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CHILDRENS PLACE RETAIL STORES INC 10-Q 2007

Documents found in this filing:

  1. 10-Q
  2. Ex-31
  3. Ex-32
  4. Ex-32

 

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 November 3, 2007

 

 

 

o

 

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

 

 

 

 

 

For the transition period from                    to

 

Commission file number 0-23071

 


 

THE CHILDREN’S PLACE RETAIL STORES, INC.

(Exact name of registrant as specified in its charter)

 

Delaware

 

31-1241495

(State or other jurisdiction of

 

(I.R.S. employer

incorporation or organization)

 

identification number)

 

 

 

915 Secaucus Road

 

 

Secaucus, New Jersey

 

07094

(Address of Principal Executive Offices)

 

(Zip Code)

 

(201) 558-2400

(Registrant’s Telephone Number, Including Area Code)

 

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.

 

Yes x  No o

 

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

 

Large accelerated filer         x               Accelerated filer           o          Non-accelerated filer           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

 

The number of shares outstanding of the registrant’s common stock with a par value of $0.10 per share, as of December 1, 2007 was 29,083,916 shares.

 

 



 

THE CHILDREN’S PLACE RETAIL STORES, INC. AND SUBSIDIARIES

QUARTERLY REPORT ON FORM 10-Q

FOR THE PERIOD ENDED NOVEMBER 3, 2007

 

TABLE OF CONTENTS

 

 

 

 

PART I – FINANCIAL INFORMATION

 

 

 

 

 

Item 1.

Condensed Consolidated Financial Statements:

 

 

 

Condensed Consolidated Balance Sheets

 

 

 

Condensed Consolidated Statements of Operations

 

 

 

Condensed Consolidated Statements of Cash Flows

 

 

 

Notes to Condensed Consolidated Financial Statements

 

 

Item 2.

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

 

 

Item 3.

Quantitative and Qualitative Disclosures about Market Risk

 

 

Item 4.

Controls and Procedures

 

 

 

 

 

 

PART II – OTHER INFORMATION

 

 

 

 

 

 

Item 1.

Legal Proceedings

 

 

Item 6.

Exhibits

 

 

Signatures

 

 

 



 

PART I.     FINANCIAL INFORMATION

 

Item 1.        Condensed Consolidated Financial Statements.

 

THE CHILDREN’S PLACE RETAIL STORES, INC. AND SUBSIDIARIES

CONDENSED CONSOLIDATED BALANCE SHEETS

(In thousands)

 

 

 

November 3,
2007

 

February 3,
2007

 

October 28,
2006

 

 

 

(Unaudited)

 

 

 

(Unaudited)

 

ASSETS:

 

 

 

 

 

 

 

Current assets:

 

 

 

 

 

 

 

Cash and cash equivalents

 

$

111,225

 

$

116,991

 

$

133,942

 

Short-term investments

 

 

75,175

 

13,315

 

Accounts receivable

 

44,693

 

35,173

 

45,536

 

Inventories

 

392,685

 

239,039

 

300,404

 

Prepaid income taxes

 

43,576

 

5,958

 

6,262

 

Prepaid expenses and other current assets

 

40,400

 

36,859

 

41,957

 

Deferred income taxes

 

17,504

 

16,410

 

9,241

 

Total current assets

 

650,083

 

525,605

 

550,657

 

Long-term assets:

 

 

 

 

 

 

 

Property and equipment, net

 

449,870

 

341,739

 

311,425

 

Deferred income taxes

 

82,073

 

69,039

 

55,336

 

Other assets

 

3,136

 

3,103

 

4,794

 

Total assets

 

$

1,185,162

 

$

939,486

 

$

922,212

 

 

 

 

 

 

 

 

 

LIABILITIES AND STOCKHOLDERS’ EQUITY

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

LIABILITIES:

 

 

 

 

 

 

 

Current liabilities:

 

 

 

 

 

 

 

Revolving loan

 

$

108,886

 

$

 

$

 

Accounts payable

 

166,820

 

82,970

 

124,358

 

Income taxes payable

 

15,362

 

20,116

 

17,035

 

Accrued expenses, interest and other current liabilities

 

150,844

 

138,770

 

128,135

 

Total current liabilities

 

441,912

 

241,856

 

269,528

 

Long-term liabilities:

 

 

 

 

 

 

 

Deferred rent liabilities

 

134,928

 

123,585

 

123,347

 

Deferred royalty

 

43,436

 

45,941

 

42,793

 

Unrecognized tax benefits

 

22,065

 

 

 

Other long-term liabilities

 

6,988

 

6,317

 

7,062

 

Total liabilities

 

649,329

 

417,699

 

442,730

 

 

 

 

 

 

 

 

 

COMMITMENTS AND CONTINGENCIES

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

STOCKHOLDERS’ EQUITY:

 

 

 

 

 

 

 

Common stock, $0.10 par value; 100,000,000 shares authorized; 29,083,916 shares outstanding at November 3, 2007, February 3, 2007 and October 28, 2006

 

2,909

 

2,909

 

2,909

 

Additional paid-in capital

 

194,348

 

188,566

 

186,996

 

Accumulated other comprehensive income

 

20,289

 

4,344

 

8,270

 

Retained earnings

 

318,287

 

325,968

 

281,307

 

Total stockholders’ equity

 

535,833

 

521,787

 

479,482

 

Total liabilities and stockholders’ equity

 

$

1,185,162

 

$

939,486

 

$

922,212

 

 

See accompanying notes to these condensed consolidated financial statements

 

1



 

THE CHILDREN’S PLACE RETAIL STORES, INC. AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS

(Unaudited)

(In thousands, except per share amounts)

 

 

 

Thirteen Weeks Ended

 

Thirty-nine Weeks Ended

 

 

 

November 3,
2007

 

October 28,
2006

 

November 3,
2007

 

October 28,
2006 (1)

 

Net sales

 

$

588,528

 

$

550,410

 

$

1,491,688

 

$

1,372,533

 

Cost of sales

 

361,853

 

308,262

 

943,764

 

826,108

 

 

 

 

 

 

 

 

 

 

 

Gross profit

 

226,675

 

242,148

 

547,924

 

546,425

 

Selling, general and administrative expenses

 

184,930

 

160,416

 

491,305

 

433,477

 

Asset impairment charges

 

947

 

417

 

1,582

 

417

 

Depreciation and amortization

 

20,552

 

16,327

 

56,856

 

46,392

 

 

 

 

 

 

 

 

 

 

 

Operating income (loss)

 

20,246

 

64,988

 

(1,819

)

66,139

 

Interest (expense) income, net

 

(774

)

670

 

1,110

 

2,343

 

 

 

 

 

 

 

 

 

 

 

Income (loss) before income taxes

 

19,472

 

65,658

 

(709

)

68,482

 

Provision for income taxes

 

7,169

 

24,130

 

365

 

25,753

 

Net income (loss)

 

$

12,303

 

$

41,528

 

$

(1,074

)

$

42,729

 

 

 

 

 

 

 

 

 

 

 

Basic net income (loss) per common share

 

$

0.42

 

$

1.43

 

$

(0.04

)

$

1.49

 

 

 

 

 

 

 

 

 

 

 

Basic weighted average common shares outstanding

 

29,084

 

29,074

 

29,084

 

28,739

 

 

 

 

 

 

 

 

 

 

 

Diluted net income (loss) per common share

 

$

0.42

 

$

1.38

 

$

(0.04

)

$

1.43

 

 

 

 

 

 

 

 

 

 

 

Diluted weighted average common shares and common share equivalents outstanding

 

29,359

 

30,061

 

29,084

 

29,840

 

 


(1)          The Condensed Consolidated Statement of Operations for the thirty-nine weeks ended October 28, 2006 includes information that was restated for the thirteen weeks ended April 29, 2006 in the Company’s Annual Report on Form 10-K for the fiscal year ended February 3, 2007.

 

See accompanying notes to these condensed consolidated financial statements

 

2



 

THE CHILDREN’S PLACE RETAIL STORES, INC. AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS

(Unaudited)

(In thousands)

 

 

 

Thirty-nine Weeks Ended

 

 

 

November 3,
2007

 

October 28,
2006 (1)

 

CASH FLOWS FROM OPERATING ACTIVITIES:

 

 

 

 

 

Net (loss) income

 

$

(1,074

)

$

42,729

 

Adjustments to reconcile net (loss) income to net cash (used in) provided by operating activities:

 

 

 

 

 

Depreciation and amortization

 

56,856

 

46,392

 

Deferred financing fee amortization

 

200

 

264

 

Amortization of lease buyouts

 

164

 

169

 

Loss on disposals of property and equipment

 

2,010

 

832

 

Asset impairment charges

 

1,582

 

417

 

Stock-based compensation expense

 

3,986

 

1,882

 

Stock-based compensation (benefit) expense related to liability awards

 

(676

)

1,316

 

Deferred royalty, net

 

(734

)

15,624

 

Deferred taxes

 

(8,725

)

(9,020

)

Deferred rent and lease incentives

 

(11,045

)

(9,475

)

Changes in operating assets and liabilities:

 

 

 

 

 

Accounts receivable

 

(8,725

)

(16,356

)

Inventories

 

(146,195

)

(86,205

)

Prepaid income taxes

 

(37,655

)

(6,262

)

Prepaid expenses and other current assets

 

(2,393

)

(2,587

)

Other assets

 

(248

)

(7

)

Accounts payable

 

83,670

 

38,173

 

Accrued expenses, interest and other current liabilities

 

9,064

 

26,664

 

Income taxes payable

 

1,570

 

(35,674

)

Deferred rent liabilities

 

19,580

 

26,569

 

Other liabilities

 

2,602

 

1,400

 

Total adjustments

 

(35,112

)

(5,884

)

Net cash (used in) provided by operating activities

 

(36,186

)

36,845

 

CASH FLOWS FROM INVESTING ACTIVITIES:

 

 

 

 

 

Property and equipment purchases, lease acquisition and software costs

 

(160,458

)

(101,472

)

Purchase of investments

 

(1,040,025

)

(854,877

)

Sale of investments

 

1,115,200

 

841,562

 

Other investing activities

 

 

(38

)

Net cash used in investing activities

 

(85,283

)

(114,825

)

CASH FLOWS FROM FINANCING ACTIVITIES:

 

 

 

 

 

Exercise of stock options and employee stock purchases

 

 

27,161

 

Excess tax benefit for stock option exercises

 

 

11,001

 

Borrowings under revolving credit facility

 

396,926

 

184,292

 

Repayments under revolving credit facility

 

(288,040

)

(184,292

)

Net cash provided by financing activities

 

108,886

 

38,162

 

Effect of exchange rate changes on cash

 

6,817

 

437

 

Net decrease in cash and cash equivalents

 

(5,766

)

(39,381

)

Cash and cash equivalents, beginning of period

 

116,991

 

173,323

 

Cash and cash equivalents, end of period

 

$

111,225

 

$

133,942

 

 

See accompanying notes to these condensed consolidated financial statements

 

3



 

 

 

Thirty-nine Weeks Ended

 

 

 

November 3,
2007

 

October 28,
2006 (1)

 

OTHER CASH FLOW INFORMATION:

 

 

 

 

 

Cash paid during the period for interest

 

$

2,520

 

$

521

 

Cash paid during the period for income taxes

 

$

40,237

 

$

67,386

 

Change in accrued purchases of property and equipment, lease acquisition and software costs

 

$

(1,122

)

$

3,838

 

Land received for distribution center

 

$

1,800

 

$

 

 


(1)          The Condensed Consolidated Statement of Cash Flows for the thirty-nine weeks ended October 28, 2006 includes information that was restated for the thirteen weeks ended April 29, 2006 in the Company’s Annual Report on Form 10-K for the fiscal year ended February 3, 2007.

 

See accompanying notes to these condensed consolidated financial statements

 

4



 

THE CHILDREN’S PLACE RETAIL STORES, INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

 

 

1.              BASIS OF PRESENTATION

 

The accompanying unaudited condensed consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States (“U.S. GAAP”) for interim financial information and the rules and regulations of the Securities and Exchange Commission (the “SEC”). Accordingly, certain information and footnote disclosures normally included in the annual consolidated financial statements prepared in accordance with U.S. GAAP have been condensed or omitted.

 

In the opinion of management, the accompanying unaudited condensed consolidated financial statements contain all adjustments (consisting only of normal recurring accruals) necessary to present fairly The Children’s Place Retail Stores, Inc.’s (the “Company”) consolidated financial position as of November 3, 2007 and October 28, 2006, the results of its consolidated operations for the thirteen and thirty-nine weeks ended November 3, 2007 and October 28, 2006, respectively, and its consolidated cash flows for the thirty-nine weeks ended November 3, 2007 and October 28, 2006. Due to the seasonal nature of the Company’s business, the results of operations for the thirteen and thirty-nine weeks ended November 3, 2007 and October 28, 2006 are not necessarily indicative of operating results for a full fiscal year. The condensed consolidated balance sheet as of February 3, 2007 has been taken from the audited consolidated financial statements as of that date. These condensed consolidated financial statements should be read in conjunction with the consolidated financial statements for the fiscal year ended February 3, 2007 included in the Company’s Annual Report on Form 10-K for the year ended February 3, 2007 filed with the SEC. The consolidated statement of operations for the thirty-nine weeks ended October 28, 2006 contains information for the thirteen weeks ended April 29, 2006 that was restated in the Company’s Form 10-K for the year ended February 3, 2007. References in this report to fiscal 2005, fiscal 2006 and fiscal 2007 are to the Company’s fiscal years ended January 28, 2006, February 3, 2007 and February 2, 2008, respectively.

 

2.              STOCK-BASED COMPENSATION

 

The Company maintains several equity compensation plans and has granted stock options under its 1996 Stock Option Plan (the “1996 Plan”), its 1997 Stock Option Plan (the “1997 Plan”) and its 2005 Equity Incentive Plan (the “2005 Equity Plan”). The 2005 Equity Plan enabled the Compensation Committee (the “Compensation Committee”) of the Company’s Board of Directors (the “Board”) to grant multiple forms of equity compensation such as stock options, stock appreciation rights, restricted stock awards, deferred stock awards and performance awards. In connection with the adoption of the 2005 Equity Plan, the Compensation Committee agreed not to issue any additional stock options under the 1996 Plan or the 1997 Plan and to limit the aggregate grant of awards under the 2005 Plan during fiscal years 2005, 2006 and 2007 to less than 2.5% of the aggregate number of shares of the Company’s common stock outstanding on the last day of the 2005, 2006, and 2007 fiscal years, respectively. The Company also has an Employee Stock Purchase Plan (the “ESPP”), in which participants purchase stock at 95% of fair market value, which is deemed to be non-compensatory.

 

The Company accounts for its equity compensation utilizing the guidance provided in Statement of Financial Accounting Standards (“SFAS”) No. 123 (Revised 2004) (“SFAS 123(R)”), “Accounting for Share-Based Payments.” The Company uses the Black-Scholes option model, which requires extensive use of accounting judgment and financial estimates, including estimates of how long an associate will hold vested stock options before exercise, the estimated volatility of the Company’s common stock over the expected term, and the number of options that will be forfeited prior to the completion of vesting requirements. Application of other assumptions could result in significantly different estimates of fair value of stock-based compensation and consequently, the related expense recognized in the Company’s financial statements. The Company has applied the provisions of SFAS 123(R) to stock option grants made on or after January 29, 2006 and stock options outstanding, but not yet vested, as of January 29, 2006. Prior to the adoption of SFAS 123(R), the Company accounted for its equity compensation expense under the provisions of Accounting Principles Board Opinion No. 25, “Accounting for Stock Issued to Employees.”

 

5



 

The following tables summarize the Company’s equity compensation expense recorded in cost of sales and selling, general and administrative expenses (“SG&A”) for the thirteen and thirty-nine weeks ended November 3, 2007 and October 28, 2006 (in thousands):

 

 

 

Thirteen Weeks Ended November 3, 2007

 

 

 

Cost of Sales

 

SG&A

 

Total

 

Stock option expense

 

$

 

$

283

 

$

283

 

Performance Award expense (1)

 

 

 

 

Stock-based compensation expense related to the issuance of liability awards (2)

 

 

(34

)

(34

)

Expense related to modification of previously issued stock options (i.e. tolling) (3)

 

 

341

 

341

 

Tolled stock options accounted for as liability awards and related fair market value adjustment (3)

 

(35

)

(39

)

(74

)

Total stock-based compensation expense

 

$

(35

)

$

551

 

$

516

 

 

 

 

Thirty-nine Weeks Ended November 3, 2007

 

 

 

Cost of Sales

 

SG&A

 

Total

 

Stock option expense

 

$

 

$

895

 

$

895

 

Performance Award expense (1)

 

 

 

 

Stock-based compensation expense related to the issuance of liability awards (2)

 

 

113

 

113

 

Expense related to modification of previously issued stock options (i.e. tolling) (3)

 

684

 

2,407

 

3,091

 

Tolled stock options accounted for as liability awards and related fair market value adjustment (3)

 

(543

)

(246

)

(789

)

Total stock-based compensation expense

 

$

141

 

$

3,169

 

$

3,310

 

 

 

 

Thirteen Weeks Ended October 28, 2006

 

 

 

Cost of Sales

 

SG&A

 

Total

 

Stock option expense

 

$

 

$

360

 

$

360

 

Performance Award expense (1)

 

 

 

 

Stock-based compensation expense related to the issuance of liability awards (2)

 

 

51

 

51

 

Expense related to modification of previously issued stock options (i.e. tolling) (3)

 

 

293

 

293

 

Tolled stock options accounted for as liability awards and related fair market value adjustment (3)

 

890

 

375

 

1,265

 

Total stock-based compensation expense

 

$

890

 

$

1,079

 

$

1,969

 

 

 

 

Thirty-nine Weeks Ended October 28, 2006(4)

 

 

 

Cost of Sales

 

SG&A

 

Total

 

Stock option expense

 

$

 

$

1,589

 

$

1,589

 

Performance Award expense (1)

 

 

 

 

Stock-based compensation expense related to the issuance of liability awards (2)

 

 

51

 

51

 

Expense related to modification of previously issued stock options (i.e. tolling) (3)

 

 

293

 

293

 

Tolled stock options accounted for as liability awards and related fair market value adjustment (3)

 

890

 

375

 

1,265

 

Total stock based compensation expense

 

$

890

 

$

2,308

 

$

3,198

 

 


(1)          The Company determined that it is not probable that the Minimum Performance Target will be met. Accordingly, the Company has not recognized compensation expense related to Performance Awards (as defined below).

 

(2)          Compensation expense for awards of restricted stock and stock options promised for which the Company has not completed the granting process due to the suspension of equity award grants. When the Company lifts the suspension of equity award grants, these awards will be reclassified as equity awards.

 

6



 

(3)          Terminated employees have 90 days from date of termination to exercise their vested options. Due to the suspension of stock option exercises on September 14, 2006, the Company modified options held by terminated employees to extend their expiration dates until after the date the suspension is lifted (i.e., tolled stock options). After the suspension is lifted, terminated employees will have the same number of days to exercise their options as if the suspension had not occurred. Options that were tolled for employees terminated prior to September 14, 2006 are accounted for as liability awards because the option holders were no longer employees at the time of the modification and because of the Company’s inability to provide shares upon exercise. When the Company lifts the suspension of stock option exercises, these awards will be reclassified as equity awards. Options that were tolled for employees terminated after September 14, 2006 are accounted for as equity awards because their options were tolled in conjunction with their termination.

 

(4)          The Condensed Consolidated Statement of Operations for the thirty-nine weeks ended October 28, 2006 includes information that was restated for the thirteen weeks ended April 29, 2006 in the Company’s Annual Report on Form 10-K for the fiscal year ended February 3, 2007.

 

The Company recognized a tax benefit related to its stock-based compensation expense of approximately $0.2 million and $1.3 million for the thirteen and thirty-nine weeks ended November 3, 2007, respectively and approximately $0.8 million and $1.3 million related to equity compensation expense for the thirteen and thirty-nine weeks ended October 28, 2006, respectively.

 

Stock Option Plans

 

The fair value of issued stock options has been estimated on the date of grant using the Black-Scholes option pricing model, incorporating the following assumptions(1):

 

 

 

October 28, 2006

 

Dividend yield

 

0

%

 

Volatility factor(2)

 

41.4

%

 

Weighted average risk-free interest rate(3)

 

4.35

%

 

Expected life of options(4)

 

4.8

 years

 

Weighted average fair value on grant date

 

$

19.37

 per share

 

 


(1)          Due to the Company’s suspension of equity awards, no options were granted in the thirteen weeks ended November 3, 2007.

 

(2)          Expected volatility is based on a 50:50 blend of the historical and implied volatility with a two-year look back on the date of each grant.

 

(3)          The risk-free interest rate is based on the risk-free rate corresponding to the grant date and expected term.

 

(4)          The expected life used in the Black-Scholes calculation is based on a Monte Carlo simulation incorporating a forward-looking stock price model and a historical model of employee exercise and post-vest forfeiture behavior.

 

Changes in the Company’s stock options for the thirty-nine weeks ended November 3, 2007 were as follows:

 

 

 

Number of
Options

 

Weighted
Average
Exercise Price

 

Weighted
Average Remaining
Contractual Life

 

Aggregate
Intrinsic
Value

 

 

 

(in thousands)

 

 

 

(in years)

 

(in thousands)

 

Options outstanding, beginning of fiscal year

 

2,322

 

$

30.36

 

 

 

 

 

Granted (1)

 

 

 

 

 

 

 

 

Exercised (1)

 

 

 

 

 

 

 

 

Forfeited

 

 

 

 

 

 

 

 

Options outstanding, end of quarter

 

2,322

 

$

30.36

 

5.14

 

$

 

Options exercisable, end of quarter

 

2,183

 

$

30.29

 

5.04

 

$

2,211

 

 


(1)    Due to the Company’s suspension of equity awards, no options were granted or exercised in the thirty-nine weeks ended November 3, 2007.

 

7



 

Changes in the Company’s unvested stock options for the thirty-nine weeks ended November 3, 2007 were as follows:

 

 

 

Number
of
Options

 

Weighted Average
Grant Date
Fair Value

 

 

 

(in thousands)

 

 

 

Unvested options, beginning of fiscal year

 

150

 

$

15.73

 

Granted

 

 

 

Vested

 

(11

)

13.38

 

Forfeited

 

 

 

Unvested options, end of quarter

 

139

 

$

15.92

 

 

Total unrecognized equity compensation expense related to unvested stock options approximated $1.2 million as of November 3, 2007, which will be recognized over a weighted average period of approximately 1.2 years.

 

Performance Awards

 

During fiscal 2006, the Company began awarding to key members of management selected by the Compensation Committee (the “Participants”) performance awards (“Performance Awards”). Performance Awards are shares of the Company’s common stock (“Performance Shares”) to be issued to Participants if, among other conditions, the Company achieves a minimum earnings per share level in fiscal 2007 (the “Threshold Target”) and a minimum cumulative earnings per share level for fiscal 2005, 2006 and 2007 (together with the Threshold Target, the “Minimum Performance Target”). At the time the Performance Awards were granted, the fiscal 2005 earnings per share component of the Company’s three year cumulative target was known.

 

Based on the Company’s estimate of the level of performance targets for which attainment is probable, Performance Awards are expensed on a straight line basis as follows:

 

·                  The first 50% of the awards are expensed over a two year vesting period from fiscal 2006 to fiscal 2007 and are earned based on the Company meeting the Minimum Performance Target; and

 

·                  The remaining 50% of the awards are expensed over a three year vesting period from fiscal 2006 through fiscal 2008 based on the Participant’s continued service to the Company through that period.

 

The shares automatically vest on a pro-rata basis if there is a change in control (as defined in the 2005 Equity Plan) of the Company prior to the end of fiscal 2007. The Company determined that it is not probable that the Minimum Performance Target will be met. Accordingly, the Company has not recognized compensation expense related to the Performance Awards. The remaining unvested shares will be automatically canceled at the end of fiscal 2007, assuming the Minimum Performance Target is not met or there is not a change in control of the Company.

 

Changes in the Company’s unvested Performance Awards for the thirteen and thirty-nine weeks ended November 3, 2007 were as follows:

 

 

 

Thirteen Weeks Ended November 3, 2007

 

Thirty-nine Weeks Ended November 3, 2007

 

 

 

Number of
Performance
Awards

 

Weighted Average
Grant Date
Fair Value

 

Number of
Performance
Awards

 

Weighted Average
Grant Date
Fair Value

 

 

 

(in thousands)

 

 

 

(in thousands)

 

 

 

Unvested Performance Awards, Beginning of period

 

525

 

$

46.30

 

544

 

$

46.70

 

Granted

 

 

 

 

 

Vested

 

 

 

 

 

Forfeited (1)

 

(57

)

44.12

 

(76

)

44.90

 

Unvested Performance Awards, end of period

 

468

 

$

46.57

 

468

 

$

46.57

 

 


(1)          Includes the forfeiture of 6,180 shares for a terminated Participant and subsequently modified by the Compensation Committee as part of the Participant’s severance agreement and the forfeiture of 57,429 shares for our former CEO.

 

8



 

3.              LICENSE AGREEMENT WITH DISNEY

 

The Company acquired in November 2004, through two wholly-owned subsidiaries, certain assets used to operate the Disney Store retail chain in North America (the “Disney Store business”) from affiliates of The Walt Disney Company (“Disney”). As a result of the acquisition, these subsidiaries acquired 313 Disney Stores, consisting of all existing Disney Stores in the United States and Canada, other than “flagship” stores and stores located at Disney theme parks and other Disney properties, along with certain other assets used in the Disney Store business. In addition, the lease obligations for all 313 stores and other legal obligations became obligations of the Company’s subsidiaries. Subsequently, the Company’s subsidiaries acquired two Disney Store flagship stores, one in Chicago, Illinois and the other in San Francisco, California as well as certain Disney Store outlet stores. The Company’s subsidiaries that operate the Disney Store business are referred to herein interchangeably and collectively as “Hoop.”

 

Concurrently, the Company entered into a License and Conduct of Business Agreement with Disney (the “License Agreement”) and a Guaranty and Commitment (the “Guaranty and Commitment”). Under the License Agreement, Hoop has the right to use certain Disney intellectual property, subject to Disney approval, in the Disney Store business in exchange for ongoing royalty payments. Pursuant to the terms of the License Agreement, Hoop operates retail stores in North America using the “Disney Store” name and contracts to manufacture, source, offer, and sell merchandise featuring Disney-branded characters, past, present and future. The initial term of the License Agreement is 15 years and, if certain financial performance and other conditions are satisfied, the License Agreement may be extended at the Company’s option for up to three additional ten-year terms.

 

Royalty Payments

 

Under the License Agreement, Hoop began making royalty payments to Disney in November 2006 equal to 5% of net sales at physical Disney Store retail locations, subject to a royalty abatement with respect to a limited number of stores (the “Non-Core Stores”).

 

Beginning in fiscal 2007, under the License Agreement, the royalty payments also became subject to minimum royalties. The minimum royalty payment is computed as the greater of:

 

·                  60% of the royalty that would have been payable under the terms of the License Agreement for acquired stores in the base year, which was the year ended October 2, 2004, as if the License Agreement had been in effect in that year, increased at the rate of the Consumer Price Index, or

 

·      80% of the average of the royalty amount payable in the previous two years.

 

The Company made royalty payments under the License Agreement of $6.8 million and $18.2 million during the thirteen and thirty-nine weeks ended November 3, 2007, respectively. The License Agreement granted the Company a two-year royalty holiday from the November 2004 acquisition. Due to this royalty holiday, there were no royalty amounts due or paid under the License Agreement during the thirteen and thirty-nine weeks ended October 28, 2006. During the thirteen and thirty-nine weeks ended November 3, 2007, the Company recorded $6.9 million and $17.5 million for royalty expense, as compared to $6.4 million and $15.6 million during the thirteen and thirty-nine weeks ended October 28, 2006. The Company had an accrued liability on its balance sheet of $43.4 million, $45.9 million and $42.8 million as of November 3, 2007, February 3, 2007 and October 28, 2006, respectively.

 

Liquidity Restrictions

 

The License Agreement limits Hoop’s ability to make cash dividends or other distributions. Hoop’s independent directors must approve payment of any dividends or other distributions, other than payments of:

 

·      Amounts due under the terms of the tax sharing and intercompany services agreements;

 

·                  Approximately $61.9 million which represents a portion of the purchase price paid by the Company to Disney (limited to cumulative cash flows, as defined, since the date of the acquisition); and

 

·                  Certain other dividend payments, subject to satisfaction of additional operating conditions, and limited to 50% of cumulative cash flows up to $90 million, and 90% of cumulative cash flows thereafter (provided that at least $90 million of cash and cash equivalents is maintained at Hoop).

 

In the normal course of business, Hoop has reimbursed the Company for intercompany services but has not paid any dividends or made other distributions. Under the License Agreement, Hoop cannot incur indebtedness or guarantee indebtedness without written approval from TDS Franchising LLC (“TDSF”), an affiliate of The Walt Disney Company, except in permitted circumstances as outlined by the License Agreement. The License Agreement provides that trade letters of credit to fund inventory purchases are permitted without limitation; borrowings under all

 

9



 

term and revolving loans are limited to $35.0 million, with a maximum of $7.5 million for term loan borrowings; and the aggregate amount outstanding under all term and revolving loans must be reduced to $10.0 million or less at least once annually.

 

Business Review and Approvals

 

The License Agreement includes provisions regarding the manner in which Hoop will operate the Disney Store business and requires that approvals be obtained from a Disney affiliate for certain matters, including all uses of the intellectual property of Disney and its affiliates and the opening or closing of Disney Stores beyond certain parameters set forth in the License Agreement.

 

The License Agreement also entitles Disney to designate a representative to attend meetings of the Board as an observer. Upon the occurrence of certain specified events, including an uncured royalty breach and other repeated material breaches by Hoop of the terms of the License Agreement, certain material breaches by the Company of the terms of the Guaranty and Commitment, and certain changes in ownership or control of the Company or Hoop, Disney will have the right to terminate the License Agreement, in which event Disney may require the Company to sell the Disney Store business to Disney or one of its affiliates or to a third party at a price to be determined by appraisal or, in the absence of such sale, to wind down the Disney Store business in an orderly manner.

 

Internet Commerce Operations

 

Beginning in July 2007, the Company’s subsidiaries commenced Internet commerce operations through an alliance with a Disney affiliate in which certain Disney Store merchandise is sold on the disneyshopping.com website. Disney Store merchandise is accessible through either www.disneystore.com or www.disneyshopping.com. The Company anticipates entering into a formal amendment to the License Agreement relating to this Internet business. It is anticipated that this amendment to the License Agreement will supersede the Company’s obligation to launch its own Disney Store Internet store, which pursuant to the License Agreement, as modified by certain letter agreements, the Company is required to launch by January 31, 2008. For the use of the Disney Internet commerce website, the Company pays a Disney affiliate a commission based on a percentage of e-commerce sales, a portion of which is allocated to cost of sales and a portion to SG&A.

 

June Letter Agreement and Refurbishment Amendment

 

The Company, Hoop and TDSF entered into a letter agreement on June 7, 2007 (dated as of June 6, 2007) (the “June Letter Agreement”), addressing issues that had been raised by TDSF, as previously disclosed by the Company, relating to the compliance by Hoop with certain provisions of the Disney License Agreement. The June Letter Agreement set forth TDSF’s position that Hoop had committed 120 uncured material breaches of the License Agreement, primarily relating to Hoop’s obligations with respect to store remodeling and store maintenance. The June Letter Agreement, among other things, suspended the remodel obligations in the License Agreement for the approximately 4.5 year term of the June Letter Agreement and, in lieu of those provisions, imposed new obligations on the Company with respect to the renovation and maintenance of numerous stores in the Disney Store chain between fiscal 2007 and fiscal 2011 and, for the stores to be remodeled in fiscal 2007, set forth a detailed timetable for submission of plans and completion dates.

 

Subsequent to the execution of the June Letter Agreement, the Company was unable to meet several of the deadlines set forth in the June Letter Agreement. In addition, the Company determined that there were upcoming deadlines during the third and fourth quarters of fiscal 2007 specified in the June Letter Agreement that the Company would likely not meet. Accordingly, the Company and Disney engaged in further discussions during August 2007 and, based on these discussions, agreed upon changes to the requirements of the June Letter Agreement that would postpone the due dates of certain remodel obligations until later in fiscal 2007 or fiscal 2008. In connection with these postponements, the Company agreed to remodel two additional Disney Stores during fiscal 2009 and agreed upon changes to the original License Agreement to modify restrictions on Disney’s ability to relocate its flagship retail store in Manhattan and to narrow the restrictions on Disney’s ability to grant direct licenses to other specialty retailers so that these restrictions would apply only with respect to specialty retail stores focusing primarily on the sale of children’s merchandise.

 

During August 2007, the Company and Disney amended the License Agreement by executing the Refurbishment Amendment, which incorporated the terms of the June Letter Agreement, as modified by mutual agreement during August, and the aforementioned changes to the License Agreement. By its terms, the Refurbishment Amendment superseded the June Letter Agreement and took effect retroactively as of June 6, 2007, the original effective date of the June Letter Agreement. Like the June Letter Agreement, the Refurbishment Amendment states that, if the Company fully complies with its terms, Disney will forbear from exercising any rights or remedies it would have under the License Agreement based on the breaches of the License Agreement that were asserted by Disney and were

 

10



 

the subject of the Refurbishment Amendment. However, if the Company violates any of its provisions, the Refurbishment Amendment states that Disney may terminate its forbearance under the Refurbishment Amendment, in which case Disney could exercise any or all of its rights and remedies under the License Agreement, including possibly terminating the Company’s license to operate the Disney Stores based on the occurrence of numerous material breaches and asserted breach fees, as if the Refurbishment Amendment had not been executed. The Refurbishment Amendment also states that, if the Company breaches any of the provisions of the Refurbishment Amendment on three or more occasions and Disney has not previously terminated the Refurbishment Amendment, a payment of $18.0 million to Disney becomes immediately due and payable with respect to the breach fees called for by the License Agreement. If the Company violates any of the provisions of the Refurbishment Amendment on five or more occasions, the Refurbishment Amendment provides that Disney will have the right to immediately terminate the License Agreement, without any right by the Company to defend, counterclaim, protest or cure. The Refurbishment Amendment addresses only those breaches specifically enumerated therein. Disney continues to retain all its other rights and remedies under the License Agreement with respect to any other breaches.

 

The Company has determined that it may not complete the remodel of one of the seven stores it is required to remodel by December 31, 2007 pursuant to the Refurbishment Amendment. At this time, the Company is not aware of any other instance where it may not meet any other required deadline in the Refurbishment Amendment.

 

The Refurbishment Amendment sets forth specific requirements regarding the Disney Stores to be remodeled and otherwise refreshed over the period the Refurbishment Amendment is in effect and obligates the parent company, The Children’s Place Retail Stores, Inc., among other things, to commit $175 million to remodel and refresh these stores through fiscal 2011. While the original provisions of the License Agreement obligated Hoop to remodel Disney Stores under certain circumstances and at certain times, the original License Agreement did not establish a specific dollar commitment for this obligation. Although the original License Agreement generally required Hoop to maintain the physical appearance of the Disney Stores in accordance with the highest standards prevailing in specialty retailing, the “maintenance and refresh” program under the Refurbishment Amendment imposes specific requirements for timing, numbers of stores and the type of work to be performed. This “maintenance and refresh” program was considered necessary to upgrade the quality of the Disney Stores to the standard required under the License Agreement and is incremental to the original License Agreement. The “maintenance and refresh” program is expected to cost approximately $16 million over the 12 month period. Some of the stores required to be refreshed under this program will also be remodeled at a later date in accordance with the Refurbishment Amendment. The Refurbishment Amendment commits the Company to a capital commitment of $175 million to remodel, refresh and maintain the Disney Stores and to open 18 new stores by January 31, 2009, which are expected to cost approximately $11.7 million. The Company expects to fund these amounts through cash flow from operations of the Disney Store business, borrowings and availability under the Company’s credit facilities and capital contributions from The Children’s Place business to the Disney Store business.

 

The following reflects additional information regarding the Refurbishment Amendment and certain additional obligations on the part of the Company and Hoop:

 

1.               Hoop developed a new store prototype for Disney Store and for Disney Store outlets and obtained TDSF’s approval of these new store prototypes. The Refurbishment Amendment requires Hoop to convert seven existing Disney Stores identified in the Refurbishment Amendment to the new store prototype by December 31, 2007, based upon a detailed timeline for each of these stores. In addition, under the Refurbishment Amendment, by the end of fiscal 2008, Hoop is required to convert at least 49 additional existing Disney Stores identified in the Refurbishment Amendment to the new store prototype and to open at least 18 new Disney Stores using the new prototype. Hoop is required to convert to the new prototype at least 60 additional existing stores by the end of fiscal 2009, at least 70 additional existing stores by the end of fiscal 2010, and at least 50 additional existing stores by the end of fiscal 2011. In addition to the 18 new stores to be opened by January 31, 2009 using the new store prototype, Hoop has the right to open up to a specified number of additional new stores using the new store prototype during each fiscal year.

 

2.               Hoop conducted a review of all existing Disney Stores bearing the “Mickey” store design (excluding those “Mickey” stores that are to be converted to the new store prototype), as well as all existing Disney Stores bearing the “Castle” design that were constructed after November 2004, and delivered to TDSF a written report on this review, along with an enhanced maintenance and remodel plan for these stores and a detailed timeline for implementation of this plan. Hoop is required to implement this plan at a minimum of five existing stores by December 31, 2007, at a minimum of 14 additional stores by March 31, 2008, and at all remaining stores bearing these store designs by June 30, 2008.

 

3.               Similarly, Hoop conducted a review of all existing Disney Stores bearing the “pink and green” store design, as well as all existing Disney Stores bearing the “Castle” design that were constructed prior to November 

 

11



 

2004, and delivered to TDSF an enhanced maintenance and remodel plan for these stores and a detailed timeline for implementation of this plan. Hoop is required to implement this plan at one-half of these store locations by March 31, 2008 and at the remaining stores bearing these store designs by June 30, 2008.

 

4.               Hoop also agreed to prepare a refresh and enhancement plan for the Disney Store flagship location on Michigan Avenue in Chicago and to expend at least $200,000 on this store by October 31, 2007. The refresh and enhancement of this store was completed on September 12, 2007.

 

5.               As required by both the June Letter Agreement and the Refurbishment Amendment, the Company’s Board of Directors approved the Refurbishment Amendment and committed $175 million over the period between June 6, 2007 and January 31, 2012 to implement the renovation and maintenance plans called for by the Refurbishment Amendment. The following table summarizes the Company’s remodel and maintenance refresh obligations under the terms of the Refurbishment Amendment (amounts in thousands):

 

 

 

Store Remodel

 

Mickey Retrofit

 

Maintenance Refresh

 

 

 

Total

 

 

 

 

 

Estimated

 

 

 

Estimated

 

 

 

Estimated

 

 

 

Estimated

 

Fiscal Year

 

Stores (#)

 

Cost ($)

 

Stores (#)

 

Cost ($)

 

Stores (#)

 

Cost ($)

 

Contingency ($)

 

Cost ($)

 

2007

 

7

 

$

4,250

 

7

 

$

1,050

 

6

 

$

950

 

$

1,245

 

$

7,495

 

2008

 

49

 

31,650

 

28

 

4,200

 

129

 

9,675

 

1,245

 

46,770

 

2009

 

60

 

39,000

 

 

 

 

 

1,245

 

40,245

 

2010

 

70

 

45,500

 

 

 

 

 

1,245

 

46,745

 

2011

 

50

 

32,500

 

 

 

 

 

1,245

 

33,745

 

2007 - 2011

 

236

 

$

152,900

 

35

 

$

5,250

 

135

 

$

10,625

 

$

6,225

 

$

175,000

 

 

6.              The Refurbishment Amendment states that the maintenance and store renovation requirements of the Refurbishment Amendment supersede the store renovation provisions in Section 9.3.5(b)(i) and (ii) of the original License Agreement through January 31, 2012, so long as the Refurbishment Amendment remains in effect and is not terminated by TDSF in accordance with its terms. Following January 31, 2012 (or a termination of the Refurbishment Amendment), the store renovation provisions in Section 9.3.5(b)(i) and (ii) of the original License Agreement will become effective again.

 

7.              Hoop also agreed in the Refurbishment Amendment that, with respect to those Disney Stores that were identified as “Non-Core Stores” for purposes of the original License Agreement, for which Hoop was entitled to an extended royalty abatement under the License Agreement, to the extent that the lease for any such store was or is renewed but the store is not remodeled within a specified time period after such lease renewal, Hoop will no longer be entitled to the royalty abatement for these stores.

 

8.              The parties also agreed in the Refurbishment Amendment to amend the License Agreement in order to reduce certain of the restrictions on TDSF’s ability to grant direct merchandising licenses to other specialty retail store chains.

 

9.              Hoop agreed to conduct consumer research regarding the need for a differentiated merchandising plan for Disney Store outlets and, if requested by TDSF based on such research and mutually agreed upon, to develop and implement such a plan during fiscal 2008.

 

10.        Finally, TDSF and Hoop agreed to certain modifications of the provisions of the License Agreement establishing standards for Disney Store merchandise based upon Disney merchandise available through other retailers and to modify the provisions that would apply to a potential wind-down of the Disney Store business following any termination of the License Agreement.

 

The table above reflects the requirements of the Refurbishment Amendment, under which the Company must complete a maintenance and refresh in approximately 170 Disney Stores (which includes the Mickey retrofits) by June 30, 2008 and then remodel certain of those stores at a later date. However, in the event the Company were to remodel or close any such store prior to when it is due for a maintenance refresh, the Company would no longer be obligated to refresh that store. Accordingly, the Company anticipates that not all of the 170 stores reflected in the table will need to be refreshed, and at the time the Refurbishment Amendment was executed, the Company estimated that 165 stores would be refreshed. As of November 3, 2007, the Company estimates it will refresh approximately 143 stores under this program.

 

As mentioned above, in addition to the remodel and maintenance costs shown in the above table, the Refurbishment Amendment obligates the Company to open a total of 18 new Disney Stores by January 31, 2009, which the Company estimates will cost approximately $11.7 million in capital expenses.

 

12



 

The following table represents the Company’s store opening, remodeling and maintenance commitments for the Disney Store business for the remainder of the initial term of the License Agreement taking into account the requirements of the Refurbishment Amendment that apply through fiscal 2011:

 

 

 

Payments Due By Period

(dollars in thousands)

 

Total

 

Fiscal 2007

 

Fiscal 2008
and fiscal
2009

 

Fiscal 2010
and fiscal
2011

 

After fiscal
2011

 

Disney Store new store capital expenditure, remodeling and maintenance and refresh obligations

 

$

341,296

 

$

17,245

 

$

88,965

 

$

80,490

 

$

154,596

 

 

4.              NET INCOME (LOSS) PER COMMON SHARE

 

In accordance with SFAS No. 128, “Earnings Per Share,” the following table reconciles net income (loss) and share amounts utilized to calculate basic and diluted net loss per common share (in thousands):

 

 

 

Thirteen Weeks Ended

 

Thirty-nine Weeks Ended

 

 

 

November 3,
2007

 

October 28,
2006

 

November 3,
2007

 

October 28,
2006(1)

 

Net income (loss)

 

$

12,303

 

$

41,528

 

$

(1,074

)

$

42,729

 

 

 

 

 

 

 

 

 

 

 

Basic shares

 

29,084

 

29,074

 

29,084

 

28,739

 

Dilutive effect of stock options

 

275

 

987

 

 

1,101

 

Dilutive shares

 

29,359

 

30,061

 

29,084

 

29,840

 

 

 

 

 

 

 

 

 

 

 

Anti-dilutive options

 

1,550

 

28

 

1,237

 

23

 

 


(1)         The Condensed Consolidated Statement of Operations for the thirty-nine weeks ended October 28, 2006 includes information that was restated for the thirteen weeks ended April 29, 2006 in the Company’s Form 10-K for the fiscal year ended February 3, 2007.

 

5.       COMPREHENSIVE INCOME (LOSS)

 

The following table presents the Company’s comprehensive income (loss) (in thousands):

 

 

 

Thirteen Weeks Ended

 

Thirty-nine Weeks Ended

 

 

 

November 3,
2007

 

October 28,
2006

 

November 3,
2007

 

October 28,
2006(1)

 

Net income (loss)

 

$

12,303

 

$

41,528

 

$

(1,074

)

$

42,729

 

Translation adjustments

 

9,276

 

564

 

15,945

 

1,059

 

Comprehensive income

 

$

21,579

 

$

42,092

 

$

14,871

 

$

43,788

 

 


(1)         The Condensed Consolidated Statement of Operations for the thirty-nine weeks ended October 28, 2006 includes information that was restated for the thirteen weeks ended April 29, 2006 in the Company’s Form 10-K for the fiscal year ended February 3, 2007.

 

13



 

6.     PROPERTY AND EQUIPMENT

 

Property and equipment consist of the following (in thousands):

 

 

 

November 3,
2007

 

February 3,
2007

 

October 28,
2006

 

Property and equipment:

 

 

 

 

 

 

 

Land and land improvements

 

$

3,403

 

$

 

$

 

Building and improvements

 

29,607

 

 

 

Material handling equipment

 

32,043

 

 

 

Leasehold improvements

 

378,176

 

321,019

 

313,465

 

Store fixtures and equipment

 

268,421

 

229,880

 

219,512

 

Capitalized software

 

48,900

 

43,116

 

42,662

 

Construction in progress

 

60,231

 

58,529

 

30,667

 

 

 

820,781

 

652,544

 

606,306

 

Less accumulated depreciation and amortization

 

(370,911

)

(310,805

)

(294,881

)

Property and equipment, net

 

$

449,870

 

$

341,739

 

$

311,425

 

 

In conjunction with the Company’s renovation of certain “Mickey” stores, the Company reduced the estimated useful lives of certain store assets.  Accordingly, the Company has recognized approximately $0.9 million and approximately $2.7 million in accelerated depreciation in the thirteen weeks and thirty-nine weeks ended November 3, 2007.

 

7.              INVESTMENTS

 

Investments are classified in accordance with the provisions of SFAS No. 115, “Accounting for Certain Investments in Debt and Equity Securities.” The Company’s short-term investments are principally composed of Variable Rate Demand Notes (“VRDN”). The Company had short-term investment balances of $0.0 million, $75.2 million and $13.3 million as of November 3, 2007, February 3, 2007 and October 28, 2006, respectively. VRDN are classified as available-for-sale and are stated at fair value. Interest rates reset periodically and the investments typically are settled within 35 days. As a result, there are no cumulative gross unrealized holding gains or losses related to these securities. All income from these investments is recorded as interest income.

 

8.              CREDIT FACILITIES

 

In accordance with certain terms of the License Agreement and the Company’s credit facilities, The Company segregates its credit facility borrowings and letter of credit activity for The Children’s Place and the Disney Store businesses. In June 2007, the Company amended its credit facilities for both businesses for the purpose of better supporting the seasonality of the Company’s capital needs and reducing the fees associated with credit facility borrowings.

 

2007 Amended Loan Agreement; Letter of Credit Agreement

 

In June 2007, the Company entered into a Fifth Amended and Restated Loan and Security Agreement (the “2007 Amended Loan Agreement”) and a new letter of credit agreement (the “Letter of Credit Agreement”) with Wells Fargo Retail Finance, LLC (“Wells Fargo”) as senior lender and administrative and syndicated agent, and the Company’s other senior lenders to support The Children’s Place business. Prior to the 2007 Amended Loan Agreement, the Company borrowed under a 2004 Amended Loan Agreement, which contained covenants substantially similar to the 2007 Amended Loan Agreement, except the 2004 Amended Loan Agreement: (i) permitted borrowings up to $130 million (including a sublimit for letters of credit of $100 million), (ii) provided for amounts outstanding to bear interest at a floating rate equal to the prime rate or, at the Company’s option, a LIBOR rate plus a pre-determined margin of 1.50% to 3.00%, and (iii) contained an unused line fee of 0.38%.

 

The 2007 Amended Loan Agreement provides a facility maximum of $100 million for borrowings and letters of credit, with a $30 million “accordion” feature that enables the Company, at its option, to increase the facility to an aggregate amount of $130 million. There is also a seasonal over-advance feature that enables the Company to borrow up to an additional $20 million from July 1 through October 31, subject to satisfying certain conditions, including a condition relating to earnings before interest, taxes, depreciation and amortization (“EBITDA”) on a trailing 12 month basis based upon the most recent financial statements furnished to Wells Fargo and the Company’s estimate of projected pro forma EBITDA for the over-advance period. On November 2, 2007, the Company entered into an amendment of the 2007 Amended Loan Agreement (the “First Amendment”), extending the period of the over-

 

14



 

advance feature of the credit facility until November 30 for fiscal 2007. The Company paid a fee of $30,000 in connection with this amendment. The term of the facility ends on November 1, 2010. If the Company terminates the 2007 Amended Loan Agreement during the first year, there is a termination fee of 0.5% of the $100 million facility maximum ($130 million if the facility maximum has been increased via the accordion feature) plus any seasonal over-advance amounts in effect. The LIBOR margin is 1.00% to 1.50%, depending on the Company’s average excess availability, and the unused line fee is 0.25%.

 

Credit extended under the 2007 Amended Loan Agreement is secured by a first priority security interest in substantially all of the Company’s assets, other than assets in Canada and Puerto Rico and assets owned by Hoop. The amount that can be borrowed under the 2007 Amended Loan Agreement depends on levels of inventory and accounts receivable relating to The Children’s Place business. The 2007 Amended Loan Agreement contains covenants, which include limitations on annual capital expenditures, maintenance of certain levels of excess collateral, and a prohibition on the payment of dividends. The 2007 Amended Loan Agreement also contains covenants permitting the Company to invest without restriction in Hoop up to $20 million, $55 million, $36 million and $52 million in fiscal years 2007, 2008, 2009 and 2010, respectively, and together with the amounts the Company may be required to invest in Hoop pursuant to the Guaranty and Commitment, not to exceed a maximum aggregate of $175 million over the term of the credit facility.

 

Under the Letter of Credit Agreement, the Company can issue letters of credit for inventory purposes for up to $60 million to support The Children’s Place business. The Letter of Credit Agreement can be terminated at any time by either the Company or Wells Fargo. Interest is paid at the rate of 0.75% on the aggregate undrawn amount of all letters of credit outstanding. The Company’s obligations under the Letter of Credit Agreement are secured by a security interest in substantially all of the assets of The Children’s Place business, other than assets in Canada and Puerto Rico, and assets of Hoop. Upon any termination of the Letter of Credit Agreement, the Company would be required to fully collateralize all outstanding letters of credit issued thereunder and, if the Company failed to do so, its outstanding liability under the letter of credit agreement would reduce its borrowing capacity under the 2007 Amended Loan Agreement.

 

As of November 3, 2007, the Company has activated its accordion feature, and had access to its seasonal over-advance feature, both of which expanded its line of credit to $150 million, through November 30, 2007. The following table presents the components (in millions) of the Company’s credit facilities for its Children’s Place business as of November 3, 2007, February 3, 2007 and October 28, 2006:

 

 

 

November 3,
2007 (1)

 

February 3,
2007 (2)

 

October 28,
2006 (2)

 

2007 Amended Loan Agreement

 

 

 

 

 

 

 

Outstanding borrowings

 

$

96.0

 

$

 

$

 

Letters of credit outstanding – merchandise

 

 

40.8

 

40.0

 

Letters of credit outstanding – standby

 

12.2

 

10.7

 

10.7

 

Utilization of credit facility at end of period

 

108.2

 

51.5

 

50.7

 

Availability

 

41.8

 

78.5

 

79.0

 

Facility maximum (3)

 

$

150.0

 

$

130.0

 

$

129.7

 

 

 

 

 

 

 

 

 

Average loan balance during the period

 

$

33.3

 

$

0.6

 

$

0.7

 

Highest borrowings during the period

 

$

116.8

 

$

7.5

 

$

7.5

 

 

 

 

 

 

 

 

 

Average interest rate

 

7.41

%

8.16

%

8.00

%

Interest rate at end of period

 

7.50

%

8.25

%

8.25

%

 

 

 

 

 

 

 

 

Letter of Credit Agreement (4)

 

 

 

 

 

 

 

Letters of credit outstanding – merchandise

 

$

36.0

 

N/A

 

$

N/A

 

Letter of credit facility maximum

 

$

60.0

 

N/A

 

$

N/A

 

 


(1)                     As of November 3, 2007, the Company was borrowing under its 2007 Amended Loan Agreement and its Letter of Credit Agreement.

 

(2)                     As of February 3, 2007 and October 28, 2006, the Company was borrowing under its 2004 Amended Loan Agreement.

 

(3)                     Under the Company’s 2004 Amended Loan Agreement, the facility maximum was the lesser of $130.0 million or the Children’s Place business’ defined borrowing base. Under the 2007

 

15



 

Amended Loan Agreement, the facility maximum is the lesser of $150.0 million or the Children’s Place business’ defined borrowing base.

 

(4)                     The Letter of Credit Agreement can be terminated at any time by either the Company or Wells Fargo.

 

Primarily as a result of the Company’s restatement and the delay in completion of its financial statements, the Company was not in compliance with the financial reporting covenants under the 2007 Amended Loan Agreement as of November 3, 2007. However, the Company obtained waivers from its lenders for such noncompliance. There were no fees associated with obtaining these waivers through August 30, 2007; however, the Company was required to pay a fee of $102,000 to extend the waiver from August 30, 2007 through January 1, 2008.

 

Amended Hoop Loan Agreement

 

In connection with the acquisition of the Disney Store business in 2004, the domestic Hoop entity entered into a Loan and Security Agreement (the “Hoop Loan Agreement”) with Wells Fargo as senior lender and syndicated and administrative agent, and certain other lenders, establishing a senior secured credit facility for Hoop. In June 2007, concurrently with the execution of the 2007 Amended Loan Agreement, and in August 2007, the Company entered into Second and Third Amendments to the Hoop Loan Agreement, both with Wells Fargo, as senior lender and administrative and syndicated agent, and the other lenders (together with the Hoop Loan Agreement, the “Amended Hoop Loan Agreement”) to reduce the interest rates charged on outstanding borrowings and letters of credit. The Amended Hoop Loan Agreement provides a facility maximum of $75 million for borrowings and provides for a $25 million accordion feature that enables the Company to increase the facility to an aggregate amount of $100 million. The accordion feature is available at the Company’s option, subject to the amount of eligible inventory and accounts receivable of the domestic Hoop entity. The term of the Amended Hoop Loan Agreement ends on November 21, 2010. Amounts outstanding under the Amended Hoop Loan Agreement bear interest at a floating rate equal to the prime rate or, at Hoop’s option, the LIBOR rate plus a pre-determined margin. Depending on the domestic Hoop entity’s level of excess availability, the LIBOR margin is 1.50% or 1.75%, commercial letter of credit fees are 0.75% or 1.00%, and standby letter of credit fees are 1.25% or 1.50%. The unused line fee is 0.25%.

 

Prior to the Amended Hoop Loan Agreement, the Company borrowed under the Hoop Loan Agreement. Covenants under the Hoop Loan Agreement were substantially similar to those under the Amended Hoop Loan Agreement, except that the Hoop Loan Agreement: (i) permitted borrowings up to $100 million (including a sublimit for letters of credit of $90 million), (ii) provided for amounts outstanding to bear interest at a floating rate equal to the prime rate plus a margin of 0.25% or, at Hoop’s option, the LIBOR rate plus a pre-determined margin of 2.00% or 2.25%, depending on the domestic Hoop entity’s level of excess availability, and (iii) contained an unused line fee of 0.30%.

 

Credit extended under the Amended Hoop Loan Agreement is secured by a first priority security interest in substantially all the assets of the domestic Hoop entity as well as a pledge of a portion of the equity interests in Hoop Canada. The Amended Hoop Loan Agreement also contain covenants, including limitations on indebtedness, maintenance of certain levels of excess collateral and restrictions on the payment of dividends and indebtedness.

 

The following table presents the components (in millions) of the Company’s credit facility for its Disney Store business as of November 3, 2007, February 3, 2007 and October 28, 2006:

 

 

 

November 3,
2007 (1)

 

February 3,
2007 (2)

 

October 28,
2006 (2)

 

Outstanding borrowings

 

$

12.9

 

$

 

$

 

Letters of credit outstanding – merchandise

 

27.0

 

14.6

 

28.8

 

Letters of credit outstanding – standby

 

2.0

 

2.0

 

2.0

 

Utilization of credit facility at end of period

 

41.9

 

16.6

 

30.8

 

Availability

 

33.1

 

31.6

 

53.8

 

Facility maximum (3)

 

$

75.0

 

$

48.2

 

$

84.6

 

 

 

 

 

 

 

 

 

Average loan balance during the period

 

$

0.4

 

$

0.4

 

$

0.4

 

Highest borrowings during the period

 

$

13.3

 

$

1.7

 

$

1.7

 

 

 

 

 

 

 

 

 

Average interest rate

 

7.83

%

8.45

%

8.30

%

Interest rate charged at end of period

 

7.50

%

8.50

%

8.50

%

 


(1)         As of November 3, 2007, the Company was borrowing under its Amended Hoop Loan Agreement.

 

16



 

(2)         As of February 3, 2007 and October 28, 2006, the Company was borrowing under its Hoop Loan Agreement.

 

(3)         Under the Company’s Hoop Loan Agreement, the facility maximum was the lesser of $100.0 million or Hoop’s defined borrowing base. Under the Amended Hoop Loan Agreement, the facility maximum is $75.0 million or Hoop’s defined borrowing base.

 

Primarily as a result of the delay in completion of the Company’s financial statements, the Company was not in compliance as of November 3, 2007 with the financial reporting covenants under the Amended Hoop Loan Agreement or the provision requiring Hoop to comply with the License Agreement. However, the Company obtained waivers from its lenders for such noncompliance. There were no fees associated with obtaining these waivers through August 30, 2007. However, the Company was required to pay a fee of $48,000 to extend the waiver from August 30, 2007 through January 1, 2008.

 

Letter of Credit Fees

 

Letter of credit fees approximated $0.6 million in both the thirty-nine weeks ended November 3, 2007 and October 28, 2006. Letter of credit fees are included in cost of sales.

 

9.     LEGAL AND REGULATORY MATTERS

 

The Company is involved in various legal proceedings arising in the normal course of its business and reserves for litigation settlements and contingencies when it can determine the probability of outcome and can estimate losses. Estimates are adjusted as facts and circumstances require. In the opinion of management, any ultimate liability arising out of such proceedings are not expected to have a material adverse effect on the Company’s financial position.

 

Matters Related to Stock Option Practices

 

SEC and U.S. Attorney Investigations

 

On September 29, 2006, the Division of Enforcement of the SEC informed the Company that it had initiated an informal investigation into the Company’s stock option granting practices. In addition, the Office of the U.S. Attorney for the District of New Jersey advised the Company that it had commenced an investigation into the same matter. The Company has cooperated fully with these investigations and has briefed both authorities on the results of the investigation conducted by a two-member committee of independent directors of the Company’s Board (“Special Committee”).

 

Shareholder Derivative Litigation

 

On January 17, 2007, a stockholder derivative action was filed in the United States District Court, District of New Jersey against certain current members of the Board of Directors and certain current and former senior executives. The Company has been named as a nominal defendant. The complaint alleges, among other things, that certain of the Company’s current and former officers and directors (i) breached their fiduciary duties to the Company and its stockholders and were unjustly enriched by improperly backdating certain grants of stock options to officers and directors of the Company, (ii) caused the Company to file false and misleading reports with the SEC, (iii) violated the Securities Exchange Act of 1934 (the “Exchange Act”) and common law, (iv) caused the Company to issue false and misleading public statements and (v) were negligent and abdicated their responsibilities to the Company and its stockholders. The complaint seeks money damages, an accounting by the defendants for the proceeds of sales of any allegedly backdated stock options, and the costs and disbursements of the lawsuit, as well as equitable relief. The defendants have moved to dismiss the action, and on or about June 15, 2007, the plaintiff filed an amended complaint adding, among other things, a claim for securities fraud under SEC rule 10b-5. The outcome of this litigation is uncertain; while the Company believes there are valid defenses to the claims and will defend itself vigorously, no assurance can be given as to the outcome of this litigation. The litigation could distract our management and directors from the Company’s affairs, the costs and expenses of the litigation could unfavorably affect our net earnings and an unfavorable outcome could adversely affect the reputation of the Company.

 

On September 21, 2007 a second stockholder class action was filed in the United States District Court, Southern District of New York against the Company and certain of its current and former senior executives. The complaint alleges, among other things, that certain of the Company’s current and former officers made statements to the investing public which misrepresented material facts about the business and operations of the Company, or omitted to state material facts required in order for the statements made by them not to be misleading, causing the price of the

 

17



 

Company’s stock to be artificially inflated in violation of provisions of the Exchange Act, as amended. It alleges that more recent disclosures establish the misleading nature of these earlier disclosures. The complaint seeks money damages plus interest as well as costs and disbursements of the lawsuit.

 

On October 10, 2007, a third stockholder class action was filed in the United States District Court, Southern District of New York, against the Company and certain of its current and former senior executives. The complaint alleges, among other things, that certain of the Company’s current and former officers made statements to the investing public which misrepresented material facts about the business and operations of the Company, or omitted to state material facts required in order for the statements made by them not to be misleading, thereby causing the price of the Company’s stock to be artificially inflated in violation of provisions of the Exchange Act, as amended. According to the complaint, more recent disclosures establish the misleading nature of these earlier disclosures. The complaint seeks, among other relief, class certification of the lawsuit, compensatory damages plus interest, and costs and expenses of the lawsuit, including counsel and expert fees.

 

Nasdaq Proceedings

 

As the Company did not timely file its Quarterly Reports on Form 10-Q for the quarters ended July 29, 2006 and October 28, 2006, its Annual Report on Form 10-K for fiscal 2006, and its Quarterly Reports on Form 10-Q for the quarters ended May 5, 2007 and August 4, 2007 (collectively, the “Required Reports”), the Company was out of compliance with the reporting requirements of the SEC and the Nasdaq Global Select Market (“Nasdaq”) for more than one year. On December 5, 2007, the Company filed the Required Reports with the SEC.

 

Nasdaq listing rules require that all issuers solicit proxies and hold an annual meeting of its shareholders within 12 months of the issuer’s fiscal year end. To comply with this rule, the Company must hold its annual meeting of shareholders for the fiscal year ended February 3, 2007 no later than February 3, 2008. Accordingly, if the Company is unable to solicit proxies in sufficient time to hold an annual meeting of the Company’s shareholders by February 3, 2008, or if it otherwise fails to hold such meeting by February 3, 2008, the Company’s shares could be delisted from Nasdaq. The Company is currently determining the timing of its annual meeting of its shareholders and will subsequently notify Nasdaq.

 

Other Litigation

 

On or about July 12, 2006, Joy Fong, a former Disney Store manager in the San Francisco district, filed a lawsuit against the Company in the Superior Court of California, County of Los Angeles. The lawsuit alleges violations of the California Labor Code and California Business and Professions Code and seeks class action status on behalf of Ms. Fong and other individuals similarly situated. The Company filed its answer on August 11, 2006 denying any and all liability, and on January 14, 2007, Ms. Fong filed an amended complaint, adding Disney as a defendant. The parties are currently conducting discovery in this matter. The Company believes it has meritorious defenses to the claims. The claims asserted are not covered by the Company’s employment practices liability insurance, and at this time, the Company cannot reasonably estimate the amount of loss or range of loss that might be incurred as a result of this matter.

 

On or about September 28, 2007, Meghan Ruggiero filed a complaint against the Company and its subsidiary, Hoop Retail Stores, LLC, in the United States District Court, Northern District of Ohio on behalf of herself and other similarly situated individuals. The lawsuit alleges violations of the Fair and Accurate Credit Transactions Act (“FACTA”) and seeks class certification, an award of statutory and punitive damages, attorneys’ fees and costs, and injunctive relief.

 

On or about February 15, 2005, Michael Scott Smith, a former co-sales manager for The Children’s Place in the San Diego district, filed a lawsuit against the Company in the Superior Court of California, County of Los Angeles. The lawsuit alleges violations of the California Labor Code and California Business and Professions Code and seeks class action on behalf of Mr. Smith and other individuals similarly situated. On October 19, 2007, the Company entered into a class action settlement with the plaintiff’s counsel and signed a memorandum of understanding providing for, among other things, a maximum total payment of $2.1 million, inclusive of attorneys’ fees, costs, and expenses, service payments to the class representative, and administration costs, in exchange for a full release of all claims and dismissal of the lawsuit. The court granted preliminary approval of the settlement on November 29, 2007. The settlement was recorded in the thirteen weeks ended July 29, 2006.

 

10.  INCOME TAXES

 

The Company computes income taxes using the liability method. This method requires recognition of deferred tax assets and liabilities, measured by enacted rates, attributable to temporary differences between financial

 

18



 

statement and income tax basis of assets and liabilities. Deferred tax assets and liabilities are comprised largely of book tax differences relating to depreciation, rent expense, inventory and various accruals and reserves.

 

The Company’s effective tax rate for the thirteen and thirty-nine weeks ended November 3, 2007 was 36.8% and (51.5)%, respectively. For the thirteen and thirty-nine weeks ended October 28, 2006, the Company’s effective tax rate was 36.8% and 37.6%, respectively.

 

The Company adopted FASB Interpretation No. 48, “Accounting for Uncertainty in Income Taxes—An Interpretation of FASB Statement 109” (“FIN 48”) on February 4, 2007. FIN 48 clarifies the accounting and reporting for uncertainty in income taxes recognized in an entity’s financial statements in accordance with FASB Statement No. 109, “Accounting for Income Taxes”, and prescribes a recognition threshold and measurement criteria for financial statement disclosure of tax positions taken or expected to be taken on a tax return. Under FIN 48, the impact of an uncertain income tax position on the income tax return must be recognized at the largest amount that is more-likely-than-not to be sustained upon audit by the relevant taxing authority. An uncertain income tax position will not be recognized if it has less than a 50% likelihood of being sustained. Additionally, FIN 48 provides guidance on derecognition, classification, interest and penalties, accounting in interim periods, disclosure and transition.

 

The cumulative effect of adopting FIN 48 was an approximate $6.6 million decrease to beginning retained earnings as of February 4, 2007. Consistent with the provisions of FIN 48, the Company reclassified approximately $6.2 million of income tax liabilities from current to non-current liabilities because payment of cash is not anticipated within one year of the balance sheet date and increased its tax reserves approximately $15.1 million. The total amount of unrecognized tax benefits as of the date of adoption was approximately $21.3 million. Included in the balance of unrecognized tax benefits on February 4, 2007, is a net amount of approximately $12.8 million that, if recognized, would favorably affect the Company’s effective tax rate and a balance of approximately $8.5 million relating to offsetting tax benefits associated with the federal tax benefit from state income taxes, the federal and state tax benefit of interest, and timing adjustments. During the thirty-nine weeks ended November 3, 2007, the Company recognized approximately $0.8 million of additional interest expense related to its unrecognized tax benefits.

 

The Company recognizes accrued interest and penalties related to unrecognized income tax liabilities in income tax expense. The total amount of interest and penalties included in the FIN 48 liability at adoption is approximately $3.3 million and $1.9 million, respectively.

 

The Company is subject to taxation in the U.S. and various states and foreign jurisdictions. With limited exception, the Company is no longer subject to U.S. federal, state, local or non-U.S. income tax audits by taxing authorities for years through 2002. The Company does not anticipate a significant change to the total amount of unrecognized tax benefits within the next 12 months. During fiscal 2007, the Internal Revenue Service initiated audits of the Company’s U.S. Federal Consolidated Returns for fiscal 2004 through fiscal 2006.

 

11.    INTEREST (EXPENSE) INCOME, NET

 

The following table presents the components of the Company’s interest (expense) income, net (in thousands):

 

 

 

Thirteen Weeks Ended

 

Thirty-nine Weeks Ended

 

 

 

November 3,
2007

 

October 28,
2006

 

November 3,
2007

 

October 28,
2006(1)

 

Interest income

 

$

920

 

$

550

 

$

2,320

 

$

1,344

 

Tax-exempt income

 

57

 

384

 

1,493

 

1,902

 

Total interest income

 

977

 

934

 

3,813

 

3,246

 

 

 

 

 

 

 

 

 

 

 

Less:

 

 

 

 

 

 

 

 

 

Interest expense – credit facilities

 

1,470

 

29

 

1,894

 

63

 

Capitalized interest

 

(234

)

 

(594

)

 

Unused line fee

 

45

 

125

 

248

 

366

 

Amortization of deferred financing fees

 

40

 

89

 

200

 

264

 

Other fees

 

430

 

21

 

955

 

210

 

Interest (expense) income, net

 

$

(774

)

$

670

 

$

1,110

 

$

2,343

 

 


(1)         The Condensed Consolidated Statement of Operations for the thirty-nine weeks ended October 28, 2006 includes information that was restated for the thirteen weeks ended April 29, 2006 in the Company’s Annual Report on Form 10-K for the fiscal year ended February 3, 2007.

 

19



 

12.       SEGMENT INFORMATION

 

The Company reports segment data based on management responsibility: The Children’s Place stores, Disney Stores and Shared Services. The Company measures its segment profitability based on operating profit, defined by the Company as earnings before the allocation of shared services and before interest and taxes. Shared services are not allocated and principally include executive management, finance, real estate, human resources, legal, and information technology services. Direct administrative expenses are recorded by each segment. Certain centrally managed functions such as distribution center expenses are allocated to each segment based upon management’s estimate of usage or other contractual means. The Company periodically reviews these allocations and adjusts them based upon changes in business circumstances.

 

Shared service assets principally represent capitalized software and computer equipment. All other administrative assets are allocated between the two operating segments.

 

The following tables provide segment level financial information for the thirteen and thirty-nine weeks ended November 3, 2007 and October 28, 2006 (dollars in millions):

 

 

 

Thirteen Weeks Ended November 3, 2007

 

 

 

The
Children’s
Place

 

Disney
Store

 

Shared
Services

 

Total
Company

 

Net sales

 

$

430.5

 

$

158.0

 

$

 

$

 588.5

 

Operating profit (loss)

 

47.5

 

(1.4

)

(25.9

)

20.2

 

Operating profit (loss) as a percent of net sales

 

11.0

%

(0.9

)%

N/A

 

3.4

%

 

 

 

 

 

 

 

 

 

 

 

 

Thirteen Weeks Ended October 28, 2006

 

 

 

The
Children’s
Place

 

Disney
Store

 

Shared
Services

 

Total
Company

 

Net sales

 

$

397.2

 

$

153.2

 

 

$

550.4

 

Operating profit (loss)

 

79.9

 

11.4

 

(26.3

)

65.0

 

Operating profit (loss) as a percent of net sales

 

20.1

%

7.4

%

N/A

 

11.8

%

 

 

 

 

 

 

 

 

 

 

 

 

Thirty-nine Weeks Ended November 3, 2007

 

 

 

The
Children’s
Place

 

Disney
Store

 

Shared
Services

 

Total
Company

 

Net sales

 

$

1,077.0

 

$

414.7

 

$

 

$

1,491.7

 

Operating profit (loss)

 

90.6

 

(15.2

)

(77.2

)

(1.8

)

Operating profit (loss) as a percent of net sales

 

8.4

%

(3.7

)%

N/A

 

(0.1

)%

 

 

 

 

 

 

 

 

 

 

Total assets

 

891.0

 

273.9

 

20.3

 

1,185.2

 

Capital expenditures

 

137.5

 

15.5

 

7.5

 

160.5

 

 

 

 

 

 

 

 

 

 

 

 

 

Thirty-nine Weeks Ended October 28, 2006(1)

 

 

 

The
Children’s
Place

 

Disney
Store

 

Shared
Services

 

Total
Company

 

Net sales

 

$

988.6