Container Store Group, Inc. - Quarter Report: 2014 May (Form 10-Q)

Table of Contents

 

 

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 

Form 10-Q

 

(Mark One)

 

 

For the Quarterly Period Ended May 31, 2014

 

OR

 

 

For the transition period from                      to                     

 

Commission File Number: 001-36161

 

THE CONTAINER STORE GROUP, INC.

(Exact name of registrant as specified in its charter)

 

 

 

Registrant’s telephone number in the United States, including area code, is: (972) 538-6000

 

None

(Former name, former address and former fiscal year, if changed since last report)

 

 

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 (§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.

 

 

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 registrant had 47,974,830 shares of its common stock outstanding as of June 27, 2014.

 

 

Table of Contents

 

TABLE OF CONTENTS

 

PART I.	FINANCIAL INFORMATION
Item 1.	Financial Statements
	Unaudited Consolidated Balance Sheets as of May 31, 2014, March 1, 2014, and June 1, 2013	3
	Unaudited Consolidated Statements of Operations for the Thirteen Weeks Ended May 31, 2014 and June 1, 2013	5
	Unaudited Consolidated Statements of Comprehensive Income (Loss) for the Thirteen Weeks ended May 31, 2014 and June 1, 2013	6
	Unaudited Consolidated Statements of Cash Flows for the Thirteen Weeks ended May 31, 2014 and June 1, 2013	7
	Notes to the Unaudited Consolidated Financial Statements	8
Item 2.	Management’s Discussion and Analysis of Financial Condition and Results of Operations	15
Item 3.	Quantitative and Qualitative Disclosures About Market Risk	28
Item 4.	Controls and Procedures	29
PART II.	OTHER INFORMATION
Item 1.	Legal Proceedings	29
Item 1A.	Risk Factors	29
Item 2.	Unregistered Sales of Equity Securities and Use of Proceeds	29
Item 3.	Default Upon Senior Securities	29
Item 4.	Mine Safety Disclosures	29
Item 5.	Other Information	29
Item 6.	Exhibits	30

 

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The Container Store Group, Inc.

Consolidated balance sheets

 

		May 31,			March 1,			June 1,
(In thousands)		2014			2014			2013
		(unaudited)						(unaudited)
Assets
Current assets:
Cash		$	8,610		$	18,046		$	13,703
Accounts receivable, net		29,267			32,273			23,087
Inventory		94,626			85,595			91,150
Prepaid expenses		7,953			14,121			6,587
Forward contracts		—			—			329
Deferred tax assets, net		3,967			3,967			855
Other current assets		11,558			10,405			10,515
Total current assets		155,981			164,407			146,226
Noncurrent assets:
Property and equipment, net		164,779			161,431			141,402
Goodwill		202,815			202,815			202,815
Trade names		240,021			242,290			240,528
Deferred financing costs, net		9,210			9,699			10,633
Noncurrent deferred tax assets, net		1,179			1,323			1,667
Other assets		1,211			1,184			881
Total noncurrent assets		619,215			618,742			597,926
Total assets		$	775,196		$	783,149		$	744,152

 

See accompanying notes.

 

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The Container Store Group, Inc.

Consolidated balance sheets (continued)

 

		May 31,			March 1,			June 1,
(In thousands, except share and per share amounts)		2014			2014			2013
		(unaudited)						(unaudited)
Liabilities and shareholders’ equity
Current liabilities:
Accounts payable		$	47,846		$	49,282		$	47,291
Accrued liabilities		54,420			60,496			47,846
Revolving lines of credit		23,529			16,033			18,178
Current portion of long-term debt		5,741			7,527			9,769
Income taxes payable		640			3,474			379
Deferred tax liabilities, net		29			29			43
Total current liabilities		132,205			136,841			123,506
Noncurrent liabilities:
Long-term debt		332,306			327,724			368,102
Noncurrent deferred tax liabilities, net		82,638			85,442			86,620
Deferred rent and other long-term liabilities		36,354			35,956			30,116
Total noncurrent liabilities		451,298			449,122			484,838
Total liabilities		583,503			585,963			608,344
Commitments and contingencies (Note 7)
Shareholders’ equity:
Common stock, $0.01 par value, 250,000,000 shares authorized, 47,974,829 shares issued and outstanding at May 31, 2014; 250,000,000 shares authorized, 47,941,180 shares issued and outstanding at March 1, 2014; 3,528,280 shares authorized, 2,942,326 shares issued and 2,929,466 shares outstanding at June 1, 2013		480			479			29
Preferred stock, $0.01 par value:
Senior cumulative; no shares authorized, issued or outstanding at May 31, 2014 and March 1, 2014; 250,000 shares authorized, 202,480 shares issued and 202,196 shares outstanding at June 1, 2013		—			—			2
Junior cumulative; no shares authorized, issued or outstanding at May 31, 2014 and March 1, 2014; 250,000 shares authorized, 202,480 shares issued and 202,196 shares outstanding at June 1, 2013		—			—			2
Additional paid-in capital		854,174			853,295			455,346
Accumulated other comprehensive (loss) income		(1,111		)	1,683			(158		)
Retained deficit		(661,850		)	(658,271		)	(318,626		)
Treasury stock, no shares at May 31, 2014 and March 1, 2014;13,426 shares at June 1, 2013		—			—			(787		)
Total shareholders’ equity		191,693			197,186			135,808
Total liabilities and shareholders’ equity		$	775,196		$	783,149		$	744,152

 

See accompanying notes.

 

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The Container Store Group, Inc.

Consolidated statements of operations

 

		Thirteen Weeks Ended
		May 31,			June 1,
(In thousands, except share and per share amounts) (unaudited)		2014			2013
Net sales		$	173,438		$	159,645
Cost of sales (excluding depreciation and amortization)		72,586			66,441
Gross profit		100,852			93,204
Selling, general, and administrative expenses (excluding depreciation and amortization)		91,189			83,449
Pre-opening costs		2,987			1,962
Depreciation and amortization		7,256			7,470
Restructuring charges		—			241
Other expenses		525			219
Loss on disposal of assets		100			22
Loss from operations		(1,205		)	(159		)
Interest expense		4,302			5,555
Loss on extinguishment of debt		—			1,101
Loss before taxes		(5,507		)	(6,815		)
Benefit for income taxes		(1,928		)	(2,020		)
Net loss		$	(3,579	)	$	(4,795	)
Less: Distributions accumulated to preferred shareholders		—			(22,299		)
Net loss available to common shareholders		$	(3,579	)	$	(27,094	)
Basic and diluted net loss per common share		$	(0.07	)	$	(9.25	)
Weighted-average common shares outstanding - basic and diluted		47,946,616			2,929,468

 

See accompanying notes.

 

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The Container Store Group, Inc.

Consolidated statements of comprehensive income (loss)

 

		Thirteen Weeks Ended
		May 31,			June 1,
(In thousands) (unaudited)		2014			2013
Net loss		$	(3,579	)	$	(4,795	)
Unrealized loss on financial instruments, net of taxes of ($16) and $111		(53		)	(945		)
Pension liability adjustment		61			—
Foreign currency translation adjustment		(2,802		)	(1,926		)
Comprehensive loss		$	(6,373	)	$	(7,666	)

 

See accompanying notes.

 

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The Container Store Group, Inc.

Consolidated statements of cash flows

 

		Thirteen Weeks Ended
		May 31,			June 1,
(In thousands) (unaudited)		2014			2013
Operating activities
Net loss		$	(3,579	)	$	(4,795	)
Adjustments to reconcile net loss to net cash used in operating activities:
Depreciation and amortization		7,256			7,470
Stock-based compensation		277			99
Excess tax benefit from stock-based compensation		(15		)	—
Loss on disposal of property and equipment		100			22
Deferred tax benefit		(2,106		)	(1,791		)
Noncash refinancing expense		—			723
Noncash interest		489			434
Changes in operating assets and liabilities:
Accounts receivable		2,558			2,090
Inventory		(9,728		)	(9,523		)
Prepaid expenses and other assets		5,369			5,076
Accounts payable and accrued liabilities		(5,489		)	(4,205		)
Income taxes payable		(3,340		)	(3,128		)
Other noncurrent liabilities		445			255
Net cash used in operating activities		(7,763		)	(7,273		)
Investing activities
Additions to property and equipment		(13,418		)	(9,450		)
Proceeds from sale of property and equipment		—			388
Net cash used in investing activities		(13,418		)	(9,062		)
Financing activities
Borrowings on revolving lines of credit		18,334			16,334
Payments on revolving lines of credit		(9,961		)	(11,205		)
Borrowings on long-term debt		8,000			95,000
Payments on long-term debt		(5,172		)	(2,203		)
Payment of debt issuance costs		—			(3,046		)
Proceeds from the exercise of stock options		587			—
Excess tax benefit from stock-based compensation		15			—
Payment of distributions to preferred shareholders		—			(90,000		)
Net cash provided by financing activities		11,803			4,880
Effect of exchange rate changes on cash		(58		)	(193		)
Net decrease in cash		(9,436		)	(11,648		)
Cash at beginning of period		18,046			25,351
Cash at end of period		$	8,610		$	13,703

 

See accompanying notes.

 

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The Container Store Group, Inc.

Notes to consolidated financial statements (unaudited)

(In thousands, except share amounts and unless otherwise stated)

May 31, 2014

 

1.              Description of business and basis of presentation

 

These financial statements should be read in conjunction with the financial statement disclosures in our Annual Report on Form 10-K for the fiscal year ended March 1, 2014, filed with the Securities and Exchange Commission on May 28, 2014.  We use the same accounting policies in preparing quarterly and annual financial statements.  All adjustments necessary for a fair presentation of quarterly operating results are reflected herein and are of a normal, recurring nature.

 

Description of business

 

The Container Store, Inc. was founded in 1978 in Dallas, Texas, as a retailer with a mission to provide customers with storage and organization solutions through an assortment of innovative products and unparalleled customer service. As of May 31, 2014, The Container Store, Inc. operates 66 stores with an average size of approximately 19,000 selling square feet in 24 states and the District of Columbia. The Container Store, Inc. also offers all of its products directly to its customers through its website and call center. The Container Store, Inc.’s wholly owned Swedish subsidiary, Elfa International AB (“Elfa”) designs and manufactures component-based shelving and drawer systems and made-to-measure sliding doors.  elfa® branded products are sold exclusively in the United States in The Container Store retail stores, website and call center, and Elfa sells to various retailers on a wholesale basis in approximately 30 countries around the world, with a concentration in the Nordic region of Europe. In 2007, The Container Store, Inc. was sold to The Container Store Group, Inc. (the “Company”), a holding company, of which a majority stake was purchased by Leonard Green and Partners, L.P. (“LGP”), with the remainder held by certain employees of The Container Store, Inc.  On November 6, 2013, the Company completed its initial public offering (the “IPO”).  Following the Company’s IPO, LGP continues to maintain a controlling interest in the ownership of the Company.

 

Seasonality

 

The Company’s business is moderately seasonal in nature and, therefore, the results of operations for the thirteen weeks ended May 31, 2014 are not necessarily indicative of the operating results for the full year.  Demand is generally highest in the fourth fiscal quarter due to Our Annual elfa® Sale, and lowest in the first fiscal quarter.

 

Reclassifications

 

Certain prior period amounts have been reclassified in order to provide consistent comparative information. These reclassifications do not materially impact the consolidated financial statements for the prior periods presented.

 

Recent accounting pronouncements

 

In May 2014, the FASB issued ASU No. 2014-09, Revenue from Contracts with Customers, an updated standard on revenue recognition. ASU 2014-09 provides enhancements to the quality and consistency of how revenue is reported while also improving comparability in the financial statements of companies reporting using IFRS and US GAAP.  The core principle of the new standard is for companies to recognize revenue to depict the transfer of goods or services to customers in amounts that reflect the consideration (that is, payment) to which the company expects to be entitled in exchange for those goods or services. The new standard also will result in enhanced disclosures about revenue, provide guidance for transactions that were not previously addressed comprehensively (for example, service revenue and contract modifications) and improve guidance for multiple-element arrangements.  ASU 2014-09 will be effective for the Company in the first quarter of fiscal 2017 and may be applied on a full retrospective or modified retrospective approach. The Company is still evaluating the impact of implementation of this standard on its financial statements.

 

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2.  Long-term debt and revolving lines of credit

 

On April 1, 2014, Elfa entered into a master credit agreement with Nordea Bank AB (“Nordea”), which consists of a SEK 60.0 million term loan facility (approximately $9.0 million as of May 31, 2014) and a SEK 140.0 million (approximately $20.9 million as of May 31, 2014) revolving credit facility. The master credit agreement begins on August 29, 2014 and matures on August 29, 2019, or such shorter period as provided by the agreement. Under the master credit agreement, Elfa is required to make quarterly principal payments under the term loan facility in the amount of SEK 3.0 million (approximately $0.4 million as of May 31, 2014) through maturity. The term loan facility bears interest at STIBOR + 1.7% and the revolving credit facility bears interest at Nordea’s base rate + 1.4%, and these rates are applicable until August 29, 2017, at which time the interest rates may be renegotiated at the request of either party to the agreement. Should the parties fail to agree on new interest rates, Elfa has the ability to terminate the agreement on August 29, 2017, at which time all borrowings under the agreement shall be paid in full to Nordea.

 

On May 13, 2014, Elfa entered into a credit facility with Nordea for SEK 15.0 million (approximately $2.2 million as of May 31, 2014) (the “Short Term Credit Facility”).  The Short Term Credit Facility accrues interest at 2.53% and matures on August 28, 2014, at which time all borrowings under the agreement will be paid in full to Nordea.  The total amount of borrowings available under the Short Term Credit Facility was used to pay a mortgage owed on the Poland manufacturing facility in full in the first quarter of fiscal 2014.

 

3. Detail of certain balance sheet accounts

 

		May 31,			March 1,			June 1,
		2014			2014			2013
Inventory:
Raw materials		$	4,668		$	4,677		$	5,061
Work in progress		1,604			1,683			2,221
Finished goods		88,354			79,235			83,868
		$	94,626		$	85,595		$	91,150
Accrued liabilities:
Accrued payroll, benefits, and bonuses		$	19,509		$	23,679		$	17,750
Unearned revenue		4,472			11,338			3,498
Accrued transaction and property tax		9,370			7,949			6,916
Gift cards and store credits outstanding		7,943			6,900			7,043
Accrued interest		2,453			2,481			3,529
Other accrued liabilities		10,673			8,149			9,110
		$	54,420		$	60,496		$	47,846

 

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4.  Net income (loss) per common share

 

Basic net income (loss) per common share is computed as net income (loss) available to common shareholders divided by the weighted-average number of common shares outstanding for the period. Net income (loss) available to common shareholders is computed as net income (loss) less accumulated distributions to preferred shareholders for the period.  Diluted net income (loss) per share is computed as net income (loss) available to common shareholders divided by the weighted-average number of common shares outstanding for the period plus common stock equivalents consisting of shares subject to stock-based awards with exercise prices less than or equal to the average market price of the Company’s common stock for the period, to the extent their inclusion would be dilutive. Potential dilutive securities are excluded from the computation of diluted net income (loss) per share if their effect is anti-dilutive.

 

The following is a reconciliation of net loss available to common shareholders and the number of shares used in the basic and diluted net loss per share calculations:

 

		Thirteen Weeks Ended
		May 31,			June 1,
		2014			2013
Numerator:
Net loss		$	(3,579	)	$	(4,795	)
Less: Distributions accumulated to preferred shareholders		—			(22,299		)
Net loss available to common shareholders		$	(3,579	)	$	(27,094	)
Denominator:
Weighted-average common shares outstanding — basic and diluted		47,946,616			2,929,468
Basic and diluted net loss per common share		$	(0.07	)	$	(9.25	)
Antidilutive securities not included:
Stock options outstanding		764,192			—

 

5.  Pension plans

 

The Company provides pension benefits to the employees of Elfa under collectively bargained pension plans in Sweden, which are recorded in other long-term liabilities. The defined benefit plan provides benefits for participating employees based on years of service and final salary levels at retirement. The defined benefit plans are unfunded and approximately 2% of Elfa employees are participants in the defined benefit pension plan. Certain employees also participate in defined contribution plans for which Company contributions are determined as a percentage of participant compensation. The Company contributed $926 and $830 for defined contribution plans in the thirteen weeks ended May 31, 2014 and June 1, 2013, respectively.

 

6.  Income taxes

 

The Company’s effective income tax rate for the thirteen weeks ended May 31, 2014 was 35.0% compared to 29.6% for the thirteen weeks ended June 1, 2013. The increase in the effective tax rate is primarily due to a shift in the mix of projected domestic and foreign earnings, as well as fluctuations in the valuation allowance recorded against domestic earnings in the first quarter of fiscal 2013.

 

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7.  Commitments and contingencies

 

In connection with insurance policies, The Container Store, Inc. has outstanding standby letters of credit totaling $2,986 as of May 31, 2014.

 

The Company is subject to ordinary litigation and routine reviews by regulatory bodies that are incidental to its business, none of which is expected to have a material adverse effect on the Company’s financial condition, results of operations, or cash flows on an individual basis or in the aggregate.

 

8.  Accumulated other comprehensive income

 

Accumulated other comprehensive income (“AOCI”) consists of changes in our foreign currency forward contracts, minimum pension liability, and foreign currency translation. The components of AOCI, net of tax, are shown below for the thirteen weeks ended May 31, 2014:

 

		Foreign currency forward contracts			Minimum pension liability			Foreign currency translation			Total
Balance at March 1, 2014		$	53		$	(1,153	)	$	2,783		$	1,683
Other comprehensive (loss) income before reclassifications, net of tax		—			61			(2,802		)	(2,741		)
Amounts reclassified to earnings, net of tax		(53		)	—			—			(53		)
Net current period other comprehensive (loss) income		(53		)	61			(2,802		)	(2,794		)
Balance at May 31, 2014		$	—		$	(1,092	)	$	(19	)	$	(1,111	)

 

Amounts reclassified from AOCI to earnings for the foreign currency forward contracts category are generally included in cost of sales in the Company’s consolidated statements of operations. For a description of the Company’s use of foreign currency forward contracts, refer to Note 9.

 

9.  Foreign currency forward contracts

 

The Company’s international operations and purchases of its significant product lines from foreign suppliers are subject to certain opportunities and risks, including foreign currency fluctuations. The Company utilizes foreign currency forward exchange contracts in Swedish krona to stabilize its retail gross margins and to protect its domestic operations from downward currency exposure by hedging purchases of inventory from its wholly owned subsidiary, Elfa. During the thirteen weeks ended May 31, 2014 and June 1, 2013, the Company used forward contracts for zero and 90.4% of inventory purchases in Swedish krona, respectively. All of the Company’s currency-related hedge instruments have terms from 1 to 12 months and require the Company to exchange currencies at agreed-upon rates at settlement.

 

The counterparties to the contracts consist of a limited number of major domestic and international financial institutions. The Company does not hold or enter into financial instruments for trading or speculative purposes. The Company records its financial hedge instruments on a gross basis and generally does not require collateral from these counterparties because it does not expect any losses from credit exposure. The Company did not have any material financial hedge instruments that did not qualify for hedge accounting treatment as of May 31, 2014, March 1, 2014 and June 1, 2013.

 

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The Company records all foreign currency forward contracts on its consolidated balance sheet at fair value. Forward contracts not designated as hedges are adjusted to fair value through income. The Company accounts for its foreign currency hedge instruments as cash flow hedges, as defined. Changes in the fair value of the foreign currency hedge instruments that are considered to be effective, as defined, are recorded in other comprehensive income (loss) until the hedged item (inventory) is sold to the customer, at which time the deferred gain or loss is recognized through cost of sales. Any portion of a change in the foreign currency hedge instrument’s fair value that is considered to be ineffective, as defined, or that the Company has elected to exclude from its measurement of effectiveness, is immediately recorded in earnings as cost of sales. The Company records the fair value of its unsettled foreign currency forward contracts as cash flow hedges. As of May 31, 2014 and March 1, 2014, the Company had no unsettled foreign currency forward contracts.  As of June 1, 2013, the Company had $329 in fair value of its unsettled foreign currency forward contracts recorded as a total current asset in the accompanying consolidated balance sheets.

 

The change in fair value of the Company’s foreign currency forward contracts that qualify as cash flow hedges and are included in accumulated other comprehensive income (loss), net of taxes, are presented in Note 8 of these financial statements.

 

10.  Fair value measurements

 

Under generally accepted accounting principles, the Company is required to a) measure certain assets and liabilities at fair value or b) disclose the fair values of certain assets and liabilities recorded at cost. Accounting standards define fair value as the price that would be received upon sale of an asset or paid upon transfer of a liability in an orderly transaction between market participants at the measurement date. Fair value is calculated assuming the transaction occurs in the principal or most advantageous market for the asset or liability and includes consideration of non-performance risk and credit risk of both parties. Accounting standards pertaining to fair value establish a three-tier fair value hierarchy that prioritizes the inputs used in measuring fair value. These tiers include:

 

·                  Level 1—Valuation inputs are based upon unadjusted quoted prices for identical instruments traded in active markets.

 

·                  Level 2—Valuation inputs are based upon quoted prices for similar instruments in active markets, quoted prices for identical or similar instruments in markets that are not active, and model-based valuation techniques for which all significant assumptions are observable in the market or can be corroborated by observable market data for substantially the full term of the assets or liabilities.

 

·                  Level 3—Valuation inputs are unobservable and typically reflect management’s estimates of assumptions that market participants would use in pricing the asset or liability. The fair values are determined using model-based techniques that include option pricing models, discounted cash flow models and similar techniques.

 

As of May 31, 2014, March 1, 2014 and June 1, 2013, the Company held certain items that are required to be measured at fair value on a recurring basis. These included the nonqualified retirement plan and foreign currency forward contracts. The nonqualified retirement plan consists of investments purchased by employee contributions to retirement savings accounts. Foreign currency forward contracts are related to the Company’s attempts to hedge foreign currency fluctuation on purchases of inventory in Swedish krona. The Company’s foreign currency hedge instruments consist of over-the-counter (OTC) contracts, which are not traded on a public exchange. See Note 9 for further information on the Company’s hedging activities.

 

The fair values of the nonqualified retirement plan and foreign currency forward contracts are determined based on the market approach which utilizes inputs that are readily available in public markets or can be derived from information available in publicly quoted markets for comparable assets. Therefore, the Company has categorized these items as Level 2. The Company also considers counterparty credit risk and its own credit risk in its determination of all estimated fair values. The Company has consistently applied these valuation techniques in all periods presented and believes it has obtained the most accurate information available for the types of contracts it holds.

 

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The following items are measured at fair value on a recurring basis, subject to the disclosure requirements of ASC 820, Fair Value Measurements:

 

						May 31,			March 1,			June 1,
Description				Balance Sheet Location		2014			2014			2013
Assets
Nonqualified retirement plan		Level 2		Other current assets		$	3,555		$	3,401		$	2,817
Foreign currency hedge instruments		Level 2		Forward contracts		—			—			329
Total assets						$	3,555		$	3,401		$	3,146
Liabilities
Nonqualified retirement plan		Level 2		Accrued liabilities		3,563			3,417			2,824
Total liabilities						$	3,563		$	3,417		$	2,824

 

The fair values of long-term debt were estimated using discounted cash flow analyses, quoted prices, as well as recent transactions for similar types of borrowing arrangements. As of May 31, 2014, March 1, 2014 and June 1, 2013, the carrying values and estimated fair values of the Company’s long-term debt, including current maturities, were:

 

				May 31, 2014
				Carrying			Fair
				value			value
Senior secured term loan facility		Level 2		$	327,628		$	326,808
Elfa term loan facility		Level 2		935			935
Revolving credit facility		Level 3		8,000			8,000
Other loans		Level 3		1,484			1,484
				$	338,047		$	337,227

 

				March 1, 2014
				Carrying			Fair
				value			value
Senior secured term loan facility		Level 2		$	328,533		$	330,176
Elfa term loan facility		Level 2		1,950			1,948
Other loans		Level 3		4,768			4,686
				$	335,251		$	336,810

 

				June 1, 2013
				Carrying			Fair
				value			value
Senior secured term loan facility		Level 2		$	362,250		$	362,250
Elfa term loan facility		Level 3		4,719			4,776
Revolving credit facility		Level 3		5,000			5,000
Other loans		Level 3		5,902			5,892
				$	377,871		$	377,918

 

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11.  Segment reporting

 

The Company’s operating segments were determined on the same basis as how it evaluates the performance internally. The Company’s two operating segments consist of TCS and Elfa. The TCS segment includes the Company’s retail stores, website and call center, as well as the installation services business.

 

The Elfa segment includes the manufacturing business that produces the elfa® brand products that are sold domestically exclusively through the TCS segment, as well as on a wholesale basis in approximately 30 countries around the world with a concentration in the Nordic region of Europe. The intersegment sales in the Elfa column represent elfa® product sales to the TCS segment. These sales and the related gross margin on merchandise recorded in TCS inventory balances at the end of the period are eliminated for consolidation purposes in the Corporate/Other column. The net sales to third parties in the Elfa column represent sales to customers outside of the United States.

 

Amounts in the Corporate/Other column include unallocated corporate expenses and assets, intersegment eliminations and other adjustments to segment results necessary for the presentation of consolidated financial results in accordance with generally accepted accounting principles.

 

In general, the Company uses the same measurements to calculate earnings or loss before income taxes for operating segments as it does for the consolidated company. However, interest expense related to the Senior Secured Term Loan Facility and the Revolving Credit Facility is recorded in the Corporate/Other column.

 

								Corporate/
Thirteen Weeks Ended May 31, 2014		TCS			Elfa			Other			Total
Net sales to third parties		$	149,729		$	23,709		$	—		$	173,438
Intersegment sales		—			8,468			(8,468		)	—
Interest expense, net		7			161			4,134			4,302
Income (loss) before taxes		(102		)	251			(5,656		)	(5,507		)
Assets(1)		604,651			142,748			27,797			775,196

 

								Corporate/
Thirteen Weeks Ended June 1, 2013		TCS			Elfa			Other			Total
Net sales to third parties		$	137,479		$	22,166		$	—		$	159,645
Intersegment sales		—			8,309			(8,309		)	—
Interest expense, net		17			240			5,298			5,555
Income (loss) before taxes(2)		2,722			(1,150		)	(8,387		)	(6,815		)
Assets(1)		579,820			138,259			26,073			744,152

 

(1)  Tangible assets in the Elfa column are located outside of the United States. Assets in Corporate/Other include assets located in the corporate headquarters and distribution center. Assets in Corporate/Other also include deferred tax assets and the fair value of forward contracts.

(2)  The Corporate/Other column includes $1,101 loss on extinguishment of debt during the thirteen weeks ended June 1, 2013.

 

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ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

 

Cautionary note regarding forward-looking statements

 

This report, including this Management’s Discussion and Analysis of Financial Condition and Results of Operations, contains forward-looking statements. In some cases, you can identify forward-looking statements by terms such as “may,” “will,” “should,” “expects,” “plans,” “anticipates,” “could,” “intends,” “target,” “projects,” “contemplates,” “believes,” “estimates,” “predicts,” “potential” or “continue” or the negative of these terms or other similar expressions. These forward-looking statements are only predictions and involve known and unknown risks, uncertainties and other important factors that may cause our actual results, performance or achievements to be materially different from any future results, performance or achievements expressed or implied by the forward-looking statements.  These include, but are not limited to: a decline in the health of the economy and the purchase of discretionary items; risks related to new store openings; our inability to source and market our products to meet customer preferences or inability to offer customers an aesthetically pleasing shopping environment; our dependence on a single distribution center for all of our stores; the vulnerability of our facilities and systems to natural disasters and other unexpected events; risks related to our reliance on independent third-party transportation providers for substantially all of our product shipments; our dependence on our brand image and any inability to protect our brand; our failure to successfully anticipate consumer demand and manage inventory commensurate with demand; our failure to effectively manage our growth; our inability to lease space on favorable terms; fluctuations in currency exchange rates; our incurrence of  net losses in the past and the risk that we will experience net losses in the future; risks related to our inability to obtain capital on satisfactory terms or at all; our inability to effectively manage online sales; risks related to a security breach or cyber-attack of our website or information technology systems, and other damage to such systems; effects of competition on our business; our inability to obtain merchandise from our vendors on a timely basis and at competitive prices; the risk that our vendors may sell their products to our competitors; our dependence on key executive management; our inability to find, train and retain key personnel; labor activities and unrest; rising health care and labor costs; risks associated with our dependence on foreign imports; risks related to violations of anti-bribery and anti-kickback laws; risks related to our indebtedness; risks related to our fixed lease obligations; risks related to litigation; product recalls and/or product liability and changes in product safety and consumer protection laws; changes in statutory, regulatory, accounting and other legal requirements; the risk that our operating and financial performance in a given period will not meet the guidance we provided to the public; risks related to changes in estimates or projections used to assess the fair value of our intangible assets; significant increases in raw material prices or energy costs; fluctuations in our tax obligations, effective tax rate and realization of deferred tax assets; seasonal fluctuations in our operating results; material disruptions in one of our Elfa manufacturing facilities; our inability to protect our intellectual property rights and claims that we have infringed third parties’  intellectual property rights; risks related to our status as a controlled company; significant fluctuations in the price of our common stock; substantial future sales of our common stock, or the perception that such sales may occur, which could depress the price of our common stock; increased costs of being a public company; anti-takeover provisions in our governing documents, which could delay or prevent a change in control; reduced disclosure requirements applicable to emerging growth companies, which could make our stock less attractive to investors; and our failure to establish and maintain effective internal controls. Other important risk factors that could affect the outcome of the events set forth in these statements and that could affect our operating results and financial condition are described in the “Risk Factors” section of our Annual Report on Form 10-K for the fiscal year ended March 1, 2014, filed with the Securities and Exchange Commission (the “SEC”) on May 28, 2014.

 

We have based these forward-looking statements largely on our current expectations and projections about future events and financial trends that we believe may affect our business, financial condition and results of operations. These forward-looking statements speak only as of the date of this report. Because forward-looking statements are inherently subject to risks and uncertainties, you should not rely on these forward-looking statements as predictions of future events. Except as required by applicable law, we do not plan to publicly update or revise any forward-looking statements contained herein after the date of this report, whether as a result of any new information, future events or otherwise.

 

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Unless the context otherwise requires, references in this Quarterly Report on Form 10-Q to the “Company,”  “we,” “us,” and “our” refer to The Container Store Group, Inc. and, where appropriate, its subsidiaries.

 

We follow a 5-4-4 fiscal calendar, whereby each fiscal quarter consists of thirteen weeks grouped into one five-week “month” and two four-week “months”, and our fiscal year is the 52- or 53-week period ending on the Saturday closest to February 28. The first quarter of fiscal 2014 ended on May 31, 2014 and the first quarter of fiscal 2013 ended on June 1, 2013, and both included thirteen weeks.

 

Overview

 

We are the leading specialty retailer of storage and organization products in the United States. We are the original storage and organization specialty retailer and the only national retailer solely devoted to the category. Our goal is to help provide order to an increasingly busy and chaotic world. We provide creative, multifunctional, customizable storage and organization solutions that help our customers save time, save space and improve the quality of their lives. The breadth, depth and quality of our product offerings are designed to appeal to a broad demographic, including our core customers, who are predominantly female, affluent, highly educated and busy.

 

Our operations consist of two operating segments:

 

·      The Container Store (“TCS”), which consists of our retail stores, website and call center, as well as our installation services business. As of May 31, 2014, we operated 66 stores with an average size of approximately 19,000 selling square feet in 24 states and the District of Columbia. We also offer all of our products directly to customers through our website and call center. Our stores receive all products directly from our distribution center co-located with our corporate headquarters in Coppell, Texas.

 

·      Elfa, The Container Store, Inc.’s wholly owned Swedish subsidiary, Elfa International AB (“Elfa”), which designs and manufactures component-based shelving and drawer systems and made-to-measure sliding doors. Elfa was founded in 1948 and is headquartered in Malmö, Sweden. Elfa’s shelving and drawer systems are customizable for any area of the home, including closets, kitchens, offices and garages. Elfa operates four manufacturing facilities with two located in Sweden, one in Finland and one in Poland. The Container Store began selling elfa® products in 1978 and acquired Elfa in 1999. Today our TCS segment is the exclusive distributor of elfa® products in the U.S.  Elfa also sells its products on a wholesale basis to various retailers in approximately 30 countries around the world, with a concentration in the Nordic region of Europe.

 

Note on Dollar Amounts

 

All dollar amounts in this Management’s Discussion and Analysis of Financial Condition and Results of Operations are in thousands, except per share amounts and unless otherwise stated.

 

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Results of Operations

 

The following data represents the amounts shown in our unaudited consolidated statements of operations expressed in dollars and as a percentage of net sales and operating data for the periods presented (categories that are only applicable to our TCS segment are noted with (*) and to our Elfa segment with (+)). For segment data, see Note 11 to our unaudited consolidated financial statements included elsewhere in this Quarterly Report on Form 10-Q.

 

		Thirteen Weeks Ended
		May 31,			June 1,
		2014			2013
Net sales		$	173,438		$	159,645
Cost of sales (excluding depreciation and amortization)		72,586			66,441
Gross profit		100,852			93,204
Selling, general, and administrative expenses (excluding depreciation and amortization)		91,189			83,449
Pre-opening costs*		2,987			1,962
Depreciation and amortization		7,256			7,470
Restructuring charges+		—			241
Other expenses		525			219
Loss on disposal of assets		100			22
Loss from operations		(1,205		)	(159		)
Interest expense		4,302			5,555
Loss on extinguishment of debt*		—			1,101
Loss before taxes		(5,507		)	(6,815		)
Benefit for income taxes		(1,928		)	(2,020		)
Net loss		$	(3,579	)	$	(4,795	)

 

		Thirteen Weeks Ended
		May 31,			June 1,
		2014			2013
Percentage of net sales:
Net sales		100.0		%	100.0		%
Cost of sales (excluding depreciation and amortization)		41.9		%	41.6		%
Gross profit		58.1		%	58.4		%
Selling, general and administrative expenses (excluding depreciation and amortization)		52.6		%	52.3		%
Pre-opening costs*		1.7		%	1.2		%
Depreciation and amortization		4.2		%	4.7		%
Restructuring charges+		0.0		%	0.2		%
Other expenses		0.3		%	0.1		%
Loss on disposal of assets		0.1		%	0.0		%
Loss from operations		(0.7		)%	(0.1		)%
Interest expense, net		2.5		%	3.5		%
Loss on extinguishment of debt*		0.0		%	0.7		%
Loss before taxes		(3.2		)%	(4.3		)%
Benefit for income taxes		(1.1		)%	(1.3		)%
Net loss		(2.1		)%	(3.0		)%
Operating data:
Comparable store sales growth for the period(1)*		(0.8		)%	2.7		%
Number of stores open at end of period*		66			60
Average ticket(2)*		$	56.88		$	56.04
Non-GAAP measures(3):
Adjusted EBITDA(4)		$	10,202		$	10,591
Adjusted net loss(5)		$	(3,579	)	$	(3,214	)
Adjusted net loss per common share - diluted(5)		$	(0.07	)	$	(0.07	)

 

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(1) A store is included in the comparable store sales calculation on the first day of the sixteenth full fiscal month following the store’s opening. When a store is relocated, we continue to consider sales from that store to be comparable store sales. Net sales from our website and call center are also included in calculations of comparable store sales. The comparable store sales growth operating measure in a given period is based on merchandise orders placed in that period, which may not always reflect when the merchandise is delivered to the customer. The comparable store sales growth metric is an operating measure intended only as supplemental information and is not a substitute for net sales presented in accordance with generally accepted accounting principles.

 

(2) Average ticket for all periods is calculated by dividing (a) sales of merchandise by our TCS segment for that period (regardless of whether such sales are included in comparable store sales for such period) by (b) the number of transactions for that period comprising such sales. Average ticket is an operating measure intended only as supplemental information and is not a substitute for net sales presented in accordance with generally accepted accounting principles.

 

(3) We have presented certain non-GAAP measures as supplemental measures of financial performance that are not required by, or presented in accordance with, GAAP. These non-GAAP measures should not be considered as alternatives to net income (loss) as a measure of financial performance or cash flows from operations as a measure of liquidity, or any other performance measure derived in accordance with GAAP and they should not be construed as an inference that our future results will be unaffected by unusual or non-recurring items.  These non-GAAP measures are key metrics used by management and our board of directors to assess our financial performance.  These non-GAAP measures are frequently used by analysts, investors and other interested parties to evaluate companies in our industry. In evaluating these non-GAAP measures, you should be aware that in the future we will incur expenses that are the same as or similar to some of the adjustments in this presentation. Our presentation of these non-GAAP measures should not be construed to imply that our future results will be unaffected by any such adjustments. Management compensates for these limitations by relying on our GAAP results in addition to using non-GAAP measures supplementally. Our non-GAAP measures are not necessarily comparable to other similarly titled captions of other companies due to different methods of calculation.

 

(4) EBITDA and Adjusted EBITDA have been presented as supplemental measures of financial performance that are not required by, or presented in accordance with, GAAP. EBITDA and Adjusted EBITDA are not intended to be measures of free cash flow for management’s discretionary use, as they do not reflect certain cash requirements such as tax payments, debt service requirements, capital expenditures, store openings and certain other cash costs that may recur in the future. EBITDA and Adjusted EBITDA contain certain other limitations, including the failure to reflect our cash expenditures, cash requirements for working capital needs and cash costs to replace assets being depreciated and amortized.

 

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A reconciliation of the GAAP financial measure of net loss to the non-GAAP financial measures of EBITDA and Adjusted EBITDA is set forth below:

 

		Thirteen Weeks Ended
		May 31,			June 1,
		2014			2013
Net loss		$	(3,579	)	$	(4,795	)
Depreciation and amortization		7,256			7,470
Interest expense, net		4,302			5,555
Income tax benefit		(1,928		)	(2,020		)
EBITDA		6,051			6,210
Management fees(a)		—			250
Pre-opening costs*(b)		2,987			1,962
IPO costs*(c)		—			56
Noncash rent*(d)		410			391
Restructuring charges+(e)		—			241
Stock-based compensation(f)		277			99
Loss on extinguishment of debt*(g)		—			1,101
Foreign exchange (gains) losses(h)		(72		)	94
Other adjustments(i)		549			187
Adjusted EBITDA		$	10,202		$	10,591

 

(a)                                 Fees paid to Leonard Green and Partners, L.P. in accordance with our management services agreement, which was terminated on November 6, 2013 in association with our initial public offering (“IPO”).

 

(b)                                 Non-capital expenditures associated with relocating stores and opening new stores, including rent, marketing expenses, travel and relocation costs, and training costs. We adjust for these costs to facilitate comparisons of our performance from period to period.

 

(c)                                  Charges incurred in connection with our IPO, which we do not expect to recur and do not consider in our evaluation of ongoing performance.

 

(d)                                 Reflects the extent to which our annual GAAP rent expense has been above or below our cash rent payment due to lease accounting adjustments. The adjustment varies depending on the average age of our lease portfolio (weighted for size), as our GAAP rent expense on younger leases typically exceeds our cash cost, while our GAAP rent expense on older leases is typically less than our cash cost.

 

(e)                                  Includes charges incurred to restructure business operations at Elfa, including the sale of a subsidiary in Germany during fiscal 2012, which we do not consider in our evaluation of our ongoing performance.

 

(f)                                   Non-cash charges related to stock-based compensation programs, which vary from period to period depending on volume and vesting timing of awards. We adjust for these charges to facilitate comparisons from period to period.

 

(g)                                  Loss recorded as a result of the amendment made to the Senior Secured Term Loan Facility in April 2013, which we do not consider in our evaluation of our ongoing operations.

 

(h)                                 Realized foreign exchange transactional gains/losses.

 

(i)                                     Other adjustments include amounts our management does not consider in our evaluation of our ongoing operations, including costs incurred in preparation for being a public company and other charges.

 

(5) Adjusted net loss and adjusted net loss per common share — diluted have been presented as supplemental measures of financial performance that are not required by, or presented in accordance with, GAAP.  We define adjusted net loss as net loss available to common shareholders before distributions accumulated to preferred shareholders, stock-based compensation and other costs in connection with our IPO, restructuring charges, impairment charges related to intangible assets, losses on extinguishment of debt, and the tax impact of these adjustments and other unusual or infrequent tax items. We define adjusted net loss per common share — diluted as adjusted net loss divided by the number of fully diluted shares outstanding as of the end of the current fiscal period (i.e. May 31, 2014), assuming those shares were outstanding at the beginning of all periods presented.  We use adjusted net loss and adjusted net loss per common share — diluted to supplement GAAP measures of performance to evaluate the effectiveness of our business strategies, to make budgeting decisions and to compare our performance against that of other peer companies using similar measures.

 

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