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Table of Contents

 

 

 

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 


 

FORM 10-Q

 

(Mark One)

 

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

 

For the quarterly period ended April 28, 2017

 

OR

 

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

 

Commission file number 1-11735

 

99 CENTS ONLY STORES LLC

(Exact Name of Registrant as Specified in Its Charter)

 

California
(State or Other Jurisdiction
of Incorporation or Organization)

 

95-2411605
(I.R.S. Employer Identification No.)

 

 

 

4000 Union Pacific Avenue,
City of Commerce, California
(Address of Principal Executive Offices)

 

90023
(Zip Code)

 

Registrant’s Telephone Number, Including Area Code: (323) 980-8145

 

 

(Former name, address and fiscal year, if changed since last report)

 

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    o  No   x

 

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, smaller reporting company, or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company,” and “emerging growth company” in Rule 12b-2 of the Exchange Act.

 

Large accelerated filer o

 

Accelerated filer o

Non-accelerated filer x

 

Smaller reporting company o

(Do not check if a smaller reporting company)

 

 Emerging growth company o

 

If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 7(a)(2)(B) of the Securities Act. o

 

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

 

Indicate the number of shares outstanding of each of the issuer’s classes of common stock as of the latest practicable date.

 

As of June 7, 2017, there were 100 units outstanding of the registrant’s common units, none of which are publicly traded.

 

 

 


 

 


Table of Contents

 

99 CENTS ONLY STORES LLC

Form 10-Q

Table of Contents

 

 

 

Page

 

Part I - Financial Information

 

Item 1.

Financial Statements

4

 

Consolidated Balance Sheets as of April 28, 2017 (unaudited) and January 27, 2017

4

 

Consolidated Statements of Comprehensive Income (Loss) for the first quarter ended April 28, 2017 (unaudited) and April 29, 2016 (unaudited)

5

 

Consolidated Statements of Cash Flows for the first quarter ended April 28, 2017 (unaudited)
and April 29, 2016 (unaudited)

6

 

Notes to Consolidated Financial Statements

7

Item 2.

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

34

Item 3.

Quantitative and Qualitative Disclosures About Market Risk

42

Item 4.

Controls and Procedures

43

 

Part II — Other Information

 

Item 1.

Legal Proceedings

44

Item 1A.

Risk Factors

44

Item 2.

Unregistered Sales of Equity Securities and Use of Proceeds

44

Item 3.

Defaults Upon Senior Securities

44

Item 4.

Mine Safety Disclosures

44

Item 5.

Other Information

44

Item 6.

Exhibits

45

 

Signatures

46

 

2



Table of Contents

 

FORWARD-LOOKING INFORMATION

 

This Quarterly Report on Form 10-Q (this “Report”) contains statements that constitute “forward-looking statements” within the meaning of Section 21E of the Securities Exchange Act of 1934, as amended, and Section 27A of the Securities Act of 1933, as amended.  The words “expect,” “estimate,” “anticipate,” “predict,” “will,” “project,” “plan,” “believe” and other similar expressions and variations thereof are intended to identify forward-looking statements.  Such statements appear in a number of places in this Report and include statements regarding the intent, belief or current expectations of 99 Cents Only Stores LLC and its directors or officers with respect to, among other things, (a) trends affecting the financial condition or results of operations of the Company, and (b) the business and growth strategies of the Company (including the Company’s store opening growth rate) and (c) our investments in our existing stores, warehouse and distribution facilities and information systems, that are not historical in nature.  The term the “Company” refers to 99¢ Only Stores and its consolidated subsidiaries prior to the conversion to a California limited liability company effective October 18, 2013 and to 99 Cents Only Stores LLC and its consolidated subsidiaries on or after such conversion.  Readers are cautioned not to put undue reliance on such forward-looking statements.  Such forward-looking statements are and will be based on the Company’s then-current expectations, estimates and assumptions regarding future events and are applicable only as of the date of such statements.  The Company may not realize its expectations and its estimates and assumptions may not prove correct.  In addition, such forward-looking statements are not guarantees of future performance and involve risks and uncertainties, and actual results may differ materially from those projected in this Report, for the reasons, among others, discussed in the “Management’s Discussion and Analysis of Financial Condition and Results of Operations” and “Risk Factors” sections.  The Company undertakes no obligation to publicly revise these forward-looking statements to reflect events or circumstances that arise after the date hereof.  Readers should carefully review the risk factors described in the Company’s Annual Report on Form 10-K containing the Company’s most recent audited financial statements for the fiscal year ended January 27, 2017 filed with the Securities and Exchange Commission.

 

3



Table of Contents

 

PART I.  FINANCIAL INFORMATION

 

Item 1. Financial Statements

 

99 CENTS ONLY STORES LLC

CONSOLIDATED BALANCE SHEETS

(In thousands, except share data)

 

 

 

April 28,
2017

 

January 27,
2017

 

 

 

(Unaudited)

 

 

 

ASSETS

 

 

 

 

 

Current Assets:

 

 

 

 

 

Cash

 

$

2,420

 

$

2,448

 

Accounts receivable, net of allowance for doubtful accounts of $73 and $122 at April 28, 2017 and January 27, 2017, respectively

 

3,353

 

3,510

 

Income taxes receivable

 

3,861

 

3,876

 

Inventories, net

 

184,663

 

175,892

 

Assets held for sale

 

4,903

 

4,903

 

Other

 

18,878

 

10,307

 

Total current assets

 

218,078

 

200,936

 

Property and equipment, net

 

485,854

 

507,620

 

Deferred financing costs, net

 

2,984

 

3,488

 

Intangible assets, net

 

445,622

 

447,027

 

Goodwill

 

380,643

 

380,643

 

Deposits and other assets

 

8,607

 

8,592

 

Total assets

 

$

1,541,788

 

$

1,548,306

 

 

 

 

 

 

 

LIABILITIES AND MEMBER’S EQUITY

 

 

 

 

 

Current Liabilities:

 

 

 

 

 

Accounts payable

 

$

111,565

 

$

86,588

 

Payroll and payroll-related

 

25,571

 

24,110

 

Sales tax

 

16,574

 

19,389

 

Other accrued expenses

 

55,513

 

46,082

 

Workers’ compensation

 

69,408

 

69,169

 

Current portion of long-term debt

 

6,138

 

6,138

 

Current portion of capital and financing lease obligations

 

1,214

 

31,330

 

Total current liabilities

 

285,983

 

282,806

 

Long-term debt, net of current portion

 

858,850

 

865,375

 

Unfavorable lease commitments, net

 

3,674

 

3,988

 

Deferred rent

 

30,791

 

30,360

 

Deferred compensation liability

 

868

 

816

 

Capital and financing lease obligation, net of current portions

 

53,775

 

47,195

 

Deferred income taxes

 

161,450

 

161,450

 

Other liabilities

 

10,995

 

12,297

 

Total liabilities

 

1,406,386

 

1,404,287

 

 

 

 

 

 

 

Commitments and contingencies (Note 11)

 

 

 

 

 

Member’s Equity:

 

 

 

 

 

Member units — 100 units issued and outstanding at April 28, 2017 and January 27, 2017

 

551,054

 

550,918

 

Investment in Number Holdings, Inc. preferred stock

 

(19,200

)

(19,200

)

Accumulated deficit

 

(396,452

)

(387,699

)

Total equity

 

135,402

 

144,019

 

Total liabilities and equity

 

$

1,541,788

 

$

1,548,306

 

 

The accompanying notes are an integral part of these consolidated financial statements.

 

4



Table of Contents

 

99 CENTS ONLY STORES LLC

CONSOLIDATED STATEMENTS OF COMPREHENSIVE LOSS

(In thousands)

(Unaudited)

 

 

 

For the First Quarter Ended

 

 

 

April 28,
2017

 

April 29,
2016

 

 

 

 

 

 

 

Net Sales:

 

 

 

 

 

99¢ Only Stores

 

$

537,992

 

$

501,766

 

Bargain Wholesale

 

9,520

 

11,163

 

Total sales

 

547,512

 

512,929

 

Cost of sales

 

385,159

 

363,962

 

Gross profit

 

162,353

 

148,967

 

Selling, general and administrative expenses

 

153,751

 

157,229

 

Operating income (loss)

 

8,602

 

(8,262

)

 

 

 

 

 

 

Other (income) expense:

 

 

 

 

 

Interest income

 

(2

)

(2

)

Interest expense

 

17,342

 

16,526

 

Loss on extinguishment

 

 

335

 

Total other expense, net

 

17,340

 

16,859

 

Loss before provision for income taxes

 

(8,738

)

(25,121

)

Provision for income taxes

 

15

 

73

 

Net loss

 

$

(8,753

)

$

(25,194

)

Other comprehensive income, net of tax:

 

 

 

 

 

 

 

 

 

 

 

Unrealized losses on interest rate cash flow hedge

 

 

(214

)

Less: reclassification adjustment included in net income

 

 

379

 

 

 

 

 

 

 

Other comprehensive income, net of tax

 

 

165

 

 

 

 

 

 

 

Comprehensive loss

 

$

(8,753

)

$

(25,029

)

 

The accompanying notes are an integral part of these consolidated financial statements.

 

5



Table of Contents

 

99 CENTS ONLY STORES LLC

CONSOLIDATED STATEMENTS OF CASH FLOWS

(In thousands)

(Unaudited)

 

 

 

For the First Quarter Ended

 

 

 

April 28,
2017

 

April 29,
2016

 

 

 

 

 

 

 

Cash flows from operating activities:

 

 

 

 

 

Net loss

 

$

(8,753

)

$

(25,194

)

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

 

 

 

 

 

Depreciation

 

16,939

 

16,302

 

Amortization of deferred financing costs and accretion of OID

 

1,714

 

1,304

 

Amortization of intangible assets

 

438

 

437

 

Amortization of favorable/unfavorable leases, net

 

661

 

587

 

Loss on extinguishment of debt

 

 

335

 

Gain on disposal of fixed assets

 

(17,896

)

(34

)

Loss on interest rate hedge

 

 

409

 

Stock-based compensation

 

136

 

164

 

Changes in assets and liabilities associated with operating activities:

 

 

 

 

 

Accounts receivable

 

157

 

13

 

Inventories

 

(8,771

)

29,686

 

Deposits and other assets

 

(8,508

)

1,758

 

Accounts payable

 

22,298

 

(5,170

)

Accrued expenses

 

8,077

 

3,403

 

Accrued workers’ compensation

 

239

 

117

 

Income taxes

 

15

 

1,443

 

Deferred rent

 

431

 

176

 

Other long-term liabilities

 

(2,719

)

(166

)

Net cash provided by operating activities

 

4,458

 

25,570

 

 

 

 

 

 

 

Cash flows from investing activities:

 

 

 

 

 

Purchases of property and equipment

 

(7,367

)

(13,373

)

Proceeds from sale of property and fixed assets

 

4,064

 

4

 

Net cash used in investing activities

 

(3,303

)

(13,369

)

 

 

 

 

 

 

Cash flows from financing activities:

 

 

 

 

 

Payment of long-term debt

 

(1,535

)

(1,535

)

Proceeds under revolving credit facility

 

46,400

 

64,800

 

Payments under revolving credit facility

 

(52,600

)

(72,600

)

Payments of debt issuance costs

 

 

(4,594

)

Proceeds from financing lease obligations

 

6,840

 

2,031

 

Payments of capital and financing lease obligations

 

(288

)

(239

)

Net cash used in financing activities

 

(1,183

)

(12,137

)

Net (decrease) increase in cash

 

(28

)

64

 

Cash - beginning of period

 

2,448

 

2,312

 

Cash - end of period

 

$

2,420

 

$

2,376

 

Supplemental cash flow information:

 

 

 

 

 

Income taxes refunded

 

$

 

$

(1,370

)

Interest paid

 

$

8,304

 

$

8,365

 

Non-cash investing activities for purchases of property and equipment

 

$

(2,679

)

$

(536

)

 

The accompanying notes are an integral part of these consolidated financial statements.

 

6


 


Table of Contents

 

99 CENTS ONLY STORES LLC

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

 

1.           Basis of Presentation and Summary of Significant Accounting Policies

 

Nature of Business

 

The Company is organized under the laws of the State of California.  Effective October 18, 2013, 99¢ Only Stores converted from a California corporation to a California limited liability company, 99 Cents Only Stores LLC, that is managed by its sole member, Number Holdings, Inc., a Delaware corporation (“Parent”).  The term “Company” refers to 99¢ Only Stores and its consolidated subsidiaries prior to the Conversion (as described in Note 1 to the Annual Report on Form 10-K for the fiscal year ended January 27, 2017) and to 99 Cents Only Stores LLC and its consolidated subsidiaries at the time of or after the Conversion.  The Company is an extreme value retailer of consumable and general merchandise and seasonal products. As of April 28, 2017, the Company operated 390 retail stores with 283 in California, 48 in Texas, 38 in Arizona, and 21 in Nevada.  The Company is also a wholesale distributor of various products.

 

Merger

 

On January 13, 2012, the Company was acquired through a merger (the “Merger”) with a subsidiary of Parent with the Company surviving.  In connection with the Merger, the Company became a subsidiary of Parent, which is controlled by affiliates of Ares Management, L.P. (“Ares”) and Canada Pension Plan Investment Board (“CPPIB” and, together with Ares, the “Sponsors”). As a result of the Merger, the Company’s common stock was delisted from the New York Stock Exchange and the Company ceased to be a publicly held and traded equity company.

 

Basis of Presentation

 

The accompanying unaudited consolidated financial statements have been prepared in conformity with accounting principles generally accepted in the United States (“GAAP”).  However, certain information and footnote disclosures normally included in financial statements prepared in conformity with GAAP have been omitted or condensed pursuant to the rules and regulations of the Securities and Exchange Commission.  These statements should be read in conjunction with the Company’s audited financial statements and notes thereto included in the Company’s Annual Report on Form 10-K for the fiscal year ended January 27, 2017.  In the opinion of the Company’s management, these interim unaudited consolidated financial statements reflect all adjustments (consisting of normal recurring adjustments) necessary for a fair statement of the consolidated financial position and results of operations for each of the periods presented.  The results of operations and cash flows for such periods are not necessarily indicative of results to be expected for the full fiscal year ending February 2, 2018 (“fiscal 2018”).

 

Fiscal Year

 

The Company follows a fiscal calendar consisting of four quarters with 91 days, each ending on the Friday closest to the last day of April, July, October or January, as applicable, and a 52-week fiscal year with 364 days, with a 53-week year every five to six years.  Unless otherwise stated, references to years in this Report relate to fiscal years rather than calendar years.  The Company’s fiscal 2018 began on January 28, 2017, will end on February 2, 2018 and will consist of 53 weeks.  The Company’s fiscal year 2017 (“fiscal 2017”) began on January 30, 2016, ended on January 27, 2017 and consisted of 52 weeks.  The first quarter ended April 28, 2017 (the “first quarter of fiscal 2018”) and the first quarter ended April 29, 2016 (the “first quarter of fiscal 2017”) were each comprised of 91 days.

 

Use of Estimates

 

The preparation of the unaudited consolidated financial statements, in conformity with GAAP, requires management to make estimates and assumptions. These estimates and assumptions affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the unaudited consolidated financial statements, and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates.

 

Cash

 

For purposes of reporting cash flows, cash includes cash on hand, cash at the stores and cash in financial institutions.  The majority of payments due from financial institutions for the settlement of debit card and credit card transactions are processed within three business days and therefore are also classified as cash.  Cash balances held at financial institutions are generally in excess of federally insured limits.  These accounts are only insured by the Federal Deposit Insurance Corporation up to $250,000.  The Company historically has not experienced any losses in such accounts.  The Company places its temporary cash investments with what it believes to be high credit, quality financial institutions.  Under the Company’s cash management system, checks issued but not presented to the bank may result in book cash overdraft balances for accounting purposes.  The Company reclassifies book overdrafts to accounts payable, which are reflected as an operating activity in its unaudited consolidated statements of cash flows.  Book overdrafts included in accounts payable were $6.5 million and $7.0 million as of April 28, 2017 and January 27, 2017, respectively.

 

7



Table of Contents

 

Allowance for Doubtful Accounts

 

In connection with its wholesale business, the Company evaluates the collectability of accounts receivable based on a combination of factors.  In cases where the Company is aware of circumstances that may impair a specific customer’s or tenant’s ability to meet its financial obligations subsequent to the original sale, the Company will record an allowance against amounts due and thereby reduce the net recognized receivable to the amount the Company reasonably believes will be collected.  For all other customers and tenants, the Company recognizes allowances for doubtful accounts based on the length of time the receivables are past due, industry and geographic concentrations, the current business environment and the Company’s historical experiences.

 

Inventories

 

Inventories are valued at the lower of cost or net realizable value. Inventory costs are established using a methodology that approximates first in, first out, which for store inventories is based on a retail inventory method.  Valuation allowances for shrinkage as well as excess and obsolete inventory are also recorded.  The Company includes spoilage, scrap and shrink in its definition of shrinkage.  Shrinkage is estimated as a percentage of sales for the period from the last physical inventory date to the end of the applicable period.  Such estimates are based on experience and the most recent physical inventory results.  Physical inventory counts are completed at each of the Company’s retail stores at least once a year by an outside inventory service company.  The Company performs inventory cycle counts at its warehouses throughout the year.  The Company also performs inventory reviews and analysis on a quarterly basis for both warehouse and store inventory to determine inventory valuation allowances for excess and obsolete inventory.  The valuation allowances for excess and obsolete inventory are based on the age of the inventory, sales trends and future merchandising plans.  The valuation allowances for excess and obsolete inventory require management judgment and estimates that may impact the ending inventory valuation and valuation allowances that may have a material effect on the reported gross margin for the period. These estimates are subject to change based on management’s evaluation of, and response to, a variety of factors and trends, including, but not limited to, consumer preferences and buying patterns, age of inventory, increased competition, inventory management, merchandising strategies and historical sell through trends.  The Company’s ability to adequately evaluate the impact of inventory management and merchandising strategies executed in response to such factors and trends in future periods could have a material impact on such estimates.

 

In order to obtain inventory at attractive prices, the Company takes advantage of large volume purchases, closeouts and other similar purchase opportunities.  Consequently, the Company’s inventory fluctuates from period to period and the inventory balances vary based on the timing and availability of such opportunities.

 

8



Table of Contents

 

Property and Equipment

 

Property and equipment are carried at cost and are depreciated or amortized on a straight-line basis over the following useful lives:

 

Owned buildings and improvements

 

Lesser of 30 years or the estimated useful life of the improvement

Leasehold improvements

 

Lesser of the estimated useful life of the improvement or remaining lease term

Fixtures and equipment

 

3-5 years

Transportation equipment

 

3-5 years

Information technology systems

 

For major corporate systems, estimated useful life up to 7 years; for functional standalone systems, estimated useful life up to 5 years

 

The Company’s policy is to capitalize expenditures that materially increase asset lives and expense ordinary repairs and maintenance as incurred.

 

Long-Lived Assets

 

The Company assesses the impairment of depreciable long-lived assets when events or changes in circumstances indicate that the carrying value may not be recoverable.  The Company groups and evaluates long-lived assets for impairment at the individual store level, which is the lowest level at which individual identifiable cash flows are available.  Recoverability is measured by comparing the carrying amount of an asset to expected future net cash flows generated by the asset.  If the carrying amount of an asset exceeds its estimated undiscounted future cash flows, the carrying amount is compared to its fair value and an impairment charge is recognized to the extent of the difference.  Factors that the Company considers important that could individually or in combination trigger an impairment review include the following: (1) significant underperformance relative to expected historical or projected future operating results; (2) significant changes in the manner of the Company’s use of the acquired assets or the strategy for the Company’s overall business; and (3) significant changes in the Company’s business strategies and/or negative industry or economic trends.  On a quarterly basis, the Company assesses whether events or changes in circumstances occur that potentially indicate that the carrying value of long-lived assets may not be recoverable (Level 3 measurement, see Note 7, “Fair Value of Financial Instruments”).  Considerable management judgment is necessary to estimate projected future operating cash flows.  Accordingly, if actual results fall short of such estimates, significant future impairments could result.

 

During the first quarter of each of fiscal 2017 and fiscal 2016, the Company did not record any long-lived asset impairment charges.

 

Goodwill and Other Intangible Assets

 

In connection with the Merger purchase price allocation, the fair values of long-lived and intangible assets were determined based upon assumptions related to the future cash flows, discount rates and asset lives using then available information, and in some cases were obtained from independent professional valuation experts.  The Company amortizes intangible assets over their estimated useful lives unless such lives are deemed indefinite.

 

Amortizable intangible assets are reviewed for impairment whenever events or changes in circumstances indicate that the carrying amount of an asset or asset group may not be recoverable based on undiscounted cash flows, and, if impaired, written down to fair value based on either discounted cash flows or appraised values.  Significant judgment is required in determining whether a potential indicator of impairment of long-lived assets exists and in estimating future cash flows used in the impairment tests (Level 3 measurement, see Note 7, “Fair Value of Financial Instruments”).

 

Goodwill and indefinite-lived intangible assets are not amortized but instead tested annually for impairment or more frequently when events or changes in circumstances indicate that the assets might be impaired. Goodwill is tested for impairment by comparing the carrying amount of the reporting unit to the fair value of the reporting unit to which the goodwill is assigned.  The Company has the option of performing a qualitative assessment before calculating the fair value of the reporting unit (i.e., step zero of the goodwill impairment test). If the Company does not perform a qualitative assessment, or determines, on the basis of qualitative factors, that the fair value of the reporting unit is more likely than not less than the carrying amount, the two-step impairment test would be required. The first step is to compare the fair value of the reporting unit with its carrying amount, including goodwill. If the fair value of the reporting unit exceeds its carrying amount, goodwill is considered not impaired; otherwise, goodwill is impaired and the loss is measured by performing step two. Under step two, the impairment loss is measured by comparing the implied fair value of the reporting unit’s goodwill with the carrying amount of goodwill. Management has determined that the Company has two reporting units, the retail reporting unit and the wholesale reporting unit.

 

9



Table of Contents

 

The Company, assisted by an independent third party valuation firm, performs the annual test for impairment in January of the fiscal year and determines fair value based on a combination of the income approach and the market approach. The income approach is based on discounted cash flows to determine fair value. The market approach uses a selection of comparable companies and transactions in determining fair value. The fair value of the trade name is also tested for impairment in the fourth quarter by comparing the carrying value to the fair value. Fair value of a trade name is determined using a relief from royalty method under the income approach, which uses projected revenue allocable to the trade name and an assumed royalty rate (Level 3 measurement, see Note 7, “Fair Value of Financial Instruments”). These approaches involve making key assumptions about future cash flows, discount rates and asset lives using then best available information.  These assumptions are subject to a high degree of complexity and judgment and are subject to change.

 

During the third quarter of fiscal 2016, the Company determined that indicators of impairment existed to require an interim impairment analysis of goodwill and trade name.  The first step evaluation concluded that the fair value of the retail reporting unit was below its carrying value.  The Company performed step two of the goodwill impairment test.  As a result of the preliminary analysis and based on best estimate, the Company recorded a $120.0 million non-cash goodwill impairment charge in the third quarter of fiscal 2016, which was reflected as goodwill impairment in the consolidated statements of comprehensive income (loss).  The finalization of the preliminary goodwill impairment test was completed in the fourth quarter of fiscal 2016 and resulted in a $20.9 million adjustment in goodwill, lowering the estimated third quarter of fiscal 2016 goodwill impairment charge from $120.0 million to $99.1 million.

 

The remaining amount of goodwill allocated to the retail reporting unit and wholesale reporting unit was $368.1 million and $12.5 million, respectively, as of January 29, 2016.

 

During the fourth quarter of fiscal 2017, the Company completed step one of its annual goodwill impairment test for the two reporting units and determined that there was no impairment of goodwill since the fair value of the Company’s reporting units exceeded their carrying amounts.  The results of this test showed that the fair value of our retail reporting unit exceeded its carrying value by a substantial amount.  The results of this test showed that the fair value of wholesale reporting unit exceeded carrying value by approximately 18%.  As discussed above, considerable management judgment is necessary in estimating future cash flows, market interest rates, discount rates and other factors affecting the valuation of goodwill.  The Company’s forecasts used in its fiscal 2017 annual impairment test include growth in net sales, new store openings and same-store sales, positive trends in cost of sales and selling, general and administrative expense.  In each case, these estimates and assumptions could be materially affected by factors such as unforeseen events or changes in general economic conditions, a decline in comparable company market multiples, changes to discount rates, increased competitive forces, inability to maintain pricing structure, deterioration of vendor relationships, failure to adequately manage and improve inventory processes and procedures and changes in customer behavior which could result in changes to management’s strategies.  If operating results continue to change versus the Company’s expectations, additional impairment charges may be recorded in the future.

 

Additionally, during the fourth quarter of fiscal 2017, the Company completed its annual indefinite-lived intangible asset impairment test and determined there was no impairment to the trade name since the fair value of the trade name exceeded its carrying amount.  The results of this test showed that the fair value of trade name exceeded carrying value by approximately 18%.  The relief from royalty method estimates our theoretical royalty savings from ownership of the intangible asset.  Key assumptions used in this model included sales projections, discount rates and royalty rates, and considerable management judgment is necessary in developing and evaluating such assumptions.  If future results are not consistent with current estimates and assumptions, impairment charges maybe recorded in future.

 

During the first quarter of fiscal 2018, the Company did not record any impairment charges related to goodwill or other intangible assets.

 

Derivatives

 

The Company accounts for derivative financial instruments in accordance with authoritative guidance for derivative instrument and hedging activities.  Financial instrument positions taken by the Company are primarily intended to be used to manage risks associated with interest rate exposures.

 

The Company’s derivative financial instruments are recorded on the balance sheet at fair value, and are recorded in either current or noncurrent assets or liabilities based on their maturity.  Changes in the fair values of derivatives are recorded in net earnings or other comprehensive income (“OCI”), based on whether the instrument is designated and effective as a hedge transaction and, if so, the type of hedge transaction.  Gains or losses on derivative instruments reported in accumulated other comprehensive income (“AOCI”) are reclassified to earnings in the period the hedged item affects earnings.  Any ineffectiveness is recognized in earnings in the period incurred.

 

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Income Taxes

 

The Company uses the liability method of accounting for income taxes.  Under the liability method, deferred tax assets and liabilities are recognized using enacted tax rates for the effect of temporary differences between the book and tax bases of recorded assets and liabilities.  Deferred tax assets are reduced by a valuation allowance if it is more likely than not that some portion or all of the deferred tax assets will not be realized.  The Company’s ability to realize deferred tax assets is assessed throughout the year and a valuation allowance is established accordingly.  The Company recognizes the impact of a tax position only if it is more likely than not to be sustained upon examination based on the technical merits of the position.  The Company recognizes potential interest and penalties related to uncertain tax positions in income tax expense.  Refer to Note 10, “Income Taxes,” for further discussion of income taxes.

 

Stock-Based Compensation

 

The Company accounts for stock-based payment awards based on their fair value.  The value of the portion of the award that is ultimately expected to vest is recognized as an expense ratably over the requisite service periods.  For awards classified as equity, the Company estimates the fair value for each option award as of the date of grant using the Black-Scholes option pricing model or other appropriate valuation models.  The Black-Scholes model considers, among other factors, the expected life of the award and the expected volatility of the stock price.  Stock options are generally granted to employees at exercise prices equal to or greater than the fair market value of the stock at the dates of grant.  The fair value of options that vest based on the Company’s and Parent’s achievement of certain performance hurdles were valued using a Monte Carlo simulation method. The fair value of options granted to the current Chief Executive Officer were valued using a binomial model and the Monte Carlo simulation method.   Refer to Note 8, “Stock-Based Compensation” for further discussion of the Company’s stock-based compensation.

 

Revenue Recognition

 

The Company recognizes retail sales in its retail stores at the time the customer takes possession of merchandise.  All sales are net of discounts and returns and exclude sales tax.  Wholesale sales are recognized in accordance with the shipping terms agreed upon on the purchase order. Wholesale sales are typically recognized free on board origin, where title and risk of loss pass to the buyer when the merchandise leaves the Company’s distribution facility.

 

The Company has a gift card program.  The Company does not charge administrative fees on gift cards and the Company’s gift cards do not have expiration dates.  The Company records the sale of gift cards as a current liability and recognizes a sale when a customer redeems a gift card.  The liability for outstanding gift cards is recorded in accrued expenses.

 

Cost of Sales

 

Cost of sales includes the cost of inventory, freight in, obsolescence, spoilage, scrap and inventory shrink, and is net of discounts and allowances.  Cost of sales also includes receiving, warehouse costs and distribution costs (which include payroll and associated costs, occupancy, transportation to and from stores and depreciation expense).  Cash discounts for satisfying early payment terms are recognized when payment is made, and allowances and rebates based upon milestone achievements such as reaching a certain volume of purchases of a vendor’s products are included as a reduction of cost of sales when such contractual milestones are reached or based on other systematic and rational approaches where possible.

 

Selling, General and Administrative Expenses

 

Selling, general and administrative expenses include the costs of selling merchandise in stores (which include payroll and associated costs, occupancy and other store-level costs) and corporate costs (which include payroll and associated costs, occupancy, advertising, professional fees and other corporate administrative costs).  Selling, general and administrative expenses also include depreciation and amortization expense relating to these costs.

 

Leases

 

The Company follows the policy of capitalizing allowable expenditures that relate to the acquisition and signing of its retail store leases.  These costs are amortized on a straight-line basis over the applicable lease term.

 

The Company recognizes rent expense for operating leases on a straight-line basis (including the effect of reduced or free rent and rent escalations) over the applicable lease term.  The difference between the cash paid to the landlord and the amount recognized as rent expense on a straight-line basis is included in deferred rent.  Cash reimbursements received from landlords for leasehold improvements and other cash payments received from landlords as lease incentives are recorded as deferred rent.  Deferred rent related to landlord incentives is amortized as an offset to rent expense using the straight-line method over the applicable lease term.

 

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In certain lease arrangements, the Company can be involved with the construction of the building. If it is determined that the Company has substantially all of the risks of ownership during construction of the leased property and therefore is deemed to be the owner of the construction project, the Company records an asset for the amount of the total project costs and an amount related to the value attributed to the pre-existing leased building in property and equipment, net and the related financing obligation as part of current and non-current liabilities.  Once construction is complete, if it is determined that the asset does not qualify for sale-leaseback accounting treatment, the Company amortizes the obligation over the lease term and depreciates the asset over the life of the lease. The Company does not report rent expense for the portion of the rent payment determined to be related to the assets which are owned for accounting purposes. Rather, this portion of the rent payment under the lease is recognized as a reduction of the financing obligation and interest expense.

 

For store closures where a lease obligation still exists, the Company records the estimated future liability associated with the rental obligation on the cease use date (when the store is closed).  Liabilities are established at the cease use date for the present value of any remaining operating lease obligations, net of estimated sublease income, and at the communication date for severance and other exit costs.  Key assumptions in calculating the liability include the timeframe expected to terminate lease agreements, estimates related to the sublease potential of closed locations, and estimates of other related exit costs.  If actual timing and potential termination costs or realization of sublease income differ from the Company’s estimates, the resulting liabilities could vary from recorded amounts. These liabilities are reviewed periodically and adjusted when necessary.

 

During the first quarter of fiscal 2018, the Company sold and concurrently leased back a future store site with an aggregate carrying value of $1.4 million and received net proceeds from this transaction of $6.8 million, which will be applied towards the construction of the future store.  The Company was deemed to have “continuing involvement,” which precluded the de-recognition of the assets from the consolidated balance sheet when the transaction closed.  The Company has concluded that it is the “deemed owner” of the construction project (for accounting purposes) during the construction period.  Upon completion of construction, the Company will evaluate the de-recognition of the asset and liability under sale-leaseback accounting guidance.  As of April 28, 2017, the Company has recorded a financing lease obligation of $6.9 million (as a component of current and non-current liabilities).  During the first quarter of fiscal 2018, the Company sold and concurrently leased back a store with a carrying value of $2.2 million and received net proceeds from this transaction of $4.0 million.  The resulting lease qualifies as and is accounted for as an operating lease.  The Company will amortize the deferred gain of $1.8 million relating to the sale-leaseback transaction over the lease term.

 

Self-Insured Workers’ Compensation Liability

 

The Company self-insures for workers’ compensation claims in California and Texas.  The Company establishes a liability for losses from both estimated known and incurred but not reported insurance claims based on reported claims and actuarial valuations of estimated future costs of known and incurred but not yet reported claims.  Should an amount of claims greater than anticipated occur, the liability recorded may not be sufficient and additional workers’ compensation costs, which may be significant, could be incurred.  The Company has not discounted the projected future cash outlays for the time value of money for claims and claim-related costs when establishing its workers’ compensation liability in its financial reports for each of April 28, 2017 and January 27, 2017.

 

Self-Insured Health Insurance Liability

 

The Company self-insures for a portion of its employee medical benefit claims.  The liability for the self-funded portion of the Company health insurance program is determined actuarially, based on claims filed and an estimate of claims incurred but not yet reported.  The Company maintains stop loss insurance coverage to limit its exposure for the self-funded portion of its health insurance program.

 

Pre-Opening Costs

 

The Company expenses, as incurred, pre-opening costs such as payroll, rent and marketing related to the opening of new retail stores.

 

Advertising

 

The Company expenses advertising costs as incurred.

 

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Fair Value of Financial Instruments

 

The Company’s financial instruments consist principally of cash, accounts receivable, interest rate and other derivatives, accounts payable, accruals, debt, and other liabilities.  Cash and derivatives are measured and recorded at fair value.  Accounts receivable and other receivables are financial assets with carrying values that approximate fair value.  Accounts payable and other accrued expenses are financial liabilities with carrying values that approximate fair value.  Refer to Note 7, “Fair Value of Financial Instruments” for further discussion of the fair value of debt.

 

The Company uses the authoritative guidance for fair value, which includes the definition of fair value, the framework for measuring fair value, and disclosures about fair value measurements.  Fair value is an exit price, representing the amount that would be received from the sale of an asset or paid to transfer a liability in an orderly transaction between market participants.  Fair value measurements reflect the assumptions market participants would use in pricing an asset or liability based on the best information available.  Assumptions include the risks inherent in a particular valuation technique (such as a pricing model) and/or the risks inherent in the inputs to the model.

 

Comprehensive Income

 

OCI includes unrealized gains or losses on interest rate derivatives designated as cash flow hedges.

 

2.                                      Goodwill and Other Intangibles

 

The following tables set forth the value of the goodwill and other intangible assets and unfavorable leases (in thousands):

 

 

 

April 28, 2017

 

January 27, 2017

 

 

 

Gross 
Carrying 
Amount

 

Impairment
Losses

 

Accumulated
Amortization

 

Net
Carrying
Amount

 

Gross
Carrying

Amount

 

Impairment

Losses

 

Accumulated

Amortization

 

Net
Carrying
Amount

 

Indefinite lived intangible assets:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Goodwill

 

$

479,745

 

$

(99,102

)

$

 

$

380,643

 

$

479,745

 

$

(99,102

)

$

 

$

380,643

 

Trade name

 

410,000

 

 

 

410,000

 

410,000

 

 

 

410,000

 

Total indefinite lived intangible assets

 

$

889,745

 

$

(99,102

)

$

 

$

790,643

 

$

889,745

 

$

(99,102

)

$

 

$

790,643

 

Finite lived intangible assets:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Trademarks

 

$

2,000

 

$

(570

)

$

(485

)

$

945

 

$

2,000

 

$

(570

)

$

(470

)

$

960

 

Bargain Wholesale customer relationships

 

20,000

 

 

(8,822

)

11,178

 

20,000

 

 

(8,408

)

11,592

 

Favorable leases

 

45,871

 

(566

)

(21,806

)

23,499

 

45,871

 

(566

)

(20,830

)

24,475

 

Total finite lived intangible assets

 

67,871

 

(1,136

)

(31,113

)

35,622

 

67,871

 

(1,136

)

(29,708

)

37,027

 

Total goodwill and other intangible assets

 

$

957,616

 

$

(100,238

)

$

(31,113

)

$

826,265

 

$

957,616

 

$

(100,238

)

$

(29,708

)

$

827,670

 

 

 

 

April 28, 2017

 

January 27, 2017

 

 

 

Gross 
Carrying
Amount

 

Accumulated
Amortization

 

Net
Carrying
Amount

 

Gross
Carrying
Amount

 

Accumulated
Amortization

 

Net
Carrying
Amount

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Unfavorable leases

 

$

19,835

 

$

(16,161

)

$

3,674

 

$

19,835

 

$

(15,847

)

$

3,988

 

 

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3.                                      Property and Equipment, net

 

The following table provides details of property and equipment (in thousands):

 

 

 

April 28,
2017

 

January 27,
2017

 

Land

 

$

155,009

 

$

167,544

 

Buildings

 

108,089

 

110,327

 

Buildings improvements

 

76,438

 

77,246

 

Leasehold improvements

 

208,102

 

205,336

 

Fixtures and equipment

 

215,649

 

209,397

 

Transportation equipment

 

11,893

 

11,893

 

Construction in progress

 

15,440

 

16,724

 

Total property and equipment

 

790,620

 

798,467

 

Less: accumulated depreciation and amortization

 

(304,766

)

(290,847

)

Property and equipment, net

 

$

485,854

 

$

507,620

 

 

4.                                      Comprehensive Loss

 

The following table sets forth the calculation of comprehensive loss, net of tax effects (in thousands):

 

 

 

For the First Quarter Ended

 

 

 

April 28,
2017

 

April 29,
2016

 

 

 

 

 

 

 

Net loss

 

$

(8,753

)

$

(25,194

)

Unrealized loss on interest rate cash flow hedge, net of tax effects of $0 for the first quarter of each of fiscal 2018 and fiscal 2017, respectively

 

 

(214

)

Reclassification adjustment, net of tax effects of $0 for the first quarter of each of fiscal 2018 and fiscal 2017, respectively

 

 

379

 

Total gains, net

 

 

165

 

Total comprehensive loss

 

$

(8,753

)

$

(25,029

)

 

Amounts in accumulated other comprehensive loss as of January 29, 2016 consisted of unrealized losses on interest rate cash flow hedges.  Reclassifications out of accumulated other comprehensive loss in the first quarter of fiscal 2017 presented in Note 6, “Derivative Financial Instruments.”

 

5.                                      Debt

 

Short and long-term debt consists of the following (in thousands):

 

 

 

April 28,
2017

 

January 27,
2017

 

 

 

 

 

 

 

ABL Facility

 

$

33,100

 

$

39,300

 

First Lien Term Loan Facility, maturing on January 13, 2019, payable in quarterly installments of $1,535, plus interest through December 31, 2018, with unpaid principal and accrued interest due on January 13, 2019, net of unamortized OID of $2,534 and $2,888 as of April 28, 2017 and January 27, 2017, respectively

 

589,794

 

590,974

 

Senior Notes (unsecured) maturing on December 15, 2019, unpaid principal and accrued interest due on December 15, 2019

 

250,000

 

250,000

 

Deferred financing costs

 

(7,906

)

(8,761

)

Total debt

 

864,988

 

871,513

 

Less: current portion

 

6,138

 

6,138

 

Long-term debt, net of current portion

 

$

858,850

 

$

865,375

 

 

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As of April 28, 2017 and January 27, 2017, the net deferred financing costs are as follows (in thousands):

 

Deferred financing costs

 

April 28,
2017

 

January 27,
2017

 

 

 

 

 

 

 

ABL Facility (included in non-current deferred financing costs)

 

$

2,984

 

$

3,488

 

First Lien Term Loan Facility (included in long-term debt, net of current portion)

 

2,601

 

2,964

 

Senior Notes (included in long-term debt, net of current portion)

 

5,305

 

5,797

 

Total deferred financing costs, net

 

$

10,890

 

$

12,249

 

 

On January 13, 2012 (the “Original Closing Date”), in connection with the Merger, the Company obtained Credit Facilities (as defined below) provided by a syndicate of lenders arranged by Royal Bank of Canada as administrative agent, as well as other agents and lenders that are parties to the agreements governing these Credit Facilities.  The Credit Facilities include (a) a first lien asset based revolving credit facility (as amended, the “ABL Facility”), and (b) a first lien term loan facility (as amended, the “First Lien Term Loan Facility” and together with the ABL Facility, the “Credit Facilities”).

 

First Lien Term Loan Facility

 

Under the First Lien Term Loan Facility, (i) $525.0 million of term loans were incurred on the Original Closing Date and (ii) $100.0 million of additional term loans were incurred pursuant to an incremental facility effected through an amendment entered into on October 8, 2013 (the “Second Amendment”) (all such term loans, collectively, the “Term Loans”).  The First Lien Term Loan Facility has a maturity date of January 13, 2019.  All obligations under the First Lien Term Loan Facility are guaranteed by Parent and the Company’s direct or indirect 100% owned domestic subsidiaries (with customary exceptions, including immaterial subsidiaries) (collectively, the “Credit Facilities Guarantors”).  In addition, the First Lien Term Loan Facility is secured by substantially all of the Company’s assets and the assets of the Credit Facilities Guarantors, including a first priority pledge of all of the Company’s equity interests and the equity interests of the Credit Facilities Guarantors and a first priority security interest in certain other fixed assets, and a second priority security interest in certain current assets.

 

The Company is required to make scheduled quarterly payments each equal to 0.25% of the principal amount of the Term Loans, with the balance due on the maturity date.  Borrowings under the First Lien Term Loan Facility bear interest at an annual rate equal to an applicable margin plus, at the Company’s option, either (i) a base rate (the “Base Rate”) determined by reference to the highest of (a) the interest rate in effect determined by the administrative agent as the “Prime Rate” (4.00% as of April 28, 2017), (b) the federal funds effective rate plus 0.50% and (c) an adjusted Eurocurrency rate for one month (determined by reference to the greater of the Eurocurrency rate for the interest period subject to certain adjustments) plus 1.00%, or (ii) a Eurocurrency rate determined by reference to the London Interbank Offered Rate (“LIBOR”), adjusted for statutory reserve requirements, for the interest period relevant to such borrowing.

 

On April 4, 2012, the Company amended the terms of the First Lien Term Loan Facility (the “First Amendment”) and incurred related refinancing costs of $11.2 million.  The First Amendment, among other things, (i) decreased the applicable margin from LIBOR plus 5.50% (or Base Rate plus 4.50%) to LIBOR plus 4.00% (or Base Rate plus 3.00%) and (ii) decreased the LIBOR floor from 1.50% to 1.25%.

 

On October 8, 2013, the Company entered into the Second Amendment, which among other things, (i) provided $100.0 million of additional term loans as described above, (ii) decreased the applicable margin from LIBOR plus 4.00% (or Base Rate plus 3.00%) to LIBOR plus 3.50% (or Base Rate plus 2.50%) and (iii) decreased the LIBOR floor from 1.25% to 1.00%.  Upon the occurrence of the Second Amendment, the Company’s obligation to make scheduled quarterly payments on the Term Loans was increased to require the Company to make scheduled quarterly payments each equal to 0.25% of the amended principal amount of the Term Loans (approximately $1.5 million).

 

In addition, the Second Amendment (i) amended certain restricted payment provisions, (ii) removed the maximum capital expenditures covenant from the agreement governing the First Lien Term Loan Facility, (iii) modified the existing provision restricting the Company’s ability to make dividend and other payments so that from and after March 31, 2013, the permitted payment amount represents the sum of (a) a calculation based on 50% of Consolidated Net Income (as defined in the First Lien Term Loan Facility agreement), if positive, or a deficit of 100% of Consolidated Net Income, if negative, and (b) $20.0 million, and (iv) permitted proceeds of any sale leasebacks of any assets acquired after January 13, 2012, to be reinvested in the Company’s business without restriction.

 

As of April 28, 2017, the interest rate charged on the First Lien Term Loan Facility was 4.61% (1.11% Eurocurrency rate, plus the Eurocurrency loan margin of 3.50%).  As of April 28, 2017, the gross amount outstanding under the First Lien Term Loan Facility was $592.3 million.

 

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Following the end of each fiscal year, the Company is required to make prepayments on the First Lien Term Loan Facility in an amount equal to (i) 50% of Excess Cash Flow (as defined in the agreement governing the First Lien Term Loan Facility), with the ability to step down to 25% and 0% upon achievement of specified total leverage ratios, minus (ii) the amount of certain voluntary prepayments made on the First Lien Term Loan Facility and/or the ABL Facility during such fiscal year.  There was no Excess Cash Flow payment required for fiscal 2017.

 

The First Lien Term Loan Facility includes certain customary restrictions, among other things, on the Company’s ability and the ability of Parent, the Credit Facilities Guarantors (including the Company’s subsidiary 99 Cents Only Stores Texas Inc.) and certain future subsidiaries of the Company to incur or guarantee additional indebtedness, make certain restricted payments, acquisitions or investments, materially change the Company’s business, incur or permit to exist certain liens, enter into transactions with affiliates, sell assets, make capital expenditures or merge or consolidate with or into, another company. As of April 28, 2017, the Company was in compliance with the terms of the First Lien Term Loan Facility.

 

ABL Facility

 

The ABL Facility initially was to mature on January 13, 2017 and provided for up to $175.0 million of borrowings, subject to certain borrowing base limitations. Subject to certain conditions, the Company could increase the commitments under the ABL Facility by up to $50.0 million.  All obligations under the ABL Facility are guaranteed by Parent and the other Credit Facilities Guarantors.  The ABL Facility is secured by substantially all of the Company’s assets and the assets of the Credit Facilities Guarantors, including a first priority security interest in certain current assets, and a second priority pledge of all of the Company’s equity interests and the equity interest of the Credit Facilities Guarantors and a second priority security interest in certain other fixed assets.

 

Borrowings under the ABL Facility bear interest at a rate based, at the Company’s option, on (i) LIBOR plus an applicable margin to be determined (3.25% as of April 28, 2017) or (ii) the determined base rate (Prime Rate) plus an applicable margin to be determined (2.25% at April 28, 2017), in each case based on a pricing grid depending on average daily excess availability for the most recently ended quarter.

 

In addition to paying interest on outstanding principal under the Credit Facilities, the Company is required to pay a commitment fee to the lenders under the ABL Facility on unused commitments.  The commitment fee is adjusted at the beginning of each quarter based upon the average historical excess availability of the prior quarter (0.50% for the quarter ended April 28, 2017).  The Company must also pay customary letter of credit fees and agency fees.

 

As of April 28, 2017, borrowings under the ABL Facility were $33.1 million, outstanding letters of credit were $32.4 million and availability under the ABL Facility subject to the borrowing base, was $50.8 million.  As of January 27, 2017, borrowings under the ABL Facility were $39.3 million, outstanding letters of credit were $31.6 million and availability under the ABL Facility subject to the borrowing base, was $37.2 million.

 

The ABL Facility includes restrictions on the Company’s ability and the ability of Parent and certain of the Company’s restricted subsidiaries to incur or guarantee additional indebtedness, pay dividends on, or redeem or repurchase, its capital stock, make certain acquisitions or investments, materially change its business, incur or permit to exist certain liens, enter into transactions with affiliates, sell assets or merge or consolidate with or into another company.

 

On October 8, 2013, the ABL Facility was amended to among other things, modify the provision restricting the Company’s ability to make dividend and other payments.  Such payments are subject to achievement of Excess Availability (as defined in the agreement governing the ABL Facility) and a ratio of EBITDA (as defined in the agreement governing the ABL Facility) to fixed charges.

 

On August 24, 2015, the Company amended its ABL Facility to increase commitments available under the ABL Facility by $10.0 million, resulting in an aggregate ABL Facility size of $185.0 million.  The additional commitments implemented pursuant to the amendment have terms identical to the existing commitments under the ABL Facility, including as to interest rate and other pricing terms. The Company paid amendment fees of $0.5 million to lenders under the ABL Facility.

 

In addition, the amendment to the ABL Facility (i) modified certain springing covenants triggered by reference to excess availability under the ABL Facility agreement so that, from August 24, 2015 to April 30, 2016, the occurrence of any such excess availability trigger is determined solely by reference to the available borrowing base under the ABL Facility rather than by reference to the lesser of the available borrowing base and the available aggregate commitments under the ABL Facility, (ii) increased the inventory advance rate during such period for purposes of calculating the borrowing base from 90% to 92.5%, (iii) provided for certain additional inspection rights by the administrative agent if there is a material increase in the amount of inventory that is not eligible inventory for purposes of the borrowing base and (iv) provided for certain additional technical waivers and amendments in order to effect the foregoing.

 

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On April 8, 2016, the Company amended its ABL Facility to, among other things, decrease the commitments available under the ABL Facility by $25.0 million, resulting in an aggregate facility size of $160.0 million, and extend the maturity date of the ABL Facility to April 8, 2021; provided however, the ABL Facility will mature on the earlier of (i) the date that is 90 days prior to the stated maturity date in respect of the First Lien Term Loan Facility and (ii) the date that is 90 days prior to the stated maturity date in respect of the Senior Notes (as defined below), unless the First Lien Term Loan Facility and Senior Notes have been repaid or refinanced in full or amended to extend the final maturity dates thereof to a date that is at least 180 days after April 8, 2021 (the date of such repayment or refinancing, the “Term/Notes Refinancing Date”) (such amendment, the “Fourth Amendment”).  The Fourth Amendment also modified the interest rate margins payable under the ABL Facility.  The initial applicable margin for borrowings under the ABL Facility is 2.0% with respect to base rate borrowings and 3.0% with respect to Eurocurrency rate borrowings.  Commencing with the first day of the first fiscal quarter commencing after the closing of the Fourth Amendment, the applicable margin for borrowings thereunder is subject to adjustment each fiscal quarter, based on average historical excess availability during the preceding fiscal quarter.  Furthermore, the applicable margin will be reduced by 0.50% after the Term/Notes Refinancing Date.

 

In addition, the Fourth Amendment (i) reduced the incremental revolving commitment capacity from $50.0 million to $25.0 million, but provides that any such incremental revolving commitment may take the form of a “last-out” term loan, (ii) added restrictions on certain negative covenants in respect of investments, restricted payments and prepayments of indebtedness, including the First Lien Term Loan Facility and the Senior Notes, in each case, until the occurrence of Term/Notes Refinancing Date, (iii) reduced the letter of credit sublimit from $50.0 million to $45.0 million and (iv) provided for certain additional technical waivers and amendments in order to effect the foregoing.

 

In connection with the Fourth Amendment and in the first quarter of fiscal 2017, the Company recognized a loss on debt extinguishment of approximately $0.3 million related to a portion of the unamortized debt issuance costs. The Company recorded $4.7 million of debt issuance costs in connection with the Fourth Amendment in the first quarter of fiscal 2017 as part of non-current deferred financing costs.

 

As of April 28, 2017, the Company was in compliance with the terms of the ABL Facility.

 

Senior Notes

 

On December 29, 2011, the Company issued $250.0 million aggregate principal amount of 11% Senior Notes that mature on December 15, 2019 (the “Senior Notes”).  The Senior Notes are guaranteed by the same subsidiaries that guarantee the Credit Facilities (the “Subsidiary Guarantors”).

 

Pursuant to the terms of the indenture governing the Senior Notes (the “Indenture”), the Company may redeem all or a part of the Senior Notes at certain redemption prices that vary based on the date of redemption.  The Company is not required to make any mandatory redemptions or sinking fund payments, and may at any time or from time to time purchase notes in the open market.

 

The Indenture contains covenants that, among other things, limit the Company’s ability and the ability of certain of its subsidiaries to incur or guarantee additional indebtedness, create or incur certain liens, pay dividends or make other restricted payments and investments, incur restrictions on the payment of dividends or other distributions from restricted subsidiaries, sell assets, engage in transactions with affiliates, or merge or consolidate with other companies.  As of April 28, 2017, the Company was in compliance with the terms of the Indenture.

 

The significant components of interest expense are as follows (in thousands):

 

 

 

For the First Quarter Ended

 

 

 

April 28,
2017

 

April 29,
2016

 

 

 

 

 

 

 

First Lien Term Loan Facility

 

$

6,811

 

$

7,229

 

ABL Facility

 

781

 

555

 

Senior Notes

 

6,951

 

6,875

 

Amortization of deferred financing costs and OID

 

1,714

 

1,302

 

Other interest expense

 

1,085

 

565

 

Interest expense

 

$

17,342

 

$

16,526

 

 

6.                                      Derivative Financial Instruments

 

The Company entered into derivative instruments for risk management purposes and uses these derivatives to manage exposure to fluctuation in interest rates.

 

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Interest Rate Swap

 

In May 2012, the Company entered into a floating-to-fixed interest rate swap agreement for an initial aggregate notional amount of $261.8 million to limit exposure to interest rate increases related to a portion of the Company’s floating rate indebtedness once the Company’s interest rate cap agreement expires.  The swap agreement, effective November 2013, hedged a portion of contractual floating rate interest commitments through the expiration of the swap agreement in May 2016.  As a result of the agreement, the Company’s effective fixed interest rate on the notional amount of floating rate indebtedness was 1.36% plus an applicable margin of 3.50%.

 

The Company designated the interest rate swap agreement as a cash flow hedge.  The interest rate swap agreement was highly correlated to the changes in interest rates to which the Company is exposed.  Unrealized gains and losses on the interest rate swap were designated as effective or ineffective.  The effective portion of such gains or losses was recorded as a component of AOCI or loss, while the ineffective portion of such gains or losses was recorded as a component of interest expense.  Realized gains and losses in connection with each required interest payment were reclassified from AOCI or loss to interest expense.

 

Payments

 

In September 2015, the Company entered into an employment agreement with Geoffrey J. Covert as the President and Chief Executive Officer of each of the Company and Parent. In connection with this agreement, Mr. Covert is entitled to receive amounts under a transition program based on the value of certain equity awards from his former employer that he forfeited in connection with his previous employment.  The maximum amount of payments due under this agreement is approximately $5.0 million, payable over a period of four years. The Company accounts for these transition payments as derivatives that are not designated as hedging instruments and has measured the obligation at fair value at April 28, 2017 and January 27, 2017. The Company recognizes the expense associated with these payments over the requisite service period.

 

Fair Value

 

The fair value of the transition payments is estimated using a valuation model that includes unobservable inputs (Level 3, as defined in Note 7, “Fair Value of Financial Instruments”).

 

A summary of the recorded amounts included in the consolidated balance sheets is as follows (in thousands):

 

 

 

April 28,
2017

 

January 27,
2017

 

 

 

 

 

 

 

Derivatives not designated as hedging instruments

 

 

 

 

 

Transition payments (included in other current liabilities)

 

$

549

 

$

831

 

Transition payments (included in other long-term liabilities)

 

$

210

 

$

217

 

 

A summary of recorded amounts included in the unaudited consolidated statements of comprehensive income (loss) is as follows (in thousands):

 

 

 

For the First Quarter Ended

 

 

 

April 28,
2017

 

April 29,
2016

 

 

 

 

 

 

 

Derivatives designated as cash flow hedging instruments:

 

 

 

 

 

Loss related to effective portion of derivative recognized in OCI

 

$

 

$

214

 

Loss related to effective portion of derivatives reclassified from AOCI to interest expense

 

$

 

$

379

 

(Loss) gain related to ineffective portion of derivative recognized in interest expense

 

$

 

$

30

 

Derivatives not designated as hedging instruments:

 

 

 

 

 

Loss recognized in selling, general and administrative expenses

 

$

136

 

$

869

 

 

7.                                      Fair Value of Financial Instruments

 

The Company complies with authoritative guidance for fair value measurement and disclosures which establish a fair value hierarchy that prioritizes the inputs to valuation techniques used to measure fair value.  The hierarchy gives the highest priority to unadjusted quoted prices in active markets for identical assets or liabilities (Level 1 measurements) and the lowest priority to unobservable inputs (Level 3 measurements).  The three levels of the fair value hierarchy are described below:

 

Level 1: Defined as observable inputs such as quoted prices in active markets for identical assets or liabilities.

 

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Level 2: Defined as observable inputs other than Level 1 prices.  These include quoted prices for similar assets or liabilities in an active market, quoted prices for identical assets and liabilities in markets that are not active, or other inputs that are observable or can be corroborated by observable market data for substantially the full term of the assets or liabilities.

 

Level 3: Defined as unobservable inputs in which little or no market data exists, therefore requiring an entity to develop its own assumptions.

 

The Company uses the best available information in measuring fair value.  The following table summarizes, by level within the fair value hierarchy, the financial assets and liabilities recorded at fair value on a recurring basis (in thousands) as of April 28, 2017:

 

 

 

April 28, 2017

 

 

 

Total

 

Level 1

 

Level 2

 

Level 3

 

ASSETS

 

 

 

 

 

 

 

 

 

Other assets — assets that fund deferred compensation

 

$

868

 

$

868

 

$

 

$

 

LIABILITIES

 

 

 

 

 

 

 

 

 

Other current liabilities — transition payments

 

$

549

 

$

 

$

 

$

549

 

Other long-term liabilities — transition payments

 

$

210

 

$

 

$

 

$

210

 

Other long-term liabilities — deferred compensation

 

$

868

 

$

868

 

$

 

$

 

 

Level 1 measurements include $0.9 million of deferred compensation assets that fund the liabilities related to the Company’s deferred compensation plan, including investments in trust funds.  The fair values of these funds are based on quoted market prices in an active market.

 

There were no Level 2 assets or liabilities as of April 28, 2017.

 

Level 3 measurements include transition payments to Mr. Covert (See Note 6, “Derivative Financial Instruments”) estimated using a valuation model that includes Level 3 unobservable inputs.  Significant assumptions used in the analysis include projected stock prices, stock volatility and the Company’s credit spread.

 

The Company did not have any transfers in and out of Levels 1 and 2 during the first quarter of fiscal 2018.

 

The following table summarizes, by level within the fair value hierarchy, the financial assets and liabilities recorded at fair value on a recurring basis (in thousands) as of January 27, 2017:

 

 

 

January 27, 2017

 

 

 

Total

 

Level 1

 

Level 2

 

Level 3

 

ASSETS

 

 

 

 

 

 

 

 

 

Other assets — assets that fund deferred compensation

 

$

816

 

$

816

 

$

 

$

 

LIABILITIES

 

 

 

 

 

 

 

 

 

Other current liabilities — transition payments

 

$

831

 

$

 

$

 

$

831

 

Other long-term liabilities — transition payments

 

$

217

 

$

 

$

 

$

217

 

Other long-term liabilities — deferred compensation

 

$

816

 

$

816

 

$

 

$

 

 

Level 1 measurements include $0.8 million of deferred compensation assets that fund the liabilities related to the Company’s deferred compensation plan, including investments in trust funds.  The fair values of these funds are based on quoted market prices in an active market.

 

There were no Level 2 assets or liabilities as of January 27, 2017.

 

Level 3 measurements include transition payments to Mr. Covert estimated using a valuation model that includes Level 3 unobservable inputs.  Significant assumptions used in the analysis include projected stock prices, stock volatility and the Company’s credit spread.

 

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The following table summarizes the activity for the period of changes in fair value of the Company’s Level 3 instruments (in thousands):

 

 

 

For the First Quarter Ended

 

Transition Payments

 

April 28, 2017

 

April 29, 2016

 

Description

 

 

 

 

 

Beginning balance

 

$

(1,048

)

$

(1,205

)

Transfers in and/or out of Level 3

 

 

 

Total realized/unrealized gains (loss):

 

 

 

 

 

Included in earnings (1)

 

(136

)

(869

)

Included in other comprehensive loss

 

 

 

Purchases, sales, issues and settlements:

 

 

 

 

 

Settlements

 

425

 

852

 

Ending balance

 

$

(759

)

$

(1,222

)

Total amount of unrealized losses for the period included in earnings relating to liabilities held at the reporting period

 

$

(88

)

$

(570

)

 


(1)         Losses are included in selling, general and administrative expenses.

 

The outstanding debt under the Credit Facilities and the Senior Notes is recorded in the financial statements at historical cost, net of applicable unamortized discounts and deferred financing costs.

 

The ABL Facility is tied directly to market rates and fluctuates as market rates change; as a result, the carrying value of the ABL Facility approximates fair value as of April 28, 2017 and January 27, 2017.

 

The fair value of the First Lien Term Loan Facility was estimated at $561.2 million, or $31.1 million lower than its carrying value, as of April 28, 2017, based on quoted market prices of the debt (Level 1 inputs).  The fair value of the First Lien Term Loan Facility was estimated at $516.7 million, or $77.2 million lower than its carrying value, as of January 27, 2017, based on quoted market prices of the debt (Level 1 inputs).

 

The fair value of the Senior Notes was estimated at $211.3 million, or $38.8 million lower than the carrying value, as of April 28, 2017, based on quoted market prices of the debt (Level 1 inputs).  The fair value of the Senior Notes was estimated at $166.9 million, or $83.1 million lower than the carrying value, as of January 27, 2017, based on quoted market prices of the debt (Level 1 inputs).

 

See Note 5, “Debt” for more information on the Company’s debt.

 

8.                                      Stock-Based Compensation

 

Number Holdings, Inc. 2012 Equity Incentive Plan

 

On February 27, 2012, the board of directors of Parent (the “Board”) adopted the Number Holdings, Inc. 2012 Stock Incentive Plan (the “2012 Plan”). The 2012 Plan authorizes equity awards to be granted for up to 87,500 shares of Class A Common Stock of Parent and 87,500 shares of Class B Common Stock of Parent.  As of April 28, 2017, options for 81,935 shares of each of Class A Common Stock and Class B Common Stock were outstanding and held by employees, members of management and directors.  Options upon vesting may be exercised only for units consisting of an equal number of Class A Common Stock and Class B Common Stock.  Class B Common Stock has de minimis economic rights and the right to vote solely for election of directors.

 

Employee Option Grants

 

Options subject to time-vesting conditions granted to employees generally become exercisable over a four or five year service period and have terms of ten years from the date of grant. Options with performance-vesting conditions granted to employees generally become exercisable based on the achievement of certain performance targets and have terms of ten years from the date of grant.

 

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Under the standard form of option award agreement for the 2012 Plan, Parent has a right to repurchase from the participant all or a portion of (i) Class A and Class B Common Stock of Parent issued upon the exercise of the options awarded to a participant and still held by such participant or his or her transferee and (ii) vested but unexercised options.  The repurchase price for the shares of Class A and Class B Common Stock of Parent received from option exercises prior to termination of employment is the fair market value of such shares as of the date of such termination, and, for the vested but unexercised options, the repurchase price is the difference between the fair market value of the Class A and Class B Common Stock of Parent as of the date of termination of employment and the exercise price of the option.  However, upon (i) a termination of employment for cause, (ii) a voluntary resignation without good reason, or (iii) upon discovery that the participant engaged in detrimental activity, the repurchase price is the lesser of the exercise price paid by the participant to exercise the option or the fair market value of the Class A and Class B Common Stock of Parent.  If Parent elects to exercise its repurchase right for any shares acquired pursuant to the exercise of an option, it must do so no later than (i) 180 days after the date of participant’s termination of employment if the option is exercised prior to the date of termination, or (ii) no later than 90 days from the latest date that such option can be exercised if the option is exercised after the date of termination.  If Parent elects to exercise its repurchase right for any vested and unexercised option, it must do so for no longer than the latest date that such option can be exercised.  The options also contain transfer restrictions that lapse upon registration of an offering of Parent common stock under the Securities Act of 1933 (a “liquidity event”).

 

The Company defers recognition of substantially all of the stock-based compensation expense related to these stock options. The nature of repurchase rights and transfer restrictions create a performance condition that is not considered probable of being achieved until a liquidity event or certain employment termination events are probable of occurrence. Additionally, the Company has deferred recognition of the stock-based compensation expense for performance-based options until it is probable that the performance targets will be achieved. These options are accounted for as equity-based awards. The fair value of these stock options was estimated at the date of grant using the Black-Scholes pricing model. There were 21,770 time-based and 17,915 performance-based employee options outstanding (for individuals other than board members, Mr. Covert and Ms. Thornton) as of April 28, 2017.

 

Director Option Grants

 

Options granted to board members generally become exercisable over a three, four or five year service period and have terms of ten years from the date of grant.  Options granted to board members do not contain repurchase rights that would allow the Parent to repurchase these options at less than fair value. The Company recognizes stock-based compensation expense for these option grants over the service period. These options are accounted for as equity awards.  The fair value of these stock options was estimated at the date of grant using the Black-Scholes pricing model.  On July 26, 2016, the Compensation Committee of Parent amended 1,000 previously granted board member options with exercise prices in excess of $757 per share to lower the exercise price to $757 per share. The reduction in the exercise price was treated as a modification of stock options for accounting purposes.  The modification, based on the fair value of the options both immediately before and after such modification, resulted in a total incremental compensation expense of less than $0.1 million in the second quarter of fiscal 2017.

 

Chief Financial Officer Equity Awards

 

In October 2015, the Company entered into an employment agreement with Felicia Thornton as the Chief Financial Officer and Treasurer of each of the Company and Parent. In connection with this agreement, Ms. Thornton was granted options to purchase 10,000 shares of Class A and Class B Common Stock of Parent.  One-half of the options vest on each of the first four anniversaries of Ms. Thornton’s start date, and the other half of the options vest based on the achievement of certain performance targets. Options granted to Ms. Thornton contain repurchase rights as described above that would allow the Parent to repurchase these options at less than fair value, except that repurchase rights at less than fair value in the case of voluntary resignation without good reason lapse after November 2, 2017.

 

The Company records stock-based compensation for the time-based options in accordance with the four year vesting period.  The Company has deferred recognition of the stock-based compensation expense for the performance-based options until it is probable that the performance targets will be achieved.  The time-based and performance-based options are accounted for as equity awards.  The fair value of these time-based and performance-based options was estimated at the date of grant using the Black-Scholes pricing model.

 

On July 26, 2016, the Compensation Committee of Parent amended Ms. Thornton’s performance-based options to conform the vesting conditions for the performance-vested options with those granted to other employees.  The amendment of the performance targets was treated as a modification of stock options for accounting purposes and had no impact on compensation expense.  The Company has continued to defer recognition of the stock-based compensation expense for the amended performance-based options.  The fair value of these amended performance-based options was estimated at the date of modification using the Black-Scholes pricing model.

 

Chief Executive Officer Equity Awards

 

In September 2015, the Company entered into an employment agreement with Geoffrey J. Covert as the President and Chief Executive Officer of each of the Company and Parent.  In connection with this agreement, Mr. Covert was granted two options, each to purchase 15,500 shares of Class A and Class B Common Stock of Parent.  One of the grants has an exercise price of $1,000 per share.  The other grant has an exercise price equal to $750 per share plus the amount by which the fair market value of the underlying share exceeds $1,000 on the date of exercise.  One-half of each grant vests on each of the first four installments of the grant date, and the other half of each grant vests based on the achievement of certain performance targets.  The vesting of the options is subject to Mr. Covert’s continued employment through the applicable vesting date.  The options are subject to the terms of the 2012 Plan and the award agreements under which they were granted.

 

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The Company has deferred recognition of the stock-based compensation expense for these time-based and performance-based stock options due to repurchase rights and transfer restrictions included in the terms of the award. The nature of the repurchase rights and transfer restrictions create a performance condition that is not considered probable of being achieved until a liquidity event or certain employment termination events are probable of occurrence. Additionally, the Company has deferred recognition of the stock-based compensation expense for performance-based options until it is probable that the performance targets will be achieved.  The fair value of the grant with an exercise price of $1,000 per share was estimated at the date of grant using a binomial model.  The fair value of the other grant was estimated at the date of grant using a Monte Carlo simulation method.

 

On July 26, 2016, the Compensation Committee of Parent amended Mr. Covert’s performance-based options to conform the vesting conditions for the performance-vested options with those granted to other employees.  The amendment of the performance hurdles was treated as a modification of stock options for accounting purposes and had no impact on compensation expense.  The Company has continued to defer recognition of the stock-based compensation expense for the amended performance-based options.  The fair value of the grant with an exercise price of $1,000 per share was estimated at the date of modification using a binomial model.  The fair value of the other grant was estimated at the date of modification using a Monte Carlo simulation method.

 

Accounting for stock-based compensation

 

Determining the fair value of options at the grant date requires judgment, including estimating the expected term that stock options will be outstanding prior to exercise and the associated volatility.  In accordance with the adoption of ASU No. 2016-09, “Compensation — Stock Compensation, Improvements to Employee Share-Based Payment Accounting” in the first quarter of fiscal 2018, the Company elected to recognize forfeitures in the period they occur as a reversal of previously recognized compensation expense. The reduction in compensation expense is determined based on the specific options forfeited during that period. Prior to the adoption of ASU 2016-09, the Company applied an estimated forfeiture rate as a reduction of current period stock-based compensation expense.  During the first quarter of fiscal 2018 and 2017, the Company recorded stock-based compensation expense of $0.1 million and $0.2 million, respectively.

 

There were no stock option grants in the first quarter of fiscal 2018.

 

The following summarizes stock option activity in the first quarter of fiscal 2018:

 

 

 

Number of
Shares

 

Weighted Average
Exercise Price

 

Weighted Average
Remaining
Contractual Life
(Years)

 

Options outstanding at the beginning of the period

 

82,140

 

$

800

 

 

 

Granted

 

 

$

 

 

 

Exercised

 

 

$

 

 

 

Cancelled

 

(205

)

$

757

 

 

 

Outstanding at the end of the period

 

81,935

 

$

800

 

8.7

 

Exercisable at the end of the period

 

16,049

 

$

784

 

8.7

 

 

The following table summarizes the stock awards available for grant under the 2012 Plan as of April 28, 2017:

 

 

 

Number of Shares

 

Available for grant as of January 27, 2017

 

4,670

 

Authorized

 

 

Granted

 

 

Cancelled

 

205

 

Available for grant at April 28, 2017

 

4,875

 

 

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9.                                      Related-Party Transactions

 

Management Services Agreements

 

Upon completion of the Merger, the Company and Parent entered into management services agreements with affiliates of the Sponsors (the “Management Services Agreements”).  Under each of the Management Services Agreements, the Company and Parent agreed to, among other things, retain and reimburse affiliates of the Sponsors for certain expenses incurred in connection with the provision by Sponsors of certain management and financial services and provide customary indemnification to the Sponsors and their affiliates.  In the first quarter of fiscal 2018, the Company reimbursed affiliates of the Sponsors their expenses in the amount of less than $0.1 million.

 

First Lien Term Loan Facility

 

In connection with the Merger, the Company entered into the First Lien Term Loan Facility, under which various funds affiliated with Ares were lenders.  As of April 28, 2017 and January 27, 2017, funds affiliated with Ares and CPPIB held approximately $130.2 million and $130.5 million, respectively, of term loans under the First Lien Term Loan Facility.  The terms of the term loans are the same as those held by unaffiliated third party lenders under the First Lien Term Loan Facility.

 

Senior Notes

 

As of April 28, 2017 and January 27, 2017 various funds affiliated with Ares and CPPIB have collectively acquired $102.1 million aggregate principal amount of the Company’s Senior Notes in open market transactions.  From time to time, these or other affiliated funds may acquire additional Senior Notes.

 

10.                               Income Taxes

 

The effective income tax rate for the first quarter of fiscal 2018 was a provision rate of (0.2)% compared to a provision rate of rate of (0.3)% for the first quarter of fiscal 2017.  Income tax expense for the interim periods was computed using the effective tax rate estimated to be applicable for the full fiscal year.  The effective tax rate reflects the tax effect of the establishment of a valuation allowance against deferred tax assets in the second quarter of fiscal 2016, and the effect of not recognizing the benefit of losses incurred in fiscal 2018 and 2017 in jurisdictions where the Company concluded it is more likely than not that such benefits would not be realized.

 

The Company assesses its ability to realize deferred tax assets throughout the fiscal year.  As a result of this assessment during the second quarter of fiscal 2016, the Company concluded that it was more likely than not that the Company would not realize its deferred tax assets.  Therefore, in the second quarter of fiscal 2016, the Company recorded a $31.7 million increase to provision for income taxes in order to establish a valuation allowance against such net deferred tax assets.

 

As of January 27, 2017, the valuation allowance increased to $137.7 million, which was primarily related to an increase in losses incurred during fiscal 2017.

 

The Company will continue to evaluate all of the positive and negative evidence in future periods and will make a determination as to whether it is more likely than not that all or a portion of its deferred tax assets will be realized in such future periods. At such time as the Company determines that it is more likely than not that all or a portion of its deferred tax assets are realizable, the valuation allowance will be reduced or released in its entirety, and the corresponding benefit will be reflected in the Company’s tax provision. Deferred tax liabilities associated with indefinite-lived intangibles cannot be considered a source of taxable income to support the realization of deferred tax assets because these deferred tax liabilities will not reverse until some indefinite future period when these assets are either sold or impaired for book purposes.  The establishment of a valuation allowance does not have any impact on cash, nor does such an allowance preclude the Company from using its loss carryforwards or utilizing other deferred tax assets in the future.

 

As of April 28, 2017 and January 27, 2017, the Company had not accrued any liabilities related to unrecognized tax benefits, and had also not accrued any interest and penalties related to uncertain tax positions for the relevant periods. The Company files income tax returns in the U.S. federal jurisdiction and in various states.  The Company is subject to examinations by the major tax jurisdictions in which it files for the tax years 2011 forward.

 

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11.                               Commitments and Contingencies

 

Credit Facilities

 

The Company’s Credit Facilities and commitments are discussed in detail in Note 5, “Debt.”

 

Mid-Term Cash Incentive Plan and Special Bonus Letters

 

On July 26, 2016, the Compensation Committee of the Board (the “Compensation Committee”) adopted the 99 Cents Only Stores LLC 2016 Mid-Term Cash Incentive Plan (the “Mid-Term Cash Incentive Plan”). The Mid-Term Cash Incentive Plan is intended to promote the success of the Company by rewarding certain employees for their service to the Company and to provide incentives for such employees to remain in the employ or other service of the Company and to contribute to the performance of the Company. Under the Mid-Term Cash Incentive Plan, if the Company achieves an initial Adjusted EBITDA (as defined in the Mid-Term Cash Incentive Plan) goal for either fiscal 2017 or the fiscal year ending January 26, 2018 (the “Initial Mid-Term Plan Goal”), 50% of a participant’s award will be eligible for payment. No amounts will be paid under the Mid-Term Cash Incentive Plan if the Initial Mid-Term Plan Goal is not achieved. If the Company achieves the Initial Mid-Term Plan Goal and then achieves the same Adjusted EBITDA goal for the fiscal year immediately following the year in which the Initial Mid-Term Plan Goal was achieved, the remaining 50% of the participant’s award will be eligible for payment. Payment of eligible awards will only be made to the extent the Company’s Free Cash Flow (as defined in the Mid-Term Cash Incentive Plan) exceeds the amount eligible for payment, as measured at the end of each second quarter and fourth quarter of each fiscal year after an amount becomes eligible for payment until the end of the fiscal year ending January 31, 2020.  The Company does not expect to maintain the Mid-Term Cash Incentive Plan for periods after the fiscal year ending July 31, 2020. The maximum payout under the Mid-Term Cash Incentive Plan is $22.5 million. The Company recognizes the expense associated with this Mid-Term Cash Incentive Plan over the requisite service periods and has accrued $8.9 million and $6.0 million as of April 28, 2017 and January 27, 2017, respectively.

 

On July 26, 2016, the Compensation Committee approved special bonus letters for three executives.  Pursuant to the terms thereof, if a Refinancing Transaction (as defined in the special bonus letters) occurs prior to October 1, 2018, each of the applicable executives will be eligible to receive a special bonus payable within 30 days of such transaction.  The special bonuses to be earned by the applicable executives total $4.0 million. No amounts have been accrued as of April 28, 2017.

 

Workers’ Compensation

 

The Company self-insures its workers’ compensation claims in California and Texas and provides for losses of estimated known and incurred but not reported insurance claims.  The Company does not discount the projected future cash outlays for the time value of money for claims and claim related costs when establishing its workers’ compensation liability.

 

As of April 28, 2017 and January 27, 2017, the Company had recorded a liability of $69.3 million and $69.1 million, respectively, for estimated workers’ compensation claims in California.  The Company has limited self-insurance exposure in Texas and had recorded a liability of less than $0.1 million as of each of April 28, 2017 and January 27, 2017 for workers’ compensation claims in Texas.  The Company purchases workers’ compensation insurance coverage in Arizona and Nevada and is not self-insured in those states.

 

Self-Insured Health Insurance Liability

 

The Company self-insures for a portion of its employee medical benefit claims.  As of each of April 28, 2017 and January 27, 2017, the Company had recorded a liability of $0.7 million and $0.9 million, respectively, for estimated health insurance claims.  The Company maintains stop loss insurance coverage to limit its exposure for the self-funded portion of its health insurance program.

 

Sale of Warehouse Facility

 

On July 6, 2016, the Company sold and concurrently licensed (through March 31, 2017) a warehouse facility in the City of Commerce, California with a carrying value of $12.1 million and received net proceeds from this transaction of $28.5 million. In addition to the proceeds, $1.0 million purchase price consideration had been held in escrow for the buyer to make certain repairs, and any amount not used for such repairs would be paid to the Company. The repairs were completed in January 2017 and the Company received $0.6 million from amounts held in escrow. The Company was deemed to have “continuing involvement,” which precluded the de-recognition of the assets from the consolidated balance sheet when the transactions closed. The resulting lease was accounted for as a financing lease and the Company recorded a financing lease obligation of $30.1 million (as a component of current liabilities) as of January 27, 2017.  The Company exited the warehouse facility in March 2017, de-recognized the assets and financing lease obligation and recorded a gain on sale of $18.5 million as part of selling, general and administrative expenses in the first quarter of fiscal 2018.

 

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Legal Matters

 

Wage and Hour Matters

 

Shelley Pickett v. 99¢ Only Stores.  Plaintiff Shelley Pickett, a former cashier for the Company, filed a representative action complaint against the Company on November 4, 2011 in the Superior Court of the State of California, County of Los Angeles alleging a Private Attorneys General Act of 2004 (“PAGA”) claim that the Company violated section 14 of Wage Order 7-2001 by failing to provide seats for its cashiers behind checkout counters.  Pickett seeks civil penalties of $100 to $200 per violation, per each pay period for each affected employee, and attorney’s fees.  The court denied the Company’s motion to compel arbitration of Pickett’s individual claims or, in the alternative, to strike the representative action allegations in the complaint, and the Court of Appeals affirmed the trial court’s ruling.  On June 27, 2013, Pickett entered into a settlement agreement and release with the Company in another matter.  Payment has been made to the plaintiff under that agreement and the other action has been dismissed.  The Company’s position is that the release Pickett executed in that matter waives the claims she asserts in this action, waives her right to proceed on a class or representative basis or as a private attorney general and requires her to dismiss this action with prejudice as to her individual claims.  The Company notified Pickett of its position by a letter dated as of July 30, 2013, but she refused to dismiss the lawsuit.  On February 11, 2014, the Company answered the complaint, denying all material allegations, and filed a cross-complaint against Pickett seeking to enforce her agreement to dismiss this action.  Through the cross-complaint, the Company seeks declaratory relief, specific performance and damages.  Pickett has answered the cross-complaint, asserting a general denial of all material allegations and various affirmative defenses.  On September 30, 2014, the court denied the Company’s motion for judgment on the pleadings as to its cross-complaint and granted leave to Pickett to amend her complaint to add another representative plaintiff, Tracy Humphrey.  Plaintiffs filed their amended complaint on October 8, 2014, and the Company answered on October 10, 2014, denying all material allegations.  On April 4, 2016, in an unrelated matter involving similar claims against a different employer, the California Supreme Court issued a ruling that provides guidance to lower courts as to California’s employee seating requirement, which is a largely untested area of law.  The instant action had been stayed pending the issuance of the California Supreme Court ruling.  The stay has been lifted and the parties mediated this matter on October 19, 2016.  The mediation did not result in a settlement. A bench trial was originally scheduled for May 31, 2017, and had been continued by the Court to June 6, 2017.  The Court bifurcated the trial so that it will address liability in the first phase, and penalties in a second phase, if necessary.  The Company filed a motion to strike the representative allegations in the complaint and focus the trial on the two stores where the named Plaintiffs worked.  That motion was heard on May 9, 2017, and, on May 25, 2017, the motion to strike was denied and the motion to phase trial was granted.  The parties are engaged in settlement discussions and any settlement will be subject to statutory notice requirements and conditioned upon court approval.  The Court has continued the trial to July 12, 2017, to allow time to prepare settlement documentation. The Company accrued an immaterial amount related to this matter as of April 28, 2017.  If the settlement is not finalized or not approved by the Court, the Company will not be able to predict the outcome of this lawsuit or the amount of potential loss, if any, that could result from such lawsuit.

 

Sofia Wilton Barriga v. 99¢ Only Stores.  Plaintiff, a former store associate, filed an action against the Company on August 5, 2013, in the Superior Court of the State of California, County of Riverside alleging on behalf of the plaintiff and all others allegedly similarly situated under the California Labor Code that the Company failed to pay wages for all hours worked, provide meal periods, pay wages timely upon termination, and provide accurate wage statements.  The plaintiff also asserted a derivative claim for unfair competition under the California Business and Professions Code.  The plaintiff seeks to represent a class of all non-exempt employees who were employed in California in the Company’s retail stores who worked the graveyard shift at any time from January 1, 2012, through the date of trial or settlement.  Although the class period as originally pled would extend back to August 5, 2009, the parties have agreed that any class period would run beginning January 1, 2012,  because of the preclusive effect of a judgment in a previous matter.  The plaintiff seeks to recover alleged unpaid wages, statutory penalties, interest, attorney’s fees and costs, and restitution.  On September 23, 2013, the Company filed an answer denying all material allegations.  A case management conference was held on October 4, 2013, at which the court ordered that discovery may proceed as to class certification issues only.  After discovery commenced, a mediation was held on March 12, 2015, resulting in a confidential mediator’s proposal, which the parties verbally accepted.  The parties were unable to negotiate and finalize a written settlement agreement.  Subsequent settlement discussions directly and through the mediator, as well as a court-ordered settlement conference, were unsuccessful.  Discovery resumed and plaintiff’s motion for class certification was fully briefed.  Plaintiff also brought a motion to strike the evidence submitted in support of the Company’s opposition to class certification.  At the Court’s request the parties mediated this matter prior to any ruling on the class certification motion and the motion to strike.  That mediation took place on March 2, 2017, and did not result in a settlement.  The motion for class certification and motion to strike were heard on April 20, 2017, and on April 26, 2017, the Court denied both motions.  On October 26, 2015, plaintiffs’ counsel filed another action in Los Angeles Superior Court, entitled Ivan Guerra v. 99 Cents Only Stores LLC (Case No. BC599119), which asserts PAGA claims based in part on the allegations at issue in the Barriga action.  By stipulation of the parties, the Guerra action has been transferred to Riverside Superior Court and was mediated along with the Barriga action on March 2, 2017.  The Company cannot predict the outcome of these lawsuits or the amount of potential loss, if any, that could result from such lawsuits.

 

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Phillip Clavel v. 99 Cents Only Stores LLC, et al.  Former warehouse worker Phillip Clavel filed an action against the Company on March 30, 2016, in the Superior Court of the State of California, County of Los Angeles on behalf of himself and all other alleged aggrieved employees, seeking civil penalties under the PAGA for the following alleged Labor Code violations: failure to pay regular, overtime and minimum wages for all hours worked, failure to provide proper meal and rest periods, failure to pay wages timely during employment and upon termination, failure to provide proper wage statements, failure to reimburse business expenses, and failure to provide notice of the material terms of employment under the Wage Theft Prevention Act.  Mr. Clavel alleges that his claims arose during two periods of employment—one from March 2015 through mid-October 2015, during which he was employed by the Company as a forklift operator in the Commerce Distribution Center, and a second period from late October 2015 through February 2016, when he was similarly employed (through a staffing agency, BaronHR) at the Company’s Washington Boulevard warehouse.  On June 9, 2016, Plaintiff filed a First Amended Complaint.  The Company answered the First Amended Complaint on June 14, 2016, generally denying the allegations in the complaint and asserting a number of affirmative defenses.  BaronHR has also answered the First Amended Complaint.  Trial has been set to commence on July 18, 2017.  A mediation took place on January 19, 2017, and at the conclusion of the mediation, the parties executed a term sheet settlement agreement to resolve the alleged PAGA claims.  The parties have now executed a long-form settlement agreement reflecting the final terms; however, the settlement is contingent on Court approval.  The Company accrued an immaterial amount related to this matter as of January 27, 2017 and April 28, 2017.  If the proposed settlement is not finalized or not approved by the Court, the Company will not be able to predict the outcome of this lawsuit or the amount of potential loss, if any, that could result from such lawsuit.

 

Jimmy Mejia, et al. v. 99 Cents Only Stores LLC.  Former store associates Jimmy Mejia and Yamilet Serrano filed an action against the Company on September 16, 2016, in the Superior Court of the State of California, County of Los Angeles on behalf of themselves and all other alleged aggrieved employees, seeking civil penalties under the PAGA for the following alleged Labor Code violations: failure to pay overtime and minimum wages for all hours worked, failure to provide proper meal and rest periods, failure to pay timely wages during employment and upon termination, and failure to provide proper wage statements.  On November 14, 2016, the Company answered the complaint, generally denying the allegations in the complaint and asserting a number of affirmative defenses.  Trial has been scheduled for January 8, 2018.  The Company cannot predict the outcome of this lawsuit or the amount of potential loss, if any, that could result from such lawsuit.

 

Venzel Bradford v. BaronHR, Inc., et al.  Former warehouse worker Venzel Bradford filed a putative class action complaint against BaronHR, Inc., Solvis Staffing Services, Inc., Personnel Staffing Group, LLC, and the Company on April 26, 2017, in the Superior Court of the State of California, County of Los Angeles.  On behalf of himself and all others alleged to be similarly situated, Bradford is asserting claims for failure to pay overtime wages, failure to provide meal and rest periods, waiting time penalties, failure to provide proper wage statements, and unfair competition.  Bradford was not employed by the Company; he was employed by one or more of the staffing agencies named as defendants.  The Company has not yet been served with the complaint and intends to seek indemnity from the employing agency(ies).  The Company cannot predict the outcome of this lawsuit or the amount of potential loss, if any, that could result from such lawsuit.

 

Environmental Matters

 

People of the State of California v. 99 Cents Only Stores LLC.  This action was brought by the San Joaquin District Attorney and a number of other public prosecutors against the Company alleging that the Company had violated hazardous waste statutory and regulatory requirements at its retail stores in California.  The Company settled this case through the entry of a stipulated judgment in December 2014 which contained injunctive relief requiring the Company to comply with applicable hazardous waste requirements at these stores. On June 29, 2015, the District Attorney informed the Company of alleged hazardous waste violations identified during a March 2015 inspection of a recently-opened store in Sonora, Tuolumne County and requested a meeting with the Company.  Since that time, the Company has been cooperating with the District Attorney to provide information regarding the alleged violations.  In May 2016, the discussions with the District Attorney were extended to include non-compliance issues identified at an existing store in San Jose during an inspection on March 16, 2016.  In connection with this matter, the Company has accrued an immaterial amount.  Although any monetary damages ultimately paid by the Company may exceed the accrued amount, it is not currently possible to estimate the amount of any such excess or the impact that any injunctive relief may have on the Company’s business, financial condition and results of operations.

 

Other Matters

 

The Company is also subject to other private lawsuits, administrative proceedings and claims that arise in its ordinary course of business.  A number of these lawsuits, proceedings and claims may exist at any given time.  While the resolution of such a lawsuit, proceeding or claim may have an impact on the Company’s financial results for the period in which it is resolved, and litigation is inherently unpredictable, in management’s opinion, none of these matters arising in the ordinary course of business is expected to have a material adverse effect on the Company’s financial position, results of operations or overall liquidity.

 

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12.                               Assets Held for Sale

 

Assets held for sale as of April 28, 2017 and January 27, 2017 consisted of vacant land in Rancho Mirage and Los Angeles, California and land in Bullhead, Arizona with an aggregate carrying value of $4.9 million.

 

13.                               Other Accrued Expenses

 

Other accrued expenses as of April 28, 2017 and January 27, 2017 are as follows (in thousands):

 

 

 

April 28,
2017

 

January 27,
2017

 

Accrued interest

 

$

13,792

 

$

6,840

 

Accrued occupancy costs

 

9,921

 

9,438

 

Accrued legal reserves and fees

 

11,426

 

10,624

 

Accrued California Redemption Value

 

2,557

 

2,343

 

Accrued transportation

 

4,821

 

4,598

 

Other

 

12,996

 

12,239

 

Total other accrued expenses

 

$

55,513

 

$

46,082

 

 

14.                               New Authoritative Standards

 

In May 2014, the Financial Accounting Standards Board (“FASB”) issued Accounting Standards Update (“ASU”) No. 2014-09, “Revenue from Contracts with Customers.” ASU 2014-09 is a comprehensive new revenue recognition model that requires a company to recognize revenue to depict the transfer of goods or services to a customer at an amount that reflects the consideration it expects to receive in exchange for those goods or services. The ASU also requires expanded disclosures about revenue recognition. In adopting ASU 2014-09, companies may use either a full retrospective or a modified retrospective approach.  ASU 2014-09 was to be effective for the first interim period within annual reporting periods beginning after December 15, 2016, and early adoption was not permitted.  In August 2015, the FASB issued ASU No. 2015-14, “Revenue from Contracts with Customers: Deferral of the Effective Date”, which defers the effective date of ASU 2014-09 for all entities by one year, while allowing early adoption as of the original public entity date.  In March 2016, the FASB issued ASU No. 2016-08, “Revenue from Contracts with Customers: Principal versus Agent Considerations (Reporting Revenue Gross versus Net),” which clarifies the implementation guidance on principal versus agent considerations. In April 2016, the FASB issued ASU No. 2016-10, “Revenue from Contracts with Customers: Identifying Performance Obligations and Licensing,” which amends the revenue recognition guidance on accounting for licenses of intellectual property and identifying performance obligations as well as clarifies when a promised good or service is separately identifiable. In May 2016, the FASB issued ASU No. 2016-12, “Revenue from Contracts with Customers: Narrow-Scope Improvements and Practical Expedients,” which provides clarifying guidance in certain narrow areas such as an assessment of collectibility, presentation of sales taxes, noncash consideration, and completed contracts and contract modifications at transition as well as adds some practical expedients. In December 2016, the FASB issued ASU No. 2016-20, “Technical Corrections and Improvements to Topic 606, Revenue from Contracts with Customers,” to clarify or to correct unintended application of the Topic 606, including disclosure requirements related to performance obligations. The effective date and transition of these amendments is the same as the effective date and transition of ASU 2014-09, “Revenue from Contracts with Customers,” as amended by the one-year deferral and early adoption provisions in ASU 2015-14. The Company is primarily engaged in the business of selling consumable and general merchandise and seasonal products. Revenues from the sale of such products are recognized at the point of sale. To date, the Company has performed a preliminary detailed review of key contracts and compared historical accounting policies and practices to the new standard. While the Company is still evaluating this standard, it is not expected that this standard will have a material impact on the Company’s consolidated financial statements. The Company will continue to evaluate ASU 2014-09 and other amendments and related interpretive guidance through the date of adoption. The Company expects to adopt ASU 2014-09 under the modified retrospective approach in the first quarter of fiscal 2019.

 

In July 2015, the FASB issued ASU No. 2015-11, “Simplifying the Measurement of Inventory.”  This ASU simplifies the subsequent measurement of inventories by replacing the lower of cost or market test with a lower of cost or net realizable value test.  Net realizable value is defined as the estimated selling prices in the ordinary course of business, less reasonably predictable costs of completion, disposal and transportation.  The guidance is effective for reporting periods beginning after December 15, 2016 and interim periods within those fiscal years, with early adoption permitted. This ASU should be applied prospectively.  The Company adopted this standard in the first quarter of fiscal 2018 and such adoption did not have an impact on the Company or its consolidated financial statements.

 

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In January 2016, the FASB issued ASU No. 2016-01, “Recognition and Measurement of Financial Assets and Financial Liabilities.” This ASU revises an entity’s accounting on the classification and measurement of financial instruments. Although the ASU retains many current requirements, it significantly revises an entity’s accounting related to (1) the classification and measurement of investments in equity securities and (2) the presentation of certain fair value changes for financial liabilities measured at fair value. The ASU also amends certain disclosure requirements associated with the fair value of financial instruments. This ASU becomes effective for public entities in the fiscal year beginning after December 15, 2017. Early adoption is not permitted except for the provisions related to the presentation of certain fair value changes for financial liabilities measured at fair value. The Company will adopt ASU 2016-01 in the first quarter of fiscal 2019 and such adoption is not expected to have a material impact on the Company or its consolidated financial statements.

 

In February 2016, the FASB issued ASU No. 2016-02, “Leases,” which requires lessees to recognize right-of-use assets and lease liabilities, for all leases, with the exception of short-term leases, at the commencement date of each lease.  This ASU requires lessees to apply a dual approach, classifying leases as either finance or operating leases based on the principle of whether or not the lease is effectively a financed purchase by the lessee.  This classification will determine whether lease expense is recognized based on an effective interest method or on a straight-line basis over the term of the lease.  This ASU is effective for annual periods beginning after December 15, 2018 and interim periods within those annual periods.  Early adoption is permitted.  The amendments of this update should be applied using a modified retrospective approach, which requires lessees and lessors to recognize and measure leases at the beginning of the earliest period presented.  The Company is currently evaluating the impact of the adoption of this standard on its consolidated financial statements and is anticipating a material impact on its consolidated financial statements because the Company is party to a significant number of lease contracts.

 

In March 2016, the FASB issued ASU 2016-04, “Recognition of Breakage for Certain Prepaid Stored-Value Products,” which is designed to provide guidance and eliminate diversity in the accounting for the de-recognition of financial liabilities related to certain prepaid stored-value products using a revenue-like breakage model.  Breakage should be recognized in proportion to the pattern of rights expected to be exercised by the product holder to the extent that it is probable a significant reversal of the recognized breakage amount will not subsequently occur. The new standard is effective for fiscal years, and interim periods within those years, beginning after December 15, 2017, with early adoption permitted, and is to be applied retrospectively or using a modified retrospective approach.  The Company will adopt ASU 2016-04 in the first quarter of fiscal 2019 and such adoption is not expected to have a material impact on the Company or its consolidated financial statements.

 

In March 2016, the FASB issued ASU 2016-09, “Compensation - Stock Compensation, Improvements to Employee Share-Based Payment Accounting”. This ASU requires companies to recognize the income tax effects of awards in the income statement when the awards vest or are settled. The guidance requires companies to present excess tax benefits as an operating activity and cash paid to a taxing authority to satisfy statutory withholding as a financing activity on the statement of cash flows. The guidance will also allow entities to make an alternative policy election to account for forfeitures as they occur.  This ASU is effective for annual periods beginning after December 15, 2016, and interim periods within those annual periods. Early adoption is permitted for any interim or annual period. The Company adopted this standard in the first quarter of fiscal 2018. The Company made a policy election to account for forfeitures of share-based payments as they occur and implemented this provision using a modified retrospective transition.  There was no impact on retained earnings.  The Company also adopted other provisions of ASU 2016-09 in the first quarter of fiscal 2018 and the adoption of these provisions did not have an impact on the Company’s consolidated financial statements.

 

In June 2016, the FASB issued ASU 2016-13, “Measurement of Credit Losses on Financial Instruments”.  This ASU replaces the current incurred loss impairment methodology of recognizing credit losses when a loss is probable, with a methodology that reflects expected credit losses and requires consideration of a broader range of reasonable and supportable information to assess credit loss estimates. The standard will be effective for fiscal years beginning after December 15, 2019, with early adoption permitted for periods after December 15, 2018. The Company is currently in the process of evaluating the impact of this standard on its consolidated financial statements.

 

In August 2016, the FASB issued ASU 2016-15, “Classification of Certain Cash Receipts and Cash Payments”, which addresses eight specific cash flow issues with the objective of reducing the existing diversity in practice.  This ASU is effective for fiscal years, and interim periods within those years, beginning after December 15, 2017, with early adoption permitted, and is to be applied retrospectively.  The adoption is not expected to have a material impact on the Company or its consolidated financial statements.

 

In October 2016, the FASB has issued ASU No. 2016-17, “Interest Held through Related Parties that are under Common Control”, which provides guidance on the evaluation of whether a reporting entity is the primary beneficiary of a variable interest entity (“VIE”) by amending how a reporting entity, that is a single decision maker of a VIE, treats indirect interests in that entity held through related parties that are under common control. This ASU is effective for fiscal years, and interim periods within those years, beginning after December 15, 2016, with early adoption permitted.  The Company adopted this standard in the first quarter of fiscal 2018 and such adoption did not have an impact on the Company or its consolidated financial statements.

 

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In October 2016 the FASB has issued ASU No. 2016-16, “Intra-Entity Transfers of Assets Other Than Inventory”, which requires entities to recognize the income tax consequences of an intra-entity transfer of an asset, other than inventory, when the transfer occurs. The new standard is effective for fiscal years, and interim periods within those years, beginning after December 15, 2017, with early adoption permitted as of the beginning of a fiscal year. The Company is currently in the process of evaluating the impact of this standard on its consolidated financial statements.

 

In November 2016, the FASB issued ASU 2016-18, “Restricted Cash,” which requires that the statement of cash flows explain the change during the period in the total of cash, cash equivalents, and amounts generally described as restricted cash or restricted cash equivalents. Therefore, amounts generally described as restricted cash and restricted cash equivalents should be included with cash and cash equivalents when reconciling the beginning-of-period and end-of-period total amounts shown on the statement of cash flows. The amendments in this ASU do not provide a definition of restricted cash or restricted cash equivalents. The guidance is effective for periods beginning after December 15, 2017 on a retrospective basis, with early adoption permitted. The Company is currently in the process of evaluating the impact of this standard on its consolidated financial statements.

 

On December 2016, FASB issued ASU 2016-19, “Technical Corrections and Improvements”, which includes amendments related to differences between original guidance and the Accounting Standards Codification, guidance clarification and reference corrections, simplifications to the Accounting Standards Codification, and minor improvements to the guidance. The amendments of the standard that require transition guidance are effective for annual and interim reporting periods beginning after December 15, 2016, and early adoption is permitted. All other amendments were effective immediately. The Company adopted this standard in the first quarter of fiscal 2018 and such adoption did not have an impact on the Company or its consolidated financial statements.

 

In January 2017 the FASB issued ASU No.  2017-01 “Business Combinations: Clarifying the Definition of a Business”, revises the definition of a business and may affect acquisitions, disposals, goodwill impairment and consolidation. The new guidance specifies that when substantially all of the fair value of gross assets acquired is concentrated in a single asset (or a group of similar assets), the assets acquired would not represent a business. The changes to the definition of a business in this guidance will likely result in more acquisitions being accounted for as asset acquisitions and would also affect the accounting for disposal transactions. This guidance is effective for annual periods beginning after December 15, 2017, with early adoption permitted.  The adoption is not expected to have a material impact on the Company or its consolidated financial statements.

 

In January 2017, the FASB issued ASU No. 2017-04, “Simplifying the Test for Goodwill Impairment”, which simplifies the goodwill impairment testing by eliminating Step 2 from the goodwill impairment testing required, should an impairment be discovered during its annual or interim assessment. The new standard is effective for annual or interim impairment tests beginning after December 15, 2019, with early adoption permitted. The Company is currently in the process of evaluating the impact of this standard on its consolidated financial statements.

 

In February 2017, the FASB issued ASU 2017-05, “Clarifying the Scope of Asset Derecognition Guidance and Accounting for Partial Sales of Nonfinancial Assets”, which provides clarification about the term “in substance nonfinancial asset” and guidance for recognizing gains and losses from the transfer of nonfinancial assets and for partial sales of nonfinancial assets. The new standard is effective for public entities for annual periods beginning after December 15, 2017 and interim periods therein. Entities may use either a full or modified approach to adopt the standard.  The Company is currently in the process of evaluating the impact of this standard on its consolidated financial statements.

 

15.                               Financial Guarantees

 

On December 29, 2011, the Company issued $250.0 million principal amount of the Senior Notes.  The Senior Notes are irrevocably and unconditionally guaranteed, jointly and severally, by each of the Company’s existing and future restricted subsidiaries that are guarantors under the Credit Facilities and certain other indebtedness.

 

As of April 28, 2017 and January 27, 2017, the Senior Notes are fully and unconditionally guaranteed by the Subsidiary Guarantors.

 

The tables in the following pages present the condensed consolidating financial information for the Company and the Subsidiary Guarantors together with consolidating entries, as of and for the periods indicated.  The subsidiaries that are not Subsidiary Guarantors are minor.  The condensed consolidating financial information may not necessarily be indicative of the financial position, results of operations or cash flows had the Company, and the Subsidiary Guarantors operated as independent entities.

 

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CONDENSED CONSOLIDATING BALANCE SHEETS

As of April 28, 2017

(In thousands)

(Unaudited)

 

 

 

Issuer

 

Subsidiary
Guarantors

 

Non-
Guarantor
Subsidiaries

 

Consolidating
Adjustments

 

Consolidated

 

ASSETS

 

 

 

 

 

 

 

 

 

 

 

Current Assets:

 

 

 

 

 

 

 

 

 

 

 

Cash

 

$

1,193

 

$

1,096

 

$

131

 

$

 

$

2,420

 

Accounts receivable, net

 

3,312

 

41

 

 

 

3,353

 

Income taxes receivable (payable)

 

3,870

 

(9

)

 

 

3,861

 

Inventories, net

 

158,554

 

26,109

 

 

 

184,663

 

Assets held for sale

 

4,903

 

 

 

 

4,903

 

Other

 

17,655

 

1,210

 

13

 

 

18,878

 

Total current assets

 

189,487

 

28,447

 

144

 

 

218,078

 

Property and equipment, net

 

435,850

 

49,977

 

27

 

 

485,854

 

Deferred financing costs, net

 

2,984

 

 

 

 

2,984

 

Equity investments and advances to subsidiaries

 

809,919

 

744,795

 

3,017

 

(1,557,731

)

 

Intangible assets, net

 

443,965

 

1,657

 

 

 

445,622

 

Goodwill

 

380,643

 

 

 

 

380,643

 

Deposits and other assets

 

8,274

 

318

 

15

 

 

8,607

 

Total assets

 

$

2,271,122

 

$

825,194

 

$

3,203

 

$

(1,557,731

)

$

1,541,788

 

 

 

 

 

 

 

 

 

 

 

 

 

LIABILITIES AND MEMBER’S EQUITY

 

 

 

 

 

 

 

 

 

 

 

Current Liabilities:

 

 

 

 

 

 

 

 

 

 

 

Accounts payable

 

$

102,037

 

$

9,528

 

$

 

$

 

$

111,565

 

Intercompany payable

 

746,289

 

765,619

 

3,598

 

(1,515,506

)

 

Payroll and payroll-related

 

23,877

 

1,694

 

 

 

25,571

 

Sales tax

 

15,892

 

682

 

 

 

16,574

 

Other accrued expenses

 

52,714

 

2,781

 

18

 

 

55,513

 

Workers’ compensation

 

69,336

 

72

 

 

 

69,408

 

Current portion of long-term debt

 

6,138

 

 

 

 

6,138

 

Current portion of capital and financing lease obligation

 

1,214

 

 

 

 

1,214

 

Total current liabilities

 

1,017,497

 

780,376

 

3,616

 

(1,515,506

)

285,983

 

Long-term debt, net of current portion

 

858,850

 

 

 

 

858,850

 

Unfavorable lease commitments, net

 

3,657

 

17

 

 

 

3,674

 

Deferred rent

 

28,628

 

2,162

 

1

 

 

30,791

 

Deferred compensation liability

 

868

 

 

 

 

868

 

Capital and financing lease obligation, net of current portion

 

53,775

 

 

 

 

53,775

 

Deferred income taxes

 

161,450

 

 

 

 

161,450

 

Other liabilities

 

10,995

 

 

 

 

10,995

 

Total liabilities

 

2,135,720

 

782,555

 

3,617

 

(1,515,506

)

1,406,386

 

 

 

 

 

 

 

 

 

 

 

 

 

Member’s Equity:

 

 

 

 

 

 

 

 

 

 

 

Member units

 

551,054

 

 

1

 

(1

)

551,054

 

Additional paid-in capital

 

 

99,943

 

 

(99,943

)

 

Investment in Number Holdings, Inc. preferred stock

 

(19,200

)

 

 

 

(19,200

)

Accumulated deficit

 

(396,452

)

(57,304

)

(415

)

57,719

 

(396,452

)

Total equity

 

135,402

 

42,639

 

(414

)

(42,225

)

135,402

 

Total liabilities and equity

 

$

2,271,122

 

$

825,194

 

$

3,203

 

$

(1,557,731

)

$

1,541,788

 

 

30



Table of Contents

 

CONDENSED CONSOLIDATING BALANCE SHEETS

As of January 27, 2017

(In thousands)

 

 

 

Issuer

 

Subsidiary
Guarantors

 

Non-
Guarantor
Subsidiaries

 

Consolidating
Adjustments

 

Consolidated

 

ASSETS

 

 

 

 

 

 

 

 

 

 

 

Current Assets:

 

 

 

 

 

 

 

 

 

 

 

Cash

 

$

1,207

 

$

1,105

 

$

136

 

$

 

$

2,448

 

Accounts receivable, net

 

3,478

 

32

 

 

 

3,510

 

Income taxes receivable (payable)

 

3,885

 

(9

)

 

 

3,876

 

Inventories, net

 

148,429

 

27,463

 

 

 

175,892

 

Assets held for sale

 

4,903

 

 

 

 

4,903

 

Other

 

9,571

 

723

 

13

 

 

10,307

 

Total current assets

 

171,473

 

29,314

 

149

 

 

200,936

 

Property and equipment, net

 

456,020

 

51,571

 

29

 

 

507,620

 

Deferred financing costs, net

 

3,488

 

 

 

 

3,488

 

Equity investments and advances to subsidiaries

 

766,276

 

696,162

 

2,907

 

(1,465,345

)

 

Intangible assets, net

 

445,302

 

1,725

 

 

 

447,027

 

Goodwill

 

380,643

 

 

 

 

380,643

 

Deposits and other assets

 

8,246

 

331

 

15

 

 

8,592

 

Total assets

 

$

2,231,448

 

$

779,103

 

$

3,100

 

$

(1,465,345

)

$

1,548,306

 

 

 

 

 

 

 

 

 

 

 

 

 

LIABILITIES AND MEMBER’S EQUITY

 

 

 

 

 

 

 

 

 

 

 

Current Liabilities:

 

 

 

 

 

 

 

 

 

 

 

Accounts payable

 

$

78,835

 

$

7,753

 

$

 

$

 

$

86,588

 

Intercompany payable

 

697,590

 

719,397

 

3,497

 

(1,420,484

)

 

Payroll and payroll-related

 

22,370

 

1,740

 

 

 

24,110

 

Sales tax

 

18,867

 

522

 

 

 

19,389

 

Other accrued expenses

 

43,962

 

2,103

 

17

 

 

46,082

 

Workers’ compensation

 

69,094

 

75

 

 

 

69,169

 

Current portion of long-term debt

 

6,138

 

 

 

 

6,138

 

Current portion of capital and financing lease obligation

 

31,330

 

 

 

 

31,330

 

Total current liabilities

 

968,186

 

731,590

 

3,514

 

(1,420,484

)

282,806

 

Long-term debt, net of current portion

 

865,375

 

 

 

 

865,375

 

Unfavorable lease commitments, net

 

3,969

 

19

 

 

 

3,988

 

Deferred rent

 

28,141

 

2,216

 

3

 

 

30,360

 

Deferred compensation liability

 

816

 

 

 

 

816

 

Capital and financing lease obligation, net of current portion

 

47,195

 

 

 

 

47,195

 

Deferred income taxes

 

161,450

 

 

 

 

161,450

 

Other liabilities

 

12,297

 

 

 

 

12,297

 

Total liabilities

 

2,087,429

 

733,825

 

3,517

 

(1,420,484

)

1,404,287

 

 

 

 

 

 

 

 

 

 

 

 

 

Member’s Equity:

 

 

 

 

 

 

 

 

 

 

 

Member units

 

550,918

 

 

1

 

(1

)

550,918

 

Additional paid-in capital

 

 

99,943

 

 

(99,943

)

 

Investment in Number Holdings, Inc. preferred stock

 

(19,200

)

 

 

 

(19,200

)

Accumulated deficit

 

(387,699

)

(54,665

)

(418

)

55,083

 

(387,699

)

Total equity

 

144,019

 

45,278

 

(417

)

(44,861

)

144,019

 

Total liabilities and equity

 

$

2,231,448

 

$

779,103

 

$

3,100

 

$

(1,465,345

)

$

1,548,306

 

 

31



Table of Contents

 

CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME (LOSS)
For the First Quarter Ended April 28, 2017

(In thousands)

(Unaudited)

 

 

 

Issuer

 

Subsidiary
Guarantor

 

Non-
Guarantor
Subsidiaries

 

Consolidating
Adjustments

 

Consolidated

 

Net Sales:

 

 

 

 

 

 

 

 

 

 

 

Total sales

 

$

498,242

 

$

49,270

 

$

66

 

$

(66

)

$

547,512

 

Cost of sales

 

347,331

 

37,828

 

 

 

385,159

 

Gross profit

 

150,911

 

11,442

 

66

 

(66

)

162,353

 

Selling, general and administrative expenses

 

139,673

 

14,081

 

63

 

(66

)

153,751

 

Operating income (loss)

 

11,238

 

(2,639

)

3

 

 

8,602

 

Other (income) expense:

 

 

 

 

 

 

 

 

 

 

 

Interest income

 

(2

)

 

 

 

(2

)

Interest expense

 

17,342

 

 

 

 

17,342

 

Loss on extinguishment of debt

 

 

 

 

 

 

Equity in loss (earnings) of subsidiaries

 

2,636

 

 

 

(2,636

)

 

Total other expense, net

 

19,976

 

 

 

(2,636

)

17,340

 

(Loss) income before provision for income taxes

 

(8,738

)

(2,639

)

3

 

2,636

 

(8,738

)

Provision for income taxes

 

15

 

 

 

 

15

 

Net (loss) income

 

$

(8,753

)

$

(2,639

)

$