Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations
The following discussion and analysis of the financial condition and results of our operations should be read in conjunction with the financial statements and related notes of Duluth Holdings Inc. included in Item 1of this Quarterly Report on Form 10-Q and with our audited financial statements and the related notes included in our Annual Report on Form 10-K for the fiscal year ended
January 28, 2018
(“2017 Form 10-K”).
The three and
nine
months of fiscal 2018 and fi
scal 2017 represent our 13 and
39
-week periods ended
October 28, 2018
and
October 29, 2017
, respectively.
Unless the context indicates otherwise, the terms the “Company,” “Duluth,” “Duluth Trading,” “we,” “our,” or “us” are used to refer to Duluth Holdings Inc.
Forward-Looking Statements
This Quarterly Report on Form 10-Q contains “forward-looking statements” within the meaning of the Private Securities Litigation Reform Act of 1995 that are subject to risks and uncertainties. All statements other than statements of historical or current facts included in this Quarterly Report on Form 10-Q are forward-looking statements. Forward looking statements refer to our current expectations and projections relating to our financial condition, results of operations, plans, objectives, strategies, future performance and business. You can identify forward-looking statements by the fact that they do not relate strictly to historical or current facts. These statements may include words such as “anticipate,” “could,” “estimate,” “expect,” “project,” “plan,” “potential,” “intend,” “believe,” “may,” “might,” “will,” “objective,” “should,” “would,” “can have,” “likely,” and other words and terms of similar meaning in connection with any discussion of the timing or nature of future operating or financial performance or other events. For example, all statements we make relating to our estimated and projected earnings, revenue, costs, expenditures, cash flows, growth rates and financial results, our plans and objectives for future operations, growth or initiatives, strategies or the expected outcome or impact of pending or threatened litigation are forward-looking statements. All forward-looking statements are subject to risks and uncertainties, including the risks and uncertainties described under Part I, Item 1A “Risk Factors,” in our 2017 Form 10-K
and other SEC filings
, which factors are incorporated by reference herein.
These
risks and uncertainties include, but are not limited to, the following:
our ability to maintain and enhance a strong brand image; our ability to successfully open new stores; effectively adapting to new challenges associated with our expansion into new geographic markets; generating adequate cash from our existing stores to support our growth; the impact of changes in corporate tax regulations; identifying and responding to new and changing customer preferences; the success of the locations in which our stores are located;
our ability to attract and retain customers in the various retail venues and locations in which our stores are located; competing effectively in an environment of intense competition;
our ability to adapt to significant changes in sales due to the seasonality of our business; price reductions or inventory shortages resulting from failure to purchase the appropriate amount of inventory in advance of the season in which it will be sold; increases in costs of fuel or other energy, transportation or utility costs and in the costs of labor and employment; failure of our information technology systems to support our current and growing business, before and after our planned upgrades; and other factors that may be disclose in our SEC filings or otherwise.
Moreover, we operate in an evolving environment, n
ew risk factors and uncertainties emerge from time to time and it is not possible for management to predict all risk factors and uncertainties, nor can we assess the impact of all factors on our business or the extent to which any factor, or combination of factors, may cause actual results to differ materially from those contained in any forward-looking statement. We qualify all of our forward-looking statements by these cautionary statements.
We undertake no obligation to update or revise these forward-looking statements, except as required under the federal securities laws.
Overview
We are a rapidly growing lifestyle brand of men’s and women’s casual wear, workwear and accessories sold exclusively through our own direct and retail channels. The direct segment, consisting of our website and catalogs, offers products nationwide and
represented
56.1
% and
58.8
% of
our
consolidated net sales for the
three and nine months ended October 28, 2018
, respectively, and 64.7% and 69.2
% of our consolidated net sales for the
three and nine months ended October 29, 2017
, respectively. In 2010, we added retail to our omni-channel platform with the opening of our first store. Since then, we have expanded our retail presence, and
as of
October 28, 2018
, we operated
40
retail stores and three outlet stores. Net sales for our retail segment
represented
43.9
% and
41.2
% of
our
consolidated
net sales for the
three and nine months ended October 28, 2018
and 35.3
% and
30.8
% of consolidated net sales for the
three and nine months ended October 29, 2017
, respectively.
We offer a comprehensive line of innovative, durable and functional products, such as our Longtail T
®
shirts, Buck Naked
TM
underwear, Fire Hose
®
work pants, and No-Yank
®
Tank, which reflect our position as the Modern, Self-Reliant American Lifestyle brand. Our brand has a heritage in workwear that transcends tradesmen and appeals to a broad demographic for everyday and on-the-job use.
From our heritage as a catalog for those working in the building trades, Duluth Trading has become a widely recognized brand and proprietary line of innovative and functional apparel and gear. Over the last decade, we have created strong brand awareness, built a loyal customer base and generated robust sales momentum. We have done so by sticking to our roots of “there’s gotta be a better way” and through our relentless focus on providing our customers with quality, functional products.
A summary of our financial results is as follows:
|
·
|
|
Net sales have
increased
year-over-year for 3
5
consecutive quarters through
October 28, 2018
;
|
|
·
|
|
Net sales in fiscal 2018
third
quarter
increased by
27.4
% over the prior year
third
quarter to
$
106.7
million and net sales in the first
nine
months of fiscal 2018 increased
by
25.2
%
over the first
nine
months of the prior year to $
317.6
million
;
|
|
·
|
|
Net loss of $
3.
2
million
in fiscal 2018
third
quarter
compared to the prior year third quarter net loss of $0.8 million
and net income in the first
nine
months of
fiscal 201
8
decreased
by
33.7
% over the first
nine
months of the prior year
to $
2.
5
million;
|
|
·
|
|
Adjusted EBITDA in fiscal 201
8
third
quarter decreased
by
45.8
% over the prior year
third
quarter to $
1
.
0
million
and adjusted EBITDA in the first
nine
months
of fiscal 2018 increased by
19.6
% over the first nine
m
onths of the prior year to $
16.
7
million;
|
|
·
|
|
We opened
four
new stores in fiscal 2018
third
quarter a
nd
12
new stores in the first
nine
months of fiscal 2018, adding approximately
211
,000
of
gross square footage in fiscal 2018; and
|
|
·
|
|
Our retail stores have achieved and are expected to
continue to ach
i
e
ve
an average payback of less than two years.
|
See “Reconciliation of Net Income to EBITDA and EBITDA to Adjusted EBITDA” section for a reconciliation of our net income to EBITDA and EBITDA to Adjusted EBITDA, both of which are non-U.S. GAAP financial measures. See also the information under the heading “Adjusted EBITDA” in the section “How We Assess the Performance of Our Business” for our definition of Adjusted EBITDA.
Our business is seasonal, and as a result, our net sales fluctuate from quarter to quarter, which often affects the comparability of our results between quarters. Net sales are historically higher in the fourth quarter of our fiscal year due to the holiday selling season.
We are pursuing several strategies to continue our growth, including building brand awareness to continue customer acquisition, accelerating retail expansion, selectively broadening assortments in certain men’s product categories and growing our women’s business.
How We Assess the Performance of Our Business
In assessing the performance of our business, we consider a variety of financial and operating measures that affect our operating results.
Net Sales
Net sales reflect our sale of merchandise plus shipping and handling revenue collected from our customers, less returns and discounts. Direct sales are recognized upon shipment of the product and retail sales are recognized at the point of sale. We also use net sales as one of the key financial metrics in determining our annual bonus compensation for our employees.
Gross Profit
Gross profit is equal to our net sales
less cost of goods sold. Gross profit as a
percentage of our net sales is
referred to as gross margin. Cost of goods sold includes the direct cost of p
urchased merchandise; inventory
shrinkage; inventory adjustments due to obsolescence, including excess and slo
w-moving inventory
and lower of cost and net realizable reserves; inbound
freight; and freight from our distribution ce
nters to our retail stores. The
primary drivers of the costs of individual goods are raw material costs.
Depreciation and amortization are excluded from gross profit.
We expect
gross profit to increase to the
extent that we successfully grow our net sales. Given the size of our direct segment
sales relative to our total net
sales, shipping and handling revenue has had a significant impact on our gross
profit and gross profit margin.
Historically, this revenue has partially offset shipping and handling expense included in selling, general and
administrative expenses.
We have experienced declines in shipping and handling revenues, and this trend is expected to continue.
Declines in shipping and handling revenues may have a
material adverse effect on our
gross profit and gross profit margin, as well as Adjusted EBITDA to the ex
tent there are not commensurate
declines, or if there are increases, in our shipping and handling expense. Our gro
ss profit may not be comparable
to other retailers, as we do not include distribution network and store occupanc
y expenses in calculating gross
profit, but instead we include them in selling, general and administrative expenses.
Selling, General and Administrative Expenses
Selling
, general and administrative expenses include all operating costs not
included in cost of goods sold.
These expenses include all payroll and payroll-related expenses and occupancy exp
enses related to our stores and
to our operations at our headquarters, including utilities, depreciation and
amortization. They also include
marketing expense, which primarily includes television advertising, catalo
g production, mailing and print
advertising costs, as well as all logistics costs associated with shipping product to our customers, consulting and
software expenses and professional services fees. Selling, general and administrative expenses as a percentage of
net sales is usually higher in lower-volume quarters and lower in higher-volume qu
arters because a portion of the
costs are relatively fixed
.
Our historical sales growth has been accompanied by increased selling, gener
al and administrative expenses.
The most significant components of these increases are advertising, market
ing, rent/occupancy and
payroll costs. While we
expect these expenses to increase as we continue to open new stores, increa
se brand awareness and grow our
organization to support our growing business, we believe these expenses will de
crease as a percentage of sales
over time.
Adjusted EBITDA
We believe Adjusted EBITDA is a useful measure of operating performance, as it provides a clearer picture of operating results by excluding the effects of financing and investing activities by eliminating the effects of interest and depreciation costs and eliminating expenses that are not reflective of underlying business performance. We use Adjusted EBITDA to facilitate a comparison of our operating performance on a consistent basis from period-to-period and to provide for a more complete understanding of factors and
trends affecting our business.
We define Adjusted EBITDA as consolidated net income (loss) before depreciation and amortization, interest expense and provision for income taxes adjusted for the impact of certain items, including non-cash and other items we do not consider representative of our ongoing operating performance. We believe Adjusted EBITDA is less susceptible to variances in actual performance resulting from depreciation, amortization and other items.
Results of Operations
The following table summarizes our unaudited consolidated results of operations for the periods indicated, both in dollars and as a percentage of net sales.
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended
|
|
Nine Months Ended
|
|
|
|
October 28, 2018
|
|
October 29, 2017
|
|
October 28, 2018
|
|
October 29, 2017
|
|
(in thousands)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Direct net sales
|
|
$
|
59,827
|
|
$
|
54,146
|
|
$
|
186,872
|
|
$
|
175,588
|
|
Retail net sales
|
|
|
46,874
|
|
|
29,583
|
|
|
130,689
|
|
|
78,054
|
|
Net sales
|
|
|
106,701
|
|
|
83,729
|
|
|
317,561
|
|
|
253,642
|
|
Cost of goods sold (excluding depreciation
and amortization)
|
|
|
45,730
|
|
|
36,302
|
|
|
138,410
|
|
|
108,649
|
|
Gross profit
|
|
|
60,971
|
|
|
47,427
|
|
|
179,151
|
|
|
144,993
|
|
Selling, general and administrative expenses
|
|
|
63,534
|
|
|
48,039
|
|
|
172,075
|
|
|
137,467
|
|
Operating (loss) income
|
|
|
(2,563)
|
|
|
(612)
|
|
|
7,076
|
|
|
7,526
|
|
Interest expense
|
|
|
1,583
|
|
|
661
|
|
|
3,638
|
|
|
1,199
|
|
Other income, net
|
|
|
3
|
|
|
73
|
|
|
168
|
|
|
175
|
|
(Loss) income before income taxes
|
|
|
(4,143)
|
|
|
(1,200)
|
|
|
3,606
|
|
|
6,502
|
|
Income tax (benefit) expense
|
|
|
(1,067)
|
|
|
(454)
|
|
|
913
|
|
|
2,480
|
|
Net (loss) income
|
|
|
(3,076)
|
|
|
(746)
|
|
|
2,693
|
|
|
4,022
|
|
Less: Net income attributable to
noncontrolling interest
|
|
|
74
|
|
|
70
|
|
|
157
|
|
|
199
|
|
Net (loss) income attributable to controlling interest
|
|
$
|
(3,150)
|
|
$
|
(816)
|
|
$
|
2,536
|
|
$
|
3,823
|
|
Percentage of Net sales:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Direct net sales
|
|
|
56.1
|
%
|
|
64.7
|
%
|
|
58.8
|
%
|
|
69.2
|
%
|
Retail net sales
|
|
|
43.9
|
%
|
|
35.3
|
%
|
|
41.2
|
%
|
|
30.8
|
%
|
Net sales
|
|
|
100.0
|
%
|
|
100.0
|
%
|
|
100.0
|
%
|
|
100.0
|
%
|
Cost of goods sold (excluding depreciation
and amortization)
|
|
|
42.9
|
%
|
|
43.4
|
%
|
|
43.6
|
%
|
|
42.8
|
%
|
Gross profit
|
|
|
57.1
|
%
|
|
56.6
|
%
|
|
56.4
|
%
|
|
57.2
|
%
|
Selling, general and administrative expenses
|
|
|
59.5
|
%
|
|
57.4
|
%
|
|
54.2
|
%
|
|
54.2
|
%
|
Operating (loss) income
|
|
|
(2.4)
|
%
|
|
(0.7)
|
%
|
|
2.2
|
%
|
|
3.0
|
%
|
Interest expense
|
|
|
1.5
|
%
|
|
0.8
|
%
|
|
1.1
|
%
|
|
0.5
|
%
|
Other income, net
|
|
|
0.0
|
%
|
|
0.1
|
%
|
|
0.1
|
%
|
|
0.1
|
%
|
(Loss) income before income taxes
|
|
|
(3.9)
|
%
|
|
(1.4)
|
%
|
|
1.1
|
%
|
|
2.6
|
%
|
Income tax (benefit) expense
|
|
|
(1.0)
|
%
|
|
(0.5)
|
%
|
|
0.3
|
%
|
|
1.0
|
%
|
Net (loss) income
|
|
|
(2.9)
|
%
|
|
(0.9)
|
%
|
|
0.8
|
%
|
|
1.6
|
%
|
Less: Net income attributable to
noncontrolling interest
|
|
|
0.1
|
%
|
|
0.1
|
%
|
|
0.0
|
%
|
|
0.1
|
%
|
Net (loss) income attributable to controlling interest
|
|
|
(3.0)
|
%
|
|
(1.0)
|
%
|
|
0.8
|
%
|
|
1.5
|
%
|
Three Months Ended
October 28, 2018
Compared to Three Months Ended
October 29, 2017
Ne
t Sales
Net sales
increased
$
23.0 million, or 27.4%, to $106.7 million in the three months ended
October 28, 2018
compared to $83.7 million in the three months ended
October 29, 2017
, driven by gains in both direct and retail segments of $5.7 million, or 10.5%, and $
17.3 million, or 58.4
%,
respectively, with gains across virtually all product categories and in both
the
men’s and women’s business
es
.
Our website visits increased 26
% in the three months ended
October 28, 2018
compared to the three months ended
October 29, 2017
. The increase in retail net sale
s was primarily due to having
43
stores
in
the three months ended
October 28, 2018
as compared to
26 stores in
the three months ended
October 29, 2017
.
Gross Profit
Gros
s profit
increased
$13.
5
million, or 28.
6
%, to $61.0 million
in the
three mont
hs
ended
October 28, 2018
compared
to $47.4
million in t
he three months
ended
October 29, 2017
.
As a percentage of net sales, gross
margin increased 50 basis points to 57.1% of net sales in the three months ended
October 28, 2018
, compared to 56.6% of net sales
in the three months ended
October 29, 2017
. The increase in gross margin rate was primarily attributable to an increase in product margin, partially offset by a decline in shipping revenues.
Selling, General and Administrative Expenses
Selling, general and adm
inistrative
expenses
increased $
15.5
million, or
32.3
%, to $
63.5
million
in the thre
e months ended
October 28, 2018
compared to $
48.0
million in the three months ended
October 29, 2017
.
Selling, general and administrative expenses as a percentage of net sales
increased 210 basis points to
59.5
%
in the
three months ended
October 28, 2018
, compared to 57.4% in the three months ended
October 29, 2017
.
The increase in selling, general and administrative expenses was attributable to an increase
of $4.9 million in advertising and marketing costs, $4.
4
million in selling expenses and $
6.2
million in general and administrative expenses.
As a percentage of net sales, advertising and marketing
costs
increased 20 basis points to 20.4%
in the three months ended
October 28, 2018
, compared to 20.2
% in the three months ended
October 29, 2017
.
The 20 basis point increase in advertising and marketing costs as a percentage of net sales was primarily attributable to an increase of 140 basis point in television advertising
due to an earlier start in Women’s television advertising as compared to the prior year quarter
, offset by a decrease of 140 basis points in catalog costs due to a planned decrease in
catalog spend as a percentage of net sales.
As a percentage of net sales, selling expenses
increased
7
0 basis points to 16.5
%
in the three months ended
October 28, 2018
, compared to 15.8
% in the three months ended
October 29, 2017
,
primarily due to an increase in customer service due to our growth in retail, partially offset by a decrease in shipping expenses due to leverage from an increase in the proportion of retail net sales.
As a percentage of net sales, general and administrative
expenses
increased
120
basis points to 22.6
%
in the three months
ended
October 28, 2018
, compared to
21.4
% in the three months ended
October 29, 2017
.
The
120
b
asis
point increase
was primarily attributable to a
n increase in information technology
support
and outside services, and an increase in depreciation as a result of more stores.
Segment Operating (Loss) Income
Corporate expenses are included in our direct segment and the majority of advertising costs are included in our direct segment, with the exc
eption of retail-specific advertis
ing
.
As such, our direct segment is generally burden
ed
with higher overhead and advertising expenses.
In addition, for our build to suit leases, a portion of the lease expense is included in interest expense.
Direct segment operating
loss was
$
8.4
million
in the three
months ended
October 28, 2018
compared to $
2.7
million in the three months ended
October 29, 2017
. Direct segment operating
loss
as a percentage of direct
net sales
de
creased
890
basis points to
(
14
.0
)
%
in the three months
ended
October 28, 2018
compared to
(
5.1
)
% in the three months ended
October 29, 2017
. The 890
basis point
decreased
was primarily due to an increase of
100
basis points in direct gross margins,
coupled with an
increase in selling
expenses of
20
0 basis points due to increased distribution costs, an increase of
33
0 basis points in general and administrative expenses due to an increase in consulting fees and outside services to support the growth of our direct business, and an increase of
46
0
basis points in advertising and marketing costs primarily due to an increase in television advertising as discussed above
.
Retail segment operating income
increased
$3.7 million to $5.8
million in the
three months ended
October 28, 2018
compared to $
2.1
million in the three months ended
October 29, 2017
. Retail segment operating income as a percentage of retail net sales
increased
5
20 basis points to 12.4
% in the three months ended
October 28, 2018
compared to
7.2
% in the three months ended
October 29, 2017
. The
52
0
ba
sis point
increase was due to a
decrease of
53
0
basis points in selling, general and administrative expenses due to leverage gain
ed from higher retail net sales offset by
a decrease of 10 basis points in retail gross margins
Interest Expense
Interest expense
was
$
1.6
m
illion in t
he three months
ended
October 28, 2018
, compared to $0.
7
million in the three months ended
October 29, 2017
.
The increase in interest expense was primarily attributable to
the addition of our headquarters building
, coupled with a higher outstanding debt balance during the quarter as compared to the prior year.
Income
Tax Benefit
Income tax
benefit
was $1.1 million in the three months ended
October 28, 2018
, compared to $0.5 million in the three months ended
October 29, 2017
. Our effective tax rate relate
d to controlling interest was 25
% for the three months ended
October 28, 2018
, compared to 36% for the three months ended
October 29, 2017
, respectively
.
The decrease in our effective tax rate was primarily due to the U.S. tax reform, which was effective January 1, 2018.
Net Loss
Net loss was
$3.
2
million
, in the three months
ended
October 28, 2018
compared to
$
0.8
million in the three months ended
October 29, 2017
, primarily due to the factors discussed above.
Nine Months
Ended
October 28, 2018
Compared to
Nine Months
Ended
October 29, 2017
Ne
t Sales
Net sales
increased
$
63.9
million, or 25.2%, to $317.6
million in the
nine months ended October 28, 2018
compared to $
253.6
million in t
he
nine months ended October 29, 2017
, driven
by
gains
in both direct and
retail segments of $11.3 million, or 6.4%, and $52.6 million, or 67.4%, respectively, with gains across virtually all product categories
and in both
the
men’s and women’s business
es
.
Our website visits increased
18
% in the
nine months ended October 28, 2018
compared to t
he
nine months ended October 29, 2017
.
The increase in retail net sales was primarily attributable to the same factors discussed above for the three months ended
October 28, 2018
compared to the three months ended
October 29, 2017
.
Gross Profit
Gros
s
profit
increased
$34.2 million, or 23.6%, to $179.2
million in the
nine months ended October 28, 2018
compared to $145.0
million in t
he
nine months ended October 29, 2017
. As a percentage of net sales, gross margin
decreased
8
0 b
asis points
to 56.4% of
net sales in the
nine months ended October 28, 2018
, compared to
57.2% of net sales in the
nine months ended October 29, 2017
.
The decrease in gross margin rate was primarily attributable to the continued decline in shipping revenue and an increase in
freight cost related to transporting inventory to our retail stores due to geographic expansion
.
Selling, General and Administrative Expenses
Selling, general and adm
inistrative
expenses
increased
$
34.6
million, or
25.2
%, to $
172.1
million
in th
e
nine months ended October 28, 2018
compared t
o $137.5
million
in the
nine months ended October 29, 2017
. Selling, general and administrative expenses as a percentage of net
sales
remained flat at
54
.2
%
in
both
the
nine months ended October 28, 2018
and
the
nine months ended October 29, 2017
.
Within
selling, general and administrative
there
was an increase of
$6.3 million in advertising and marketing costs, $12.
4
million in selling expenses and $15.
9
million in general and administra
tive expenses.
As a percentage of net sales, advertising and marketing costs
decreased 220 basis points to 18.7
% in the
nine months ended October 28, 2018
, compared to
20.9
% in the
nine months ended October 29, 2017
.
The
220
basis
point decrease
in advertising and marketing costs as a percentage of net sales was primarily attributable to a
decrease of 200 basis points in catalog costs due to the adoption of the new revenue standard which provides for catalog costs
to be
expensed upon customer receipt and a planned decrease in catalog spend as a percentage of net sales, coupled with advertising leverage gained from a higher mix of retail sales as compared to the
nine months ended October 29, 2017
.
As a percentage of net sales, selling
expenses
increased 90 basis points to
15.7
%
in the
nine months ended October 28, 2018
, compared to 14.8
% in t
he
nine months ended October 29, 2017
, primarily due to
an increase in customer service due to our growth in retail, partially offset by a decrease in shipping expenses attributable to the leverage gained from an increase in the proportion of retail net sales.
As a percentage of net sales, general and administrative
expenses
increased
13
0 basis points to 19.
8
% in the
nine months ended October 28, 2018
,
compared to 18.5
% in
the
nine months ended October 29, 2017
.
The
13
0 ba
sis point
increase was primarily attributable to the same factors discussed above for the three months ended October 28, 2018 compared to the three months ended October 29, 2017.
Segment
Operating (Loss) Income
Corporate expenses are included in our direct segment and the majority of advertising costs are included in our direct segment, with the exc
eption of retail-specific advertis
ing
.
As such, our direct segment is generally burden
ed
with higher overhead and advertising expenses.
In addition, for our build to suit leases, a portion of the lease expense is included in interest expense.
Direct segment operating
loss
was
$
9.4
million
in the
nine months ended October 28, 2018
compared to operating income of
$
0.2 million in the
nine months ended October 29, 2017
. Direct segment
(
loss
) income
as a percentage of direct net sales
decreased
510
basis points to
(5.0
)
%
in the
nine months ended October 28, 2018
compared to 0.1% in the
nine months ended October 29, 2017
. The
51
0
basis point
decline was primarily due to a decline of 70 basis
points in direct gross margins
,
coupled with an increase in selling, general and administrative expenses of
44
0 basis points was primarily attributable to the same factors discussed
nine months ended October 28, 2018
compared to the
nine months ended October 29, 2017
.
Retail segment operating
income
increased
$9.1
million to $16.
4
million in the
nine months ended October 28, 2018
compared
to $7.3
million in
nine months ended October 29, 2017
. Retail segment operating income as a percentage of retail net sales
in
creased 330 basis points to 12.6
% in the
nine months ended October 28, 2018
compared to 9.3
% in t
he
nine months ended October 29, 2017
.
The 33
0 basis
point increase was primarily due to a decrease in selling, general a
nd administrative expenses of 37
0 basis points
attributable to the same factors discussed above for the
nine months ended October 28, 2018
compared to the
nine months ended October 29, 2017
offset by
a decline of 40 basis
points in retail gross margins.
Interest Expense
Interest expense
was $3.6
million in t
he
nine months ended October 28, 2018
, compared to
$1.2
million in th
e
nine months ended October 29, 2017
.
The increase in interest expense was primarily attributable to
the addition of our headquarters building,
an increase in our build-to-
suit retail stores, and
a higher outstanding debt balance during the quarter as compared to the prior year.
Income
Tax Expense
Income tax expense
was
$0.9 million in the
nine months ended October 28, 2018
, compared to income tax expense of $2.5 million in the
nine months ended October 29, 2017
. Our effective tax rate relate
d to controlling interest was 27
%
for the
nine months ended October 28, 2018
compared to 39%, for the
nine months ended October 29, 2017
, respectively
.
Net
Income
Net income
decreased
$1.3 million, or 33.7
% to $2.
5
million
,
in the
nine months ended October 28, 2018
compared to net income of $3.8
million in the
nine months ended October 29, 2017
, primarily
due to the factors discussed above.
Reconciliation of Net Income to EBITDA and EBITDA to Adjusted EBITDA
The following table presents reconciliations of net income to EBITDA and EBITDA to Adjusted EBITDA, both of which are non-U.S. GAAP financial measures, for the periods indicated below. See the above section titled “How We Assess the Performance of Our Business,” for our definition of Adjusted EBITDA.
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended
|
|
Nine Months Ended
|
|
|
October 28, 2018
|
|
October 29, 2017
|
|
October 28, 2018
|
|
October 29, 2017
|
Net (loss) income
|
|
$
|
(3,076)
|
|
$
|
(746)
|
|
$
|
2,693
|
|
$
|
4,022
|
Depreciation and amortization
|
|
|
3,118
|
|
|
1,824
|
|
|
8,187
|
|
|
5,104
|
Interest expense
|
|
|
1,583
|
|
|
661
|
|
|
3,638
|
|
|
1,199
|
Income tax (benefit) expense
|
|
|
(1,067)
|
|
|
(454)
|
|
|
913
|
|
|
2,480
|
EBITDA
|
|
$
|
558
|
|
$
|
1,285
|
|
$
|
15,431
|
|
$
|
12,805
|
Non-cash stock based compensation
|
|
|
447
|
|
|
569
|
|
|
1,305
|
|
|
1,186
|
Adjusted EBITDA
|
|
$
|
1,005
|
|
$
|
1,854
|
|
$
|
16,736
|
|
$
|
13,991
|
As a result
of the factors discussed above in the
“Results of Operations” section, Adjusted EBITDA decreased $0.
8
million, or 45.8%, to $1.0 million in the three months ended
October 28, 2018
compared to $1.9 million in the three months ended
October 29, 2017
. As a percentage of net sales, Adjusted EBITDA decreased 130 basis points to 0.9% of
net sales in the three months ended
October 28, 2018
compared to 2.2
% of net sales in the three months ended
October 29, 2017
.
As a result of the factors discussed above in the “Results of Operations” section, Adjusted EBITDA
increased $2.7 million, or 19.6%, to $16.7 million in the
nine months ended October 28, 2018
compared to $14.0 million in the
nine months ended October 29, 2017
. As a percentage of net sales, Adjusted EBITDA decreased 20 basis points to 5.3% of
net sales in the
nine months ended October 28, 2018
compared to 5.5% of net sales in the
nine months ended October 29, 2017
.
Liquidity and Capital Resources
General
Our business relies on cash from operating activities
and a
credit
facility
as our primary sources of liquidity
. Effective May 17, 2018, we entered into a new credit facility which provides for borrowings of up to $80.0 million on a revolving line of credit and an additional $50.0 million in a delayed draw term loan. The $80.0 million revolving line of credit matures on May 17, 2023 and we have the option to draw in various amounts on the $50.0 million term loan through May 17, 2020, with a maturity on May 17, 2023.
Our primary cash needs have been for inventory, marketing and advertising, payroll, store leases, capital expenditures associated with opening new stores, infrastructure and information technology. The most significant components of our working capital are cash, inventory, accounts payable and other current liabilities.
We expect to
spend
approximately
$
5
0
.0 million to $55.0 million in fiscal 2018 on capital expenditures, net of proceeds from finance lease obligations, including a total of approximately $27.0 million to $32.0 million for new retail store expansion and remodels. We expect capital expenditures of approximately $2.0 million and starting inventory of $0.5 million to open a new store. At October 28, 2018, o
ur net working capital was $85.1
million, including $2.5 million
of cash. Due
to the seasonality of our business, a significant amount of cash from operating activities is generated during the fourth quarter of our fiscal year. During the first three quarters of our fiscal year, we typically are net users of cash in our operating activities as we acquire inventory in anticipation of our peak selling season, which occurs in the fourth quarter of our fiscal year. We also use cash in our investing activities for capital expenditures throughout all four quarters of our fiscal year.
We believe that our cash flow from operating activities and the availability of cash under our revolving line of credit will be sufficient to cover working capital requirements and anticipated capital expenditures and for funding our growth strategy for the foreseeable future.
Cash Flow Analysis
A summary of operating, investing and financing activities is shown in the following table.
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|
|
|
|
|
|
|
|
Nine Months Ended
|
|
|
October 28, 2018
|
|
October 29, 2017
|
(in thousands)
|
|
|
|
|
|
|
Net cash used in operating activities
|
|
$
|
(23,502)
|
|
$
|
(34,957)
|
Net cash used in investing activities
|
|
|
(46,317)
|
|
|
(43,909)
|
Net cash provided by financing activities
|
|
|
65,929
|
|
|
56,516
|
Decrease in cash and restricted cash
|
|
$
|
(3,890)
|
|
$
|
(22,350)
|
Net Cash
used in
Operating Activities
Operating activities consist primarily of net income adjusted for non-cash items that include depreciation and amortization
,
stock-based compensation and the effect of changes in assets and
liabilities.
While our cash flows from operations for
the nine months ended October 28, 2018
is negative, primarily driven by the seasonal nature of our business, we expect cash flows from operations for the full year fiscal 2018 to be positive from normal operating performance and seasonal reductions in working capital during the fourth quarter of our fiscal year, which is consistent with previous full fiscal years.
For
nine months ended October 28, 2018
, net cash used in operatin
g activities was $23.5
million, which consisted of net income of $2.7 million, non-cash depreciation and amortization of $8.2 million and stock based compensation of $1.3 million, offset by cash used in operating
assets and liabilities of $35.5
million. The cash used in operating
assets and liabilities of $35.5
million primarily consisted of a $44.8 million
increase
in inventory, primarily due to
our sales increase and inventory for the opening of new retail stores during fiscal 2018 and our peak season
,
which was partially offset by an increase of $19.1 in trade accounts payable primarily due to timing of payments and an
increase of $
7.1
in
accrued expenses and deferred rent obligations.
For the nine months ended October 29, 2017,
net cash used in
operating activities was $35.0
million, which
consisted of net income of $4.0 million, non-cash depreciation and amortization of $5.1
million and stock based compensation of $
1.2
million, offset by cash used in operating assets and liabilities
of $45.2
million. The cash used in operat
ing assets and liabilities of $45.2
million primarily consisted of
a
$
57.0
million
increase in inventory, primarily due to
the increase in the number of our retail stores and building up our inventory for the peak holiday season
,
which was partially offset by an increase in trade accounts payable of $18.7 million primarily due to timing of payments.
Net Cash Used in Investing Activities
Investing activities consist primarily of capital expenditures for growth related to new store openings, information technology and enhancements for our distribution and corporate facilities
.
For
the nine months
ended October 28, 2018, net cash used in
investing activities was $46.3
million and was primarily driven
by capital expenditures of $45.9
million for new retail stores and retail store build-out, as well as investments in information technology.
For the nine months ended October 29, 2017
, net cash used in investing activ
ities was $43.9
million and was primarily driven by capital expenditures
of $37.5 million for the opening of ten
new retail stores
and investments in information technology and a $6.3 million purchase of an available-for-sale security.
Net Cash Provided by
Financing Activities
Financing activities consist primarily of borrowings and payments related to our revolving line of credit and other long-term debts, as well as distributions to
holders of
the
noncontrolling intere
st in our variable interest entity Schlecht Retail Ventures LLC (“SRV”), proceeds from finance lease obligations
and capital contributions to
SRV
.
Fo
r the nine months ended October 28, 2018
, net cash provided by financing activities
was $65.9
million, primarily consisting of proceeds of $65.0 million, net from our revolving line of credit to fund working capital and capital expenditures and $1.0 million from finance lease obligations in connection with our build-to-suit lease transactions.
For the nine months ended October 29, 2017
, net cash provided by financing activi
ties was $56.5
million, primarily consisting
of proceeds of $50.1 million, net from our revolving line of credit, $0.8 million from long-term debt, $2.9 million in change in bank overdraft, $2.4 million from our finance lease obligations in connection with our build-to-suit lease transactions and $0.8
million for capital contributions to SRV.
Line of Credit
On September 29
, 2017, we
entered into a first amendment to
t
he Amended and Restated Loan Agreement dated as of October 7, 2016 (the “Amended and Restated Agreement”), providing for borrowing availability of up to
$60.0
million from September 29, 2017 through July 31, 2019. Effective November 1, 2017, the Company entered into a second amendment to the Amended and Restated Agreement, providing for borrowing availability of up to
$80.0
million from November 1, 2017 through December 31, 2017 and borrowing availability of up to
$60.0
million from January 1, 2018 through July 31, 2019. The Amended and Restated Agreement
was scheduled to mature
on
July 31, 2019
, and bore
interest, payable monthly, at a rate equal to the adjusted LIBOR rate, as defined in the Amended and Restated Agreement
.
The
Amended and Restated Agreement wa
s secured by essentially
all Company assets and required
the Company to maintain compliance with certain financial and non-financial covenants, including minimum tangible net worth and a minimum trailing twelve month EBITDA. In addition, the Ame
nded and Restated Agreement did
not contain borrowing base limits.
Eff
ective May 17, 2018, we
entered into a new credit agreement and subsequently terminated our Amended and Restated Agreement. The outstanding balance of $27.5 million under the Amended and Restated Agreement was paid off with borrowings under the new credit agreement. The new credit agreement is secured by essentially all Company assets and requires that we maintain compliance with certain financial and non-financial covenants, including a trailing twelve month maximum rent adjusted leverage ratio and minimum fixed charge coverage ratio.
See
Note 3
“
Debt and Line of Credit
,”
included in this Quarterly Report on Form 10-Q
for further information.
As of October 28, 2018 and for the nine months then ended, the Company was in compliance with all financial and non-financial covenants for all debts discussed above and expects to be in compliance for the remainder of fiscal 2018.
Contractual Obligations
There have been no significant changes to our contractual obligations as described in our Annual Report on Form 10-K for the fiscal year ended January 28, 2018.
Off-Balance Sheet Arrangements
We are not a party to any off-balance sheet arrangements, except for operating leases
.
Critical Accounting Policies and Critical Accounting Estimates
The preparation of financial statements in accordance with
U.S. GAAP requires management to make estimates and assumptions that affect the reported amounts of assets, liabilities, revenues, and expenses, as well as the related disclosures of contingent assets and liabilities
at the date of the financial statements
. We evaluate our accounting policies, estimates, and judgments on an on-going basis. We base our estimates and judgments on historical experience and various other factors that are believed to be reasonable under the circumstances. Actual results may differ from these estimates under different assumptions and conditions and such differences could be material to the consolidated financial
statements
.
As of the date of this filing,
there
were no
significant changes to any of the critical accounting policies and estimates
described in our
2017
Form 10-K
, except as discussed below
.
Recently Adopted Accounting Pronouncements
On January 29, 2018, we adopted
authoritative guidance related to revenue recognition from contracts with customers using
the modified retrospective
(cumulative-effect) approach
.
As
such, the comparative prior period information has not been restated and continues to be reported under the accounting standar
ds in effect for those periods. Beginning with the first quarter of fiscal 2018, our financial results reflect adoption of the standard.
On January 29, 2018, we adopted
authoritative guidance related to
restricted cash
, which requires companies to include
restricted cash
in total cash and cash equivalents on the state
ment of cash flows. As a result
, we no longer disclose the changes in restricted cash on the statement of cash flows and disclose a reconciliation to the total cash and restricted cash balances on the condensed consolidated balance sheets.
On January 29, 2018, we adopted
authoritative guidance related to financial instruments,
which amends various aspects of the recognition, measurement, presentation, and disclosure for financial instruments. The most significant impact relates to the accounting for equity instruments. The adoption did not have a material impact on our condensed con
solidated financial statements.
See Note 1 “Nature of Operations and Basis of Presentation,” of Notes to Condensed Consolidated Financial Statements included in Part 1, Item 1, of this quarterly report on Form 10-Q for further information regarding recently adopted accounting pronouncements.
Recent Accounting Pronouncements
See Note 12 “Recent Accounting Pronouncements,” of Notes to Condensed Consolidated Financial Statements included in Part 1, Item 1, of this quarterly report on Form 10-Q for information regarding recent accounting pronouncements.