ITE
M 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
The following discussion and analysis of our financial condition and results of operations should be read in conjunction with our Annual Report on Form 10-K for the year ended December 31, 201
5
and our consolidated financial statements and related notes appearing elsewhere in this Quarterly Report on Form 10-Q .
Forward-Looking Statements
This Quarterly Report on Form 10-Q contains “forward-looking statements” that involve risks and uncertainties, as well as assumptions that, if they never materialize or prove incorrect, could cause our results to differ materially from those expressed or implied by such forward-looking statements. The statements contained in this Quarterly Report on Form 10-Q that are not purely historical are forward-looking statements within the meaning of Section 27A of the Securities Act of 1933, as amended, or Securities Act, and Section 21E of the Securities Exchange Act of 1934, as amended, or Exchange Act. Forward-looking statements are often identified by the use of words such as, but not limited to, “anticipate,” “believe,” “can,” “continue,” “could,” “estimate,” “expect,” “intend,” “may,”
“might,”
“plan,” “project,” “seek,” “should,” “target,” “will,”
“will likely result,”
“would,” and similar expressions or variations intended to identify forward-looking statements. These statements are based on the beliefs and assumptions of our management based on information currently available to management. Such forward-looking statements are subject to risks, uncertainties and other important factors that could cause actual results and the timing of certain events to differ materially from future results expressed or implied by such forward-looking statements. Factors that could cause or contribute to such differences include, but are not limited to, unexpected delays or expenses related to opening new stores and maintaining
,
renovating
or relocating
existing stores, changes to economic conditions and customer preferences, disruptions in our supply chain, or inventory management, competitive factors, increases to interest rates or other impacts on our ability to obtain or maintain financing, unanticipated expenses related to operating as a public company including but not limited to litigation-related expenses, and those factors disclosed in the section captioned “Risk Factors” in our Annual Report for the fiscal year ended December 31, 201
5
, filed with the Securities and Exchange Commission. Furthermore, such forward-looking statements speak only as of the date of this report. Except as required by law, we undertake no obligation to update any forward-looking statements to reflect events or circumstances after the date of such statements.
Overview and Recent Trends
We are a specialty retailer of manufactured and natural stone tiles, setting and maintenance materials, and related accessories in the United States. We offer a wide selection of products, attractive prices, and exceptional customer service in an extensive showroom setting. As of
September 30, 2016
, we operated
120
stores in
31
states, with an average size of
21,400
square feet. We also sell our products on our website.
We purchase our tile products and accessories directly from suppliers and manufacture our own setting and maintenance materials, such as thinset, grout, and sealers. We believe that our long-term supplier relationships, together with our design, manufacturing and distribution capabilities, enable us to offer a broad assortment of high-quality products to our customers, who are primarily homeowners and professionals, at competitive prices. We have invested significant resources to develop our proprietary brands and product sources, and we believe that we are a leading retailer of manufactured and natural stone tiles, accessories, and related materials in the United States.
We believe that the highly-fragmented United States retail tile market provides us with a significant opportunity to expand our store base. We opened
seven
new stores during the
nine months ended September 30, 2016
, including one relocation, while we opened
four
new stores during the nine months ended September 30, 2015. We plan to open an additional four new stores and relocate one additional store during the remainder of 2016. We believe that there will continue to be additional expansion opportunities in the United States and Canada. We expect store base growth will drive productivity and operational efficiencies. Our growth plans also require us to maintain significant inventory on-hand in order to fulfill transactions at these new locations.
For the
three and nine months ended September 30, 2016
, we reported net sales of
$78.6
million and
$247.5
million, respectively, and income from operations of
$7.8
million and
$31.3
million respectively. For the
three and nine months ended September 30, 2015
, we reported net sales of
$72.4
million and
$221.1
million, respectively, and income from operations of
$6.7
million and
$22.3
million, respectively. The increase in net sales and income from operations was primarily due to same store sales growth of
5.7%
and
9.7%
for the
three months ended September 30, 2016 and 2015
, respectively.
Net cash provided by operating activities was
$50.7
million and
$51.4
million for the nine months ended September 30, 2016 and 2015, respectively, which was used to fund operations, new store construction activities and debt repayments. We expect to continue to fund our capital expenditures and daily operations from our operating cash flows. As of
September 30, 2016
, we had cash of
$9.8
million and working capital of
$37.7
million.
Key Components of our Consolidated Statements of Operations
Net Sales
Net sales represents total charges to customers, net of returns, and includes freight charged to customers. We recognize sales at the time that the customer takes possession of the merchandise or final delivery of the product has occurred. We recognize service revenue, which consists primarily of freight charges for home delivery, when the service has been rendered. We are required to charge and collect sales and other taxes on sales to our customers and remit these taxes back to government authorities. Total revenues do not include sales tax because we are a pass-through conduit for collecting and remitting sales tax.
Comparable store sales for the
three months ended September 30, 2016
increased
$4.1
million, compared to the
three months ended September 30, 2015
.
Comparable store sales for the
nine months ended September 30, 2016
increased
$19.9
million, compared to the
nine months ended September 30, 2015
.
The table below sets forth information about our same store sales growth for the
three and nine months ended September 30, 2016 and 2015
.
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For the three months ended
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For the nine months ended
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September 30,
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September 30,
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2016
|
|
2015
|
|
2016
|
|
2015
|
|
Same store sales growth
|
|
5.7
|
%
|
|
9.7
|
%
|
|
9.0
|
%
|
|
6.6
|
%
|
The
increase in same store sales growth is primarily attributable to an increase in the volume of transactions, as well as increases in average transaction size. Same store sale amounts include total charges to customers less any actual returns, and the change in the returns provision related to comparable stores. In general, we
include a new or relocated
store
in the
comparable
store sales calculation
on the first day of the 13th full month of operation.
Between
October
1, 2015
and
September 30, 2016
, we opened
nine
new
store
locations. Incremental net sales of
$2.1
million
and
$6.6
million
occurred in the
three and nine months ended September 30, 2016
respectively,
from stores not included in the comparable store base.
Cost of Sales
Cost of sales consists primarily of material costs, freight, duties, and storage and delivery of product to the customers, as well as costs associated with manufacturing of setting and maintenance materials.
For the
three months ended September 30, 2016 and 2015
, our c
ost of sales as a percentage of net sales was
29.8%
and
30.0%
, respectively. The decrease was primarily attributable to
decreases in shrink, damage and other inventory
control process improvements
.
F
or
the
nine months ended September 30, 2016 and 2015
,
our co
st
of sales as a percentage of net sales was
29.9%
and
30.8
%
respectively. The decrease was primarily attributable to
fewer
discounts,
improved
freight collection, and inventory control process improvements
.
Selling,
G
eneral, and
A
dministrative
E
xpenses
Selling, general, and administrative expenses consists of general operating expenses.
For the
three months ended September 30, 2016 and 2015
, our selling, general, and administrative expenses
a
s
percentage of net sales were
60.3%
and
60.8%
, respectively. The decrease was primarily attributable to a
n increase in same store sales
, which outpaced the growth of selling, general, and administrative expenses for the
three months ended September 30, 2016
.
For the
nine months ended September 30, 2016 and 2015
, our selling, general, and administrative expenses as a percentage of net sales were
57.5%
and
59.1%
, respectively. The decrease was primarily attributable to an increase in same store sales, which outpaced the growth of selling, general, and administrative expense
for the
nine months ended September 30, 2016
.
Provision for
Income
T
axes
We are subject to income tax in the United States as well as
in
other tax jurisdictions in which we conduct business. Our effective tax rate for the
three months ended September 30, 2016 and 2015
was
38.6%
and
39.3%
, respectively
.
Our effective
tax rate for the
nine months ended September 30, 2016 and 2015
was
39.3%
and
41.3%
, respectively.
The improvement in the three and
n
ine
m
onths
effective tax rate is due to a
n increase in incentive stock option exercise activity classified as a disqualifying disposition to the option holder that gives rise to a deduction for the Company. The Company’s tax rate also benefitted from a
decrease in non-deductible incentive stock-based compensation expense in 2016 combined with a reduction in the level of state tax rate changes that triggered unfavorable deferred tax adjustments in 2015.
Non-GAAP Measures
We calculate Adjusted EBITDA by taking net income calculated in accordance with accounting principles generall
y accepted in the United States
(“
GAAP
”)
, and adjusting for interest expense, income taxes,
depreciation and amortization
, stock based compensati
on expense, and special charges, which consist of shareholder and other
litigation
costs
,
a
nd losses incurred with the renegotiation of debt
. Adjusted EBITDA margin is equal to Adjusted EBITDA divided by net sales.
Free cash flows is calculated by taking net cash provided by operating activities and subtracting net cash used for
the purchase of property, plant and equipment
. Non-GAAP net income excludes the special charges
,
w
hich consist
of shareholder and other
litigation costs
,
and losses incurred in connection with the renegotiation of debt
,
and is net of tax.
We believe that these non-GAAP measures of financial results provide useful information to management and investors regarding certain financial and business trends relating to our financial condition and results of operations. Our management uses these non-GAAP measures to compare our performance to that of prior periods for trend analyses, for purposes of determining management incentive compensation, and for budgeting and planning purposes. These measures are used in monthly financial reports prepared for management and our board of directors. We believe that the use of these non-GAAP financial measures provides an additional tool for investors to use in evaluating ongoing operating results and trends and in comparing our financial measures with other specialty retailers, many of which present similar non-GAAP financial measures to investors.
The reconciliation of Adjusted EBITDA to net income for the
three and nine months ended September 30, 2016 and 2015
is as follows:
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(in thousands)
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|
Three Months Ended
|
|
Nine Months Ended
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|
September 30,
|
|
September 30,
|
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|
|
2016
|
|
2015
|
|
2016
|
|
2015
|
|
Net income
|
|
$
|
4,583
|
|
$
|
3,761
|
|
$
|
18,190
|
|
$
|
11,910
|
|
Interest expense
|
|
|
363
|
|
|
503
|
|
|
1,382
|
|
|
2,101
|
|
Income taxes
|
|
|
2,886
|
|
|
2,436
|
|
|
11,793
|
|
|
8,385
|
|
Depreciation & amortization
|
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|
5,770
|
|
|
5,504
|
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|
16,954
|
|
|
16,597
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|
Special charges
(1)
|
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|
725
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|
162
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|
1,827
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|
952
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|
Stock-based compensation
|
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|
930
|
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|
1,583
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3,394
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|
4,226
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|
Adjusted EBITDA
|
|
$
|
15,257
|
|
$
|
13,949
|
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$
|
53,540
|
|
$
|
44,171
|
(1)
Shareholder and other litigation costs.
The reconciliation of free cash flows to net cash provided by operating activities for
the
three and nine months ended September 30, 2016 and 2015
is as follows:
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(in thousands)
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Nine Months Ended
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September 30,
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2016
|
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2015
|
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Net cash provided by operating activities
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$
|
50,678
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$
|
51,381
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Purchase of property, plant and equipment
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(19,645)
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(12,196)
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Free cash flows
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$
|
31,033
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$
|
39,185
|
The reconciliation of Non-GAAP net income to
GAAP net
income for the
three and nine months ended September 30, 2016 and 2015
is as follows:
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Three Months Ended
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Three Months Ended
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September 30, 2016
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September 30, 2015
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(in thousands, except share and per share data)
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Pretax
|
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Net of Tax
|
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Per Share
Amounts
|
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Pretax
|
|
Net of Tax
|
|
Per Share
Amounts
|
|
GAAP income
|
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$
|
7,469
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$
|
4,583
|
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$
|
0.09
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$
|
6,197
|
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$
|
3,761
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$
|
0.07
|
|
Special charges:
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Shareholder and other litigation costs
|
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|
725
|
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|
445
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|
|
0.01
|
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|
|
162
|
|
|
98
|
|
|
0.00
|
|
Non-GAAP income
(1)
|
|
$
|
8,194
|
|
$
|
5,028
|
|
$
|
0.10
|
|
|
$
|
6,359
|
|
$
|
3,859
|
|
$
|
0.08
|
(
1
)
Amounts may not foot due to rounding.
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Nine Months Ended
|
|
|
Nine Months Ended
|
|
|
|
September 30, 2016
|
|
|
September 30, 2015
|
|
(in thousands, except share and per share data)
|
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Pretax
|
|
Net of Tax
|
|
Per Share
Amounts
|
|
|
Pretax
|
|
Net of Tax
|
|
Per Share
Amounts
|
|
GAAP income
|
|
$
|
29,983
|
|
$
|
18,190
|
|
$
|
0.35
|
|
|
$
|
20,295
|
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$
|
11,910
|
|
$
|
0.23
|
|
Special charges:
|
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|
|
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|
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|
Shareholder and other litigation costs
|
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|
1,827
|
|
|
1,108
|
|
|
0.02
|
|
|
|
952
|
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|
558
|
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|
0.01
|
|
Write-off of debt issuance costs
|
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-
|
|
|
-
|
|
|
-
|
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|
|
194
|
|
|
115
|
|
|
0.00
|
|
Non-GAAP income
(1)
|
|
$
|
31,810
|
|
$
|
19,298
|
|
$
|
0.37
|
|
|
$
|
21,441
|
|
$
|
12,583
|
|
$
|
0.25
|
(
1
)
Amounts may not foot due to rounding.
Our management does not consider these non-GAAP measures in isolation or as an alternative to financial measures determined in accordance with GAAP. The principal limitations of these non-GAAP financial measures are that they exclude significant expenses and income that are required by GAAP to be recognized in our consolidated financial statements. In addition, they are subject to inherent limitations as they reflect the exercise of judgments by management about which expenses and income are excluded or included in determining these non-GAAP financial measures. In order to compensate for these limitations, management presents non-GAAP financial measures in connection with GAAP results. We urge investors to review the reconciliation of our non-GAAP financial measures to the comparable GAAP financial measures and not to rely on any single financial measure to evaluate our business.
Results of Operations
Comparison of the
three months ended September 30, 2016
to the
three months ended September 30, 2015
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(in thousands)
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|
2016
|
|
% of sales
(1)
|
|
2015
|
|
% of sales
|
|
Net sales
|
|
$
|
78,559
|
|
|
|
|
$
|
72,404
|
|
|
|
|
Cost of sales
|
|
|
23,400
|
|
29.8
|
%
|
|
|
21,691
|
|
30.0
|
%
|
|
Gross profit
|
|
|
55,159
|
|
70.2
|
%
|
|
|
50,713
|
|
70.0
|
%
|
|
Selling, general and administrative expenses
|
|
|
47,361
|
|
60.3
|
%
|
|
|
44,047
|
|
60.8
|
%
|
|
Income from operations
|
|
|
7,798
|
|
9.9
|
%
|
|
|
6,666
|
|
9.2
|
%
|
|
Interest expense
|
|
|
(363)
|
|
(0.5)
|
%
|
|
|
(503)
|
|
(0.6)
|
%
|
|
Other income
|
|
|
34
|
|
0.0
|
%
|
|
|
34
|
|
0.0
|
%
|
|
Income before income taxes
|
|
|
7,469
|
|
9.5
|
%
|
|
|
6,197
|
|
8.6
|
%
|
|
Provision for income taxes
|
|
|
(2,886)
|
|
(3.7)
|
%
|
|
|
(2,436)
|
|
(3.4)
|
%
|
|
Net income
|
|
$
|
4,583
|
|
5.8
|
%
|
|
$
|
3,761
|
|
5.2
|
%
|
(1)
Amounts may not foot due to rounding.
Net Sales
Net sales for the
third
quarter of
2016
increased
$6.2
million, or
8.5%
, over the
third
quarter of
2015
. Comparable
store sales increased
$4.1
million due to an increase in the volume of transactions, as well as an increase in the average transaction size. Net sales for the
nine
new stores open less than twelve months were
$2.1
million during the
third
quarter of
2016
.
Gross profit
Gross profit for the
third
quarter of
2016
increased
$4.4
million, or
8.8%
, compared to the
third
quarter of
2015
, primarily due to the increase in net sales. The gross margin rate increased from
70.0%
for the
third
quarter of
2015
to
70.2%
for the
third
quarter of
2016
. The increase in the gross margin rate was primarily attributable to
improvements in shrink, damage, and other
inventory control process improvements
.
Selling, General, and Administrative Expenses
Selling, general, and administrative expenses for the
third
quarter of
2016
increased
$3.3
million, or
7.5%
, compared to the
third
quarter of
2015
. The increase in selling, general, and administrative expenses was primarily due to an increase in occupancy costs of $
1.2
million
,
compensation and benefit costs of $
0.6
million
, advertising costs of $0.4 million, and shipping and transportation costs of $0.3 million
as a result of opening
nine
new stores during the period from
October
1, 2015 through
September 30, 2016
, and an increase in variable compensation associated with a
n
5.7%
increase in comparable store sales for the
third
quarter of
2016
.
Selling, general, and administrative expenses as a percentage of net sales decreased to
60.3%
for the
third
quarter of
2016
compared to
60.8%
for the
third
quarter of
2015
. The decrease in selling, general, and administrative expenses as a percentage of net sales was primarily due to a maturing store base that has higher net sales levels, which outpaced the growth of selling, general, and administrative expenses.
Selling, general, and administrative expenses include
special charges
of
$0.7
million and
$0.2
million for the
third
quarter
of
2016
and
2015
, respectively, which
consists of shareholder and other
litigation expenses.
Pre-opening Costs
Our pre-opening costs are those typically associated with the opening of a new store and generally include rent expense, payroll costs and promotional costs. We expense pre-opening costs as incurred and include these costs in selling, general and administrative expenses. During the
third
quarter of
2016
and
2015
, we incurred pre-opening costs of
$0.2
million and
$0.1
million, respectively.
Interest Expense
Interest expense decreased
$0.1
million for the
third
quarter of
2016
compared to the
third
quarter of
2015
. The decrease is primarily due to the
decrease in the debt balance over the last twelve months
.
Provision for Income Taxes
Income tax provision increased
$0.5
million for the
third
quarter of
2016
compared to the
third
quarter of
2015
due to higher income before income taxes in the
third
quarter of
2016
. Our effective tax rate for the
third
quarter of
2016
and
2015
was
38.6%
and
39.3%
, respectively.
The improvement in the three month effective tax rate is due to an increase in incentive stock option exercise activity classified as a disqualifying disposition to the option holder that gives rise to a deduction for us. Our tax rate also benefitted from a decrease in non-deductible incentive stock-based compensation expense in
2016
combined with a reduction in the level of state tax rate changes that triggered unfavorable deferred tax adjustments in
2015
.
Comparison of the
nine months ended September 30, 2016
to the
nine months ended September 30, 2015
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|
|
(in thousands)
|
|
|
|
2016
|
|
% of sales
(1)
|
|
2015
|
|
% of sales
|
|
Net sales
|
|
$
|
247,543
|
|
|
|
|
$
|
221,073
|
|
|
|
|
Cost of sales
|
|
|
73,980
|
|
29.9
|
%
|
|
|
68,096
|
|
30.8
|
%
|
|
Gross profit
|
|
|
173,563
|
|
70.1
|
%
|
|
|
152,977
|
|
69.2
|
%
|
|
Selling, general and administrative expenses
|
|
|
142,300
|
|
57.5
|
%
|
|
|
130,678
|
|
59.1
|
%
|
|
Income from operations
|
|
|
31,263
|
|
12.6
|
%
|
|
|
22,299
|
|
10.1
|
%
|
|
Interest expense
|
|
|
(1,382)
|
|
(0.6)
|
%
|
|
|
(2,101)
|
|
(0.9)
|
%
|
|
Other income
|
|
|
102
|
|
0.0
|
%
|
|
|
97
|
|
0.0
|
%
|
|
Income before income taxes
|
|
|
29,983
|
|
12.1
|
%
|
|
|
20,295
|
|
9.2
|
%
|
|
Provision for income taxes
|
|
|
(11,793)
|
|
(4.8)
|
%
|
|
|
(8,385)
|
|
(3.8)
|
%
|
|
Net income
|
|
$
|
18,190
|
|
7.3
|
%
|
|
$
|
11,910
|
|
5.4
|
%
|
(1)
Amounts may not foot due to rounding.
Net Sales
Net sales for the
nine months ended September 30, 2016
increased
$26.5
million, or
12.0%
, over the
nine months ended September 30, 2015
. Comparable store sales increased
$19.9
million during the
nine months ended September 30, 2016
due to an increase in the volume of transactions, as well as an increase in the average transaction size. Net sales for the
nine
new stores open less than twelve months were
$6.6
million during the
nine months ended September 30, 2016
.
Gross profit
Gross profit for the
nine months ended September 30, 2016
increased
$20.6
million, or
13.5%
, compared to
the
nine months ended September 30, 2015
, primarily due to the increase in net sales. The gross margin rate increased from
69.2%
for the
nine months ended September 30, 2015
to
70.1%
for
nine months ended September 30, 2016
. The increase in the gross margin rate was primarily attributable to improved collection of customer delivery revenue,
a decrease in the level of discounting, and
inventory control process improvements
.
Selling, General, and Administrative Expenses
Selling, general, and administrative expenses for the
nine months ended September 30, 2016
increased
$11.6
million, or
8.9%
, compared to the
nine months ended September 30, 2015
. The increase in selling, general, and administrative expenses was primarily due to an increase in compensation and benefit costs of $5.
9
million
,
occupancy costs of $
2.5
million
, and shipping and transportation costs of $1.2 million
as a result of opening
nine
new stores during the period from
October
1, 2015 through
September 30, 2016
, and an increase in variable compensation associated with a
9.0%
increase in comparable store sales for the
nine months ended September 30, 2016
. Selling, general, and administrative expenses as a percentage of net sales decreased to
57.5%
for
the
nine months ended September 30, 2016
compared to
59.1%
for
the
nine months ended September 30, 2015
. The decrease in selling, general, and administrative expenses as a percentage of net sales was primarily due to a maturing store base that has higher net sales levels, which outpaced the growth of selling, general, and administrative expenses.
Selling, general, and administrative expenses include
special charges
of
$1.8
million and
$1.0
million for
the
nine months ended September 30, 2016 and 2015
, respectively, which
consists of shareholder and other
litigation expenses.
Pre-opening Costs
Our pre-opening costs are those typically associated with the opening of a new store and generally include rent expense, payroll costs and promotional costs. We expense pre-opening costs as incurred and include these costs in se
lling, general and administrative expenses. In the
nine months ended September 30, 2016 and 2015
, we incurred pre-opening costs of
$0.6
million and
$0.3
million, respectively.
Interest Expense
Interest expense decreased
$0.7
million for the
nine months ended September 30, 2016
compared to
the
nine months ended September 30, 2015
. The decrease is primarily due to the decrease in the debt balance in 2016.
Provision for Income Taxes
Income tax provision increased
$3.4
million for
the
nine months ended September 30, 2016
compared to the
nine months ended September 30, 2015
due to higher income before income taxes in the
nine months ended September 30, 2016
. Our effective tax rate for the
nine months ended September 30, 2016 and 2015
was
39.3%
and
41.3%
, respectively.
The improvement in the nine month effective tax rate is due to an increase in incentive stock option exercise activity classified as a disqualifying disposition to the option holder that gives rise to a deduction for us. Our tax rate also benefitted from a decrease in non-deductible incentive stock-based compensation expense in
2016
combined with a reduction in the level of state tax rate changes that triggered unfavorable deferred tax adjustments in
2015
.
Liquidity and Capital Resources
Our principal uses of liquidity have been investments in working capital and capital expenditures. Our principal sources of liquidity are
$9.8
million of cash and cash equivalents at
September 30, 2016
, our cash flow from operations, and borrowings available under our credit facility. We expect to use this liquidity for opening new stores, purchasing additional merchandise inventory, maintaining our existing stores, reducing outstanding debt, and general corporate purposes.
On June 2, 2015, we and our operating subsidiary, The Tile Shop, LLC,
as well as certain other of our subsidiaries,
entered into a credit agreement with Fifth Third Bank, Bank of America, N.A., and Huntington National Bank (the “Credit Agreement”). The Credit Agreement provides us with a $125.0 million senior secured credit facility, comprised of a five-year $50.0 million term loan and a $75.0 million revolving line of credit. The Credit Agreement is secured by virtually all of our assets, including but not limited to, inventory, receivables, equipment and real property. Borrowings pursuant to the Credit Agreement bear interest at either a base rate or a LIBOR-based rate, at our option. The LIBOR-based rate will range from LIBOR plus 1.50% to 2.00%, depending on The Tile Shop’s leverage ratio. The base rate is equal to the greatest of: (a) the Federal funds rate plus 0.50%, (b) the Fifth Third Bank “prime rate,” and (c) the Eurodollar rate plus 1.00%, in each case plus 0.50% to 1.00% depending on The Tile Shop’s leverage ratio. At
September 30, 2016
the base interest rate was
4.00%
and the LIBOR-based interest rate was
2.03%
. Borrowings outstanding
were
$23.4
million on the term loan as of
September 30, 2016
. We can elect to prepay the term loan without incurring a penalty. The term loan requires quarterly principal payments as follows (in thousands):
|
|
|
|
|
|
|
|
|
|
|
Period
|
|
|
|
|
December 31, 2016 to June 30, 2017
|
|
$
|
1,250
|
|
September 30, 2017 to June 30, 2018
|
|
|
1,875
|
|
September 30, 2018 to March 31, 2020
|
|
|
2,500
|
The Credit Agreement contains customary events of default, conditions to borrowings, and restrictive covenants, including restrictions on our ability to dispose of assets, make acquisitions, incur additional debt, incur liens, make investments, or enter into transactions with affiliates on other than terms that could be obtained in an arm’s length transaction. The Credit Agreement also includes financial and other covenants
,
including covenants to maintain certain fixed charge coverage ratios and rent adjusted leverage ratios. In addition, except with respect to pro rata payments made by The Tile Shop or other subsidiaries to Holdings or any other equity owner of such entity, the Credit Agreement prohibits the payments of cash dividends. We were in compliance with the covenants as of
September 30, 2016
.
We believe that our cash flow from operations, together with our existing cash and cash equivalents, and borrowings available under our credit facility will be sufficient to fund our operations and anticipated capital expenditures over at least the next 12 months.
Capital expenditures paid in the
nine months ended September 30, 2016
were
$19.6
million. Approximately $
13.1
million was for new store build-out, remodels of existing store
s, and merchandising projects, and
approximately $
4.5
million was for our information technology infrastructure
in stores
. The remainder was for
distribution facilities and other general
corporate purposes.
Our future capital requirements will vary based on the number of additional stores, distribution centers, and manufacturing facilities that we open and the number of stores that we choose to renovate. Our decisions regarding opening, relocating, or renovating stores, and whether to engage in strategic acquisitions, will be based in part on macroeconomic factors and the general state of the U.S. economy, as well as the local economies in the markets in which our stores are located. We
plan
to open an additional
four new
stores
and relocate one additional store
during
the remainder of
2016
. Total capital expenditures are expected to be approximately $30 million in
2016
.
Cash flows
The following table summa
rizes our cash flow data for the nine months ended September 30, 2016 and 2015
.
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(in thousands)
|
|
|
|
Nine Months Ended
|
|
|
|
September 30,
|
|
|
|
2016
|
|
2015
|
|
Net cash provided by operating activities
|
|
$
|
50,678
|
|
$
|
51,381
|
|
Net cash used in investing activities
|
|
|
(19,645)
|
|
|
(12,187)
|
|
Net cash used in financing activities
|
|
|
(31,518)
|
|
|
(30,304)
|
Operating activities
Cash provided by operating activities during the
nine months ended September 30, 2016
was
$50.7
million, compared to
$51.4
million during the
nine months ended September 30, 2015
. The
decrease
is
primarily
attributable to
a
n
$8.6 million
decrease
in
cash flows attributable to the change in
income tax receivable/payable
balances
, partially offset by a $6.3 million increase in net income, compared to the prior year.
Investing activities
Net cash used in investing activities totaled
$19.6
million for the
nine months ended September 30, 2016
, compared to
$12.2
million for the
nine months ended September 30, 2015
. Net cash used in investing activities in each period was primarily for capital purchases
for new store build-outs, remodels of existing stores, merchandising projects, information technology in stores, distribution facilities, and other general corporate purposes.
Financing activities
Net cash used in financing activities was
$31.5
million for the
nine months ended September 30, 2016
, compared to
$30.3
million for the
nine months ended September 30, 2015
. Cash used in financing activities during the
nine months ended September 30, 2016
was primarily for payments of long-term debt and capital lease obligations of
$32.1
million. At
September 30, 2016
, we were in compliance with our debt covenants. We intend to make principal payments due in future periods using cash from operations.
Cash and cash equivalents totaled
$9.8
million at
September 30, 2016
, versus
$10.3
million at
December 31, 2015
.
The Company
ha
d
working capital of
$37.7
million at
September 30, 2016
, compared to working capital of
$47.5
million at
December 31, 2015
.
Off-balance sheet arrangements
As of
September 30, 2016
and
December 31, 2015
, we did not have any “off-balance sheet arrangements” (as such term is defined in Item 303 of Regulation S-K) that could have a current or future effect on our financial condition, changes in financial condition, net sales or expenses, results of operations, liquidity, capital expenditures or capital resources.
Contractual arrangements
As of
September 30, 2016
, there were no material changes to our contractual obligations outside the ordinary course of business.
New Accounting Pronouncements
Recently Adopted Accounting Pronouncements
In February 2015, the Financial Accounting Standards Board (“FASB”) issued a new accounting standard that will modify current consolidation guidance. The standard makes changes to both the variable interest entity model and the voting interest entity model, including modifying the evaluation of whether limited partnerships or similar legal entities are variable interest entities or voting interest entities and amending the guidance for assessing how relationships of related parties affect the consolidation analysis of variable interest entities. The standard was effective for us as of the beginning of fiscal 2016. The adoption of this new standard did not have a material effect on our financial statements.
In April 2015, the FASB issued a standard that requires debt issuance costs related to a recognized debt liability be presented in the Consolidated Balance Sheet as a direct deduction from the carrying amount of that debt liability. We adopted the provisions of this
statement in the first quarter of 2016 and prior periods have been retrospectively adjusted. The adoption of this standard resulted in a $0.1 million reduction of other current assets, net, a $0.3 million reduction of other assets, a $0.3 million reduction of the current portion of long term debt, and a $0.1 million reduction of long term debt in the Consolidated Balance Sheet for the period ended December 31, 2015.
In March 2016, the FASB issued a standard that amends and simplifies the accounting for stock compensation. The guidance addresses various stock compensation aspects including accounting for income taxes, classification of excess tax benefits on the statement of cash flows, forfeitures, minimum statutory tax withholding requirements, and classification of employee taxes paid on the statement of cash flows when an employer withholds shares for tax withholding purposes, among other things. In order to simplify the accounting for stock-based compensation, we made a change in accounting policy to account for forfeitures when they occur, and as a result, we recognized a $0.7 million cumulative-effect reduction to retained earnings under the modified retrospective approach. During the three months ended September 30, 2016, we recognized an adjustment to reduce additional paid-in capital and share-based compensation by $0.1 million to account for current year forfeiture activity.
We elected prospective transition for the requirement to classify excess tax benefits as an operating activity in the Consolidated Statement of Cash Flows. The adoption did not have a material impact on the amounts reported in the Consolidated Statement of Cash Flows for the nine months ended September 30, 2016. Additionally, we will prospectively recognize all excess tax benefits and tax deficiencies as income tax expense or benefit in the Consolidated Statement of Operations as a discrete item in the period in which awards vest. The adoption did not have a material impact on the amounts reported in the Consolidated Statement of Operations for the three and nine months ended September 30, 2016. We applied the modified retrospective method to recognize the cumulative effect of previously unrecognized excess tax benefits in opening retained earnings. The adoption did not have a material impact on the amounts reported in the Consolidated Balance Sheet for the year ended December 31, 2015. We also retrospectively applied the requirement to present employee taxes paid when an employer withholds shares for tax-withholding purposes as a financing activity in the Consolidated Statement of Cash Flows. The adoption did not have a material impact on the amounts reported in the Consolidated Statement of Cash Flows for the nine months ended September 30, 2016 and 2015.
Accounting Pronouncements Not Yet Adopted
In May 2014, the FASB issued a final standard on revenue from contracts with customers. The new standard sets forth a single comprehensive model for recognizing and reporting revenue. The new standard is effective for us in fiscal year 2018 and permits the use of either a retrospective or a cumulative effect transition method. We are currently assessing the impact of implementing the new guidance on our consolidated financial statements.
In August 2014, the FASB issued a standard requiring an entity’s management to evaluate whether there is substantial doubt about an entity’s ability to continue as a going concern within one year after the date of the financial statements. The guidance also sets forth a series of disclosures that are required in the event the entity’s management concludes that there is substantial doubt about the entity’s ability to continue as a going concern. The new standard becomes effective for us in the annual financial statements for fiscal 2016 and requires an ongoing evaluation at each interim and annual period thereafter. We are currently assessing the effect the new standard will have on our consolidated financial statements.
In July 2015, the FASB issued a standard which simplifies the subsequent measurement of inventory. Currently, an entity is required to measure inventory at the lower of cost or market, whereby market can be replacement cost, net realizable value, or net realizable value less an approximately normal profit margin. The changes require that inventory be measured at the lower of cost and net realizable value, thereby eliminating the use of the other two market methodologies. 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. Currently, we apply the net realizable value market option to measure inventories at the lower of cost or market. These changes become effective for us in fiscal 2017. We are currently assessing the effect the new standard will have on our consolidated financial statements.
In February 2016, the FASB issued a standard that primarily requires organizations that lease assets to recognize the rights and obligations created by those leases on the Consolidated Balance Sheet. The standard is effective in 2019, with early adoption permitted. We are currently assessing the effect the new standard will have on our consolidated financial statements.