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Great Atlantic & Pacific Tea Company 10-Q 2011 UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
Mark One
For the quarterly period ended December 4, 2010
OR
For the transition period from _____ to _____
Commission File Number 1-4141
THE GREAT ATLANTIC & PACIFIC TEA COMPANY, INC.
(Exact name of registrant as specified in charter)
2 Paragon Drive
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 T NO o
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate website, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). Yes o No o
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or smaller reporting company. See definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act. (Check one):
Large accelerated filer o Accelerated filer T Non-accelerated filer o Smaller reporting company 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 T
As of January 7, 2011, the Registrant had a total of 53,852,470 shares of common stock - $1 par value outstanding.
PART I – FINANCIAL INFORMATION
ITEM 1 – Financial Statements
The Great Atlantic & Pacific Tea Company, Inc.
Consolidated Statements of Operations
(Dollars in thousands, except share and per share amounts)
(Unaudited)
See Notes to Consolidated Financial Statements
The Great Atlantic & Pacific Tea Company, Inc.
Consolidated Statements of Stockholders’ Deficit and Comprehensive Loss
(Dollars in thousands, except share amounts)
(Unaudited)
Comprehensive Loss
See Notes to Consolidated Financial Statements
The Great Atlantic & Pacific Tea Company, Inc.
Consolidated Balance Sheets
(Dollars in thousands, except share and per share amounts)
(Unaudited)
See Notes to Consolidated Financial Statements
The Great Atlantic & Pacific Tea Company, Inc.
Consolidated Statements of Cash Flows
(Dollars in thousands)
(Unaudited)
See Notes to Consolidated Financial Statements
The Great Atlantic & Pacific Tea Company, Inc.
Consolidated Statements of Cash Flows - Continued
(Dollars in thousands)
(Unaudited)
ADJUSTMENTS TO RECONCILE NET LOSS TO NET CASH USED IN OPERATING ACTIVITIES:
See Notes to Consolidated Financial Statements
The Great Atlantic & Pacific Tea Company, Inc.
Notes to Consolidated Financial Statements - Continued
(Dollars in thousands, except share and per share amounts)
(Unaudited)
The accompanying Consolidated Statements of Operations, Consolidated Statements of Stockholders’ Deficit and Comprehensive Loss, and Consolidated Statements of Cash Flows for the 12 and 40 weeks ended December 4, 2010 and December 5, 2009, and the Consolidated Balance Sheets at December 4, 2010 and February 27, 2010 of The Great Atlantic & Pacific Tea Company, Inc. (“we,” “our,” “us” or “our Company”) are unaudited and, in the opinion of management, contain all adjustments that are of a normal and recurring nature necessary for a fair statement of financial position and results of operations for such periods. The consolidated financial statements should be read in conjunction with the consolidated financial statements and related notes contained in our Fiscal 2009 Annual Report on Form 10-K. The year-end balance sheet was derived from audited financial statements, but does not include all disclosures required by accounting principles generally required in the United States of America. Interim results are not necessarily indicative of results for a full year.
The consolidated financial statements include the accounts of our Company and all subsidiaries. All intercompany accounts and transactions have been eliminated.
Certain reclassifications have been made to prior year amounts to conform to current year presentation. Refer to Note 2 – Impact of New Accounting Pronouncements below for prior period reclassifications made upon our retrospective adoption of Financial Accounting Standards Board (“FASB”) Accounting Standards Update (“ASU”) relating to accounting for share lending agreements entered into in contemplation of a convertible debt issuance.
Bankruptcy Filing
On December 12, 2010, subsequent to our balance sheet date, our Company and all of our U.S. subsidiaries (the “Filing Subsidiaries” and, together with our Company, the “Debtors”) filed voluntary petitions for relief (the “Bankruptcy Filing”) under chapter 11 of title 11 of the United States Bankruptcy Code (the “Bankruptcy Code”) in the United States Bankruptcy Court for the Southern District of New York in White Plains (the “Bankruptcy Court”), case number 10-24549. Management's decision to make the Bankruptcy Filing was in response to, among other things, our Company’s deteriorating liquidity and management's conclusion in the third quarter that the challenges of successfully implementing additional financing initiatives and of obtaining necessary cost concessions from our Company’s business and labor partners, was negatively impacting our Company’s ability to implement our previously announced turnaround strategy. Our Company’s non-U.S. subsidiaries, which are immaterial on a consolidated basis, were not part of the Bankruptcy Filing and will continue to operate in the ordinary course of business. See Note 21 - Subsequent Events.
The Debtors are currently operating pursuant to Bankruptcy Filing and continuation of our Company as a going-concern is contingent upon, among other things, the Debtors’ ability (i) to comply with the terms and conditions of the DIP Credit Agreement described in Note 21 – Subsequent Events; (ii) to develop a plan of reorganization and obtain confirmation under the Bankruptcy Code; (iii) to reduce debt and other liabilities through the bankruptcy process; (iv) to return to profitability; (v) to generate sufficient cash flow from operations; and (vi) to obtain financing sources to meet our future obligations. The uncertainty regarding these matters raises substantial doubt about our ability to continue as a going concern.
Our Company was required to apply the FASB’s provisions of Reorganizations effective on December 12, 2010, which is applicable to companies in chapter 11, which generally does not change the manner in which financial statements are prepared. However, it does require that the financial statements for periods subsequent to the filing of the Bankruptcy Filing petition distinguish transactions and events that are directly associated with the reorganization from the ongoing operations of the business. Revenues, expenses, realized gains and losses, and provisions for losses that can be directly associated with the reorganization and restructuring of the business must be reported separately as reorganization items in the statements of operations beginning in the year ending February 26, 2011. The balance sheet must distinguish prepetition liabilities subject to compromise from both those prepetition liabilities that are not subject to compromise and from post-petition liabilities. As discussed in Note 8 - Indebtedness and Other Financial Liabilities, currently both the Credit Facility and Secured Senior Notes totaling $370.3 million have priority over the unsecured creditors of our Company; however our Company continues to evaluate creditors' claims for other claims that may also have priority over unsecured creditors. Liabilities that may be affected by a plan of reorganization must be reported at the amounts expected to be approved by the Bankruptcy Court, even if they may be settled for lesser amounts as a result of the plan or reorganization. In addition, cash provided by reorganization items must be disclosed separately in the statements of cash flows. The accompanying consolidated financial statements do not reflect any adjustments relating to the classification of assets or liabilities as a result of adopting the requirements of bankruptcy accounting. In addition, these accompanying consolidated financial statements do not reflect any adjustments of the carrying value of assets and liabilities which may result from any plan of reorganization adopted by our Company.
Significant Accounting Policies
A summary of our significant accounting policies may be found in our Annual Report on Form 10-K for the year ended February 27, 2010. There have been no significant changes in these policies during the 40 weeks ended December 4, 2010.
Newly Adopted Accounting Pronouncements
Share Lending Arrangements. In June 2009, the FASB issued new guidance on accounting for one’s own-share lending arrangements entered into in contemplation of a convertible debt issuance or other financing, which requires share lending arrangements to be measured at fair value and recognized as a debt issuance cost, and amortized using the effective interest method over the life of the financing arrangement as interest cost. The loaned shares are excluded from basic and diluted earnings per share, unless a default occurs.
When a default becomes probable, an expense equal to the fair value of the unreturned loaned shares, net of any probable recoveries, must be recognized. This guidance was effective beginning with our fiscal 2010, with retrospective application required. The fair values of our share lending agreements with the Bank of America and Lehman Brothers International Europe (“Lehman Europe”) were immaterial at inception. Our share lending arrangement with Lehman Europe, who is a party to a 3,206,058 share lending agreement with our Company, is subject to this default provision guidance as a result of their September 15, 2008 bankruptcy filing. In connection with Lehman Europe’s default, during the first quarter of fiscal 2010, we recorded a retrospective adjustment of $28.3 million to our third quarter of fiscal 2008 financial statements by charging “Store operating, general and administrative expense” and crediting “Additional paid-in-capital”, which represents the fair value of the unreturned shares at September 15, 2008. This expense is reflected in our Consolidated Balance Sheets as of February 27, 2010 and December 4, 2010 as an adjustment to opening “Accumulated deficit” and “Additional paid-in capital”. We have been including the loaned shares in our Company’s basic and diluted earnings per share since September 15, 2008. As of January 3, 2011, there were no shares outstanding under our share lending agreements.
Variable Interest Entities. In June 2009, the FASB issued new accounting guidance relating to consolidation of variable interest entities (“VIEs”), which amends the current accounting guidance for determining whether an entity is a VIE and defining the primary beneficiary. This guidance also requires additional disclosures relating to involvement with a VIE. We adopted this guidance during the first quarter of our fiscal 2010. The adoption of this guidance did not have a material effect on our Consolidated Financial Statements and disclosures.
Fair Value Measurements. In January 2010, the FASB issued new accounting guidance requiring additional disclosures about the different classes of assets and liabilities measured at fair value, valuation techniques and inputs used, the activity in Level 3 fair value measurements, and the transfers between Levels 1 and 2. It also clarified guidance around disaggregation and disclosures of inputs and valuation techniques for Level 2 and Level 3 fair value measurements. The current guidance is effective beginning with the first quarter of our fiscal 2010, except for the new disclosures relating to the Level 3 reconciliation, which are effective for the first quarter of our fiscal 2011. Refer to Note 4 – Fair Value Measurements for our Company’s fair value measurements and disclosures.
The carrying values of our finite-lived intangible assets are reviewed for possible impairment whenever events or changes in circumstances indicate that the carrying amount of assets may not be recoverable. Our intangible assets that have finite useful lives are amortized over their estimated useful lives. Goodwill and other intangibles with indefinite useful lives that are not subject to amortization are tested for impairment in the fourth quarter of each fiscal year, or more frequently whenever events or changes in circumstances indicate that impairment may have occurred. The latest impairment assessment of goodwill and indefinite lived intangible assets was completed in the fourth quarter of fiscal 2009 for the reporting units within our Gourmet and Other reportable segments and in the first quarter of fiscal 2010 for the reportable units in our Fresh reportable segment. These assessments concluded that there was no impairment.
As we worked through our turnaround plan, we experienced significant impediments to lowering our operating costs, leading to revised projections and triggering a requirement for an interim impairment analysis for our quarter ended December 4, 2010.
Goodwill
We performed the first step of goodwill impairment testing by estimating the fair value of the reporting units using a net present value methodology, which is dependent on significant assumptions related to estimated future discounted cash flows, discount rates and tax rates. Assumptions included a decline in revenues of approximately 10% and 1% in fiscals 2011 and 2012, respectively, with revenues remaining flat for fiscal years thereafter. We assumed that the costs of disruption to our business resulting from the Bankruptcy Filing will be offset in fiscal 2011 by expected improvements in supply, logistics and labor costs expected to be realized through ongoing negotiations with our strategic business partners. We assumed costs for disruptions to our business resulting from the Bankruptcy Filing would cease toward the end of fiscal 2011 with a continuation of improved costs in fiscal 2012. We assumed a perpetual growth rate for cash flow in the terminal year of 1.5%, a market-based weighted average cost of capital of 11.0% to discount cash flows and a blended tax rate of 42.0%. Our analysis showed the goodwill was not impaired. As of December 4, 2010, Goodwill for our Fresh segment was $92.3 million, of which $64.5 million was attributed to A&P and $27.8 million was attributed to Waldbaum’s. The fair value of the A&P and The Food Emporium reporting units exceeded their carrying values by an excess of 50%. The fair value of the Waldbaum’s, FoodBasics and Beer, Wine & Spirits reporting units exceeded their carrying values by an excess of 25%.
We believe that our estimates are appropriate based on our current trends and our expectations of negotiations resulting from the Bankruptcy Filing. However, we can provide no assurance that we will not be required to make adjustments to goodwill in the future due to market conditions or other factors related to our performance, including a decline in our forecasted results resulting from changes in projected on-going profitability, our capital investment budgets, changes in our interest rates, or favorable contract re-negotiations or expectations assumed in projections due to the Bankruptcy Filing that may not occur.
The carrying amount of our goodwill was $110.4 million and $115.2 million at December 4, 2010 and February 27, 2010, respectively. Our goodwill allocation by segment at December 4, 2010 and February 27, 2010 was as follows:
* Relates to the sale of seven stores in Connecticut. Refer to Note 17 – Disposition of Assets
Intangible Assets, net
Intangible assets acquired as part of our acquisition of Pathmark in December 2007 consisted of the following:
As noted above, we determined that there was an interim triggering event requiring us to evaluate the intangible assets of the Pathmark reporting unit for possible impairment.
We evaluated the fair value of the Pathmark trademark using the relief-from-royalty method. As a result of lowered revenue expectations, the carrying value exceeded the indicated fair value of the Pathmark trademark, resulting in an impairment of $12.7 million, which we recorded this quarter within “Goodwill, trademark, and long-lived asset impairment” in our Consolidated Statements of Operations. Our estimates assumed a decline in revenues of approximately 10% and 1% in fiscals 2011 and 2012, respectively, with revenues remaining flat for fiscal years thereafter, and an annual pre-tax royalty savings rate of 20 basis points. If revenues in the future decline in excess of our assumptions, we may be required to record impairment charges. During our fourth quarter of fiscal 2010, we will perform our annual trademark impairment testing as required by the accounting standards.
During the third quarter of fiscal 2010, we also determined that we had a triggering event requiring us to evaluate the recoverability of our amortizable intangible assets for possible impairment. We evaluated the expected undiscounted cash flows of the Pathmark reporting unit compared to the book value of all long-lived assets, including intangible assets other than goodwill, noting no impairment of our amortizable intangible assets. Assumptions included a decline in revenues of approximately 10% and 1% in fiscals 2011 and 2012, respectively, with revenues remaining flat for fiscal years thereafter. We assumed that the costs of disruption to our business resulting from our Bankruptcy Filing will be offset in fiscal 2011 by expected improvements with a continuation of improved costs in fiscal 2012 and thereafter. We assumed a growth rate for cash flow beginning in 2016 of 1.5%. Additionally, we assumed a terminal sale value for the Pathmark reporting unit at the end of the life of the primary asset. Future impairment charges could be required if our operating results in future periods differ from our current assumptions. The fair value of the Pathmark reporting unit exceeded its carrying values by an excess of 30%.
Amortization expense relating to our intangible assets for the 12 weeks ended December 4, 2010 and December 5, 2009 was $2.5 million during each period. Amortization expense for the 40 weeks ended December 4, 2010 and December 5, 2009 was $8.3 million during each period.
The following table summarizes the estimated future amortization expense for our finite-lived intangible assets:
The accounting guidance for fair value measurement defines and establishes a framework for measuring fair value. Inputs used to measure fair value are classified based on the following three-tier fair value hierarchy:
Level 1 – Quoted prices in active markets for identical assets or liabilities. Level 2 – Directly or indirectly observable inputs other than Level 1 quoted prices in active markets. Our Level 2 liabilities include warrants, which are valued using the Black Scholes pricing model with inputs that are observable or can be derived from or corroborated by observable market data. In addition, our investments in money market funds, which are considered cash equivalents, are classified as Level 2, as they are valued based on their reported Net Asset Value (NAV).
Level 3 – Unobservable inputs that are supported by little or no market activity whose value is determined using pricing models, discounted cash flows, or similar methodologies, as well as instruments for which the determination of fair value requires significant judgment or estimation.
A financial asset or liability’s classification within the hierarchy is determined based on the lowest level input that is significant to the fair value measurement.
The following table provides the assets and liabilities carried at fair value measured on a recurring basis at December 4, 2010 and February 27, 2010:
There were no transfers in and out of Level 1 and Level 2 fair value measurements during the 40 weeks ended December 4, 2010.
Level 3 Valuations
We did not have any financial assets or liabilities classified as Level 3 within the fair value hierarchy at December 4, 2010 and February 27, 2010.
Nonfinancial Assets and Liabilities Measured on a Nonrecurring Basis. Fair value measurements of our nonfinancial assets and nonfinancial liabilities on a nonrecurring basis using Level 3 inputs are primarily used in the impairment analyses of our goodwill and other indefinite-lived intangible assets, our long-lived assets and closed store occupancy costs. Refer to Note 3 – Goodwill and Other Intangible Assets for further information relating to the carrying value of our goodwill and other intangible assets. Long-lived assets and closed store occupancy costs were measured at fair value on a nonrecurring basis using Level 3 inputs, as unobservable inputs were used to measure their fair value. Refer to Note 5 – Valuation of Long-Lived Assets, Note 14 – Discontinued Operations and Note 15 – Asset Disposition Initiatives for more information relating to the valuation of these assets and liabilities.
Long-Term Debt
The following table provides the carrying values recorded on our balance sheet and the estimated fair values of financial instruments at December 4, 2010 and February 27, 2010:
Our long-term debt includes borrowings under our line of credit, credit agreement, related party promissory note and our other notes. The fair value of our debt securities is determined based on quoted market prices for such notes in non-active markets.
We review the carrying values of our long-lived assets for possible impairment whenever events or changes in circumstances indicate that the carrying amount of assets may not be recoverable.
Impairments due to closure or conversion in the normal course of business
We review assets in stores planned for closure or conversion for impairment upon determination that such assets will not be used for their intended useful life. During the 12 and 40 weeks ended December 4, 2010, we recorded impairment losses on long-lived assets of nil and $1.1 million, respectively, related to stores that were closed or converted in the normal course of business, as compared to $1.5 million and $5.2 million in impairment losses recorded during the 12 and 40 weeks ended December 5, 2009. These amounts were recorded within “Store operating, general and administrative expense” in our Consolidated Statements of Operations.
Impairments due to store closures
In August 2010, our Company announced a plan to close 25 stores in five states as we began the implementation and execution phase of our comprehensive turnaround. The affected stores include locations in close proximity to other Company stores, those facing real estate and cost issues, and underperforming non-core stores. As a result, we recorded an impairment charge of $23.7 million during the prior quarter. The store closures were completed in our Company’s third fiscal quarter. During the 12 weeks ended December 4, 2010, we recorded an additional impairment charge of $1.1 million. This amount was recorded within “Goodwill, trademark, and long-lived asset impairment” in our Consolidated Statements of Operations. There were no such closures during the 12 and 40 weeks ended December 5, 2009.
Impairments due to unrecoverable assets
As a result of experiencing cash flow losses at certain stores, we determined that a triggering event had occurred that required us to test the related long-lived assets for potential impairment. We recorded an impairment charge of $28.2 million and $40.2 million during the 12 and 40 weeks ended December 4, 2010, respectively, to partially write down these stores’ long-lived assets, which consist of favorable leases, capital leases, and land and buildings, with a carrying amount of $63.0 million to their fair value of $34.8 million for the 12 weeks ended December 4, 2010. The impairment charge of $28.2 million during the 12 weeks ended December 4, 2010 all related to Pathmark. The impairment charge of $40.2 million recorded during the 40 weeks ended December 4, 2010 all related to Pathmark with the exception of $0.9 million which related to SuperFresh. During the 12 weeks ended December 5, 2009, we recorded an impairment charge of $40.8 million related to Pathmark. These amounts were recorded within “Long-lived asset impairment” in our Consolidated Statements of Operations.
The effects of changes in estimates of useful lives were not material to ongoing depreciation expense. If current operating levels do not improve, there may be a need to take further actions which may result in additional future impairments on long-lived assets, including the potential for impairment of assets that are held and used.
Other accruals at December 4, 2010 and February 27, 2010 were comprised of the following:
Other non-current liabilities at December 4, 2010 and February 27, 2010 were comprised of the following:
Our debt obligations at December 4, 2010 and February 27, 2010 consisted of the following:
* Primarily represents our obligation relating to the $165.0 million 5.125% Convertible Senior Notes, due June 15, 2011, which is recorded at a discount.
Credit Agreement
On July 23, 2009, we entered into a Second Amendment to Amended and Restated Credit Agreement (the “Second Amendment”) amending the Amended and Restated Credit Agreement dated as of December 27, 2007 by and among our Company, its subsidiaries party thereto, Banc of America, N.A., as the administrative agent and collateral agent, the lenders party thereto and the other financial institutions party thereto (as amended by a First Amendment dated as of April 4, 2008 and as further amended by the Second Amendment, the (“Credit Agreement”) in connection with our private offering of senior secured notes and the sale of preferred stock. The stated maturity date under the Credit Agreement | |||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||||