BUILD-A-BEAR WORKSHOP INC - Quarter Report: 2015 July (Form 10-Q)

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, DC 20549  

FORM 10-Q

(Mark One)

For the quarterly period ended July 4, 2015

OR

For the transition period from              to              

Commission file number: 001-32320

BUILD-A-BEAR WORKSHOP, INC.

(Exact Name of Registrant as Specified in Its Charter)

(314) 423-8000

(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  ☒    No   ☐

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 (§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  ☒    No   ☐

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):

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).    Yes  ☐    No   ☒

As of August 7, 2015, there were 16,941,315 issued and outstanding shares of the registrant’s common stock.

BUILD-A-BEAR WORKSHOP, INC.

INDEX TO FORM 10-Q

PART I-FINANCIAL INFORMATION

Item 1. Financial Statements

BUILD-A-BEAR WORKSHOP, INC. AND SUBSIDIARIES

CONDENSED CONSOLIDATED BALANCE SHEETS

(Dollars in thousands, except share and per share data)

See accompanying notes to condensed consolidated financial statements.

BUILD-A-BEAR WORKSHOP, INC. AND SUBSIDIARIES                  

CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS AND COMPREHENSIVE INCOME (LOSS)                  

(Unaudited)

(Dollars in thousands, except share and per share data)

See accompanying notes to condensed consolidated financial statements.

BUILD-A-BEAR WORKSHOP, INC. AND SUBSIDIARIES             

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS             

(Unaudited) 

(Dollars in thousands)

See accompanying notes to condensed consolidated financial statements.

Notes to Condensed Consolidated Financial Statements

1. Basis of Presentation

The condensed consolidated financial statements included herein are unaudited and have been prepared by Build-A-Bear Workshop, Inc. and its subsidiaries (collectively, the Company) pursuant to the rules and regulations of the U.S. Securities and Exchange Commission (SEC).  Certain information and footnote disclosures normally included in financial statements prepared in accordance with U.S. generally accepted accounting principles (GAAP) have been condensed or omitted pursuant to such rules and regulations.  The condensed consolidated balance sheet of the Company as of January 3, 2015 was derived from the Company’s audited consolidated balance sheet as of that date.  All other condensed consolidated financial statements contained herein are unaudited and reflect all adjustments which are, in the opinion of management, necessary to summarize fairly the financial position of the Company and the results of the Company’s operations and cash flows for the periods presented.  All of these adjustments are of a normal recurring nature.  All significant intercompany balances and transactions have been eliminated in consolidation.  Because of the seasonal nature of the Company’s operations, results of operations of any single reporting period should not be considered as indicative of results for a full year.  These condensed consolidated financial statements should be read in conjunction with the Company’s audited consolidated financial statements for the fiscal year ended January 3, 2015, which were included in the Company’s annual report on Form 10-K filed with the SEC on March 19, 2015.

Reclassifications of prior year amounts related to the presentation of cost of merchandise sold in the statement of operations and the provision for doubtful accounts in the statement of cash flows have been made to conform to current year presentation, with no impact to net income (loss) or net cash used in operating activities in any period.

2. Prepaid Expenses and Other Assets

Prepaid expenses and other current assets consist of the following (in thousands):

3. Accrued Expenses

Accrued expenses consist of the following (in thousands):

4. Stock-based Compensation

The following table is a summary of the balances and activity for restricted stock and stock options for the twenty-six weeks ended July 4, 2015:

For the thirteen and twenty-six weeks ended July 4, 2015, selling, general and administrative expense includes $0.5 million and $1.0 million, respectively, of stock-based compensation expense. For the thirteen and twenty-six weeks ended June 28, 2014, selling, general and administrative expense includes $0.6 million and $1.2 million, respectively, of stock-based compensation expense. As of July 4, 2015, there was $4.2 million of total unrecognized compensation expense related to nonvested restricted stock and option awards which is expected to be recognized over a weighted-average period of 2.0 years.

The total fair value of shares vested during the twenty-six weeks ended July 4, 2015 and June 28, 2014 was $3.9 million and $3.6 million, respectively.

5. Income Taxes

The effective tax rate was (43.4)% and 6.4% for the thirteen and twenty-six weeks ended July 4, 2015, respectively compared to (8.7)% and 46.4% for the thirteen and twenty-six weeks ended June 28, 2014, respectively.  The components of income tax expense in both periods were primarily foreign and state taxes as we currently have a valuation allowance recorded on substantially all domestic deferred tax assets.   As there was a valuation allowance recorded on substantially all domestic deferred tax assets in both periods, income tax expense on domestic income was offset by a reversal of a portion of the existing valuation allowance.  The change in the effective rate was primarily driven by the change in pre-tax results for the respective periods.

6. Income (Loss) per Share

The Company uses the two-class method to compute basic and diluted income (loss) per common share. The following table sets forth the computation of basic and diluted income (loss) per share (in thousands, except share and per share data):

In calculating diluted income (loss) per share for the thirteen and twenty-six week periods ended July 4, 2015, options to purchase 609,043 and 69,114 shares, respectively, of common stock that were outstanding at the end of the period were not included in the computation of diluted net income (loss) per share due to their anti-dilutive effect. For the thirteen and twenty-six week periods ended June 28, 2014, the number of options to purchase common shares that were excluded from the calculation was 784,139 and 132,146 shares, respectively.

Due to the net loss for the thirteen week periods ended July 4, 2015 and June 28, 2014, the denominator for diluted loss per common share is the same as the denominator for basic loss per common share for those periods because the inclusion of stock options and unvested restricted shares would be anti-dilutive.

7. Comprehensive Income (Loss)

The difference between comprehensive income or loss and net income or loss results from foreign currency translation adjustments on the balance sheets of subsidiaries whose functional currency is not the US Dollar.  The accumulated other comprehensive loss balance at July 4, 2015, January 3, 2015 and June 28, 2014 is comprised entirely of foreign currency translation.  For the thirteen and twenty-six weeks ended July 4, 2015 and June 28, 2014, there were no reclassifications out of accumulated other comprehensive loss.

8. Segment Information

The Company’s operations are conducted through three operating segments consisting of retail, international franchising and commercial. The retail segment includes the operating activities of company-owned stores in the United States, Canada, Puerto Rico, the United Kingdom, Ireland and Denmark and other retail delivery operations, including the Company’s web stores. The international franchising segment includes the licensing activities of the Company’s franchise agreements with store locations in Europe (outside of the United Kingdom, Ireland and Denmark), Asia, Australia, the Middle East, Africa and Mexico. The commercial segment includes the Company’s transactions with other businesses, mainly comprised of licensing the Company’s intellectual properties for third-party use and wholesale activities. The operating segments have discrete sources of revenue, different capital structures and different cost structures. These operating segments represent the basis on which the Company’s chief operating decision maker regularly evaluates the business in assessing performance, determining the allocation of resources and the pursuit of future growth opportunities. Accordingly, the Company has determined that each of its operating segments represent a reportable segment. The three reportable segments follow the same accounting policies used for the Company’s consolidated financial statements.

Following is a summary of the financial information for the Company’s reportable segments (in thousands): 

The Company’s reportable segments are primarily determined by the types of products and services that they offer.  Each reportable segment may operate in many geographic areas.  The Company allocates revenues to geographic areas based on the location of the customer or franchisee.  The following schedule is a summary of the Company’s sales to external customers and long-lived assets by geographic area (in thousands): 

For purposes of this table only:

(1) North America includes the United States, Canada, Puerto Rico and franchise business in Mexico

(2) Europe includes the United Kingdom, Ireland, Denmark (in 2015) and franchise businesses in Europe

(3) Other includes franchise businesses outside of North America and Europe

9. Contingencies

In the normal course of business, the Company is subject to regular examination by various taxing authorities for years not closed by the statute of limitations, including an ongoing customs audit in the United Kingdom in which the Company is contesting audit findings. The Company accrues a liability for this type of contingency when it believes that it is both probable that a liability has been incurred and that it can reasonably estimate the amount of the loss. In 2012, the Company received notification from the customs authority that it intended to make an assessment for unpaid duty, penalties and interest. The assessment was made in 2013. The Company has appealed this determination and continues to believe that the ultimate outcome of these matters will not have a material adverse impact on the results of operations, liquidity or financial position of the Company. However, if one or more of these examinations has an unfavorable resolution, it is possible that the results of operation, liquidity or financial position of the Company could be materially affected in any particular period. Since the date of the notification in the third quarter of fiscal 2012, the Company has been required to pay the disputed duty, pending resolution of the appeal. As of July 4, 2015, $3.5 million had been paid in respect of the disputed duty and is included in receivables in the Retail segment.

10. Recently Issued Accounting Pronouncements

In May 2014, the Financial Accounting Standards Board issued ASU 2014-09, Revenue from Contracts with Customers, which will replace most existing revenue recognition guidance in U.S. GAAP. The core principle of the ASU is that an entity should recognize revenue for the transfer of goods or services equal to the amount that it expects to be entitled to receive for those goods or services. The ASU requires additional disclosure about the nature, amount, timing and uncertainty of revenue and cash flows arising from customer contracts, including significant judgments and changes in judgments. The ASU will be effective for the Company in the first quarter of fiscal 2018, and allows for both retrospective and prospective methods of adoption. The Company is in the process of determining the method of adoption and assessing the impact of this ASU on its consolidated financial statements.

In August 2014, the FASB issued ASU 2014-15, Disclosure of Uncertainties about an Entity’s Ability to Continue as a Going Concern. ASU 2014-15 requires management to evaluate for each annual and interim reporting period whether conditions or events give rise to substantial doubt that an entity has the ability to continue as a going concern within one year following issuance of the financial statements and requires specific disclosures regarding the conditions or events leading to substantial doubt. The ASU will be effective for the Company beginning January 1, 2017, with early adoption permitted. The adoption of ASU 2014-15 is not expected to have a material impact on the Company’s financial position or results of operations.

In April 2015, the Financial Accounting Standards Board issued ASU 2015-05, Customer’s,Accounting for Fees Paid in a Cloud Computing Arrangements, which provides guidance to assist entities in determining whether a cloud computing arrangement contains a software license. The ASU states that if a cloud computing arrangement includes a software license, then the customer should account for the software license element of the arrangement consistent with the acquisition of other software licenses. If a cloud computing arrangement does not include a software license, the customer should account for the arrangement as a service contract. The ASU will be effective for the Company in the first quarter of fiscal 2016, and allows for both retrospective and prospective methods of adoption. The Company is in the process of determining the method of adoption and assessing the impact of this ASU on its consolidated financial statements.

11. Subsequent Event

The Company has a $10 million share repurchase program that was announced in February 2015 (the February 2015 Share Repurchase Program). On July 7, 2015, the Board of Directors of the Company (the Board) left the February 2015 Share Repurchase Program in place and adopted a new repurchase program which authorizes the Company to repurchase up to an additional $10 million of its common stock until March 31, 2016, subject to further extension by the Board. In the period from July 4, 2015 through August 7, 2015, the Company repurchased approximately 5,800 shares of its common stock for an aggregate amount of $91,000, leaving $10.7 million of availability under the Board approved share repurchase programs.

Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations

Cautionary Notice Regarding Forward-Looking Statements

The following Management’s Discussion and Analysis of Financial Condition and Results of Operations contains forward-looking statements that involve risks and uncertainties, and we undertake no obligation to update these statements except as required by federal securities laws.  Our actual results may differ materially from the results discussed in the forward-looking statements. These risks and uncertainties include, without limitation, those detailed under the caption “Risk Factors” in the Company’s annual report on Form 10-K for the year ended January 3, 2015, as filed with the SEC, and the following:

Overview

We are the only global company that offers an interactive “make your own stuffed animal” retail entertainment experience under the Build-A-Bear Workshop brand, in which our guests stuff, fluff, dress, accessorize and name their own teddy bears and other stuffed animals. As of July 4, 2015, we operated 255 stores in the United States, Canada and Puerto Rico (collectively, North America), 60 stores in the United Kingdom, Ireland and Denmark (collectively, Europe) and had 67 franchised stores operating internationally under the Build-A-Bear Workshop brand.

We operate in three segments; each segment shares the same infrastructure, including management, systems, merchandising and marketing, and generate revenues as follows:

Our financial results in fiscal 2014 demonstrated the impact of the successful and consistent implementation of our key strategies of optimizing real estate, resetting the consumer value equation and rationalizing our expense structure. Our 2015 plan builds on the progress we made in 2014 and 2013 in implementing these key strategies, with a combination of continuous improvement of these initiatives and strategic expansion into additive opportunities. Specifically, we plan to expand into more places as we continue to improve our real estate model through selective new high-potential openings, a systematic refresh of our store base and strategic international expansion. We plan to reach more people as we continue to drive core consumer business and strategically expand our business with the over 12 year-old consumer segment. Additionally, we intend to sell more products by developing proprietary product stories along with re-launching an out-bound licensing program. We expect to do this more profitably as we continue to improve the value engineering of products and implement new systems that facilitate sales growth and increase efficiency.

Selected financial data attributable to each segment for the thirteen and twenty-six weeks ended July 4, 2015 and June 28, 2014 are set forth in the notes to our condensed consolidated financial statements included elsewhere in this quarterly report on Form 10-Q.

We use comparable store sales as one of the performance measures for our business.  Comparable store sales percentage changes are based on net retail sales, excluding our webstores, and the impact of foreign exchange.  Stores are considered comparable beginning in their thirteenth consecutive full month of operation.  Comparable store sales percentage changes for the thirteen and twenty-six weeks ended July 4, 2015 are based on net retail sales as compared to the thirteen and twenty-six weeks ended July 5, 2014. The percentage change in comparable store sales for the periods presented below is as follows:

We believe our positive consolidated comparable store sales for the periods presented are primarily attributable to the following factors:

We expect to improve comparable store sales through the following key initiatives:

Strategy

Retail Stores

The table below sets forth the number of Build-A-Bear Workshop company-owned stores in North America and Europe for the periods presented:

During 2015, we expect to open stores in high potential destinations such as tourist locations, outlet malls and shop-in-shops. In the second half of 2015, we also expect to begin to systematically refresh our store base with our new “Discovery” format developed to improve productivity, optimize space and update our brand look. After completing value-engineering work on the design to move it from concept stage to standard model, we plan to open new stores in the format as well as systematically update our existing store fleet primarily in conjunction with natural lease events. We also expect to close select stores as a normal course of managing our real estate portfolio and ongoing operational planning.

International Franchise Locations

Our first franchisee location was opened in November 2003. All franchised stores have similar signage, store layout, merchandise characteristics and guest experience as our company-owned stores. As of July 4, 2015, we had 10 master franchise agreements, which typically grant franchise rights for a particular country or group of countries, covering an aggregate of 16 countries. The number of traditional international franchised stores opened and closed for the periods presented below are summarized as follows:

In the 2015 second quarter, one franchise agreement, covering one country with two stores, expired and was not renewed. Additionally, in July 2015, we terminated franchise agreements in two countries; each terminated franchise had two stores in operation at the end of the quarter. In the ordinary course of business, we anticipate signing additional master franchise agreements in the future and terminating other such agreements.  We believe there is a market potential for approximately 300 international stores outside of North America and Europe.

In 2015, our international strategy is to leverage the improving strength in our company-owned stores to restructure and extend our international footprint. Key franchisees have started to apply our successful real estate approach including opening pop-up stores to assess long-term potential and adding shop-in-shops with key partners. As of July 4, 2015, our franchisees were operating eight of these non-traditional locations which are not included in the store count presented above.

 Results of Operations

The following table sets forth, for the periods indicated, selected statement of operations data expressed as a percentage of total revenues, except where otherwise indicated:

BUILD-A-BEAR WORKSHOP, INC. AND SUBSIDIARIES                 

CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS                 

(Unaudited)                 

Thirteen weeks ended July 4, 2015 compared to thirteen weeks ended June 28, 2014

Total revenues. Total revenues increased to $81.0 million for the thirteen weeks ended July 4, 2015 from $76.2 million for the thirteen weeks ended June 28, 2014, an increase of $4.8 million, or 6.3%. Net retail sales were $80.3 million for the thirteen weeks ended July 4, 2015 as compared to $75.4 million for the thirteen weeks ended June 28, 2014, an increase of $4.9 million, or 6.5%. The components of this increase are as follows:

We believe the increase in comparable store sales for the thirteen weeks ended July 4, 2015 was primarily attributable to the following factors:

Revenue from franchise fees was $0.5 million for both the thirteen weeks ended July 4, 2015 and June 28, 2014. Commercial revenue was $0.2 million and $0.4 million for the thirteen weeks ended July 4, 2015 and June 28, 2014, respectively, primarily resulting from the timing of wholesale sales and a decline in licensing activities.

Retail gross margin. Retail gross margin increased to $34.9 million for the thirteen weeks ended July 4, 2015, compared to $29.4 million for the thirteen weeks ended June 28, 2014, an increase of $5.5 million, or 18.7%. As a percentage of net retail sales, retail gross margin increased to 43.5% for the thirteen weeks ended July 4, 2015 from 39.0% for the thirteen weeks ended June 28, 2014. This 450 basis points as a percentage of net retail sales improvement was primarily driven by a 240 basis point improvement from expansion in merchandise margin and reduction in distribution costs and 210 basis points of improved leverage of fixed occupancy cost.

Selling, general and administrative. Selling, general and administrative expenses were $35.9 million for the thirteen weeks ended July 4, 2015 compared to $34.0 million for the thirteen weeks ended June 28, 2014, an increase of $1.9 million, or 5.5%. As a percentage of total revenues, selling, general and administrative expenses decreased to 44.4% for the thirteen weeks ended July 4, 2015 compared to 44.6% for the thirteen weeks ended June 28, 2014, a decrease of 20 basis points. The dollar increase in the quarter was primarily due to increases in payroll costs, partially offset by decreased management transition costs. As a percent of revenue, this increase was offset by improved leverage on fixed overhead and the favorable impact of currency on the re-measurement of certain balance sheet items. Excluding the management transition costs and the impact of foreign currency remeasurement in both periods, selling, general and administrative expenses as a percent of revenue increased 40 basis points to 44.7%.

Interest expense (income), net. Interest income, net of interest expense was $42,000 for the thirteen weeks ended July 4, 2015. Interest expense, net of interest income, was $64,000 for the thirteen weeks ended June 28, 2014.

Provision for income taxes. Income tax expense was $0.2 million for the thirteen weeks ended July 4, 2015 compared to $0.3 million for the thirteen weeks ended June 28, 2014.  The effective tax rate was (43.4)% for the thirteen weeks ended July 4, 2015 compared to (8.7)% for the thirteen weeks ended June 28, 2014.  This $0.1 million decrease was primarily attributable to a decrease in state tax expense and return-to provision adjustments, partially offset by increased tax expense in foreign jurisdictions.  As there was a valuation allowance recorded on substantially all domestic deferred tax assets in both periods, income tax expense on domestic income was offset by a reversal of a portion of the existing valuation allowance.  The change in the effective rate was primarily driven by the change in pre-tax results for the respective periods.

Twenty-six weeks ended July 4, 2015 compared to twenty-six weeks ended June 28, 2014

Total revenues. Total revenues were $174.4 million for the twenty-six weeks ended July 4, 2015 as compared to $174.2 million for the twenty-six weeks ended June 28, 2014, an increase of $0.2 million, or 0.1%. Net retail sales were $171.9 million for the twenty-six weeks ended July 4, 2015 as compared to $172.2 million for the twenty-six weeks ended June 28, 2014, a decrease of $0.3 million, or 0.1%. The components of this decrease are as follows:

We believe the increase in comparable store sales for the twenty-six weeks ended July 4, 2015 was primarily attributable to the following factors:

Revenue from franchise fees was $1.1 million for the twenty-six weeks ended July 4, 2015 compared to $1.2 million for the twenty-six weeks ended July 4, 2015, a decrease of $0.1 million. Commercial revenue was $1.4 million for the twenty-six weeks ended July 4, 2015 compared to $0.8 million for the twenty-six weeks ended June 28, 2014, an increase of $0.5 million, primarily resulting from the timing of wholesale revenue partially offset by a decline in licensing activities.

Retail gross margin. Retail gross margin was $77.8 million for the twenty-six weeks ended July 4, 2015 compared to $71.6 million for the twenty-six weeks ended June 28, 2014, an increase of $6.2 million, or 8.7%. As a percentage of net retail sales, retail gross margin increased to 45.2% for the twenty-six weeks ended July 4, 2015 from 41.6% for the twenty-six weeks ended June 28, 2014. This 360 basis point improvement was primarily driven by a 260 basis point improvement from expansion in merchandise margin and 100 basis points from a reduction in distribution costs and improved leverage on fixed occupancy cost.

Selling, general and administrative. Selling, general and administrative expenses were $73.2 million for the twenty-six weeks ended July 4, 2015 as compared to $71.8 million for the twenty-six weeks ended June 28, 2014, an increase of $1.3 million, or 1.8%. As a percentage of total revenues, selling, general and administrative expenses increased to 42.0% for the twenty-six weeks ended July 4, 2015 as compared to 41.2% for the twenty-six weeks ended June 28, 2014, an increase of 80 basis points. The dollar increase in the quarter was primarily due to increases in payroll costs and the negative impact of currency on the re-measurement of certain balance sheet items, partially offset by the timing of marketing spend between quarters and decreased management transition costs. As a percent of revenue, this increase was offset by improved leverage on fixed overhead. Excluding the management transition costs and the impact of foreign currency remeasurement in both periods, selling, general and administrative expenses as a percent of revenue were 41.1% in both periods.

Interest expense (income), net. Interest income, net of interest expense was $93,000 for the twenty-six weeks ended July 4, 2015. Interest expense, net of interest income, was $2,000 for the twenty-six weeks ended June 28, 2014.

Provision for income taxes. Income tax expense was $0.4 million for the twenty-six weeks ended July 4, 2015 as compared to $0.6 million for the twenty-six weeks ended June 28, 2014.  The effective tax rate was 6.4% for the twenty-six weeks ended July 4, 2015 compared to 46.4% for the twenty-six weeks ended July 4, 2015.  This $0.2 million decrease was primarily attributable to a decrease in state tax expense and return-to provision adjustments, partially offset by increased tax expense in foreign jurisdictions.  As there was a valuation allowance recorded on substantially all domestic deferred tax assets in both periods, income tax expense on domestic income was offset by a reversal of a portion of the existing valuation allowance.  The change in the effective rate was primarily driven by the change in pre-tax results for the respective periods.

Seasonality and Quarterly Results

Our operating results for one period may not be indicative of results for other periods, and may fluctuate significantly because of a variety of factors, including, but not limited to: (1) seasonal shopping patterns and holiday and vacation schedules; (2) the timing and frequency of our marketing initiatives, including national media and other public relations events; (3) the timing of our store openings and closings and related expenses; (4) changes in general economic conditions and consumer spending patterns; (5) increases or decreases in our comparable store sales; (6) fluctuations in the profitability of our stores; (7)  changes in foreign currency exchange rates; (8)  the actions of our competitors or mall anchors and co-tenants; (9) changes in consumer preferences; (10) the effectiveness of our inventory management; and (11) weather conditions.

The timing of store closures, remodels and openings may result in fluctuations in quarterly results based on the revenues and expenses associated with each store location.  Expenses related to store closings are typically incurred in stages:  when the decision is made to close the store; when the closure is communicated to store associates; and at the time of closure. We typically incur most preopening costs for a new store in the three months immediately preceding the store’s opening.

As a toy retailer, our sales are highest in our fourth quarter, followed by the first quarter. The timing of holidays and school vacations can impact our quarterly results. We cannot ensure that this will continue to be the case. In addition, for accounting purposes, the quarters of each fiscal year consist of 13 weeks, although we will have a 14-week quarter approximately once every six years. The 2014 fiscal fourth quarter had 14 weeks.

Liquidity and Capital Resources

Our cash requirements are primarily for the relocation and remodeling of existing stores in our new design, opening of new stores, information systems and working capital.  Over the past several years, we have met these requirements through capital generated from cash flow provided by operations.  We have access to additional cash through our revolving line of credit that has been in place since 2000.

Operating Activities. Cash used in operating activities was $7.6 million for the twenty-six weeks ended July 4, 2015 compared to cash used in operating activities of $0.5 million for the twenty-six weeks ended June 28, 2014, an increase in cash used of $7.2 million. Generally, changes in cash from operating activities are driven by changes in net income or loss and changes in operating assets and liabilities. This increase in cash used in operating activities over the year ago period was primarily due to timing of inventory shipments and payments, partially offset by increased store contribution and the decrease in gift card redemptions due to the calendar shift.

Investing Activities. Cash used in investing activities was $6.1 million for the twenty-six weeks ended July 4, 2015 as compared to $3.2 million for the twenty-six weeks ended June 28, 2014, an increase of $2.9 million. Cash used in investing activities during the twenty-six weeks ended July 4, 2015 and June 28, 2014 primarily related to investments in central office information technology systems and construction costs for new and remodeled stores.

Financing Activities. Cash used in financing activities in the twenty-six weeks ended July 4, 2015 was $9.8 million as purchases of our stock used cash of $9.2 million and exercises of employee stock options, net of shares used for withholding tax payments used $0.6 million. In the twenty-six weeks ended June 28, 2014, financing activities provided cash of $0.4 million, including $1.2 million provided by exercises of employee stock options, net of shares used for withholding tax payments, partially offset by cash used for purchases of our common stock. No borrowings were made under our line of credit in either the twenty-six weeks ended July 4, 2015 or June 28, 2014.

Capital Resources. As of July 4, 2015, we had a consolidated cash balance of $41.8 million, over half of which was domiciled outside of the United States. We also have a line of credit, which we can use to finance capital expenditures and working capital needs throughout the year. The bank line provides availability of $35 million. Borrowings under the credit agreement are secured by our assets and a pledge of 65% of our ownership interest in our foreign subsidiaries. The credit agreement expires on December 31, 2016 and contains various restrictions on indebtedness, liens, guarantees, redemptions, mergers, acquisitions or sale of assets, loans, transactions with affiliates and investments. It also prohibits us from declaring dividends without the bank’s prior consent, unless such payment of dividends would not violate any terms of the credit agreement. We are also prohibited from repurchasing shares of our common stock unless such repurchase of shares would not violate any terms of the credit agreement; we may not use the proceeds of the line of credit to repurchase shares. Borrowings bear interest at LIBOR plus 1.8%. Financial covenants include maintaining a minimum tangible net worth, maintaining a minimum fixed charge coverage ratio (as defined in the credit agreement) and not exceeding a maximum funded debt to earnings before interest, depreciation and amortization ratio. As of July 4, 2015: (i) we were in compliance with these covenants; (ii) there were no borrowings under our line of credit; (iii) there was a standby letter of credit of approximately $1.1 million outstanding under the credit agreement; and (iv) there was approximately $33.9 million available for borrowing under the line of credit.

Most of our retail stores are located within shopping malls and all are operated under leases classified as operating leases. Our leases in North America typically have a ten-year term and contain provisions for base rent plus percentage rent based on defined sales levels. Many of the leases contain a provision whereby either we or the landlord may terminate the lease after a certain time, typically in the third to fourth year of the lease, if a certain minimum sales volume is not achieved. In addition, some of these leases contain various restrictions relating to change of control of our company. Our leases also subject us to risks relating to compliance with changing mall rules and the exercise of discretion by our landlords on various matters, including rights of termination in some cases.

Our leases in the U.K. and Ireland typically have terms of 10 to 15 years and generally contain a provision whereby every fifth year the rental rate can be adjusted to reflect the current market rates. The leases typically provide the lessee with the first right for renewal at the end of the lease. We may also be required to make deposits and rent guarantees to secure new leases as we relocate existing stores and open new stores. Real estate taxes also change according to government time schedules to reflect current market rental rates for the locations we lease. Rents are charged quarterly and paid in advance.

In fiscal 2015, we expect to spend a total of $20 million to $25 million on capital expenditures. Capital spending through the twenty-six weeks ended July 4, 2015 totaled $6.1 million, on track with our full year plans. Capital spending in fiscal 2015 is primarily to support the refresh and repositioning of stores and investment in infrastructure.

We believe that cash generated from operations and borrowings under our credit agreement will be sufficient to fund our working capital and other cash flow requirements for the near future.  

On February 20, 2007, we announced that our board of directors had authorized a $25 million share repurchase program of our outstanding common stock. On March 10, 2008, we announced an expansion of our share repurchase program to $50 million (the “2008 Share Repurchase Program”). Following a series of annual extensions, as of February 25, 2015, under the 2008 Share Repurchase Program, we had repurchased approximately 6,245,000 shares at an average price of $7.40 per share for an aggregate amount of $46.2 million, leaving $3.8 million of availability under the program. On February 25, 2015, we announced the termination of the 2008 Share Repurchase Program and the adoption of a new repurchase program (the “February 2015 Share Repurchase Program”) which authorizes us to repurchase up to $10 million of our common stock until March 31, 2016, subject to further extension by the Board. On July 7, 2015, we announced that our board of directors had left the February 2015 Share Repurchase Program in place and adopted a new repurchase program (the “July 2015 Share Repurchase Program”) (together, the “2015 Share Repurchase Programs”) which authorizes us to repurchase up to an additional $10 million of our common stock until March 31, 2016, subject to further extension by the Board. Under the 2015 Share Repurchase Programs, we currently intend to purchase up to $20 million of our common stock in the open market (including through 10b5-1 trading plans), through privately negotiated transactions, or through an accelerated repurchase transaction. The primary source of funding has been, and is expected to be, cash on hand. The timing and amount of share repurchases, if any, will depend on price, market conditions, applicable regulatory requirements, and other factors. The 2015 Share Repurchase Programs do not require us to repurchase any specific number of shares, and may be modified, suspended or terminated at any time without prior notice. Shares repurchased under the 2015 Share Repurchase Programs will be subsequently retired. As of August 7, 2015, we had repurchased approximately 533,000 shares at an average price of $17.39 per share for an aggregate amount of $9.3 million, leaving $10.7 million of availability under the 2015 Share Repurchase Programs. 

Off-Balance Sheet Arrangements

None

Inflation

We do not believe that inflation has had a material adverse impact on our business or operating results during the periods presented.  We cannot provide assurance, however, that our business will not be affected by inflation in the future.

Critical Accounting Estimates

The preparation of financial statements in conformity with U.S. GAAP requires the appropriate application of certain accounting policies, which require us to make estimates and assumptions about future events and their impact on amounts reported in our financial statements and related notes.  Since future events and their impact cannot be determined with certainty, the actual results will inevitably differ from our estimates.  Such differences could be material to the financial statements.

We believe application of accounting policies, and the estimates inherently required therein, are reasonable.  These accounting policies and estimates, including those related to inventory, long-lived assets, revenue recognition and income taxes, are reevaluated on an ongoing basis, and adjustments are made when facts and circumstances dictate a change.  Historically, we have found our application of accounting policies to be appropriate, and actual results have not differed materially from those determined using necessary estimates.

Our critical accounting policies and estimates are discussed in and should be read in conjunction with our annual report on Form 10-K, as filed with the Securities and Exchange Commission (SEC) on March 19, 2015, which includes audited consolidated financial statements for our 2014, 2013 and 2012 fiscal years. There have been no material changes to the critical accounting estimates disclosed in the 2014 Form 10-K.

Recent Accounting Pronouncements

In May 2014, the Financial Accounting Standards Board (FASB) issued ASU 2014-09, Revenue from Contracts with Customers, which will replace most existing revenue recognition guidance in U.S. GAAP. In April 2015, the FASB issued ASU 2014-09, Customer’s,Accounting for Fees Paid in a Cloud Computing Arrangements, which provides guidance to assist entities in determining whether a cloud computing arrangement contains a software license. See Note 10 – Recently Issued Accounting Pronouncements to the Condensed Consolidated Financial Statements for additional information.  

Item 3. Quantitative and Qualitative Disclosures About Market Risk.

There have been no material changes to our Quantitative and Qualitative Disclosures About Market Risk as disclosed in our Annual Report on Form 10-K for the year ended January 3, 2015 as filed with the SEC on March 19, 2015. 

Item 4. Controls and Procedures.

Our management, with the participation of our Chief Executive Officer and Chief President Bear and Chief Financial Officer, has evaluated the effectiveness of our disclosure controls and procedures (as such term is defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934, as amended (the “Exchange Act”), as of the end of the period covered by this report.  Our disclosure controls and procedures are designed to ensure that information required to be disclosed by us in the reports filed or submitted under the Exchange Act is recorded, processed, summarized and reported within the time periods specified in the SEC’s rules and forms and is accumulated and communicated to management, including our certifying officers, as appropriate to allow timely decisions regarding required disclosure.  Based on the foregoing evaluation, our management, including the Chief Executive Officer and Chief President Bear and Chief Financial Officer, concluded that our disclosure controls and procedures were effective as of July 4, 2015, the end of the period covered by this Quarterly Report.

It should be noted that our management, including the Chief Executive Officer and Chief President Bear and the Chief Financial Officer, does not expect that our disclosure controls and procedures or internal controls will prevent all error and all fraud.  A control system, no matter how well conceived or operated, can provide only reasonable, not absolute, assurance that the objectives of the control system are met.  Further, the design of a control system must reflect the fact that there are resource constraints, and the benefits of controls must be considered relative to their costs.  Because of the inherent limitations in all control systems, no evaluation of controls can provide absolute assurance that all control issues and instances of fraud, if any, within the Company have been detected.  These inherent limitations include the realities that judgments in decision-making can be faulty, and that breakdowns can occur because of simple error or mistake.  Additionally, controls can be circumvented by the individual acts of some persons, by collusion of two or more people, or by management override of the controls.  The design of any system of controls is based in part upon certain assumptions about the likelihood of future events, and there can be no assurance that any design will succeed in achieving its stated goals under all potential future conditions; over time, controls may become inadequate because of changes in conditions, or the degree of compliance with the policies or procedures may deteriorate.  Because of the inherent limitations in a cost-effective control system, misstatements due to error or fraud may occur and not be detected.

Changes in Internal Control Over Financial Reporting.  The Company’s management, with the participation of the Company’s Chief Executive Officer and Chief President Bear and Chief Financial Officer, also conducted an evaluation of the Company’s internal control over financial reporting (as defined in Exchange Act Rules 13a-15(f) and 15d-15(f)) to determine whether any changes occurred during the period covered by this report that have materially affected, or are reasonably likely to materially affect, the Company’s internal control over financial reporting. Based on that evaluation, there has been no such change during the period covered by this report.

PART II – OTHER INFORMATION

Item 1A. Risk Factors.

There have been no material changes to our Risk Factors as disclosed in our Annual Report on Form 10-K for the year ended January 3, 2015 as filed with the SEC on March 19, 2015. 

Item 2. Unregistered Sales of Equity Securities and Use of Proceeds

ISSUER PURCHASES OF EQUITY SECURITIES

Item 6. Exhibits

The following is a list of exhibits filed as a part of the quarterly report on Form 10-Q:

SIGNATURES

Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.

Date: August 13, 2015

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