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CHILDRENS PLACE RETAIL STORES INC 10-Q 2010

Documents found in this filing:

  1. 10-Q
  2. Ex-31.1
  3. Ex-31.2
  4. Ex-32
  5. Ex-32

Table of Contents

 

 

 

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 


 

FORM 10-Q

 

(Mark One)

 

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

 

For the quarterly period ended July 31, 2010

 

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)

 

 

 

500 Plaza Drive

 

 

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 has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (Section 232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).

 

Yes x  No o

 

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

 

Large accelerated filer   x

 

Accelerated filer   o

 

 

 

Non-accelerated filer   o

 

Smaller reporting company   o

(Do not check if smaller reporting company)

 

 

 

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 August 30, 2010 was 27,240,081 shares.

 

 

 



Table of Contents

 

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

 

QUARTERLY REPORT ON FORM 10-Q

 

FOR THE PERIOD ENDED JULY 31, 2010

 

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 1A.

Risk Factors

 

Item 6.

Exhibits

 

Signatures

 

 

 



Table of Contents

 

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, except share information)

 

 

 

(unaudited)
July 31,
2010

 

January 30,
2010

 

(unaudited)
August 1,
2009

 

ASSETS

 

 

 

 

 

 

 

Current assets:

 

 

 

 

 

 

 

Cash and cash equivalents

 

$

196,033

 

$

168,380

 

$

152,198

 

Restricted cash

 

2,195

 

2,112

 

 

Accounts receivable

 

18,905

 

16,910

 

21,792

 

Inventories

 

214,301

 

206,227

 

262,986

 

Prepaid expenses and other current assets

 

46,111

 

45,713

 

52,236

 

Deferred income taxes

 

36,049

 

17,540

 

47,907

 

Total current assets

 

513,594

 

456,882

 

537,119

 

Long-term assets:

 

 

 

 

 

 

 

Property and equipment, net

 

318,255

 

312,801

 

310,795

 

Deferred income taxes

 

56,406

 

79,934

 

69,753

 

Other assets

 

4,270

 

4,443

 

5,207

 

Total assets

 

$

892,525

 

$

854,060

 

$

922,874

 

 

 

 

 

 

 

 

 

LIABILITIES AND STOCKHOLDERS’ EQUITY

 

 

 

 

 

 

 

LIABILITIES:

 

 

 

 

 

 

 

Current liabilities:

 

 

 

 

 

 

 

Short term portion of term loan

 

$

 

$

 

$

38,000

 

Accounts payable

 

68,564

 

55,547

 

89,249

 

Income taxes payable

 

1,029

 

1,212

 

3,869

 

Accrued expenses and other current liabilities

 

80,849

 

88,757

 

89,219

 

Total current liabilities

 

150,442

 

145,516

 

220,337

 

Long-term liabilities:

 

 

 

 

 

 

 

Deferred rent liabilities

 

95,614

 

98,705

 

104,043

 

Other tax liabilities

 

15,784

 

15,396

 

9,100

 

Other long-term liabilities

 

5,533

 

5,473

 

6,161

 

Total liabilities

 

267,373

 

265,090

 

339,641

 

COMMITMENTS AND CONTINGENCIES

 

 

 

 

 

 

 

STOCKHOLDERS’ EQUITY:

 

 

 

 

 

 

 

Preferred stock, $1.00 par value, 1,000,000 shares authorized, 0 shares issued and outstanding at July 31, 2010, January 30, 2010, and August 1, 2009

 

 

 

 

Common stock, $0.10 par value, 100,000,000 shares authorized, 27,822,331, 27,474,774 and 29,668,337 issued and outstanding at July 31, 2010, January 30, 2010, and August 1, 2009, respectively

 

2,782

 

2,747

 

2,967

 

Additional paid-in capital

 

218,571

 

204,646

 

214,358

 

Accumulated other comprehensive income

 

10,431

 

7,561

 

7,283

 

Retained earnings

 

393,368

 

374,016

 

358,625

 

Total stockholders’ equity

 

625,152

 

588,970

 

583,233

 

Total liabilities and stockholders’ equity

 

$

892,525

 

$

854,060

 

$

922,874

 

 

See accompanying notes to these condensed consolidated financial statements.

 

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Table of Contents

 

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

CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS

(Unaudited)

(In thousands, except per share amounts)

 

 

 

Thirteen Weeks Ended

 

Twenty-six Weeks Ended

 

 

 

July 31,

 

August 1,

 

July 31,

 

August 1,

 

 

 

2010

 

2009

 

2010

 

2009

 

Net sales

 

$

345,301

 

$

315,676

 

$

767,434

 

$

717,577

 

Cost of sales

 

231,727

 

210,377

 

474,156

 

445,751

 

 

 

 

 

 

 

 

 

 

 

Gross profit

 

113,574

 

105,299

 

293,278

 

271,826

 

 

 

 

 

 

 

 

 

 

 

Selling, general and administrative expenses

 

107,281

 

106,093

 

220,736

 

217,986

 

Asset impairment charges

 

1,222

 

315

 

2,152

 

1,414

 

Depreciation and amortization

 

18,199

 

17,564

 

35,824

 

35,088

 

 

 

 

 

 

 

 

 

 

 

Operating income (loss)

 

(13,128

)

(18,673

)

34,566

 

17,338

 

Interest income (expense), net

 

(381

)

(1,462

)

(837

)

(4,730

)

 

 

 

 

 

 

 

 

 

 

Income (loss) from continuing operations before income taxes

 

(13,509

)

(20,135

)

33,729

 

12,608

 

Provision (benefit) for income taxes

 

(5,241

)

(12,906

)

13,990

 

(3,904

)

 

 

 

 

 

 

 

 

 

 

Income (loss) from continuing operations

 

(8,268

)

(7,229

)

19,739

 

16,512

 

Income (loss) from discontinued operations, net of income taxes

 

35

 

178

 

(70

)

(51

)

Net income (loss)

 

$

(8,233

)

$

(7,051

)

$

19,669

 

$

16,461

 

 

 

 

 

 

 

 

 

 

 

Basic earnings (loss) per share amounts (1)

 

 

 

 

 

 

 

 

 

Income (loss) from continuing operations

 

$

(0.30

)

$

(0.24

)

$

0.71

 

$

0.56

 

Income (loss) from discontinued operations, net of income taxes

 

0.00

 

0.01

 

(0.00

)

(0.00

)

Net income (loss)

 

$

(0.30

)

$

(0.24

)

$

0.71

 

$

0.56

 

Basic weighted average common shares outstanding

 

27,755

 

29,552

 

27,669

 

29,514

 

 

 

 

 

 

 

 

 

 

 

Diluted earnings (loss) per share amounts (1)

 

 

 

 

 

 

 

 

 

Income (loss) from continuing operations

 

$

(0.30

)

$

(0.24

)

$

0.70

 

$

0.56

 

Income (loss) from discontinued operations, net of income taxes

 

0.00

 

0.01

 

(0.00

)

(0.00

)

Net income (loss)

 

$

(0.30

)

$

(0.24

)

$

0.70

 

$

0.55

 

Diluted weighted average common shares outstanding

 

27,755

 

29,552

 

28,027

 

29,746

 

 


(1) Table may not add due to rounding

 

See accompanying notes to these condensed consolidated financial statements.

 

2



Table of Contents

 

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

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS

(Unaudited) (In thousands)

 

 

 

Twenty-six Weeks Ended

 

 

 

July 31,
2010

 

August 1,
2009

 

CASH FLOWS FROM OPERATING ACTIVITIES:

 

 

 

 

 

Net income

 

$

19,669

 

$

16,461

 

Less (loss) from discontinued operations

 

(70

)

(51

)

Income from continuing operations

 

19,739

 

16,512

 

Reconciliation of income from continuing operations to net cash provided by (used in) operating activities:

 

 

 

 

 

Depreciation and amortization

 

35,824

 

35,088

 

Amortization of deferred financing costs

 

290

 

2,140

 

Loss on disposal of property and equipment

 

174

 

493

 

Asset impairment charges

 

2,152

 

1,414

 

Stock-based compensation

 

7,208

 

4,539

 

Deferred taxes

 

5,533

 

(5,879

)

Deferred rent expense and lease incentives

 

(8,354

)

(8,361

)

Changes in operating assets and liabilities:

 

 

 

 

 

Accounts receivable

 

(1,914

)

(1,901

)

Inventories

 

(6,977

)

(48,594

)

Prepaid expenses and other assets

 

101

 

(3,851

)

Accounts payable

 

12,811

 

14,977

 

Accrued expenses and other current liabilities

 

(3,842

)

(12,357

)

Income taxes payable, net of prepayments

 

(797

)

(2,396

)

Deferred rent and other liabilities

 

4,819

 

1,255

 

Total adjustments

 

47,028

 

(23,433

)

Net cash provided by (used in) operating activities

 

66,767

 

(6,921

)

CASH FLOWS FROM INVESTING ACTIVITIES:

 

 

 

 

 

Property and equipment purchases

 

(46,958

)

(27,085

)

Net cash used in investing activities

 

(46,958

)

(27,085

)

CASH FLOWS FROM FINANCING ACTIVITIES:

 

 

 

 

 

Borrowings under revolving credit facilities

 

75,161

 

86,300

 

Repayments under revolving credit facilities

 

(75,161

)

(86,300

)

Payments on term loan

 

 

(47,000

)

Exercise of stock options

 

6,820

 

1,840

 

Purchase of common stock

 

(385

)

(254

)

Net cash provided by (used in) financing activities

 

6,435

 

(45,414

)

Effect of exchange rate changes on cash

 

1,409

 

5,412

 

Net increase (decrease) in cash and cash equivalents

 

27,653

 

(74,008

)

Cash and cash equivalents, beginning of period

 

168,380

 

226,206

 

Cash and cash equivalents, end of period

 

$

196,033

 

$

152,198

 

 

See accompanying notes to these condensed consolidated financial statements.

 

3



Table of Contents

 

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

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS

(Unaudited) (In thousands)

 

 

 

Twenty-six Weeks Ended

 

 

 

July 31,
2010

 

August 1,
2009

 

OTHER CASH FLOW INFORMATION:

 

 

 

 

 

Net cash paid during the year for income taxes

 

$

9,266

 

$

7,446

 

Cash paid during the year for interest

 

376

 

3,633

 

(Decrease) in accrued purchases of property and equipment

 

(4,452

)

(600

)

 

See accompanying notes to these condensed consolidated financial statements.

 

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Table of Contents

 

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 consolidated financial position of The Children’s Place Retail Stores, Inc. (the “Company”) as of  July 31, 2010 and August 1, 2009, the results of its consolidated operations for the thirteen weeks and twenty-six weeks ended July 31, 2010 and August 1, 2009, and its consolidated cash flows for the twenty-six weeks ended July 31, 2010 and August 1, 2009. The consolidated financial position as of January 30, 2010 was derived from audited financial statements.  Due to the seasonal nature of the Company’s business, the results of operations for the thirteen and twenty-six weeks ended July 31, 2010 and August 1, 2009 are not necessarily indicative of operating results for a full fiscal year.  These condensed consolidated financial statements should be read in conjunction with the consolidated financial statements included in the Company’s Annual Report on Form 10-K for the fiscal year ended January 30, 2010.

 

Terms that are commonly used in the Company’s notes to condensed consolidated financial statements are defined as follows:

 

·                  Second Quarter 2010 — The thirteen weeks ended July 31, 2010.

·                  Second Quarter 2009 — The thirteen weeks ended August 1, 2009.

·                  Year-To-Date 2010 — The twenty-six weeks ended July 31, 2010.

·                  Year-To-Date 2009 — The twenty-six weeks ended August 1, 2009.

·                  FASB— Financial Accounting Standards Board.

·                  FASB ASC — FASB Accounting Standards Codification, which serves as the source for authoritative U.S. GAAP, except that rules and interpretive releases by the SEC are also sources of authoritative U.S. GAAP for SEC registrants.

 

Restricted Cash

 

On June 11, 2009, the Company received a notice of assessment in the amount of approximately 2.3 million Canadian dollars from Revenue Quebec regarding the Company’s sales tax filings.  During the third quarter of fiscal 2009, Revenue Quebec required the Company to guarantee the assessed amount in the form of a deposit into a restricted cash account.  The Company has objected to the assessment and until such time that it is resolved, the balance of the account remains the property of the Company.  This amount is shown on the accompanying consolidated balance sheet as restricted cash.  At July 31, 2010 and January 30, 2010 the U.S. dollar value of this deposit was $2.2 million and $2.1 million, respectively.

 

Stockholders’ Equity

 

On July 29, 2009, the Company entered into a securities purchase agreement with Ezra Dabah, the Company’s former Chief Executive Officer, Renee Dabah and certain related trusts (collectively, the “Sellers”) pursuant to which the Company agreed to purchase from the Sellers an aggregate of approximately 2.45 million shares of the Company’s common stock at a price of $28.88 per share, which represented a discount of 5% to the average of the closing prices of the Company’s common stock of the three days ended July 28, 2009 (the “Sale”).  On August 3, 2009, the Sale was completed with the Company making total payments to the Sellers of approximately $70.8 million.  In addition, the Company incurred approximately $2.7 million in transaction costs related to the Sale, which are included in the cost of the acquired shares.  Immediately after the Sale, the acquired shares of common stock were retired.

 

5



Table of Contents

 

Additionally, pursuant to restrictions imposed by the Company’s equity plan during black-out periods, the Company withholds and retires shares of vesting stock awards in exchange for payments to satisfy the withholding tax requirements of certain recipients.  The Company’s payment of the withholding taxes in exchange for the shares constitutes a purchase of its common stock.  For Year-To-Date 2010 the Company retired approximately eight thousand shares and made related withholding tax payments of approximately $0.4 million.

 

In accordance with the “Equity” topic of the FASB ASC, a portion of the purchase price of shares retired is charged against additional paid-in capital using a pro rata allocation based on total shares outstanding.  The par value of the shares is charged against common stock, and the remaining purchase price is charged to retained earnings.  For Year-To-Date 2010 approximately $0.3 million was charged to retained earnings.

 

The Disney Store Business

 

In the first quarter of fiscal 2008, the Company discontinued its operation of the Disney Store business, which had operated under a licensing agreement with The Walt Disney Company.  Amounts included in loss from discontinued operations relate to the wind down of the Disney Store business.

 

Recently Adopted Accounting Standards

 

The Company has reviewed recent accounting standards issued under FASB ASC and has determined that they will have no financial impact on the Company’s condensed consolidated financial statements.

 

Fair Value Measurement and Financial Instruments

 

The “Fair Value Measurements and Disclosure” topic of the FASB ASC provides a single definition of fair value, together with a framework for measuring it, and requires additional disclosure about the use of fair value to measure assets and liabilities.

 

This topic defines fair value as the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date and establishes a three-level hierarchy, which encourages an entity to maximize the use of observable inputs and minimize the use of unobservable inputs when measuring fair value.  The three levels of the hierarchy are defined as follows:

 

·                  Level 1 - inputs to the valuation techniques that are quoted prices in active markets for identical assets or liabilities

 

·                  Level 2 - inputs to the valuation techniques that are other than quoted prices but are observable for the assets or liabilities, either directly or indirectly

 

·                  Level 3 - inputs to the valuation techniques that are unobservable for the assets or liabilities

 

The Company’s cash and cash equivalents, accounts receivable, accounts payable, credit facilities and certain other short-term financial instruments are all short-term in nature.  As such, their carrying amounts approximate fair value.

 

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Table of Contents

 

2.                                      STOCK-BASED COMPENSATION

 

The following table summarizes the Company’s stock-based compensation expense (in thousands):

 

 

 

Thirteen Weeks Ended

 

Twenty-six Weeks Ended

 

 

 

July 31,

 

August 1,

 

July 31,

 

August 1,

 

 

 

2010

 

2009

 

2010

 

2009

 

Stock option expense

 

$

13

 

$

94

 

$

35

 

$

146

 

Deferred stock expense (1)

 

1,476

 

1,113

 

3,544

 

2,996

 

Restricted stock expense

 

216

 

253

 

432

 

432

 

Performance award expense

 

1,656

 

206

 

3,197

 

965

 

Total stock-based compensation expense

 

$

3,361

 

$

1,666

 

$

7,208

 

$

4,539

 

 


(1)         Approximately $0.3 million in each of the Second Quarter 2010 and the Second Quarter 2009 was recorded in cost of goods sold.  Approximately $0.6 million in each of Year-To-Date 2010 and Year-To-Date 2009 was recorded in cost of goods sold.

 

The Company recognized a tax benefit related to stock-based compensation expense of $2.9 million and $1.8 million for Year-To-Date 2010 and Year-To-Date 2009, respectively.

 

Long Term Incentive Plan

 

The 2008 Long Term Incentive Plan provides for the issuance of deferred stock awards and performance awards to key members of management (the “Participants”). Each award is based on salary level and the fair market value of the Company’s common stock on the date the Compensation Committee of the Company’s Board of Directors approves the grant. The deferred stock awards vest on a graded basis over three years and have a service requirement only. Key features of the performance awards are as follows:

 

·                  Each performance award has a defined number of shares that a Participant can earn (the “Target Shares”). Based on performance levels, Participants can earn up to 200% of their Target Shares.

 

·                  The awards have a service requirement and performance criteria that must be achieved for the awards to vest.

 

·                  The performance criteria are based on the Company’s achievement of operating income levels in each of the fiscal years 2008, 2009 and 2010, as well as in the aggregate, except that those awards issued since January 2010 are based only on fiscal 2010’s operating performance.

 

·                  Awards may be earned in each of the fiscal years based upon meeting the established performance criteria for that year, however, except in certain circumstances, the Participants must be employed by the Company at the end of the three year performance period or their awards are forfeited.

 

The current performance period ends on January 29, 2011 and as of July 31, 2010, the Company estimates that on a weighted average basis the Participants will earn approximately 192% of their Target Shares.

 

New Awards

 

During Year-To-Date 2010 the Company granted an aggregate of 43,385 deferred stock awards, of which 22,885 vest over one year and 20,500 vest on a graded basis over three years.  Also awarded during Year-To-Date 2010 were performance awards that provide for the issuance of 13,750 Target Shares if the Company achieves a specified level of operating income for fiscal 2010.  These awards vest on an accelerated basis over three years.

 

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Table of Contents

 

Deferred and Restricted Stock (“Deferred Awards”)

 

Changes in the Company’s unvested Deferred Awards for Year-To-Date 2010 were as follows:

 

 

 

Number of
Shares

 

Weighted
Average
Grant Date
Fair Value

 

 

 

(in thousands)

 

 

 

Unvested deferred awards beginning of period

 

512

 

$

30.34

 

Granted

 

43

 

39.51

 

Vested

 

(119

)

28.88

 

Forfeited

 

(37

)

31.37

 

Unvested deferred awards, end of period

 

399

 

$

31.68

 

 

Total unrecognized stock-based compensation expense related to unvested Deferred Awards approximated $9.4 million as of July 31, 2010, which will be recognized over a weighted average period of approximately 1.6 years.

 

Performance Awards

 

Changes in the Company’s unvested performance awards for Year-To-Date 2010 were as follows:

 

 

 

Number of
Performance
Shares (1)

 

Weighted
Average
Grant Date
Fair Value

 

 

 

(in thousands)

 

 

 

Unvested performance shares, beginning of period

 

174

 

$

27.65

 

Granted

 

14

 

46.80

 

Vested

 

 

 

Forfeited

 

(13

)

20.97

 

Unvested performance shares, end of period

 

175

 

$

29.65

 

 


(1)         The number of unvested performance shares is based on the Participants earning their Target Shares at 100%. As of July 31, 2010, the Company estimates that on a weighted average basis the Participants will earn 192% of their Target Shares. The cumulative expense recognized reflects changes in estimates as they occur.

 

Total unrecognized stock-based compensation expense related to unvested performance awards approximated $3.9 million as of July 31, 2010, which will be recognized over a weighted average period of approximately 0.9 years.

 

Stock Option Plans

 

During fiscal 2008, the Company ceased issuing stock options in favor of Deferred Awards.  Activity for all outstanding options is below.

 

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Changes in the Company’s outstanding stock options for Year-To-Date 2010 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 at January 30, 2010

 

731

 

$

33.22

 

4.6

 

$

2,831

 

Granted

 

 

 

 

 

Exercised

 

(237

)

28.77

 

N/A

 

3,887

 

Forfeited

 

(10

)

30.21

 

N/A

 

117

 

Options outstanding at July 31, 2010

 

484

 

$

35.46

 

4.7

 

$

3,831

 

Options exercisable at July 31, 2010

 

460

 

$

35.96

 

4.5

 

$

3,448

 

 

Changes in the Company’s unvested stock options for Year-To-Date 2010 were as follows:

 

 

 

Number of
Options

 

Weighted
Average
Grant Date
Fair Value

 

 

 

(in thousands)

 

 

 

Unvested stock options, beginning of period

 

40

 

$

11.24

 

Granted

 

 

 

Vested

 

(16

)

11.08

 

Forfeited

 

 

 

Unvested stock options, end of period

 

24

 

$

11.34

 

 

Total unrecognized stock-based compensation expense related to unvested stock options approximated $22,000 as of July 31, 2010, which will be recognized over a weighted average period of approximately 0.4 years.

 

3.                                      NET INCOME (LOSS) PER COMMON SHARE

 

The following table reconciles net income and share amounts utilized to calculate basic and diluted net income per common share (in thousands):

 

 

 

Thirteen Weeks Ended

 

Twenty-six Weeks Ended

 

 

 

July 31,

 

August 1,

 

July 31,

 

August 1,

 

 

 

2010

 

2009

 

2010

 

2009

 

Income (loss) from continuing operations

 

$

(8,268

)

$

(7,229

)

$

19,739

 

$

16,512

 

Income (loss) from discontinued operations, net of taxes

 

35

 

178

 

(70

)

(51

)

Net income (loss)

 

$

(8,233

)

$

(7,051

)

$

19,669

 

$

16,461

 

 

 

 

 

 

 

 

 

 

 

Basic weighted average common shares

 

27,755

 

29,552

 

27,669

 

29,514

 

Dilutive effect of stock awards

 

 

 

358

 

232

 

Diluted weighted average common shares

 

27,755

 

29,552

 

28,027

 

29,746

 

Antidilutive stock awards

 

1,400

 

1,650

 

139

 

1,035

 

 

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Antidilutive stock awards (stock options, Deferred Awards and performance awards) represent those awards that are excluded from the earnings per share calculation as a result of their antidilutive effect in the application of the treasury stock method in accordance with the “Earnings Per Share” topic of the FASB ASC.

 

The diluted loss per share amounts presented in the condensed consolidated statements of operation for the Second Quarter 2010 and the Second Quarter 2009, excludes the dilutive effect of the Company’s stock awards, which would have been anti-dilutive as a result of the loss from continuing operations.

 

4.                                      COMPREHENSIVE INCOME (LOSS)

 

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

 

 

 

Thirteen Weeks Ended

 

Twenty-six Weeks Ended

 

 

 

July 31,

 

August 1,

 

July 31,

 

August 1,

 

 

 

2010

 

2009

 

2010

 

2009

 

Net income (loss)

 

$

(8,233

)

$

(7,051

)

$

19,669

 

$

16,461

 

Foreign currency translation adjustment

 

(954

)

7,721

 

2,870

 

10,373

 

Comprehensive income (loss)

 

$

(9,187

)

$

670

 

$

22,539

 

$

26,834

 

 

5.                                      PROPERTY AND EQUIPMENT

 

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

 

 

 

Asset

 

July 31,

 

January 30,

 

August 1,

 

 

 

Life

 

2010

 

2010

 

2009

 

Property and equipment:

 

 

 

 

 

 

 

 

 

Land and land improvements

 

 

$

3,403

 

$

3,403

 

$

3,403

 

Building and improvements

 

25 yrs

 

33,886

 

30,451

 

30,451

 

Material handling equipment

 

10-15 yrs

 

48,506

 

31,243

 

31,243

 

Leasehold improvements

 

Lease life

 

388,954

 

378,097

 

367,636

 

Store fixtures and equipment

 

3-10 yrs

 

267,970

 

259,641

 

253,680

 

Capitalized software

 

5 yrs

 

68,848

 

65,869

 

62,225

 

Construction in progress

 

 

10,262

 

17,770

 

8,482

 

 

 

 

 

821,829

 

786,474

 

757,120

 

Less accumulated depreciation and amortization

 

 

 

(503,574

)

(473,673

)

(446,325

)

Property and equipment, net

 

 

 

$

318,255

 

$

312,801

 

$

310,795

 

 

During the Second Quarter 2010, the Company recorded $1.2 million of impairment charges primarily related to three underperforming stores.  During the Second Quarter 2009, the Company recorded $0.3 million of impairment charges related to one underperforming store.

 

During Year-To-Date 2010, the Company recorded $2.2 million of impairment charges primarily related to four underperforming stores.  During Year-To-Date 2009, the Company recorded $1.4 million of impairment charges related to three underperforming stores.

 

As of July 31, 2010, January 30, 2010 and August 1, 2009, the Company had $3.1 million, $7.5 million and $3.5 million, respectively, in property and equipment for which payment had not been made.  These amounts are included in accounts payable and accrued expenses and other current liabilities.

 

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6.                                      CREDIT FACILITIES

 

On July 31, 2008, the Company and certain of its domestic subsidiaries entered into a five year credit agreement (the “2008 Credit Agreement”) with Wells Fargo Retail Finance, LLC (“Wells Fargo”), Bank of America, N.A., HSBC Business Credit (USA) Inc., and JPMorgan Chase Bank, N.A. as lenders (collectively, the “Lenders”) and Wells Fargo, as Administrative Agent, Collateral Agent and Swing Line Lender.

 

The 2008 Credit Agreement consists of a $200 million asset based revolving credit facility, with a $175 million sublimit for standby and documentary letters of credit. Revolving credit loans outstanding under the 2008 Credit Agreement bear interest, at the Company’s option, at:

 

(i)  the prime rate plus a margin of 0.0% to 0.5% based on the amount of the Company’s average excess availability under the facility; or

(ii) the London InterBank Offered Rate, or “LIBOR”, for an interest period of one, two, three or six months, as selected by the Company, plus a margin of 2.00% to 2.50% based on the amount of the Company’s average excess availability under the facility.

 

An unused line fee of 0.50% or 0.75%, based on total facility usage, will accrue on the unused portion of the commitments under the facility.  Letter of credit fees range from 1.25% to 1.75% for commercial letters of credit and range from 2.00% to 2.50% for standby letters of credit.  Letter of credit fees are determined based on daily average undrawn stated amount of such outstanding letters of credit. The 2008 Credit Agreement expires on July 31, 2013.   The amount available for loans and letters of credit under the 2008 Credit Agreement is determined by a borrowing base consisting of certain credit card receivables, certain inventory and the fair market value of certain real estate, subject to certain reserves.

 

The outstanding obligations under the 2008 Credit Agreement may be accelerated upon the occurrence of certain events, including, among others, non-payment, breach of covenants, the institution of insolvency proceedings, defaults under other material indebtedness and a change of control, subject, in the case of certain defaults, to the expiration of applicable grace periods.  Had the Company terminated the 2008 Credit Agreement prior to August 1, 2010 the Company would have been required to pay an early termination fee in the amount of 0.25% of the revolving credit facility ceiling then in effect.  After July 31, 2010 the Company is no longer subject to any early termination fees.

 

The 2008 Credit Agreement contains covenants, which include limitations on annual capital expenditures, stock buybacks and the payment of dividends or similar payments.  Credit extended under the 2008 Credit Agreement is secured by a first or second priority security interest in substantially all of the Company’s assets.

 

On August 18, 2010, in connection with the approval of the Company’s share repurchase program (see Note 12), the 2008 Credit Agreement was amended to increase the allowable amount, subject to certain restrictions, that the Company may spend on share repurchases.

 

The Company capitalized an aggregate of approximately $2.6 million in deferred financing costs related to the 2008 Credit Agreement, which is being amortized on a straight-line basis over its term.

 

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The table below presents the components (in millions) of the Company’s credit facilities:

 

 

 

July 31,
2010

 

January
30, 2010

 

August 1,
2009

 

 

 

 

 

 

 

 

 

Credit facility maximum

 

$

200.0

 

$

200.0

 

$

200.0

 

Borrowing base

 

169.8

 

164.1

 

199.0

 

 

 

 

 

 

 

 

 

Outstanding borrowings

 

$

 

$

 

$

 

Letters of credit outstanding—merchandise

 

37.1

 

32.4

 

35.3

 

Letters of credit outstanding—standby

 

10.9

 

15.2

 

16.1

 

Utilization of credit facility at end of period

 

48.0

 

47.6

 

51.4

 

 

 

 

 

 

 

 

 

Availability

 

121.8

 

116.5

 

147.6

 

 

 

 

 

 

 

 

 

Interest rate at end of period

 

3.3

%

3.3

%

3.3

%

 

 

 

Year-To-Date
2010

 

Fiscal
2009

 

Year-To-Date
2009

 

Average loan balance during the period

 

 

0.1

 

 

Highest borrowings during the period

 

 

3.3

 

0.3

 

Average interest rate

 

3.3

%

3.3

%

3.3

%

 

Letter of Credit Fees

 

Letter of credit fees approximated $0.2 million in each of Year-To-Date 2010 and Year-To-Date 2009. Letter of credit fees are included in cost of sales.

 

7.                                      TERM LOAN

 

On July 31, 2008, concurrently with the execution of the 2008 Credit Agreement, the Company and certain of its domestic subsidiaries and Sankaty Credit Opportunities III, L.P., Sankaty Credit Opportunities IV, L.P., RGIP, LLC, Crystal Capital Fund, L.P., Crystal Capital Onshore Warehouse LLC, 1903 Onshore Funding, LLC, and Bank of America, N.A., all as note purchasers, together with Sankaty Advisors, LLC, as Collateral Agent, and Crystal Capital Fund Management, L.P., as Syndication Agent, entered into a note purchase agreement (“Note Purchase Agreement”).

 

Under the Note Purchase Agreement, the Company issued $85.0 million of non-amortizing secured notes (the “Notes”) which were due and payable on July 31, 2013.  Amounts outstanding under the Note Purchase Agreement bore interest at the greater of (i) LIBOR, for an interest period of one, two, three or six months, as selected by the Company, or (ii) 3.00%, plus, in each case, a margin of between 8.50% and 9.75% depending on the Company’s leverage ratio.

 

On April 13, 2009, the Company prepaid $47.0 million of the Notes, which included a $32.0 million mandatory payment plus a penalty free optional payment of $15.0 million. On August 3, 2009, the remaining principal amount of $38.0 million was prepaid (the “Final Payment”).  In accordance with the terms of the Note Purchase Agreement, the Company was required to pay a prepayment premium of 1.5%, or approximately $0.6 million, on the Final Payment.  Also, in connection with the Final Payment, the Note Purchase Agreement and the Company’s obligations under the Note Purchase Agreement were terminated.

 

8.                                      LEGAL AND REGULATORY MATTERS

 

On June 16, 2009, a putative stockholder derivative action was filed in the Superior Court of New Jersey, Hudson County, Chancery Division, against the Company and certain of its current and former directors and senior executives.  The

 

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Company has been named as a nominal defendant.  The complaint alleges, among other things, that certain of the Company’s current and former directors and executives breached their fiduciary duties to the Company and its stockholders by causing the Company to issue false and misleading public statements and by abdicating their responsibilities to the Company and its stockholders, in violation of state law.  The complaint also alleges that the defendants committed corporate waste in connection with a severance payment to the Company’s former Chief Executive Officer.  The complaint seeks monetary damages from the individual defendants as well as costs and disbursements of the lawsuit, including expert fees, as well as equitable relief.  On November 20, 2009, defendants moved to dismiss the complaint, on the grounds that, among other things, (i) the claims asserted in the action are barred by the prior settlement of the stockholder class action filed in the United States District Court for the Southern District of New York, and (ii) plaintiff failed to make a demand on the Company’s Board of Directors to initiate the lawsuit, as required by applicable state law.  The court heard oral arguments on the motion to dismiss on March 25, 2010 and on June 3, 2010 the court issued an oral decision denying the defendants’ motion to dismiss, while stating that the court took no position on the merits of the case.  On July 28, 2010, the defendants filed a motion in the Superior Court of New Jersey, Appellate Division, seeking extraordinary leave to appeal from the interlocutory order denying defendants’ motion to dismiss, which motion was denied on August 20, 2010.  The outcome of this litigation is uncertain and no estimate can be made at this time of any potential loss or range of losses.  While we believe there are valid defenses to the claims and we will defend ourselves 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 have a material adverse effect on the Company’s financial position, results of operations and cash flows and an unfavorable outcome could adversely affect the reputation of the Company.

 

On or about September 28, 2007, Meghan Ruggiero filed a complaint against the Company and its subsidiary, Hoop Retail Stores, LLC (“Hoop”), 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 and seeks class certification, an award of statutory and punitive damages, attorneys’ fees and costs, and injunctive relief.  The plaintiff filed an amended complaint on January 25, 2008.  Effective as of March 26, 2008, the prosecution of this lawsuit against Hoop was stayed under the automatic stay provisions of the U.S. Bankruptcy Code by reason of Hoop’s petition for relief filed that same day.  On March 2, 2010, the court granted the plaintiff leave to file an amended complaint dismissing the Company and to replace the Company with its subsidiary, The Children’s Place Services Company, LLC, and on March 27, 2010 the plaintiff filed a second amended complaint.  On October 15, 2009, the parties filed a joint notice of settlement, and the parties subsequently entered into a settlement agreement that provided for, among other things, payment in the amount of $0.3 million.  On March 4, 2010, the Court preliminarily approved the settlement, authorized the dissemination of notice of the settlement to the Company’s shareholders and scheduled a hearing to consider the fairness and final approval of the settlement.  The parties entered into an amendment to the settlement agreement on July 2, 2010, and the hearing on final approval of the amended settlement is scheduled for September 16, 2010.  The Company has accrued for the cost of this settlement and the related expense was charged to discontinued operations.

 

During the Second Quarter 2010, neither the Company nor any of its subsidiaries became a party to, nor did any of their property become the subject of, any material legal proceedings.  Except as noted above, there were no material developments to any legal proceedings previously reported in the Company’s Annual Report on Form 10-K for the fiscal year ended January 30, 2010.

 

The Company is also involved in various legal proceedings arising in the normal course of business.  In the opinion of management, any ultimate liability arising out of these proceedings will not have a material effect on the Company’s financial condition.

 

9.                                      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 the financial statement and income tax bases 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.

 

During the first quarter of fiscal 2009, the Company recorded a $4.5 million benefit related to the settlement of an IRS income tax audit.  During the Second Quarter 2009, the Company recorded a $4.8 million tax benefit related to excess foreign tax credits generated by a one time dividend from its Canada subsidiaries.  As a result, the Company’s effective tax rate from continuing operations for the Second Quarter 2009 and Year-To-Date 2009 was 64.1% and (31.0)%, respectively, compared to 38.8% and 41.5% during the Second Quarter 2010 and Year-To-Date 2010, respectively.  The repatriation of

 

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cash from Canada did not impact the Company’s ability to remain permanently reinvested in the earnings of its Canadian subsidiaries.

 

During the Second Quarter 2010 and Year-To-Date 2010, the Company recognized approximately $0.2 million and $0.4 million, respectively, of additional interest expense related to its unrecognized tax benefits. During the Second Quarter 2009 and Year-To-Date 2009, the Company recognized approximately $0.2 million and $0.3 million, respectively 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 Company is subject to taxation in the U.S. and various states and foreign jurisdictions. The Company is no longer subject to U.S. federal income tax audits for years through fiscal 2006.  With limited exception, the Company is no longer subject to state, local or non-U.S. income tax audits by taxing authorities for years through fiscal 2003.

 

10.                               INTEREST INCOME (EXPENSE), NET

 

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

 

 

 

Thirteen Weeks Ended

 

Twenty-six Weeks Ended

 

 

 

July 31,

 

August 1,

 

July 31,

 

August 1,

 

 

 

2010

 

2009

 

2010

 

2009

 

Interest income

 

$

129

 

$

169

 

$

221

 

$

503

 

Tax-exempt interest income

 

14

 

5

 

18

 

11

 

Total interest income

 

143

 

174

 

239

 

514

 

 

 

 

 

 

 

 

 

 

 

Less:

 

 

 

 

 

 

 

 

 

Interest expense — term loan

 

 

1,687

 

 

3,858

 

Interest expense — credit facilities

 

55

 

82

 

126

 

139

 

Unused line fee

 

293

 

94

 

594

 

191

 

Amortization of deferred financing fees (1)

 

145

 

1,103

 

290

 

2,140

 

Other interest and fees (2)

 

31

 

(1,330

)

66

 

(1,084

)

Total interest expense

 

524

 

1,636

 

1,076

 

5,244

 

Interest income (expense), net

 

$

(381

)

$

(1,462

)

$

(837

)

$

(4,730

)

 


(1)         The Second Quarter 2009 and Year-To-Date 2009 include approximately $1.0 million and $1.9 million, respectively, of accelerated deferred financing costs associated with prepayments made on the Company’s term loan.

 

(2)         The Second Quarter 2009 and Year-To-Date 2009 include a credit of approximately $1.5 million of interest accrual reversals related to the settlement of an Internal Revenue Service employment tax audit related to stock options.

 

11.                               SEGMENT INFORMATION

 

In accordance with the “Segment Reporting” topic of the FASB ASC, the Company reports segment data based on management responsibility: The Children’s Place U.S. and The Children’s Place Canada.  Included in The Children’s Place U.S. segment are the Company’s U.S. based stores, including Puerto Rico, and its e-commerce store, www.childrensplace.com.  The Company measures its segment profitability based on operating income, defined as earnings before interest and taxes.  Net sales and direct costs are recorded by each segment. Certain inventory procurement functions such as production and design as well as corporate overhead, including executive management, finance, real estate, human resources, legal, and information technology services are managed by The Children’s Place U.S. segment.  Expenses related to these functions, including depreciation and amortization, are allocated to The Children’s Place Canada segment based primarily on net sales.  The assets related to these functions are not allocated.    The Company periodically reviews these allocations and adjusts them based upon changes in business circumstances.  Net sales from external customers are derived from merchandise sales and the Company has no major customers that account for more than 10% of its net sales.  As of July 31, 2010, The Children’s Place U.S. operated 880 stores and The Children’s Place Canada operated 97 stores.  As of August 1, 2009, The Children’s Place U.S. operated 848 stores and The Children’s Place Canada operated 89 stores.

 

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The following tables provide segment level financial information for the Second Quarter 2010, the Second Quarter 2009, Year-To-Date 2010 and Year-To-Date 2009 (dollars in thousands):

 

 

 

Thirteen Weeks Ended

 

Twenty-six Weeks Ended

 

 

 

July 31,

 

August 1,

 

July 31,

 

August 1,

 

 

 

2010

 

2009

 

2010

 

2009

 

Net sales:

 

 

 

 

 

 

 

 

 

The Children’s Place U.S.

 

$

297,329

 

$

275,947

 

$

670,742

 

$

639,018

 

The Children’s Place Canada

 

47,972

 

39,729

 

96,692

 

78,559

 

Total net sales

 

$

345,301

 

$

315,676

 

$

767,434

 

$

717,577

 

 

 

 

Thirteen Weeks Ended

 

Twenty-six Weeks Ended

 

 

 

July 31,

 

August 1,

 

July 31,

 

August 1,

 

 

 

2010

 

2009

 

2010

 

2009

 

Operating income (loss):

 

 

 

 

 

 

 

 

 

The Children’s Place U.S.

 

$

(17,456

)

$

(22,007

)

$

21,867

 

$

8,780

 

The Children’s Place Canada

 

4,328

 

3,334

 

12,699

 

8,558

 

Total operating income (loss)

 

$

(13,128

)

$

(18,673

)

$

34,566

 

$

17,338

 

 

 

 

 

 

 

 

 

 

 

Operating income (loss) as a percent of net sales:

 

 

 

 

 

 

 

 

 

The Children’s Place U.S.

 

-5.9

%

-8.0

%

3.3

%

1.4

%

The Children’s Place Canada

 

9.0

%

8.4

%

13.1

%

10.9

%

Total operating income (loss)

 

-3.8

%

-5.9

%

4.5

%

2.4

%

 

 

 

Thirteen Weeks Ended

 

Twenty-six Weeks Ended

 

 

 

July 31,

 

August 1,

 

July 31,

 

August 1,

 

 

 

2010

 

2009

 

2010

 

2009

 

Depreciation and amortization:

 

 

 

 

 

 

 

 

 

The Children’s Place U.S.

 

$

16,277

 

$

15,920

 

$

32,063

 

$

31,662

 

The Children’s Place Canada

 

1,922

 

1,644

 

3,761

 

3,426

 

Total depreciation and amortization

 

$

18,199

 

$

17,564

 

$

35,824

 

$

35,088

 

 

 

 

Thirteen Weeks Ended

 

Twenty-six Weeks Ended

 

 

 

July 31,

 

August 1,

 

July 31,

 

August 1,

 

 

 

2010

 

2009

 

2010

 

2009

 

Capital expenditures:

 

 

 

 

 

 

 

 

 

The Children’s Place U.S.

 

$

22,171

 

$

15,021

 

$

44,975

 

$

25,938

 

The Children’s Place Canada

 

873

 

 

1,983

 

1,147

 

Total capital expenditures

 

$

23,044

 

$

15,021

 

$

46,958

 

$

27,085

 

 

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Total assets by segment are as follows (in thousands):

 

 

 

July 31,

 

January 30,

 

August 1,

 

 

 

2010

 

2010

 

2009

 

Total assets:

 

 

 

 

 

 

 

The Children’s Place U.S.

 

$

779,743

 

$

752,827

 

$

836,989

 

The Children’s Place Canada

 

112,782

 

101,233

 

85,885

 

Total assets

 

$

892,525

 

$

854,060

 

$

922,874

 

 

12.                               SUBSEQUENT EVENTS

 

On August 18, 2010, the Company’s Board of Directors authorized a share repurchase program in the amount of $100.0 million.  Under the program, the Company may repurchase shares in the open market over the next twelve months at current market prices at the time of purchase or in privately negotiated transactions.  As of August 31, 2010, the Company has repurchased 635,000 shares at an aggregate cost of $28.2 million, which is an average cost of $44.33 per share.  All of these shares have been retired.  The timing and remaining number of shares repurchased under the program will depend on a variety of factors including price, corporate and regulatory requirements, and other market conditions, and may be suspended or discontinued at any time.

 

On August 18, 2010, in connection with the share repurchase program noted above, the 2008 Credit Agreement was amended to increase the allowable amount, subject to certain restrictions, that the Company may spend on share repurchases.

 

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Table of Contents

 

Item 2.

 

MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

 

This Quarterly Report on Form 10-Q contains forward-looking statements within the meaning of federal securities laws, which are intended to be covered by the safe harbors created thereby.  Those statements include, but may not be limited to, the discussions of the Company’s operating and growth strategy.  Investors are cautioned that all forward-looking statements involve risks and uncertainties including, without limitation, those set forth under the caption “Risk Factors” in Part I, Item I. A of the Company’s Annual Report on Form 10-K for the year ended January 30, 2010.  Although the Company believes that the assumptions underlying the forward-looking statements contained herein are reasonable, any of the assumptions could prove to be inaccurate, and therefore, there can be no assurance that the forward-looking statements included in this Quarterly Report on Form 10-Q will prove to be accurate.  In light of the significant uncertainties inherent in the forward-looking statements included herein, the inclusion of such information should not be regarded as a representation by the Company or any other person that the objectives and plans of the Company will be achieved.  The Company undertakes no obligation to publicly release any revisions to any forward-looking statements contained herein to reflect events and circumstances occurring after the date hereof or to reflect the occurrence of unanticipated events.

 

The following discussion should be read in conjunction with the Company’s unaudited financial statements and notes thereto included elsewhere in this Quarterly Report on Form 10-Q and the annual audited financial statements and notes thereto included in the Company’s Annual Report on Form 10-K for the year ended January 30, 2010.

 

Terms that are commonly used in our management’s discussion and analysis of financial condition and results of operations are defined as follows:

 

·                  Second Quarter 2010 — The thirteen weeks ended July 31, 2010.

·                  Second Quarter 2009 — The thirteen weeks ended August 1, 2009.

·                  Year-To-Date 2010— The twenty-six weeks ended July 31, 2010.

·                  Year-To-Date 2009— The twenty-six weeks ended August 1, 2009.

·                  Comparable Store Sales — Net sales, in constant currency, from stores that have been open at least 14 full fiscal months and that have not been substantially remodeled during that time.

·                  Comparable Retail Sales — Comparable Store Sales plus comparable sales from our e-commerce store.

·                  Gross Margin — Gross profit expressed as a percentage of net sales.

·                  SG&A — Selling, general and administrative expenses.

·                  FASB— Financial Accounting Standards Board.

·                  FASB ASC — FASB Accounting Standards Codification, which serves as the source for authoritative U.S. GAAP, except that rules and interpretive releases by the SEC are also sources of authoritative U.S. GAAP for SEC registrants.

·                  SEC— U.S. Securities and Exchange Commission.

·                  U.S. GAAP — Generally Accepted Accounting Principles in the United States.

 

Our Business

 

We are the largest pure-play children’s specialty apparel retailer in North America.  We design, contract to manufacture and sell high-quality, value-priced merchandise under our proprietary “The Children’s Place” brand name.  Our objective is to deliver high-quality merchandise at value prices.  As of July 31, 2010, we owned and operated 880 stores in the United States, 97 stores in Canada and an e-commerce store at www.childrensplace.com.

 

Recent Developments

 

On August 18, 2010, our Board of Directors authorized a share repurchase program in the amount of $100.0 million.  Under the program, we may repurchase shares in the open market over the next twelve months at current market prices at the time of purchase or in privately negotiated transactions.  As of August 31, 2010, we have repurchased 635,000 shares at an aggregate cost of $28.2 million, which is an average cost of $44.33 per share.  All of these shares have been retired.  The timing and remaining number of shares repurchased under the program will depend on a variety of factors including price, corporate and regulatory requirements, and other market conditions, and may be suspended or discontinued at any time.

 

On August 18, 2010, in connection with the share repurchase program noted above, the 2008 Credit Agreement was amended to increase the allowable amount, subject to certain restrictions, that we may spend on share repurchases.

 

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Segment Reporting

 

In accordance with the “Segment Reporting” topic of the FASB ASC, we report segment data based on management responsibility: The Children’s Place U.S. and The Children’s Place Canada.  Included in The Children’s Place U.S. segment are our U.S. based stores, including Puerto Rico, and our e-commerce store, www.childrensplace.com.  We measure our segment profitability based on operating income, defined as earnings before interest and taxes.  Net sales and direct costs are recorded by each segment.  Certain inventory procurement functions such as production and design as well as corporate overhead, including executive management, finance, real estate, human resources, legal, and information technology services are managed by The Children’s Place U.S. segment.  Expenses related to these functions, including depreciation and amortization, are allocated to The Children’s Place Canada segment based primarily on net sales.  The assets related to these functions are not allocated.  We periodically review these allocations and adjust them based upon changes in business circumstances.  Net sales from external customers are derived from merchandise sales and we have no major customers that account for more than 10% of our net sales.  As of July 31, 2010, The Children’s Place U.S. operated 880 stores and The Children’s Place Canada operated 97 stores.  As of August 1, 2009, The Children’s Place U.S. operated 848 stores and The Children’s Place Canada operated 89 stores.

 

The Disney Store Business

 

In the first quarter of fiscal 2008, we discontinued our operations of the Disney Store business, which we operated under a licensing agreement with The Walt Disney Company.  Amounts included in loss from discontinued operations relate to the wind down of the Disney Store business.

 

Operating Highlights

 

Net sales increased by $49.8 million, or 6.9%, to $767.4 million in Year-To-Date 2010 from $717.6 million during Year-To-Date 2009.  Our Comparable Retail Sales increased 1.7% during Year-To-Date 2010 compared to a 3.3% decrease during Year-To-Date 2009.  During Year-To-Date 2010, we opened 34 The Children’s Place stores and closed four.  During Year-To-Date 2009, we opened 21 The Children’s Place stores and closed one.

 

During Year-To-Date 2010, we reported income from continuing operations of $19.7 million, or $0.70 per diluted share, compared to $16.5 million, or $0.56 per diluted share, in Year-To-Date 2009.   During Year-To-Date 2010, the following factors significantly impacted our business:

 

·                  We have accelerated our store growth in fiscal 2010 with the majority of our new stores located in strip or enclosed malls comprised largely of value oriented retailers focused on apparel (a “Value Oriented Center” or “VOC”).  During Year-To-Date 2010, we opened 34 new stores, approximately 62% more than the 21 opened in Year-To-Date 2009, which provided a $28.3 million increase in sales from new stores.  We are on plan to open 65 stores for the full fiscal year 2010, which will be approximately 71% more than the 38 opened in fiscal 2009;

 

·                  We have improved our inventory management.  During the Second Quarter 2010, we took earlier and more aggressive markdowns on summer product and are entering the third quarter with 33% less carryover inventory per square foot. The markdowns were focused on maximizing summer sales, while at the same time strategically driving down carryover inventory levels;

 

·                  Continued weakness in the U.S. and Canadian economic environments; and

 

·                  An increase in value of the Canadian Dollar versus the U.S. Dollar.

 

Additionally, income from continuing operations in Year-To-Date 2009 included the following:

 

·                  Approximately $2.2 million of professional fees related to our proxy contest;

 

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·                  Approximately $2.4 million of interest and deferred financing expenses related to our planned repayment of the remaining $38 million on our term loan;

 

·                  A $4.5 million tax benefit related to the settlement of an Internal Revenue Service, or IRS, income tax audit and $4.8 million of foreign tax credits related to the repatriation of foreign cash;

 

·                  A $4.6 million gain from the settlement of an IRS employment tax audit related to stock options of which approximately $1.5 million was a reversal of accrued interest;

 

·                  Restructuring costs of approximately $2.8 million related to our strategic initiatives, primarily the moving of our e-commerce fulfillment center from Secaucus, New Jersey to our distribution center in Fort Payne, Alabama; and

 

·                  Impairment charges of $0.9 million related to an underperforming store that had been recently opened in 2007.

 

We have subsidiaries in Canada, Hong Kong and Shanghai whose operating results are based in foreign currencies and are thus subject to the fluctuations of the corresponding translation rates into U.S. dollars.  The below table summarizes the average translation rates impacting our operating results:

 

 

 

Thirteen Weeks Ended

 

Twenty-six Weeks Ended

 

 

 

July 31,

 

August 1,

 

July 31,

 

August 1,

 

 

 

2010

 

2009

 

2010

 

2009

 

Average Translation Rates (1)

 

 

 

 

 

 

 

 

 

Canadian Dollar

 

0.9620

 

0.8777

 

0.9661

 

0.8421

 

Hong Kong Dollar

 

0.1285

 

0.1290

 

0.1286

 

0.1290

 

China Yuan Renminbi

 

0.1468

 

0.1464

 

0.1466

 

0.1464

 

 


(1)  The average translation rates are the average of the monthly translation rates used during each period to translate the respective income statements.  The rates represent the U.S. dollar equivalent of each foreign currency.

 

For the Second Quarter 2010, the effects of these translation rate changes on net sales, gross profit and income from continuing operations before income taxes were increases of $4.2 million, $1.8 million and $0.9 million, respectively.  For the Year-To-Date 2010, the effects of these translation rate changes on net sales, gross profit and income from continuing operations before income taxes were increases of $12.6 million, $5.9 million and $3.0 million, respectively.  Net sales are affected only by the Canadian dollar translation rates.  In addition to the translation rate changes, the gross profit of our Canadian subsidiary is also impacted by its purchases of inventory, which are priced in U.S. dollars.  The effect of these purchases on our gross profit was an increase of approximately $1.4 million and $3.0 million in the Second Quarter 2010 and Year-To-Date 2010, respectively.

 

CRITICAL ACCOUNTING POLICIES

 

The preparation of consolidated financial statements in conformity with U.S. GAAP requires us to make estimates and assumptions that affect the reported amounts of assets and liabilities and the disclosure of contingent assets and liabilities at the date of the financial statements, as well as the reported revenues and expenses during the reported period.  In many cases, there are alternative policies or estimation techniques that could be used.  We continuously review the application of our accounting policies and evaluate the appropriateness of the estimates used in preparing our financial statements; however, estimates routinely require adjustment based on changing circumstances and the receipt of new or better information.  Consequently, actual results could differ from our estimates.

 

The accounting policies and estimates discussed below include those that we believe are the most critical to aid in fully understanding and evaluating our financial results.  Senior management has discussed the development and selection of our critical accounting policies and estimates with the Audit Committee of our Board of Directors, which has reviewed our related disclosures herein.

 

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Inventory Valuation— Merchandise inventories are stated at the lower of average cost or market, using the retail inventory method.  Under the retail inventory method, the valuation of inventories at cost and the resulting gross margins are calculated by applying a cost-to-retail ratio, for each merchandise department, to the retail value of inventories.  An initial mark-up is applied to inventory at cost to establish a cost-to-retail ratio.  Permanent markdowns, when taken, reduce both the retail and cost components of inventory on hand so as to maintain the already established cost-to-retail relationship.  At any one time, inventories include items that have been marked down to our best estimate of the lower of their cost or fair market value and an estimate of our inventory shrinkage.

 

We base our decision to mark down merchandise upon its current rate of sale, the season, and the age and sell-through of the item.  We estimate sell-through rates based upon historical and forecasted information.  Markdown reserves are assessed and adjusted each quarter based on current sales trends and their resulting impact on forecasts.  Our success is largely dependent upon our ability to gauge the fashion taste of our customers, and to provide a well-balanced merchandise assortment that satisfies customer demand.  Throughout the year, we review our inventory in order to identify slow moving items and generally use markdowns to clear them.  Any inability to provide the proper quantity of appropriate merchandise in a timely manner, or to correctly estimate the sell-through rate, could have a material impact on our consolidated financial statements.  Our historical estimates have not differed materially from actual results and a 10% difference in our markdown reserve as of July 31, 2010 would have impacted net income by approximately $0.9 million.  Our markdown reserve balance at July 31, 2010 was $14.2 million.

 

Additionally, we adjust our inventory based upon an annual physical inventory, which is taken during the last quarter of the fiscal year.  Based on the results of our historical physical inventories, an estimated shrink rate is used for each successive quarter until the next annual physical inventory, or sooner if facts or circumstances should indicate differently.  A 1% difference in our shrinkage rate at retail could impact each quarter’s net income by approximately $0.6 million.

 

Stock-based Compensation— We account for stock-based compensation according to the provisions of the “Stock Compensation” topic of FASB ASC.

 

Restricted Stock, Deferred Stock and Performance Awards

 

We grant restricted shares and deferred stock awards to our employees and non-employee directors and performance awards to certain key members of management.  The fair value of each award is based on the average of the high and low selling price of our common stock on the grant date.  Compensation expense is recognized ratably over the related service period reduced for estimated forfeitures of those awards not expected to vest due to employee turnover.  While actual forfeitures could vary significantly from those estimated, a 10% change in our forfeiture rate would impact our net income by approximately $0.5 million.  In addition, the number of performance shares earned is dependent upon our operating results over a specified time period.  The expense for performance shares is based on an estimate of the number of shares we think will vest based on our earnings-to-date plus our estimate of future earnings for the remaining performance period.  The current performance period ends on January 29, 2011.  To the extent that actual operating results differ from our estimates, future performance share compensation expense could be significantly different.  A 25% decrease in our projected future earnings could decrease our equity compensation, pre-tax, by approximately $3.5 million, and a 25% increase in our projected future earnings could increase our equity compensation, pre-tax, by approximately $0.1 million.

 

Stock Options

 

During fiscal 2008, we ceased issuing stock options in favor of deferred stock awards.  The fair value of all outstanding stock options was estimated using the Black-Scholes option pricing model based on a Monte Carlo simulation, which requires extensive use of accounting judgment and financial estimates, including estimates of how long employees will hold their vested stock options before exercise, the estimated volatility of our common stock over the expected term, and the number of options that will be forfeited prior to the completion of vesting requirements.  All exercise prices were based on the average of the high and low of the selling price of our common stock on the grant date.  Total unamortized stock compensation at July 31, 2010 was not material and use of different assumptions regarding pricing and forfeitures would not have a material impact on our current financial position or results of operations.

 

Insurance and Self-Insurance Liabilities—Based on our assessment of risk and cost efficiency, we self-insure as well as purchase insurance policies to provide for workers’ compensation, general liability, and property losses, as well as directors’ and officers’ liability, vehicle liability and employee medical benefits.  We estimate risks and record a liability

 

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based upon historical claim experience, insurance deductibles, severity factors and other actuarial assumptions.  These estimates include inherent uncertainties due to the variability of the factors involved, including type of injury or claim, required services by the providers, healing time, age of claimant, case management costs, location of the claimant, and governmental regulations.  While we believe that our risk assessments are appropriate, these uncertainties or a deviation in future claims trends from recent historical patterns could result in our recording additional or reduced expenses, which could have a significant impact on our results of operations.  Our historical estimates have not differed materially from actual results and a 10% difference in our insurance reserves as of July 31, 2010 would have impacted net income by approximately $0.6 million.

 

Impairment of Long-Lived Assets— We periodically review our long-lived assets when events indicate that their carrying value may not be recoverable.  Such events include a history trend or projected trend of cash flow losses or a future expectation that we will sell or dispose of an asset significantly before the end of its previously estimated useful life.  In reviewing for impairment, we group our long-lived assets at the lowest possible level for which identifiable cash flows are largely independent of the cash flows of other assets and liabilities.  In that regard, we group our assets into two categories: corporate-related and store-related.  Corporate-related assets consist of those associated with our corporate offices, distribution centers and our information technology systems.  Store-related assets consist of leasehold improvements, furniture and fixtures, certain computer equipment and lease related assets associated with individual stores.

 

For store-related assets, we review all stores that have been open for at least two years, or sooner if circumstances should dictate, on at least an annual basis.  For each of these stores, we project future cash flows over the remaining life of the lease and compare the total undiscounted cash flows to the net book value of the related long-lived assets.  If the undiscounted cash flows are less than the related net book value of the long-lived assets, they are written down to their fair market value.  We primarily determine fair market value to be the discounted future cash flows associated with those assets.  In evaluating future cash flows, we consider external and internal factors.  External factors comprise the local environment in which the store resides, including mall traffic, competition, and their effect on sales trends.  Internal factors include our ability to gauge the fashion taste of our customers, control variable costs such as cost of sales and payroll, and in certain cases, our ability to renegotiate lease costs.  Historically, less than 2% of our stores required impairment charges in any one year.  If external factors should change unfavorably, if actual sales should differ from our projections, or if our ability to control costs is insufficient to sustain the necessary cash flows, future impairment charges could be material.  At July 31, 2010, the average net book value per store was $0.2 million.

 

Income Taxes— We utilize the liability method of accounting for income taxes as set forth in the “Income Taxes” topic of the FASB ASCUnder the liability method, deferred taxes are determined based on the temporary differences between the financial statement and tax basis of assets and liabilities using tax rates expected to be in effect during the years in which the basis differences reverse.  A valuation allowance is recorded when it is more likely than not that some of the deferred tax assets will not be realized.  In determining the need for valuation allowances we consider projected future taxable income and the availability of tax planning strategies.  If, in the future we determine that we would not be able to realize our recorded deferred tax assets, an increase in the valuation allowance would decrease earnings in the period in which such determination is made.

 

We assess our income tax positions and record tax benefits for all years subject to examination based upon our evaluation of the facts, circumstances and information available at the reporting date.  For those tax positions where it is more likely than not that a tax benefit will be sustained, we have recorded the largest amount of tax benefit with a greater than 50% likelihood of being realized upon ultimate settlement with a taxing authority that has full knowledge of all relevant information.  For those income tax positions where it is not more likely than not that a tax benefit will be sustained, no tax benefit has been recognized in the financial statements.

 

Fair Value Measurement and Financial Instruments—The “Fair Value Measurements and Disclosure” topic of the FASB ASC provides a single definition of fair value, together with a framework for measuring it, and requires additional disclosure about the use of fair value to measure assets and liabilities.

 

This topic defines fair value as the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date and establishes a three-level hierarchy, which encourages an entity to maximize the use of observable inputs and minimize the use of unobservable inputs when measuring fair value.  The three levels of the hierarchy are defined as follows:

 

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·                  Level 1 - inputs to the valuation techniques that are quoted prices in active markets for identical assets or liabilities

 

·                  Level 2 - inputs to the valuation techniques that are other than quoted prices but are observable for the assets or liabilities, either directly or indirectly

 

·                  Level 3 - inputs to the valuation techniques that are unobservable for the assets or liabilities

 

The Company’s cash and cash equivalents, accounts receivable, accounts payable, credit facilities and certain other short-term financial instruments are all short-term in nature.  As such, their carrying amounts approximate fair value.

 

Recently Adopted Accounting Standards

 

We have reviewed recent accounting standards issued under FASB ASC and have determined that they will have no financial impact on our condensed consolidated financial statements.

 

RESULTS OF OPERATIONS

 

The following table sets forth, for the periods indicated, selected income statement data expressed as a percentage of net sales. We primarily evaluate the results of our operations as a percentage of net sales rather than in terms of absolute dollar increases or decreases by analyzing the year over year change in our business expressed as a percentage of net sales (i.e. “basis points”). For example, our selling, general and administrative expenses decreased approximately 250 basis points to 31.1% of net sales during the Second Quarter 2010 from 33.6% during the Second Quarter 2009.  Accordingly, to the extent that our sales have increased at a faster rate than our costs (i.e. “leveraging”), the more efficiently we have utilized the investments we have made in our business.  Conversely, if our sales decrease or if our costs grow at a faster pace than our sales (i.e. “de-leveraging”), we have less efficiently utilized the investments we have made in our business.

      

 

 

Thirteen Weeks Ended

 

Twenty-six Weeks Ended

 

 

 

July 31,

 

August 1,

 

July 31,

 

August 1,

 

 

 

2010

 

2009

 

2010

 

2009

 

Net sales

 

100.0

%

100.0

%

100.0

%

100.0

%

Cost of sales

 

67.1

 

66.6

 

61.8

 

62.1

 

Gross profit

 

32.9

 

33.4

 

38.2

 

37.9

 

Selling, general and administrative expenses

 

31.1

 

33.6

 

28.8

 

30.4

 

Asset impairment charge

 

0.4

 

0.1

 

0.3

 

0.2

 

Depreciation and amortization

 

5.3

 

5.6

 

4.7

 

4.9

 

Operating income (loss)

 

(3.8

)

(5.9

)

4.5

 

2.4

 

Interest (expense), net

 

(0.1

)

(0.5

)

(0.1

)

(0.7

)

Income (loss) from continuing operations before income taxes

 

(3.9

)

(6.4

)

4.4

 

1.8

 

Provision (benefit) for income taxes

 

(1.5

)

(4.1

)

1.8

 

(0.5

)

Income (loss) from continuing operations

 

(2.4

)

(2.3

)

2.6

 

2.3

 

Income (loss) from discontinued operations, net of taxes

 

 

0.1

 

 

 

Net income (loss)

 

(2.4

)%

(2.2

)%

2.6

%

2.3

%

Number of stores, end of period

 

977

 

937

 

977

 

937

 

 

Table may not add due to rounding.

 

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The following tables set forth by segment, for the periods indicated, selected net sales, gross profit and Gross Margin income statement data (in thousands):

 

 

 

Thirteen Weeks Ended

 

Twenty-six Weeks