Liabilities Measured at Fair Value on a Non-Recurring Basis

 

The Company measures certain non-financial assets and liabilities, including long-lived assets, at fair value on a non-recurring basis. For the thirteen and twenty-six-week periods ended July 1, 2012 the Company recorded a charge of $91,000 related to the impairment of assets at two under-performing stores. A similar charge was recorded in the thirteen and twenty-six-week periods ended July 3, 2011 of $0 and $97,000, respectively for one under-performing store. The fair market value of these assets was determined using the income approach and Level 3 inputs, which required management to make estimates about future cash flows. Management estimates the amount and timing of future cash flows based on its experience and knowledge of the retail market in which each store operates and other factors. This impairment charge was included in operating expenses in the accompanying condensed consolidated statements of income and comprehensive income.

 

The carrying value of cash and equivalents, restricted cash, receivables and accounts payable approximates fair value.

 

3.

Inventories

 

The Company’s inventories consist of the following (in thousands):

  

		July 1,				January 1,
		2012				2012
Green coffee		$	55,919			$	43,671
Other inventory			12,498				10,594
Total		$	68,417			$	54,265

 

 

4.

Stock Purchase Program

 

On September 2, 2010, the Board of Directors authorized the Company to purchase up to one million additional shares of the Company’s common stock.  During the twenty-six weeks ended July 3, 2011, the Company purchased the remaining 805,451 shares of common stock, at an average price of $44.20, pursuant to a 10b5-1 plan in accordance with this stock purchase program. As of July 3, 2011, no shares remained available for purchase under this stock purchase program.

 

On May 27, 2011, the Board of Directors authorized the Company to purchase up to one million additional shares of the Company’s common stock. During the twenty-six weeks ended July 1, 2012, the Company purchased 44,623 shares of common stock, at an average price of $60.48, pursuant to a 10b5-1 plan in accordance with this stock purchase program. During the twenty-six weeks ended July 3, 2011, the Company purchased 74,123 shares of common stock, at an average price of $53.04, pursuant to a 10b5-1 plan in accordance with this stock purchase program. 680,543 shares remain available for purchase under this stock purchase program; however, repurchases of the Company’s common stock are prohibited by the Merger Agreement discussed in Note 9, “Subsequent Events”.

  

5.

Stock-Based Compensation

 

On May 18, 2010, the Company’s shareholders approved the Peet’s Coffee & Tea, Inc. 2010 Equity Incentive Plan (the “2010 Plan”). The 2010 Plan is intended as the successor to and continuation of the Peet’s Coffee & Tea, Inc. 2000 Equity Incentive Plan (“Prior Plan”). Under the 2010 Plan, the Company may grant incentive stock options, nonstatutory stock options, stock appreciation rights, restricted stock awards, restricted stock unit awards (“RSUs”), performance stock awards, performance cash awards, and other stock awards. No additional stock awards will be granted under the Prior Plan.

 

 

 

On May 27, 2011, the Company’s shareholders approved an amendment to the 2010 Plan (as amended, the “Amended 2010 Plan”). Under the Amended 2010 Plan, the aggregate number of shares of common stock that may be issued pursuant to stock awards from and after May 18, 2010 shall not exceed 1,450,000 shares plus shares underlying options under the Prior Plan that expire or terminate, less one share for each share of stock issued pursuant to an option or stock appreciation right granted under the Prior Plan after January 3, 2010 and 1.8 shares for each share of stock issued pursuant to a restricted stock award, restricted stock unit award, performance stock award, performance cash award, or other stock award granted under the Prior Plan after January 3, 2010. The Amended 2010 Plan provides that the number of shares available for issuance under the Amended 2010 Plan shall be reduced by one share for each share of common stock subject to a stock option or stock appreciation right with a strike price of at least 100% of the fair market value of the underlying common stock on the grant date and by two shares for each share of common stock subject to any other type of award issued pursuant to the Amended 2010 Plan.

 

On May 11, 2012, the Company’s Board of Directors approved an amendment to the 2000 Non-Employee Director Stock Option Plan to change to a value-based calculation for annual option grants to non-employee directors (instead of annual option grants that had been fixed at 5,000 shares) and to eliminate the initial stock option grant for new non-employee directors. On May 11, 2012, the Company’s Board of Directors also adopted the Non-Employee Director Compensation Plan to set forth the cash compensation for the Company’s non-employee directors, acknowledge the annual option grants to be provided under the 2000 Non-Employee Director Stock Option Plan (as amended), and provide for an initial grant of restricted stock units under the Amended 2010 Plan to new non-employee directors.

 

Stock Option Activity

 

Changes in stock options were as follows:

  

										Weighted Average				Aggregate
						Weighted Average				Remaining				Intrinsic
		Options				Exercise Price				Contractual				Value
		Outstanding				Per Share				Life (Years)				(in thousands)
Outstanding at January 1, 2012			1,028,361			$	31.84				6.76			$	31,714
Granted			170,740				63.91
Cancelled			(18,879	)			27.53
Exercised			(125,334	)			26.86
Outstanding at July 1, 2012			1,054,888			$	37.70				6.93			$	24,225
Vested or expected to vest, July 1, 2012			995,982			$	37.05				6.84			$	23,465
Exercisable at July 1, 2012			513,298			$	30.19				5.94			$	15,321

 

Options vested or expected to vest do not consider the impact of the Merger Agreement discussed in Note 9, “Subsequent Events”.

Restricted Stock Unit Awards

 

 

 

Changes in RSU’s were as follows:

 

		Number of				Weighted Average
		Units				Grant Date
		Outstanding				Fair Value
Outstanding at January 1, 2012			36,266			$	43.38
Granted			16,319			$	62.70
Released			(14,184	)		$	43.38
Cancelled			(2,342	)		$	46.78
Outstanding at July 1, 2012			36,059			$	51.91

 

 

Employee Stock Purchase Plan

 

The Company has an Employee Stock Purchase Plan (“ESPP”) under which eligible employees can choose to have up to 15% of their annual earnings withheld to purchase the Company’s common stock. The price of stock purchased under the ESPP is 85% of the lower of the market prices at the beginning of the offering period and the end of the offering period. On May 27, 2011, the Board of Directors of the Company amended the ESPP to eliminate the automatic annual increases in the number of shares available for issuance under the ESPP.

 

During the twenty-six-week period ended July 1, 2012, 13,260 shares of the Company’s common stock were purchased under the ESPP. At July 1, 2012, 1,405,185 shares remain available for future issuance under the ESPP.

 

Stock-Based Compensation

 

Stock-based compensation expense consists of and was recognized in the condensed consolidated statements of income and comprehensive income as follows (in thousands):

  

		Thirteen weeks ended								Twenty-six weeks ended
		July 1,				July 3,				July 1,				July 3,
		2012				2011				2012				2011
Stock-based compensation expense		$	1,238			$	1,052			$	2,131			$	1,862
Employee Stock Purchase Plan expense			75				77				172				173
Total		$	1,313			$	1,129			$	2,303			$	2,035
Cost of sales and related occupancy expenses		$	171			$	285			$	323			$	414
Operating expenses			399				257				731				560
General and administrative expenses			743				587				1,249				1,061
Total		$	1,313			$	1,129			$	2,303			$	2,035
Tax benefit		$	527			$	453			$	925			$	817

 

The fair value of each RSU is equal to the stock price on the date of grant. The fair value of each option grant and Employee Stock Purchase Plan award is estimated on the date of grant using the Black-Scholes-Merton option-pricing model with the following assumptions:

 

 

 

 

			July 1,				July 3,
			2012				2011
Expected term in years			5.4				5.3
Expected stock price volatility			34.4	%			36.1	%
Risk-free interest rate			0.7	%			2.2	%
Expected dividend yield			0.0	%			0.0	%
Estimated fair value per option granted		$	20.69			$	17.29
Estimated fair value per RSU awarded		$	62.70			$	47.31

 

6.	Line of Credit

 

On December 21, 2010, the Company entered into a credit agreement with Wells Fargo Bank, National Association (the “Bank”). The credit agreement provides for a $50 million revolving line of credit, the proceeds of which may be used for general corporate purposes, including funding working capital, capital expenditures, share repurchases and other needs. The line of credit has a maturity date of December 1, 2013. This credit agreement replaced the Company’s agreement with the Bank that matured on December 1, 2010 and under which there were no borrowings.

 

The Company’s obligations under the line of credit are unconditionally guaranteed by Peet’s Operating Company, Inc. in the principal amount up to $50 million. The line of credit has a maturity date of December 1, 2013.

 

During the twenty-six weeks ended July 1, 2012 and as of July 1, 2012, there were no borrowings under this agreement. Total unused borrowing capacity under the credit agreement was $50 million as of July 1, 2012.  

  

7.

Legal Proceedings

 

The Company is party to the significant legal proceedings described below.

 

On February 23, 2010, a complaint was filed in Orange County Superior Court by two former employees, on behalf of themselves and all other non-exempt employees similarly situated in the state of California (the “class”) naming the Company as a defendant. One of the named plaintiffs was removed by an amended complaint and the remaining named plaintiff alleges claims for unpaid overtime, unpaid meal and rest period premiums, unpaid business expenses, unpaid minimum wages, untimely wages paid at time of termination, untimely payment of wages, failure to pay vacation wages, violation of California Business & Professions Code section 17200 and non-compliant wage statements and seeks injunctive relief, restitution, monetary damages, penalties under the California Labor Code Private Attorneys General Act, costs and attorneys’ fees, penalties, and prejudgment interest.  On September 14, 2011, the Company reached a tentative settlement pursuant to which the Company denies any liability but agrees to maximum payment to class participants of $2,875,000, including plaintiff’s attorney’s fees. On December 19, 2011, the California Superior Court granted preliminary approval of the settlement terms. At the time of the tentative settlement these costs, in addition to the Company’s attorney’s fees, were recorded as litigation-related expenses. All related costs incurred in the prior period have been reflected in litigation-related expenses in the accompanying consolidated statements of income. On May 11, 2012, the California Superior Court granted approval of the settlement terms and on July 25, 2012 the Company deposited the gross settlement amount of $2,875,000 plus $47,823, representing the Company’s portion of applicable employment taxes, in an escrow account in satisfaction of the settlement.

 

On August 7, 2010, the Council for Education and Research on Toxics (“CERT”), filed an enforcement action under California Health and Safety Code section 25249.6 (“Proposition 65”) against a number of companies, including the Company, for  not providing "clear and reasonable warnings" before allegedly exposing individuals in California to acrylamide in “ready to drink” coffee.   On May 9, 2011, CERT sued more than 40 companies that sell beans, grounds and other "coffee" products in California, including the Company, for not providing "clear and reasonable warnings" before allegedly exposing individuals in California to acrylamide in such coffee products.  The cases have been related and are pending in Los Angeles County Superior Court.  The Company has joined with the other defendants and is vigorously defending these actions.  At this time, the Company is not able to predict the probability of the outcome or estimate of loss, if any, related to these matters. 

 

 

 

On May 17, 2011, Aegis Retail Group, LLC and various affiliates (“Aegis”) filed a lawsuit against the Company in the Supreme Court of the State of New York, County of New York claiming that the Company breached an alleged agreement to permit Aegis to open licensed Peet's Coffee & Tea locations and participate in the Company’s “We Proudly Brew” program in the New York metropolitan area.  The Company is vigorously defending against this claim. At this time, the Company is not able to predict the probability of the outcome or estimate of loss, if any, related to this matter. On May 19, 2011, Aegis filed a motion for preliminary injunction that sought to compel the Company to reinstate and continue Aegis’s participation in our “We Proudly Brew” program at two locations and to continue to negotiate licenses for two locations. On December 21, 2011 the court denied Aegis’s request for preliminary injunction.

 

On May 14, 2012, a putative class action complaint was filed in the Superior Court of the Commonwealth of Massachusetts, Suffolk County by a former retail associate employee on behalf of himself and all other employees similarly situated in the Commonwealth of Massachusetts naming the Company as a defendant. The complaint alleges that the Company has a policy of including shift supervisors in the retail store tip pools and allowing them to share in the proceeds of tips left by customers and that this policy violates the Massachusetts Tip Law. The named plaintiff is seeking certification of the class, restitution for himself and all other similarly situated employees, and all other remedies to which they are entitled, including treble damages, attorney’s fees and costs. The Company plans to vigorously defend this action. As this matter is at a very early stage, at this time, the Company is not able to predict the probability of the outcome or estimate of loss, if any, related to this matter. 

 

On June 27, 2012, a putative class action complaint was filed in San Francisco County Superior Court by a current retail associate employee on behalf of himself and all other employees similarly situated in the state of California naming the Company as a defendant. The complaint alleges that the Company has a practice and policy of including shift supervisors in retail store tip pools and that such practice constitutes conversion and unfair business practices in violation of California law. The named plaintiff is seeking class certification, restitution, interest, attorney fees and injunctive relief. The Company plans to vigorously defend this action. As this matter is at a very early stage, at this time, the Company is not able to predict the probability of the outcome or estimate of loss, if any, related to this matter.

 

On July 24, 2012, a putative class action complaint was filed in Alameda County Superior Court in California by a purported shareholder of the Company on behalf of himself and all other shareholders naming as defendants the Company, the members of its board of directors and JAB Holdings BV and alleging that the members of the Company’s Board of Directors breached their fiduciary duties, and that the Company and JAB aided and abetted the alleged breaches, in connection with the Company’s agreement to be acquired by an affiliate of JAB. As of August 2, 2012, at least five other similar putative class actions have been filed, four in Alameda County Superior Court and one in King County Superior Court in Washington, and more may be filed in the future. The lawsuits each assert that the Company and its board of directors engaged in a flawed process in negotiating the potential sale, obtained a price that was below the Company’s actual value and agreed to provisions that would allegedly preclude another interested buyer from making a topping bid for the Company. The lawsuits seek, among other things, declaratory and injunctive relief or rescission to enjoin or rescind the proposed acquisition, “rescissory damages,” an accounting for damages, a constructive trust for any allegedly improper gains by defendants, pre- and post-judgment interest and attorneys’ fees. The Company believes these lawsuits are meritless and intends to defend against them vigorously. As these matters are at a very early stage, at this time, the Company is not able to predict the probability of the outcome or estimate of loss, if any, related to these matters. 

 

The Company is involved in various other litigation and governmental proceedings, not described above, that have arisen in the normal course of business. While it is not possible to determine with certainty the ultimate outcome or the duration of any such litigation or governmental proceedings, the Company believes, based on current knowledge and the advice of counsel, that such litigation and proceedings will not have a material impact on the Company’s consolidated financial position or results of operations.

 

8.

Segment Information

 

The Company operates in two reportable segments:  retail and specialty.  Retail store operations consist of sales of whole bean coffee, beverages, tea and related products through Company-operated retail stores.  Specialty consists of whole bean coffee sales through three operating segments: grocery, foodservice and office, and home delivery.

 

Management evaluates segment performance primarily based on revenue and segment operating income.  The following table presents certain financial information for each segment.  Segment income before taxes excludes unallocated marketing expenses and general and administrative expenses.  Unallocated assets include cash, coffee inventory in the warehouse, corporate headquarter assets and intangible and other assets (dollars in thousands).

 

 

		Retail								Specialty								Unallocated				Total
						Percent								Percent												Percent
						of Net								of Net												of Net
		Amount				Revenue				Amount				Revenue								Amount				Revenue
For the thirteen weeks ended July 1, 2012
Net revenue		$	55,424				100.0	%		$	39,968				100.0	%						$	95,392				100.0	%
Cost of sales and occupancy			24,807				44.8	%			23,257				58.2	%							48,064				50.4	%
Operating expenses			21,663				39.1	%			8,071				20.2	%							29,734				31.2	%
Litigation related expenses			-				0.0	%			-				0.0	%							-				0.0	%
Depreciation and amortization			2,782				5.0	%			354				0.9	%		$	794				3,930				4.1	%
Segment operating income			6,172				11.1	%			8,286				20.7	%			(8,222	)			6,236				6.5	%
Total assets			44,695								24,742								160,428			$	229,865
Capital expenditures			1,737								306								580				2,623
For the thirteen weeks ended July 3, 2011
Net revenue		$	53,351				100.0	%		$	37,265				100.0	%						$	90,616				100.0	%
Cost of sales and occupancy			23,692				44.4	%			20,866				56.0	%							44,558				49.2	%
Operating expenses			20,387				38.2	%			7,759				20.8	%							28,146				31.1	%
Litigation related expenses			38				0.1	%			-				0.0	%							38				0.0	%
Depreciation and amortization			2,731				5.1	%			433				1.2	%		$	717				3,881				4.3	%
Segment operating income			6,503				12.2	%			8,207				22.0	%			(6,728	)			7,982				8.8	%
Total assets			47,908								19,958								131,009				198,875
Capital expenditures			2,297								197								536				3,030
For the twenty-six weeks ended July 1, 2012
Net revenue		$	109,539				100.0	%		$	80,627				100.0	%						$	190,166				100.0	%
Cost of sales and occupancy			49,323				45.0	%			47,097				58.4	%							96,420				50.7	%
Operating expenses			42,728				39.0	%			16,832				20.9	%							59,560				31.3	%
Litigation related expenses			-				0.0	%															-				0.0	%
Depreciation and amortization			5,571				5.1	%			721				0.9	%		$	1,580				7,872				4.1	%
Segment operating income			11,917				10.9	%			15,977				19.8	%			(16,390	)			11,504				6.0	%
Total assets			44,695								24,742								160,428				229,865
Capital expenditures			3,134								603								1,284				5,021
For the twenty-six weeks ended July 3, 2011
Net revenue		$	105,440				100.0	%		$	73,648				100.0	%						$	179,088				100.0	%
Cost of sales and occupancy			45,936				43.6	%			39,842				54.1	%							85,778				47.9	%
Operating expenses			40,866				38.8	%			15,164				20.6	%							56,030				31.3	%
Litigation related expenses			79				0.1	%			-												79				0.0	%
Depreciation and amortization			5,468				5.2	%			877				1.2	%		$	1,455				7,800				4.4	%
Segment operating income			13,091				12.4	%			17,765				24.1	%			(14,234	)			16,622				9.3	%
Total assets			47,908								19,958								131,009				198,875
Capital expenditures			2,969								885								997				4,851

 

9.

Subsequent Events

 

Merger Agreement

 

On July 21, 2012, the Company entered into an Agreement and Plan of Merger (the “Merger Agreement”) with JAB Holdings BV, a Dutch Besloten Vennootschap met beperkte aansprakelijkheid (“JAB”), and Panther Merger Co., a Washington corporation and an affiliate of JAB (“Merger Sub”) providing for the acquisition of the Company by an affiliate of JAB Holdings BV. Under the terms of the Merger Agreement, which was unanimously approved by the Company's Board of Directors, the affiliate of JAB will acquire all of the outstanding shares of the Company's common stock for $73.50 per share in cash. The transaction, which is structured as a one-step merger with the Company as the surviving corporation (the “Merger”), is not subject to a financing condition and is subject to customary closing conditions, including receipt of shareholder and regulatory approvals. The transaction requires the affirmative vote of holders of a majority of the Company’s outstanding shares.  

 

 

 

Employee Stock Purchase Plan

 

Contingent upon consummation of the Merger, the Employee Stock Purchase Plan will be terminated immediately prior to the effective time of the Merger. The offering under the Purchase Plan that began on July 1, 2012 is expected to be the final offering under the Purchase Plan, with the final purchases of shares of the Company’s common stock to be effected on September 28, 2012 (or, if earlier, immediately prior to the effective date of the Merger) with the participants’ accumulated payroll deductions. 

 

Item 2.   Management’s Discussion and Analysis of Financial Condition and Results of Operations

 

You should read the following discussion and analysis in conjunction with the financial statements and related notes included in this Quarterly Report on Form 10-Q and our Annual Report on Form 10-K for the year ended January 1, 2012 (the “2011 Annual Report”). These historical financial statements may not be indicative of our future performance.

 

The following discussion and analysis contains forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995, including, without limitation, statements about the expected closing of the proposed Merger (as defined below), our expected results of operations in fiscal 2012 (including the performance or other factors expected to drive those results), the coffee industry, the expected growth of specialty coffee, and related trends. These forward-looking statements are based on our beliefs, expectations, estimates and projections as of this date of this Quarterly Report and could be affected by risks, uncertainties and other important factors as described in “Part II, Item 1A. Risk Factors” in this Quarterly Report and in “Part I, Item 1A. Risk Factors” in our 2011 Annual Report. Such factors include, among others, risks related to the proposed Merger and our ability to successfully implement our business strategy, including our ability to market our products, increase our brand recognition, expand our distribution and otherwise effectively compete.

 

Our actual results may differ materially from these forward-looking statements and you should not place undue reliance on them. Except as required by law, we assume no obligation to update publicly any forward-looking statements, or to update publicly the reasons actual results could differ materially from any forward-looking statements, even if new information becomes available in the future.

 

Company Overview and Industry Outlook

 

Peet’s is a specialty coffee roaster and marketer of fresh-roasted whole bean coffee and tea. We sell our Peet’s brand coffee and tea through multiple channels of distribution, including grocery stores, home delivery, office, restaurant and foodservice accounts and, in six states, Company-owned and -operated stores. In addition, we sell Godiva^® Chocolatier brand coffees in our grocery channel. Founded in Berkeley, California in 1966, Peet's has established a loyal customer base with strong brand awareness in California. 

 

We expect the specialty coffee industry, fueled by continued consumer interest in high-quality coffee and related products, to continue to grow. We believe that growth opportunities exist in all of our distribution channels and that our specialty segment can expand to geographies where we do not have a retail presence. In retail, we expect to continue to open new retail stores in strategic west coast locations that meet our demographic profile. In grocery, we expect to continue to expand into new markets in addition to the western U.S., eastern seaboard and other selected markets, although the full extent of our penetration will depend upon the growth of the specialty coffee category in those markets. We will continue to work with distributors and companies to expand our presence in the foodservice and office environment.

 

In the past two years, we have experienced a dramatic increase in the price volatility of Arabica coffee traded on New York Board of Trade.  Since May 2010, commodity coffee prices have been extremely volatile ranging from a low of $1.32 per pound to a high of $3.05 per pound and as of June 29, 2012 was $1.70 per pound. We expect the coffee commodity market to continue to be challenging over time as the market continues to be influenced by worldwide supply and demand, the relative strength of the dollar, speculative trading and weather. While we do not purchase coffee on the commodity markets, price movements in the commodity trading of Arabica coffee beans impact the prices we pay. The price that we paid for our coffee for the first half of 2012 was 28% higher per pound than what we paid in the corresponding period of 2011 and that increased cost negatively affected our profitability. In order to have visibility to our costs for the future, we typically fix the price of our coffee needs for the next 6 to 12 months by purchasing and holding large inventories of green coffee and utilizing future fixed price purchase commitments.  As of July 1, 2012, our inventory and fixed price commitments are sufficient for virtually all of our anticipated 2012 needs at a cost approximately 10% higher per pound than 2011. 

  

 

We have historically raised prices in each of our channels to offset the higher costs and we did increase prices in each channel in 2010 and/or 2011, which benefited us in the first half of 2012.  If we are unable to pass along these costs to our customers or find other means to offset coffee or other inflation, our profitability and margins will be negatively affected. We will continue to monitor these markets and take actions we feel are appropriate to minimize the impact on us in the short- and long-term.

 

On July 21, 2012, the Company entered into an Agreement and Plan of Merger (the “Merger Agreement”) with JAB Holdings BV, a Dutch Besloten Vennootschap met beperkte aansprakelijkheid (“JAB”), and Panther Merger Co., a Washington corporation and an affiliate of JAB (“Merger Sub”) providing for the acquisition of the Company by an affiliate of JAB Holdings BV. Under the terms of the Merger Agreement, which was unanimously approved by the Company's Board of Directors, the affiliate of JAB will acquire all of the outstanding shares of the Company's common stock for $73.50 per share in cash. The transaction, which is structured as a one-step merger with the Company as the surviving corporation (the “Merger”), is not subject to a financing condition and is expected to close in approximately three months, subject to customary closing conditions, including receipt of shareholder and regulatory approvals. The transaction requires the affirmative vote of holders of a majority of the Company’s outstanding shares.

 

 

 

 

 

Results of Operations

 

The following discussion of results of operations should be read in conjunction with the condensed consolidated financial statements and accompanying notes and the other financial data included elsewhere in this report.

 

 

		Thirteen weeks ended								Twenty-six weeks ended
		July 1,				July 3,				July 1,				July 3,
		2012				2011				2012				2011
Statement of income as a percent of net revenue:
Net revenue			100.0	%			100.0	%			100.0	%			100.0	%
Cost of sales and related occupancy expenses			50.4				49.2				50.7				47.9
Operating expenses			31.2				31.1				31.3				31.3
General and administrative expenses			7.8				6.6				7.8				7.1
Depreciation and amortization expenses			4.1				4.3				4.1				4.4
Income from operations			6.5				8.8				6.0				9.3
Interest income, net			-				-				-				-
Income before income taxes			6.6				8.8				6.1				9.3
Income tax provision			2.3				3.2				2.2				3.4
Net income			4.2	%			5.6	%			3.9	%			5.9	%
Percent of net revenue by business segment:
Retail			58.1	%			58.9	%			57.6	%			58.9	%
Specialty			41.9				41.1				42.4				41.1
Percent of net revenue by business category:
Whole bean coffee and related products			56.8	%			56.5	%			57.5	%			56.9	%
Beverages and pastries			43.2				43.5				42.5				43.1
Cost of sales and related occupancy expenses as a percent of segment revenue:
Retail			44.8	%			44.4	%			45.0	%			43.6	%
Specialty			58.2				56.0				58.4				54.1
Operating expenses as a percent of segment revenue:
Retail			39.1	%			38.2	%			39.0	%			38.8	%
Specialty			20.2				20.8				20.9				20.6
Percent increase (decrease) from prior year:
Net revenue			5.3	%			12.2	%			6.2	%			10.6	%
Retail			3.9				5.5				3.9				4.8
Specialty			7.3				23.3				9.5				20.1
Cost of sales and related occupancy expenses			7.9				19.2				12.4				14.5
Operating expenses			5.6				4.5				6.3				2.3
Litigation related expenses			(100.0	)			(99.8	)			(100.0	)			(99.5	)
General and administrative expenses			23.6				6.9				15.9				7.2
Depreciation and amortization expenses			1.3				(3.5	)			0.9				(1.2	)
Selected operating data:
Number of retail stores in operation
Beginning of the period			197				193				196				192
Store openings			-				-				1				1
Store closures			-				-				-				-
End of the period			197				193				197				193

 

Thirteen Weeks Ended July 1, 2012 Compared to Thirteen Weeks Ended July 3, 2011

 

Net revenue

 

Net revenue for the thirteen weeks ended July 1, 2012 increased as a result of our continued expansion of our retail and specialty segments. The table below sets forth net revenue for the thirteen weeks ended July 1, 2012 and July 3, 2011 by business segment as well as business category.

 

		Thirteen weeks ended
(dollars in thousands)		July 1, 2012				July 3, 2011				Increase
Retail:
Whole bean coffee, tea, and related products			14,206				13,945				261				1.9	%
Beverages and pastries			41,218				39,406				1,812				4.6	%
Total Retail		$	55,424			$	53,351			$	2,073				3.9	%
Specialty:
Grocery		$	24,205			$	23,148			$	1,057				4.6	%
Foodservice and office			11,587				10,057				1,530				15.2	%
Home delivery			4,176				4,060				116				2.9	%
Total specialty		$	39,968			$	37,265			$	2,703				7.3	%
Total net revenue		$	95,392			$	90,616			$	4,776				5.3	%

 

In the retail segment, net revenue increased primarily as a result of growth in beverage and pastries sales and, to a lesser extent, an increase in whole bean sales. The beverage and pastries sales increase was due to a 4% increase in average transaction and an $874,000 sales tax refund related to resolution of a sales tax computation interpretation with the taxing authorities. The increase in whole bean coffee sales was due primarily to an increase in average revenue per pound of 3% and the addition of four new stores, partially offset by declines in whole bean sales in existing stores. In addition to the one store opened during the first quarter, we plan to open an additional four to five stores in 2012.

 

In the specialty segment, the increase in net revenue was driven by a 4% volume increase and a 3% increase in average price. The growth in net revenue in grocery was due primarily to an increase in average price as well as increased volume due to new accounts. Our grocery revenue growth was impacted by an increase in competitive pricing pressure during the period. The growth in net revenue in foodservice and office was due primarily to new accounts as well as an increase in average price. The growth in net revenue in home delivery was due to both increased volume and an increase in average price.

 

Cost of sales and related occupancy expenses

 

Cost of sales and related occupancy expenses consist of product costs, including manufacturing costs, rent and other occupancy costs. As a percent of net revenue, cost of sales increased from 49.2% in the second quarter of 2011 to 50.4% in the second quarter of 2012. The increase was due primarily to 16% higher per pound green coffee costs, partially offset primarily by the impact of price increases and lower shipping expenses.

 

In the retail segment, cost of sales and related occupancy expenses as a percent of net revenue increased 0.4% due primarily to the impact of higher coffee costs, partially offset by the sales tax refund related to prior years and the impact of price increases.

 

In the specialty segment, cost of sales and related occupancy expenses as a percent of net revenue increased 2.2% due primarily to the impact of higher coffee costs, partially offset by the impact of price increases and lower shipping expenses.

  

Operating expenses

 

Operating expenses consist of both retail and specialty segment operating costs, such as employee labor and benefits, sales commissions, repairs and maintenance, supplies, training, travel, banking and payment card processing fees. Operating expenses as a percentage of net revenue for the second quarter of 2012 increased slightly from 31.1% in the second quarter of 2011 to 31.2% in the second quarter of 2012. The revenue mix shift from the retail segment towards the specialty segment, which has lower operating costs, and lower legal fees were substantially offset by higher healthcare costs, payment card processing fees and investments in overhead expenses.

 

 

In the retail segment, operating expenses as a percent of net revenue increased 0.9% primarily due to the impact of healthcare costs and payment card processing fees.

 

In the specialty segment, operating expenses as a percent of net revenue decreased 0.6% due to lower legal fees than the corresponding period last year and a mix shift away from direct store delivery.

 

Litigation-related expenses

 

Litigation-related expenses in connection with the class action lawsuit filed against the Company in the first quarter of 2010 were $0 and $38,000, for the quarters ending July 1, 2012 and July 3, 2011, respectively.

 

General and administrative expenses

 

General and administrative expenses increased to $7.4 million compared to $6.0 million for the corresponding period last year primarily due to higher payroll and marketing costs.

 

Depreciation and amortization expense

 

Depreciation and amortization expense was consistent with the corresponding period last year.

 

Interest income, net

 

We invest in U.S. government, agency, municipal and equity securities. Interest income includes interest income and gains or losses from the sale of these instruments. We earned $16,000 in interest income for the second quarter of 2012, compared to $7,000 for the corresponding period last year.

 

Income tax provision

 

The effective income tax rate for the second quarter of 2012 is 35.8% compared to 36.0% during the second quarter of 2011.

 

The Company does not expect unrecognized tax benefits to change materially within the next 12 months.

 

Twenty-six Weeks Ended July 1, 2012 Compared to Twenty-six Weeks Ended July 3, 2011

 

Net revenue

 

Net revenue for the twenty-six weeks ended July 1, 2012 increased as a result of our continued expansion of our retail and specialty segments. The table below sets forth net revenue for the twenty-six weeks ended July 1, 2012 and July 3, 2011 by business segment as well as business category.

 

 

		Twenty-six weeks ended
(dollars in thousands)		July 1, 2012				July 3, 2011				Increase
Retail:
Whole bean coffee, tea, and related products			28,746				28,287				459				1.6	%
Beverages and pastries			80,793				77,153				3,640				4.7	%
Total Retail		$	109,539			$	105,440			$	4,099				3.9	%
Specialty:
Grocery		$	49,727			$	45,942			$	3,785				8.2	%
Foodservice and office			22,552				19,489				3,063				15.7	%
Home delivery			8,348				8,217				131				1.6	%
Total specialty		$	80,627			$	73,648			$	6,979				9.5	%
Total net revenue		$	190,166			$	179,088			$	11,078				6.2	%

  

In the retail segment, net revenue increased primarily as a result of growth in beverage and pastries sales and, to a lesser extent, an increase in whole bean sales. The beverage and pastries sales increase was primarily due to a 5% increase in average transaction. The increase in whole bean coffee sales was due primarily to the addition of four new stores and an increase in average revenue per pound of 2%, partially offset by declines in whole bean sales in existing stores. In addition to the one store opened during the first quarter, we plan to open an additional three to five stores in 2012.

 

In the specialty segment, the increase in net revenue was driven by a 6% volume increase and a 4% increase in average price. The growth in net revenue in grocery was due primarily to an increase in average price as well as increased volume in new and existing accounts. Our grocery revenue growth was impacted by an increase in competitive pricing pressure during the period. The growth in net revenue in foodservice and office was due primarily to new accounts as well as an increase in average price. The growth in net revenue in home delivery was due primarily to an increase in average price, as well as an increase in volume.

 

Cost of sales and related occupancy expenses

 

Cost of sales and related occupancy expenses consist of product costs, including manufacturing costs, rent and other occupancy costs. As a percent of net revenue, cost of sales increased from 47.9% in the first half of 2011 to 50.7% in the first half of 2012. The increase was due primarily to 28% higher per pound green coffee costs, partially offset by the impact of price increases and lower shipping expenses.

 

In the retail segment, cost of sales and related occupancy expenses as a percent of net revenue increased 1.4% due primarily to the impact of higher coffee costs, partially offset by the impact of price increases and the sales tax refund.

 

In the specialty segment, cost of sales and related occupancy expenses as a percent of net revenue increased 4.3% due primarily to the impact of higher coffee costs, partially offset by the impact of price increases, lower shipping expenses and leverage of our roasting facility.

  

Operating expenses

 

Operating expenses consist of both retail and specialty segment operating costs, such as employee labor and benefits, sales commissions, repairs and maintenance, supplies, training, travel, banking and payment card processing fees. Operating expenses as a percentage of net revenue for the first half of 2012 remained the same at 31.3% compared to the first half of 2011. The impact of price increases and the revenue mix shift from the retail segment towards the specialty segment, which has lower operating costs, were offset by investments in overhead expenses and higher payment card processing fees.

 

In the retail segment, operating expenses as a percent of net revenue increased to 0.2% primarily due to higher payment card processing fees, healthcare, and investments in overhead expenses, partially offset by the impact of price increases.

 

In the specialty segment, operating expenses as a percent of net revenue increased 0.3% due to investments in overhead expenses, partially offset by price increases and lower legal fees.

 

 

Litigation-related expenses

 

Litigation-related expenses in connection with the class action lawsuit filed against the Company in the first half of 2010 were $0 and $79,000, for the periods ending July 1, 2012 and July 3, 2011, respectively.

 

General and administrative expenses

 

General and administrative expenses increased to $14.8 million compared to $12.8 million for the corresponding period last year primarily due to higher payroll and marketing costs.

 

Depreciation and amortization expense

 

Depreciation and amortization expense was $7.9 million compared to $7.8 million for the corresponding period last year.

 

Interest income, net

 

We invest in U.S. government, agency, municipal and equity securities. Interest income includes interest income and gains or losses from the sale of these instruments. We earned $22,000 in interest income for the first half of 2012, compared to $18,000 for the corresponding period last year investments.

 

Income tax provision

 

The effective income tax rate for the first quarter of 2012 is 35.8% compared to 36.3% during the first quarter of 2011.

 

The Company does not expect unrecognized tax benefits to change materially within the next 12 months.

 

Liquidity and Capital Resources

 

At July 1, 2012 we had $32.4 million in cash and cash equivalents and $6.4 million in short- and long-term marketable securities. Working capital was $111.5 million as of July 1, 2012.

 

Net cash provided by operating activities was $5.2 million for the twenty-six weeks ended July 1, 2012 compared to $3.0 million for the same prior year period. Operating cash flows were higher than the prior year period primarily due to normal fluctuations in working capital.

 

Net cash used in investing activities was $6.6 million for the twenty-six weeks ended July 1, 2012 compared to $9.4 million in the prior year period. Investing activities primarily relate to purchases of property, plant and equipment and maturities and purchases of marketable securities. During the twenty-six-week period ended July 1, 2012, we purchased property, plant and equipment totaling $5.0 million consisting of improvements and equipment for existing stores, information technology software and hardware and equipment for our grocery, foodservice, and roasting plant operations. Purchases of marketable securities totaled $5.9 million and proceeds from maturities of marketable securities were $4.0 million. Proceeds from the release of restricted investments were $0.3 million.

  

Net cash provided by financing activities for the twenty-six weeks ended July 1, 2012 was $3.1 million compared to $18.7 million net cash used for the same prior year period.  For the twenty-six weeks ended July 1, 2012, financing activities consisted of proceeds from stock option exercises of $4.1 million and the excess tax benefit from exercise of stock options of $1.7 million, offset by the purchase of our common stock of $2.7 million. For the same prior year period, net cash used in financing activities consisted of $39.5 million for the purchase of our common stock, offset by proceeds and the excess of tax benefit from stock options of $15.0 million and $5.8 million, respectively.

 

For the next twelve months, we expect our cash flows from operations and cash and marketable securities to be sufficient for our operating and capital requirements, our existing share purchase program and our contractual obligations as they come due.

 

 

 

The Company also has a credit agreement entered into on December 21, 2010 with Wells Fargo Bank, National Association (the “Bank”). The credit agreement provides for a $50 million revolving line of credit, the proceeds of which may be used in the general corporate purposes, including funding working capital, capital expenditures, share repurchases and other needs. The line of credit has a maturity date of December 1, 2013. 

 

During the thirteen and twenty-six weeks ended and as of July 1, 2012, there were no borrowings under this agreement. Total unused borrowing capacity under the credit agreement was $50.0 million as of July 1, 2012. To maintain availability of funds under the credit agreement, we pay a commitment fee on the unused portion of the line of credit. Based upon our leverage ratio as calculated as of July 1, 2012, the commitment fee rate is currently 0.125%. As of July 1, 2012, we were in compliance with the covenants under our credit agreement.

 

Off-Balance Sheet Arrangements

 

We did not have any off-balance sheet arrangements as at July 1, 2012.

 

Item 3. Quantitative and Qualitative Disclosures about Market Risk

 

We invest excess cash in equity securities and interest-bearing, U.S. government, agency, and municipal securities. These financial instruments are subject to stock market volatility and fluctuations of daily interest rates. Therefore our investment portfolio is exposed to market risk from these changes.

 

The supply and price of coffee are subject to significant volatility and can be affected by multiple factors in the producing countries, including weather, political and economic conditions. In addition, green coffee bean prices have been affected in the past, and may be affected in the future, by the actions of certain organizations and associations that have historically attempted to influence commodity prices of green coffee beans through agreements establishing export quotas or restricting coffee supplies worldwide.

 

We currently use fixed-price purchase commitments, but in the past have used and may potentially in the future use coffee futures and coffee futures options to manage coffee supply and price risk.

 

Fixed-Price and Not-Yet-Priced Purchase Commitments

 

We enter into fixed-price purchase commitments in order to secure an adequate supply of quality green coffee beans and fix our cost of green coffee beans. These commitments are made with established coffee brokers and are denominated in U.S. dollars. We also enter into “not-yet-priced” commitments based on a fixed premium over the New York “C” market with the option to fix the price at any time. As of July 1, 2012, we had approximately $64.0 million in open fixed-priced purchase commitments and approximately $1.0 million in not-yet-priced commitments for a total of approximately $65.0 million with delivery dates ranging from July 2012 through April 2014. We believe, based on relationships established with our suppliers, that the risk of non-delivery on such purchase commitments is low. 

 

Item 4. Controls and Procedures

 

We maintain disclosure controls and procedures that are designed to ensure that information required to be disclosed in our reports filed under the Securities Exchange Act of 1934, as amended, is recorded, processed, summarized and reported within the time periods specified in the Securities and Exchange Commission’s rules and forms, and that such information is accumulated and communicated to our management, including our Chief Executive Officer and Chief Financial Officer, as appropriate, to allow timely decisions regarding required disclosure.

 

As of July 1, 2012, the end of the period covered by this report, we carried out an evaluation, under the supervision and with the participation of our management, including our Chief Executive Officer and our Chief Financial Officer, of the effectiveness of the design and operation of our disclosure controls and procedures. Based on the foregoing, our Chief Executive Officer and Chief Financial Officer concluded that our disclosure controls and procedures were effective as of the end of the quarter covered by this report at the reasonable-assurance level.

 

There have been no changes in our internal control over financial reporting during the fiscal quarter ended July 1, 2012 that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.

 

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PART II - OTHER INFORMATION

 

Item 1. Legal Proceedings

 

Information set forth in Note 7, “Legal Proceedings,” of the Notes to Unaudited Condensed Consolidated Financial Statements in Part 1, Item 1 of this Quarterly Report on Form 10-Q is incorporated herein by reference.

  

Item 1A. Risk Factors

 

This Quarterly Report on Form 10-Q, including the sections entitled “Item 1. Unaudited Condensed Consolidated Financial Statements”, “Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations” and “Item 3. Quantitative and Qualitative Disclosures about Market Risk,” contains forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. You should read this Quarterly Report in conjunction with our Annual Report on Form 10-K for the year ended January 1, 2012 (the “2011 Annual Report”) report and with the understanding that our actual future results may be materially different from what is expressed, implied or forecasted in the forward-looking statements included in this Quarterly Report.

 

In some cases, you can identify forward-looking statements by the words "may," "should," "could," "predict," "potential," "continue," "expect," "anticipate," "future," "intend," "plan," "believe," "estimate" and similar expressions (or the negative of such expressions). Forward-looking statements in this Quarterly Report include, without limitation, statements about the expected closing of the proposed Merger, our expected results of operations in 2012 (including the performance or other factors expected to drive those results) as well as statements about the coffee industry, the expected growth of specialty coffee, and related trends. The forward-looking statements included in this Quarterly Report are based on management’s beliefs, expectations, estimates and projections as of the date of this Report.

 

These forward-looking statements are not guarantees of future performance and are subject to risks, uncertainties and other important factors, some of which are beyond our control or difficult to predict. Therefore, our actual results, performance, achievements or outcomes may differ materially from what is expressed, implied or forecasted by the forward-looking statements. Accordingly, you should not place undue reliance on the forward-looking statements included in this Quarterly Report, which speak only as of the date of this Quarterly Report. 

 

Important factors that could cause actual results to differ materially from those in the forward-looking statements include:

 

•

There are risks and uncertainties associated with the proposed Merger with an affiliate of JAB Holdings BV.

 

July 21, 2012, the Company entered into an Agreement and Plan of Merger (the “Merger Agreement”) with JAB Holdings BV, a Dutch Besloten Vennootschap met beperkte aansprakelijkheid (“JAB”), and Panther Merger Co., a Washington corporation and an affiliate of JAB (“Merger Sub”) providing for the acquisition of the Company by an affiliate of JAB Holdings BV. The transaction, which is structured as a one-step merger with the Company as the surviving corporation (the “Merger”), is not subject to a financing condition and is subject to customary closing conditions, including receipt of shareholder and regulatory approvals. The transaction requires the affirmative vote of holders of a majority of the Company’s outstanding shares.  There are a number of risks and uncertainties relating to the Merger. For example:

 

•

the Merger may not be consummated or may not be consummated as currently anticipated;

•

there can be no assurance that approval of our shareholders and the requisite regulatory approvals will be obtained;

•

there can be no assurance other conditions to the closing of the proposed Merger will be satisfied or waived or that other events will not intervene to delay or result in the termination of the Merger;

•

if the proposed Merger is not completed, the share price of our common stock may change to the extent that the current market price of our common stock reflects an assumption that the Merger will be consummated;

•

failure of the proposed Merger to close, or a delay in its closing, may have a negative impact on our ability to pursue alternative strategic transactions or our ability to implement alternative business plans;

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•

under certain circumstances, if the Merger Agreement is terminated, we will be required to pay a $30 million termination fee;

•

pending the closing of the proposed Merger, the Merger Agreement restricts us from engaging in certain actions without JAB’s approval, which could prevent us from pursuing opportunities that may arise prior to the closing of the proposed Merger;

•

any delay in completing, or the failure to complete, the proposed Merger could have a negative impact on our business, stock price and our relationships with our customers or suppliers; and

•

the attention of our management may be directed to transaction-related considerations and may be diverted from the day-to-day operations of our business and pursuit of our strategic initiatives.

 

We have incurred, and will continue to incur, significant costs, expenses and fees for professional services and other transaction costs in connection with the proposed Merger, and many of these fees and costs are payable by us whether or not the Merger is consummated.

 

•

Our executive officers and directors may have interests that are different from, or in addition to, those of our shareholders generally.

 

Our executive officers and directors may have interests in the proposed Merger that are different from, or are in addition to, those of Peet’s shareholders generally. These interests include direct or indirect ownership of Peet’s common stock and stock options and the acceleration of stock options upon consummation of the proposed Merger. In addition, our executive officers may have certain rights to severance and other payments in the event that their employment is terminated following the consummation of the proposed Merger.

 

•

The Merger Agreement limits our ability to pursue alternative transactions to the proposed Merger.

 

The Merger Agreement contains “no shop” provisions that, subject to limited exceptions, limit our ability to discuss, facilitate or commit to competing third-party proposals to acquire all or a significant part of the Company. In addition, we are required to pay a $30 million termination fee if we terminate the Merger Agreement under certain circumstances. These provisions limit our ability to pursue offers from third parties that could result in greater value to our shareholders. The obligation to make the termination fee payment also may discourage a third party from pursuing an alternative acquisition proposal.

 

•

We are subject to litigation initiated in connection with the proposed Merger with an affiliate of JAB, which could be time consuming and divert our resources and the attention of our management.

 

As described in Part II, Item 1 of this report, “Legal Proceedings,” we and the individual members of our board of directors have been named as defendants in a number of lawsuits related to the Merger Agreement and the proposed Merger. These suits generally allege that the directors breached their fiduciary duties owed to Peet’s shareholders, and that the Company aided and abetted the alleged breaches, in connection with the Company’s agreement to be acquired by an affiliate of JAB. The lawsuits each assert that the Company and its board of directors engaged in a flawed process in negotiating the potential sale, obtained a price that was below the Company’s actual value and agreed to provisions that would allegedly preclude another interested buyer from making a topping bid for the Company. The lawsuits seek, among other things, declaratory and injunctive relief or rescission to enjoin or rescind the proposed acquisition, “rescissory damages,” an accounting for damages, a constructive trust for any allegedly improper gains by defendants, pre- and post-judgment interest and attorneys’ fees. Although we believe that these suits are without merit, the defense of these suits may be expensive and may divert management’s attention and resources, which could adversely affect our business.

 

In addition to the foregoing, other important factors could cause actual results to differ materially from those in the forward-looking statements. These factors include:

 

	•	our ability to successfully implement our business strategy, including our ability to market our products, increase our brand recognition, expand our distribution and otherwise effectively compete;
	•	a decrease in the demand for specialty coffee;
	•	the cost and availability of high-quality Arabica coffee beans;
	•	cost fluctuations of commodities other than coffee;
	•	any interruption in the operation of our roasting and distribution facility;

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	•	a major earthquake or tsunami in the San Francisco Bay Area;
	•	the recent recession or a worsening of the United States and global economies;
	•	claims or litigation;
	•	labor strikes in the grocery business;
	•	mandatory healthcare requirements;
	•	disruptions or cost increases relating to common carriers;
	•	loss of key personnel, or the ability to hire or retain management or other personnel;
	•	competitors duplicating our roasting methods;
	•	adverse public or medical opinion about caffeine;
	•	adverse publicity regarding product quality or food and beverage safety;
	•	new laws and regulations or failure to comply with applicable laws and regulations;
	•	failure to meet market expectations relating to our financial or strategic performance;
	•	material failure, inadequacy, interruption or security failure of our information technology;
	•	unpredictable workers’ compensation environment, particularly in California.

 

We discuss the factors listed above as well as other risks, uncertainties and important factors in greater detail in the section entitled "Risk Factors" in our 2011 Annual Report. The following risk factor from our 2011 Annual Report has been updated:

 

•

Coffee costs have been very volatile over the last two years and increases in the cost of high-quality Arabica coffee beans could impact the profitability of our business. In the past two years, we have experienced a dramatic increase in the price volatility of Arabica coffee traded on New York Board of Trade.  Since May 2010, commodity coffee prices have been extremely volatile ranging from a low of $1.32 per pound to a high of $3.05 per pound and as of June 29, 2012 was $1.70 per pound. We expect the coffee commodity market to continue to be challenging over time as the market continues to be influenced by worldwide supply and demand, the relative strength of the dollar, speculative trading and weather. While we do not purchase coffee on the commodity markets, price movements in the commodity trading of Arabica coffee beans impact the prices we pay. The price that we paid for our coffee for the first half of 2012 was 28% higher per pound than what we paid in the corresponding period of 2011 and that increased cost negatively affected our profitability. In order to have visibility to our costs for the future, we typically fix the price of our coffee needs for the next 6 to 12 months by purchasing and holding large inventories of green coffee and utilizing future fixed price purchase commitments.  As of July 1, 2012, our inventory and fixed price commitments are sufficient for virtually all of our anticipated 2012 needs at a cost approximately 10% higher per pound than 2011. Additionally, if prices of commodity coffee fall dramatically, we will be required to fulfill our commitments for our future contracts that may result in us purchasing coffee at prices substantially above the market price, which could negatively impact our competitiveness in the marketplace and our profitability.

 

 

The risks, uncertainties and factors discussed in this Quarterly Report on Form 10-Q and our 2011 Annual Report (including as updated in this Item) may not be exhaustive and other unpredictable or unknown factors could also cause actual results to differ materially from those in forward-looking statements. Additionally, we operate in a continually changing business environment, and new risks and uncertainties emerge from time to time. Except as required by law, we assume no obligation to update publicly any forward-looking statements, or to update publicly the reasons actual results could differ materially from those expressed, implied or forecasted in any forward-looking statements, even if new information becomes available in the future.

 

Item 2. Unregistered Sales of Equity Securities and Use of Proceeds

 

Information regarding purchases of the Company’s securities by or on behalf of the Company is set forth in the table below.

 

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Repurchases of Equity Securities
Period		Total Number of Shares Purchased				Average Price Paid per Share				Total Number  of Shares Purchased as Part of Publicly Announced Plans or Programs				Maximum Number of Shares that May Yet Be Purchased Under the Plans or Programs (1)
April 2, 2012 -        May 6, 2012			-			$	-				-				-
May 7, 2012 -            June 3, 2012			-			$	-				-				-
June 4, 2012 -               July 1, 2012			44,623			$	60.48				319,457				680,543

 

(1)

Repurchases were made pursuant to a repurchase program announced on May 27, 2011 allowing for the purchase of up to one million shares of the Company’s common stock, with no deadline for completion.

 

Item 3. Defaults Upon Senior Securities

 

Not applicable

 

Item 4. Mine Safety Disclosures

 

Not applicable

 

Item 5. Other Information

 

Not applicable

 

Item 6. Exhibits

 

Agreements included as exhibits to this Quarterly Report on Form 10-Q (including Exhibit 2.1) are included to provide information regarding their terms and are not intended to provide any other factual or disclosure information about the Company or the other parties to the agreements. Where an agreement contains representations and warranties by any party, those representations and warranties have been made solely for the benefit of the other parties to the agreement or express third-party beneficiaries as explicitly set forth in the agreement. Any such representations and warranties:

 

•

should not be treated as categorical statements of fact, but rather as an allocation of risk;

•

may have been qualified by disclosures that were made to the other party in connection with the negotiation of the applicable agreement, which disclosures are not necessarily reflected in the agreement;

•

may apply standards of materiality in a way that is different from what may be viewed as material to you or other investors; and

•

were made only as of the date of the applicable agreement or such other date or dates as may be specified in the agreement and may be subject to more recent developments.

 

Accordingly, any such representations and warranties may not describe the actual state of affairs as of the date they were made or at any other time.

 

Exhibit		Description
2.1		Agreement and Plan of Merger, dated as of July 21, 2012, by and among JAB Holdings BV, Panther Merger Co. and Peet’s Coffee & Tea, Inc.  Incorporated by reference to Exhibit 2.1 to the Company’s Current Report on Form 8-K filed with the SEC on July 23, 2012.
3.1		Amended and Restated Articles of Incorporation. Incorporated by reference to Exhibit 3.1 to the Company’s Current Report on Form 8-K filed with the SEC on May 16, 2012.

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3.2		Amended and Restated Bylaws. Incorporated 3.2 to the Company’s Current Report on Form 8-K filed with the SEC on May 16, 2012.
4.1		Form of common stock certificate. Incorporated by reference to Exhibit 4.1 to the Company’s Amendment No. 2 to its Registration Statement on Form S-1 filed with the SEC on December 22, 2000 (File. No. 333-47976).
10.1		Peet’s Coffee & Tea, Inc. Non-Employee Director Compensation Plan as adopted May 11, 2012.
10.2		Peet’s Coffee & Tea, Inc. Amended and Restated 2000 Non-Employee Director Stock Option Plan as amended and restated May 11, 2012.
31.1		Certification of the Company’s Chief Executive Officer, Patrick O’Dea, pursuant to Rule 13a-14(a) under the Securities Exchange Act of 1934, as amended.
31.2		Certification of the Company’s Chief Financial Officer, Thomas Cawley, pursuant to Rule 13a-14(a) under the Securities Exchange Act of 1934, as amended.
32.1		Certification of the Company’s Chief Executive Officer, Patrick O’Dea, pursuant to Section 906 of Sarbanes-Oxley Act of 2002.
32.2		Certification of the Company’s Chief Financial Officer, Thomas Cawley, pursuant to Section 906 of Sarbanes-Oxley Act of 2002.
101.INS		XBRL Instance Document
101.SCH		XBRL Taxonomy Extension Schema Document
101.CAL		XBRL Taxonomy Extension Calculation Linkbase Document
101.LAB		XBRL Taxonomy Extension Labels Linkbase Document
101.PRE		XBRL Taxonomy Extension Presentation Linkbase Document

 

26

SIGNATURES

 

Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.

 

	PEET’S COFFEE & TEA, INC.
Date: August 9, 2012	By:	/s/ Thomas P. Cawley
		Thomas P. Cawley
		Vice President, Chief Financial Officer

 

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