INGLES MARKETS INC - Quarter Report: 2015 December (Form 10-Q)

 

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

 

 

 

FORM 10-Q

 

 

 

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

 

For the quarterly period ended December 26,  2015

 

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

 

For the transition period from                  to                 

 

Commission file number 0-14706.

 

 

 

INGLES MARKETS, INCORPORATED

(Exact name of registrant as specified in its charter)

 

 

 

 

 

(828) 669-2941

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 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 February 2, 2016, the Registrant had 13,942,826 shares of Class A Common Stock, $0.05 par value per share, outstanding and 6,316,950 shares of Class B Common Stock, $0.05 par value per share, outstanding.

 

 

---

 

 

INGLES MARKETS, INCORPORATED

 

INDEX

 

 

---

 

Part I. FINANCIAL INFORMATION

Item 1. FINANCIAL STATEMENTS 

 

INGLES MARKETS, INCORPORATED AND SUBSIDIARIES 

 

CONDENSED CONSOLIDATED BALANCE SHEETS (UNAUDITED)

 

 

 

 

See notes to unaudited condensed consolidated financial statements.

---

 

INGLES MARKETS, INCORPORATED AND SUBSIDIARIES 

 

CONDENSED CONSOLIDATED STATEMENTS OF INCOME (UNAUDITED)

 

 

 

 

 

See notes to unaudited condensed consolidated financial statements.

---

 

 

INGLES MARKETS, INCORPORATED AND SUBSIDIARIES 

 

CONDENSED CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS’ EQUITY (UNAUDITED)

 

THREE MONTHS ENDED DECEMBER 26,  2015 AND DECEMBER 27, 2014 

 

 

 

 

See notes to unaudited condensed consolidated financial statements.

---

 

INGLES MARKETS, INCORPORATED AND SUBSIDIARIES 

 

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED)  

 

 

 

See notes to unaudited condensed consolidated financial statements.

---

 

INGLES MARKETS, INCORPORATED AND SUBSIDIARIES

 

NOTES TO UNAUDITED INTERIM FINANCIAL STATEMENTS 

Three Months Ended December 26,  2015 and December 27,  2014 

 

A. BASIS OF PREPARATION

 

In the opinion of management, the accompanying unaudited interim financial statements contain all adjustments necessary to present fairly the Company’s financial position as of December 26, 2015, and the results of operations, changes in stockholders’ equity and cash flows for the three months ended December 26, 2015 and December 27, 2014. The adjustments made are of a normal recurring nature. Certain information and footnote disclosures normally included in the annual financial statements prepared in accordance with accounting principles generally accepted in the United States have been condensed or omitted pursuant to the rules and regulations of the Securities and Exchange Commission for Form 10-Q. It is suggested that these unaudited interim financial statements be read in conjunction with the audited financial statements and the notes thereto included in the Annual Report on Form 10-K for the year ended September 26,  2015, filed by the Company under the Securities Exchange Act of 1934 on December 10,  2015.

 

The results of operations for the three-month period ended December 26, 2015 are not necessarily indicative of the results to be expected for the full fiscal year.

 

B. NEW ACCOUNTING PRONOUNCEMENTS

 

In April 2015, the Financial Accounting Standards Board (FASB) issued Accounting Standards Update ASU 2015-03 “Simplifying the Presentation of Debt Issuance Costs” (ASU 2015-03). ASU 2015-03 changes the presentation of debt issuance costs in financial statements. Upon adoption of ASU 2015-03, debt issuance costs will be reported in the balance sheet as a direct deduction from the related debt liability rather than as an asset. The Company adopted ASU 2015-03 retroactively during the quarter ended December 26, 2015.  As a result, $9.0 million and $9.3 million of debt issuance costs were recorded as a reduction of total debt at December 26, 2015 and September 26, 2015, respectively.

 

In November 2015, the Financial Accounting Standards Board (FASB) issued Accounting Standards Update ASU 2015-17 “Balance Sheet Classification of Deferred Taxes” (ASU 2015-17). ASU 2015-17 requires entities to present deferred tax assets and deferred tax liabilities as noncurrent in a classified balance sheet. ASU 2015-07 simplifies current guidance, which requires entities to separately present deferred tax assets and deferred tax liabilities as current and noncurrent in a classified balance sheet. The Company adopted ASU 2015-17 retroactively during the quarter ended December 26, 2015.  As a result, $7.3 million of deferred tax assets were recorded as a reduction of the caption “Deferred Income Taxes” in the Condensed Consolidated Balance Sheets at December 26, 2015 and September 26, 2015.

 

C. ALLOWANCE FOR DOUBTFUL ACCOUNTS

 

Receivables are presented net of an allowance for doubtful accounts of $400,000 at December 26, 2015 and September 26, 2015, respectively.  

 

D. INCOME TAXES

 

The Company’s effective tax rate differs from the federal statutory rate primarily as a result of state income taxes and tax credits. 

 

The Company had approximately $3.0 million of refundable income taxes included in the caption “Other current assets” in the Condensed Consolidated Balance Sheets at December 26, 2015.

 

The Company has unrecognized tax benefits and could incur interest and penalties related to uncertain tax positions.. These amounts are insignificant and are not expected to significantly increase or decrease within the next twelve months.

 

On September 13, 2013, the IRS released final tangible property regulations under Sections 162(a) and 263(a) of the Internal Revenue Code regarding the deduction and capitalization of expenditures related to tangible property as well as dispositions of tangible property. These regulations were effective for the Company’s fiscal year ending September 26, 2015 and did not have a material impact on the Company’s consolidated results of operations, cash flows or financial position for the fiscal quarters ended December 26, 2015 and December 27, 2014.

 

---

 

E. ACCRUED EXPENSES AND CURRENT PORTION OF OTHER LONG-TERM LIABILITIES

 

Accrued expenses and current portion of other long-term liabilities consist of the following:

 

 

 

Self-insurance liabilities are established for general liability claims, workers’ compensation and employee group medical and dental benefits based on claims filed and estimates of claims incurred but not reported. The Company is insured for covered costs in excess of $750,000 per occurrence for workers’ compensation, $500,000 for general liability and $325,000 per covered person for medical care benefits for a policy year. At December 26, 2015 the Company’s self-insurance reserves totaled $36.0 million.  Of this amount, $14.4 million is accounted for as a current liability and $21.6 million as a long-term liability, which is inclusive of $5.2 million of expected self-insurance recoveries from excess cost insurance or other sources that are recorded as a receivable at December 26, 2015.  Employee insurance expense, including workers’ compensation and medical care benefits, net of employee contributions, totaled $9.2 million and $7.8 million for the three-month periods ended December 26, 2015 and December 27, 2014, respectively.

 

F. LONG-TERM DEBT

 

In June 2013, the Company issued $700.0 million aggregate principal amount of senior notes due in 2023 (the “Notes”) in a private placement.  The Notes bear an interest rate of 5.750% per annum and were issued at par.

 

The Company filed a registration statement with the Securities and Exchange Commission and completed the exchange of private placement notes with registered notes.

 

The Company may redeem all or a portion of the Notes at any time on or after June 15, 2018 at the following redemption prices (expressed as percentages of the principal amount), if redeemed during the 12-month period beginning June 15 of the years indicated below:

 

 

In connection with the offering of the Notes, the Company extended the maturity date of its $175.0 million line of credit (the “Line”) from December 29, 2015 to June 12, 2018 and modified certain interest rate options and covenants.  At December 26, 2015, the Company had $40.9 million of borrowings outstanding under the Line. 

 

The Line provides the Company with various interest rate options based on the prime rate, the Federal Funds Rate, or the London Interbank Offering Rate (“LIBOR”). The Line allows the Company to issue up to $30.0 million in unused letters of credit, of which $10.1 million of unused letters of credit were issued at December 26, 2015.  The Company is not required to maintain compensating balances in connection with the Line.

 

On December 29, 2010, the Company completed the funding of $99.7 million of bonds for construction of new warehouse and distribution space adjacent to its existing space in Buncombe County, North Carolina (the “Project”).  The final maturity date of the bonds is January 1, 2036.

 

The bonds were issued by the Buncombe County Industrial Facilities and Pollution Control Financing Authority and were purchased by certain financial institutions.  Under a Continuing Covenant and Collateral Agency Agreement (the “Covenant Agreement”) between the financial institutions and the Company, the financial institutions would hold the bonds until January 2, 2018, subject to certain events.   Mandatory redemption of the bonds by the Company in the annual amount of $4,530,000 began on January 1, 2014. 

 

In connection with the offering of the Notes, the Company extended the maturity date of the Covenant Agreement from January 2, 2018 to June 30, 2021 and modified certain interest rate options and covenants. The Company may redeem the bonds without penalty or premium at any time prior to June 30, 2021.

---

 

 

Interest earned by bondholders on the bonds is exempt from Federal and North Carolina income taxation.  The interest rate on the bonds is equal to one month LIBOR (adjusted monthly) plus a credit spread, adjusted to reflect the income tax exemption.

 

The Company’s obligation to repay the Bonds is collateralized by the Project.  Additional collateral was required in order to meet certain loan to value criteria in the Covenant Agreement.  The Covenant Agreement incorporates substantially all financial covenants included in the line of credit.

 

The Notes, the bonds and the Line contain provisions that under certain circumstances would permit lending institutions to terminate or withdraw their respective extensions of credit to the Company. Included among the triggering factors permitting the termination or withdrawal of the Line to the Company are certain events of default, including both monetary and non-monetary defaults, the initiation of bankruptcy or insolvency proceedings, and the failure of the Company to meet certain financial covenants designated in its respective loan documents. The Company was in compliance with all financial covenants at December 26, 2015.  

 

The Company’s long-term debt agreements generally have cross-default provisions which could result in the acceleration of payments due under the Company’s line of credit, bonds and Notes indenture in the event of default under any one instrument.

 

G. DIVIDENDS

 

The Company paid cash dividends of $0.165 for each share of Class A Common Stock and $0.15 for each share of Class B Common Stock on October 22, 2015 to stockholders of record on October 8, 2015. 

 

For additional information regarding the dividend rights of the Class A Common Stock and Class B Common Stock, please see Note 8, “Stockholders’ Equity” to the Consolidated Financial Statements of the Annual Report on Form 10-K filed by the Company under the Securities Exchange Act of 1934 on December 10, 2015.

 

H. EARNINGS PER COMMON SHARE

 

The Company has two classes of common stock:  Class A which is publicly traded, and Class B, which has no public market.  The Class B Common Stock has restrictions on transfer; however, each share is convertible into one share of Class A Common Stock at any time.  Each share of Class A Common Stock has one vote per share and each share of Class B Common Stock has ten votes per share.  Each share of Class A Common Stock is entitled to receive cash dividends equal to 110% of any cash dividend paid on Class B Common Stock. 

 

The Company calculates earnings per share using the two-class method in accordance with FASB ASC Topic 260. 

 

The two-class method of computing basic earnings per share for each period reflects the cash dividends declared per share for each class of stock, plus allocated undistributed earnings per share computed using the participation percentage which reflects the dividend rights of each class of stock.  Diluted earnings per share is calculated assuming the conversion of all shares of Class B Common Stock to shares of Class A Common Stock on a share-for-share basis.   The tables below reconcile the numerators and denominators of basic and diluted earnings per share for current and prior periods.

 

 

 

 

 

 

---

 

I. SEGMENT INFORMATION

 

The Company operates one primary business segment, retail grocery sales.   “Other” includes our remaining operations - fluid dairy and shopping center rentals.  Information about the Company’s operations by lines of business (amounts in thousands) is as follows: 

 

 

  

 

 

 

 

 

 

 

 

---

 

Sales by product category (amounts in thousands) are as follows:

 

 

 

The grocery category includes grocery, dairy, and frozen foods.

The non-foods include alcoholic beverages, tobacco, pharmacy, health and video.

The perishables category includes meat, produce, deli and bakery.

 

For the three-month periods ended December 26, 2015 and December 27, 2014, respectively, the fluid dairy operation had $11.4 million and $14.6 million in sales to the grocery sales segment. These sales have been eliminated in consolidation.

 

J. FAIR VALUES OF FINANCIAL INSTRUMENTS

 

The carrying amounts for cash and cash equivalents, accounts receivable and accounts payable approximate fair value due to the short-term maturity of these instruments.

 

The fair value of the Company’s debt is estimated using valuation techniques under the accounting guidance related to fair value measurements based on observable and unobservable inputs.  Observable inputs reflect readily available data from independent sources, while unobservable inputs reflect the Company’s market assumptions.  These inputs are classified into the following hierarchy:

 

 

The carrying amount and fair value of the Company’s debt at December 26, 2015 is as follows (in thousands):

 

 

 

The fair values for Level 2 measurements were determined primarily using market yields and taking into consideration the underlying terms of the debt.

 

---

 

K.  NONQUALIFIED INVESTMENT PLAN

 

The purpose of the Executive Nonqualified Excess Plan is to provide retirement benefits similar to the Company’s Investment/Profit Sharing Plan to certain of the Company’s management employees who are otherwise subject to limited participation in the 401(k) feature of the Company’s Investment/Profit Sharing Plan.  Participant retirement account balances are liabilities of the Company.  Assets of the plan are assets of the Company and are held in trust for employees and distributed upon retirement, death, disability, in-service distributions, or other termination of employment.  In accordance with the trust, the Company may not use these assets for general corporate purposes.  During the quarters ended December  26, 2015 and December 27, 2014 the Company liquidated certain life insurance policy assets and invested the proceeds in marketable securities.  These marketable securities will be liquidated and invested in life insurance policies in future periods.  Life insurance policies and marketable securities held in the trust are included in the caption “Other assets” in the Condensed Consolidated Balance Sheets.

 

L. SUBSEQUENT EVENTS

 

We have evaluated subsequent events and transactions for potential recognition or disclosure in the financial statements through the day the financial statements were issued.

 

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

 

Overview

 

Ingles, a leading supermarket chain in the Southeast, operates 201 supermarkets in Georgia (71), North Carolina (71), South Carolina (36), Tennessee (20), Virginia (2) and Alabama (1). The Company locates its supermarkets primarily in suburban areas, small towns and rural communities. Ingles supermarkets offer customers a wide variety of nationally advertised food products, including grocery, meat and dairy products, produce, frozen foods and other perishables and non-food products. Non-food products include fuel centers, pharmacies, health and beauty care products and general merchandise, as well as quality private label items. In addition, the Company focuses on selling high-growth, high-margin products to its customers through the development of certified organic products, bakery departments and prepared foods including delicatessen sections.  As of December 26,  2015, the Company operated 97 in-store pharmacies and 88 fuel centers. 

 

Ingles also operates a fluid dairy and earns shopping center rentals. The fluid dairy sells approximately 26%  of its products to the retail grocery segment and approximately 74%  of its products to third parties. Real estate ownership is an important component of the Company’s operations, providing both operational and economic benefits.  

 

Critical Accounting Policies

 

Critical accounting policies are those accounting policies that management believes are important to the portrayal of the Company’s financial condition and results of operations, and require management’s most difficult, subjective or complex judgments, often as a result of the need to make estimates about the effect of matters that are inherently uncertain. Estimates are based on historical experience and other factors believed to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources.  Management estimates, by their nature, involve judgments regarding future uncertainties, and actual results may therefore differ materially from these estimates.

 

Self-Insurance

 

The Company is self-insured for workers’ compensation and group medical and dental benefits. Risks and uncertainties are associated with self-insurance; however, the Company has limited its exposure by maintaining excess liability coverage of $750,000 per occurrence for workers’ compensation, $500,000 for general liability, and $325,000 per covered person for medical care benefits for a policy year. Self-insurance liabilities are established based on claims filed and estimates of claims incurred but not reported. The estimates are based on data provided by the respective claims administrators. These estimates can fluctuate if historical trends are not predictive of the future. The majority of the Company’s properties are self-insured for casualty losses and business interruption; however, liability coverage is maintained.    At December 26, 2015 the Company’s self-insurance reserves totaled $36.0 million.  Of this amount, $14.4  million is accounted for as a current liability and $21.6  million as a long-term liability, which is inclusive of $5.2 million of expected self-insurance recoveries from excess cost insurance or other sources that are recoded as a receivable at December 26, 2015.

 

Asset Impairments 

 

The Company accounts for the impairment of long-lived assets in accordance with Financial Accounting Standards Board Accounting Standards Codification (“FASB ASC”) Topic 360. For assets to be held and used, the Company tests for impairment using

---

 

undiscounted cash flows and calculates the amount of impairment using discounted cash flows. For assets held for sale, impairment is recognized based on the excess of remaining book value over expected recovery value. The recovery value is the fair value as determined by independent quotes or expected sales prices developed by internal associates. Estimates of future cash flows and expected sales prices are judgments based upon the Company’s experience and knowledge of local operations and cash flows that are projected for several years into the future. These estimates can fluctuate significantly due to changes in real estate market conditions, the economic environment, capital spending decisions and inflation. The Company monitors the carrying value of long-lived assets for potential impairment each quarter based on whether any indicators of impairment have occurred.  There were no asset impairments during the three-month period ended December 26, 2015.

 

Vendor Allowances

 

The Company receives funds for a variety of merchandising activities from the many vendors whose products the Company buys for resale in its stores. These incentives and allowances are primarily comprised of volume or purchase based incentives, advertising allowances, slotting fees, and promotional discounts. The purpose of these incentives and allowances is generally to help defray the costs incurred by the Company for stocking, advertising, promoting and selling the vendor’s products. These allowances generally relate to short term arrangements with vendors, often relating to a period of a month or less, and are negotiated on a purchase-by-purchase or transaction-by-transaction basis.  Whenever possible, vendor discounts and allowances that relate to buying and merchandising activities are recorded as a component of item cost in inventory and recognized in merchandise costs when the item is sold. Due to system constraints and the nature of certain allowances, it is sometimes not practicable to apply allowances to the item cost of inventory. In those instances, the allowances are applied as a reduction of merchandise costs using a rational and systematic methodology, which results in the recognition of these incentives when the inventory related to the vendor consideration received is sold.  Vendor allowances applied as a reduction of merchandise costs totaled $29.6 million and $31.6 million for the fiscal quarters ended December 26, 2015 and December 27, 2014, respectively.  Vendor advertising allowances that represent a reimbursement of specific identifiable incremental costs of advertising the vendor’s specific products are recorded as a reduction to the related expense in the period in which the related expense is incurred.  Vendor advertising allowances recorded as a reduction of advertising expense totaled $3.8 million and $4.1 million for the fiscal quarters ended December 26, 2015 and December 27, 2014, respectively. 

 

If vendor advertising allowances were substantially reduced or eliminated, the Company would likely consider other methods of advertising, as well as the volume and frequency of the Company’s product advertising, which could increase or decrease the Company’s expenditures.

 

Similarly, the Company is not able to assess the impact of vendor advertising allowances on creating additional revenue, as such allowances do not directly generate revenue for the Company’s stores.

 

Results of Operations

 

Ingles operates on a 52 or 53-week fiscal year ending on the last Saturday in September. The Condensed Consolidated Statements of Income for the three-month periods ended December 26, 2015 and December 27, 2014 both include 13 weeks of operations. Comparable store sales are defined as sales by grocery stores in operation for five full fiscal quarters. Sales from replacement stores, major remodels and the addition of fuel stations to existing stores are included in the comparable store sales calculation from the date thereof. A replacement store is a new store that is opened to replace an existing nearby store that is closed. A major remodel entails substantial remodeling of an existing store and includes additional retail square footage. For the three-month periods ended December 26, 2015 and December 27, 2014, comparable store sales include 199 and 201 stores, respectively. 

 

---

 

The following table sets forth, for the periods indicated, selected financial information as a percentage of net sales. For information regarding the various segments of the business, see Note I “Segment Information” to the Condensed Consolidated Financial Statements.

 

 

 

Three Months Ended December 26,  2015 Compared to the Three Months Ended December 27,  2014 

 

Net income for the first quarter of fiscal 2016 totaled $13.0 million, compared with net income of $15.0 million earned for the first quarter of fiscal 2015.  Total non-gasoline revenues increased but gross profit earned from gasoline sales were much lower and employee wage and insurance expense increased. 

 

Net Sales. Because of decreases in retail gasoline prices, net sales decreased by $13.4 million, or 1.4% to $951.1 million for the three months ended December 26, 2015 compared with $964.5 million for the three months ended December 27, 2014.  Comparing the first quarter of fiscal 2016 with the first quarter of fiscal 2015, gasoline sales dollars decreased 21.4% due to a 29.0% decrease in the average sales price per gallon.  Gallons sold increased 10.7% over the same comparable periods.  Excluding gasoline sales, total grocery comparable store sales increased 2.3% over the comparative fiscal quarters.  Comparing the first quarters of fiscal years 2016 and 2015 (and excluding gasoline), the number of customer transactions increased 0.8% and the average transaction size increased 1.7%. 

 

Ingles operated 201 and 202 stores at December 26, 2015 and December 27, 2014, respectively.  Retail square feet totaled 11.1 million square feet at both December  26, 2015 and December 27, 2014.   During the last twelve months the Company closed two stores that will be rebuilt and opened one new store. 

 

Sales by product category (in thousands) are as follows:

 

 

 

The grocery category includes grocery, dairy, and frozen foods.

The non-foods include alcoholic beverages, tobacco, pharmacy, health and video.

The perishables category includes meat, produce, deli and bakery.

 

---

 

Changes in retail grocery sales for the quarter ended December 26, 2015 are summarized as follows (in thousands):

 

 

 

 

Gross Profit. Gross profit for the three-month period ended December 26, 2015 totaled $225.6 million, an increase of $1.2 million, or 0.6%, compared with gross profit of $224.4 million for the three-month period ended December 27, 2014.  Gross profit as a percentage of sales was 23.7%  for the three months ended December 26, 2015 compared with 23.3% for the three months ended December 27, 2014.

 

The gross profit increase is attributable to higher non-gasoline sales, and to higher gross margins in non-gasoline products.    Gasoline gross profit dollars decreased markedly from the first quarter of last fiscal year.  Excluding gasoline sales, grocery gross profit as a percentage of sales was level for the first quarter of fiscal 2016 compared with the same fiscal 2015 period.

 

In addition to the direct product cost, the cost of goods sold line item for the grocery segment includes inbound freight charges and the costs related to the Company’s distribution network.  Fluid dairy is a manufacturing process; therefore, the costs mentioned above as well as purchasing, production costs, and internal transfer costs incurred by the milk processing operation are included in the cost of goods sold line item, while these items are included in operating and administrative expenses in the grocery segment. 

 

Operating and Administrative Expenses. Operating and administrative expenses increased $7.1  million, or 3.8%, to $194.1  million for the three months ended December 26, 2015, from $187.0 million for the three months ended December 27, 2014.   As a percentage of sales, operating and administrative expenses were 20.4%  and 19.4% for the December 2015 and December 2014 quarters, respectively.  Excluding gasoline sales and associated gasoline operating expenses (primarily payroll), operating expenses were 22.8%  of sales for the first fiscal quarter of 2016 compared with 22.4% for the first fiscal quarter of 2015.

 

A breakdown of the major changes in operating and administrative expenses is as follows:

 

 

 

 

Salaries and wages increased in dollars due to additional labor hours required in part to accommodate in-store merchandising changes.

 

Repairs and maintenance increased due to more sophisticated equipment in our stores and to a higher level of building maintenance.

 

Advertising and promotion increased from expanded print and television investments and in response to the competitive environment.

 

Insurance expense increased due to claims experience in the Company’s self-insurance programs.

 

Interest Expense. Interest expense totaled $12.0 million for each three-month period ended December 26, 2015 and December 27, 2014. Total debt at December 2015 was $924.8 million compared with $960.1 million at December 2014.  

 

Income Taxes. Income tax expense totaled $7.3 million for the three months ended December 26, 2015, an effective tax rate of 35.9% of pretax income.   Income tax expense totaled $11.0 million for the three months ended December 27, 2014, an effective tax rate of 42.3% of pretax income.  The higher effective tax rate for the December 2015 quarter is attributable to certain discrete items which are not expected to recur in future periods.

---

 

 

Net Income. Net income totaled $13.0 million for the three-month period ended December 26, 2015 compared with $15.0 million for the three-month period ended December 27, 2014.  Net income, as a percentage of sales, was 1.4% and 1.6% for the December 2015 quarter and the December 2014 quarter, respectively.  Basic and diluted earnings per share for Class A Common Stock were $0.66 and $0.64, respectively, for the December 2015 quarter, compared to $0.77 and $0.74, respectively, for the December 2014 quarter.    Basic and diluted earnings per share for Class B Common Stock were each $0.60 for the December 2015 quarter compared with $0.70 for the December 2014 quarter.

 

Liquidity and Capital Resources

 

Capital Expenditures

 

The Company believes that a key to its ability to continue to develop a loyal customer base is providing conveniently located, clean and modern stores which provide customers with good service and a broad selection of competitively priced products. As such, the Company has invested and will continue to invest significant amounts of capital toward the modernization of its store base. The Company’s modernization program includes the opening of new stores, the completion of major remodels and expansion of selected existing stores, the relocation of selected existing stores to larger, more convenient locations and the completion of minor remodeling of its remaining existing stores.   The Company will also add fuel centers and other products complementary to grocery sales where market conditions and real estate considerations warrant.

 

Capital expenditures totaled $40.6 million for the three-month period ended December 26, 2015.  These capital expenditures focused on  construction on stores scheduled to open later in fiscal 2016, site acquisition, and smaller-scale remodeling projects in a number of the Company’s stores.  Capital expenditures also included the costs of upgrading and replacing store equipment, technology investments, rolling stock, and capital expenditures related to the Company’s milk processing plant. 

 

Ingles’ capital expenditure plans for fiscal 2016 include investments of approximately $100 to $140 million. The majority of the Company’s fiscal 2016 capital expenditures will be dedicated to continued improvement of its store base and also include investments in stores expected to open in fiscal 2016 as well as technology improvements, upgrading and replacing existing store equipment and warehouse and transportation equipment and improvements to the Company’s milk processing plant.

 

The Company expects that its annual capital expenditures will be in the range of approximately $100 to $160 million going forward in order to maintain a modern store base.  Planned expenditures for any given future fiscal year will be affected by the availability of financing, which can affect both the number of projects pursued at any given time and the cost of those projects.  The number of projects may also fluctuate due to the varying costs of the types of projects pursued including new stores and major remodel/expansions. The Company makes decisions on the allocation of capital expenditure dollars based on many factors including the competitive environment, other Company capital initiatives and its financial condition.

 

The Company does not generally enter into commitments for capital expenditures other than on a store-by-store basis at the time it begins construction on a new store or begins a major or minor remodeling project.  Outstanding construction commitments totaled $24.5 million at December 26, 2015.

 

Liquidity

 

The Company generated $6.5 million net cash from operations in the December 2015 three-month period compared to a net operating use of cash totaling $4.8 million during the December 2014 three-month period. Operating cash generation tends to be lower during the December quarter of each fiscal year due to seasonal inventory increases and semi-annual interest payments on Senior Notes obligations.

 

Cash used by investing activities for the three-month periods ended December 26, 2015 and December 27, 2014 totaled $40.6 million and $27.4 million, respectively, consisting primarily of capital expenditures offset by insignificant proceeds from property and equipment sales. 

 

Cash provided by financing activities totaled $35.1 million and $29.9 million for the fiscal quarters ended December 2015 and 2014, respectively.  Short term borrowings tend to increase during the December quarter of each fiscal year to finance seasonal inventory increases and the semi-annual Senior Note interest payment.

 

In June 2013, the Company issued $700.0 million aggregate principal amount of senior notes due in 2023 (the “Notes”) in a private placement.  The Notes bear an interest rate of 5.750% per annum and were issued at par. 

 

In connection with the offering of the Notes, the Company extended the maturity date of its $175.0 million line of credit (the “Line”) from December 29, 2015 to June 12, 2018 and modified certain interest rate options and covenants.  At December  26, 2015, the Company had $40.9 million of borrowing outstanding under the Line.

 

---

 

The Line provides the Company with various interest rate options based on the prime rate, the Federal Funds Rate, or the London Interbank Offering Rate. The line allows the Company to issue up to $30.0 million in unused letters of credit, of which $10.1 million of unused letters of credit were issued at December 26, 2015.  The Company is not required to maintain compensating balances in connection with the Line.

 

On December 29, 2010, the Company completed the funding of $99.7 million of bonds for the construction of new warehouse and distribution space adjacent to its existing space in Buncombe County, North Carolina (the “Project”).  The final maturity date of the Bonds is January 1, 2036.

 

Under a Continuing Covenant and Collateral Agency Agreement (the “Covenant Agreement”) between certain financial institutions and the Company, the financial institutions would hold the bonds until January 2, 2018, subject to certain events.   Mandatory redemption of the bonds by the Company in the annual amount of $4,530,000 began on January 1, 2014.

 

In connection with the offering of the Notes, the Company extended the maturity date of the Covenant Agreement from January 2, 2018 to June 30, 2021 and modified certain interest rate options and covenants.  The Company may redeem the bonds without penalty or premium at any time prior to June 30, 2021. 

 

The Company’s long-term debt agreements generally have cross-default provisions which could result in the acceleration of payments due under the Company’s Line, bonds and Notes indenture in the event of default under any one instrument.

 

The Notes, the bonds and the Line contain provisions that under certain circumstances would permit lending institutions to terminate or withdraw their respective extensions of credit to the Company. Included among the triggering factors permitting the termination or withdrawal of the Line to the Company are certain events of default, including both monetary and non-monetary defaults, the initiation of bankruptcy or insolvency proceedings, and the failure of the Company to meet certain financial covenants designated in its respective loan documents. As of December 26, 2015, the Company was in compliance with these covenants.  Under the most restrictive of these covenants, the Company would be able to incur approximately $340 million of additional borrowings (including borrowings under the Line) as of December 26, 2015.  

 

The Company’s principal sources of liquidity are expected to be cash flow from operations, borrowings under the line of credit and long-term financing. The Company believes, based on its current results of operations and financial condition, that its financial resources, including the line of credit, short- and long-term financing expected to be available to it and internally generated funds, will be sufficient to meet planned capital expenditures and working capital requirements for the foreseeable future, including any debt service requirements of additional borrowings. However, there is no assurance that any such sources of financing will be available to the Company when needed on acceptable terms, or at all.

 

It is possible that, in the future, the Company’s results of operations and financial condition will be different from that described in this report based on a number of factors. These factors may include, among others, increased competition, changing regional and national economic conditions, adverse climatic conditions affecting food production and delivery and changing demographics, as well as the additional factors discussed below under “Forward Looking Statements.” It is also possible, for such reasons, that the results of operations from the new, expanded, remodeled and/or replacement stores will not meet or exceed the results of operations from existing stores that are described in this report. 

 

Contractual Obligations and Commercial Commitments

 

There have been no material changes in contractual obligations and commercial commitments subsequent to September 26,  2015 other than as disclosed elsewhere in this Form 10-Q. 

 

Off Balance Sheet Arrangements

 

The Company is not a party to any off-balance sheet arrangements that have, or are reasonably likely to have, a current or future material effect on the Company’s financial condition, revenues, expenses, results of operations, liquidity, capital expenditures or capital resources.

 

Quarterly Cash Dividends

 

Since December 27, 1993, the Company has paid regular quarterly cash dividends of $0.165 (sixteen and one-half cents) per share on its Class A Common Stock and $0.15 (fifteen cents) per share on its Class B Common Stock for an annual rate of $0.66 and $0.60 per share, respectively.    

 

The Company expects to continue paying regular cash dividends on a quarterly basis. However, the Board of Directors periodically reconsiders the declaration of dividends. The Company pays these dividends at the discretion of the Board of Directors and the continuation of these payments, the amount of such dividends, and the form in which the dividends are paid (cash or stock) depends upon the results of operations, the financial condition of the Company and other factors which the Board of Directors deems relevant. In addition, the Notes, the Bonds, the Line, and other loan agreements contain provisions that, based on certain financial parameters,

---

 

restrict the ability of the Company to pay additional cash dividends in excess of current quarterly per share amounts. Further, the Company is prevented from declaring dividends at any time that it is in default under the indenture governing the Notes. 

 

Seasonality

 

Grocery sales are subject to a slight seasonal variance due to holiday related sales and due to sales in areas where seasonal homes are located.  Sales are traditionally higher in the Company’s first fiscal quarter due to the inclusion of sales related to Thanksgiving and Christmas. The Company’s second fiscal quarter traditionally has the lowest sales of the year.   In the third and fourth quarter, sales are affected by the return of customers to seasonal homes in our market area.  The Company’s fluid dairy operations have slight seasonal variation to the extent of its sales into the grocery industry. The Company’s real estate activities are not subject to seasonal variations. 

 

Impact of Inflation

 

The following table from the United States Bureau of Labor Statistics lists annualized changes in the Consumer Price Index that could have an effect on the Company’s operations.  One of the Company’s significant costs is labor, which changes with general inflation.  Inflation or deflation in energy costs affects the Company’s gasoline sales, distribution expenses, utility expenses and plastic supply costs.

 

 

 

Forward Looking Statements

 

This Quarterly Report contains certain forward-looking statements within the meaning of Section 21E of the Securities Exchange Act of 1934, as amended. The words “expect”, “anticipate”, “intend”, “plan”, “likely”, “goal”, “believe”, “seek” and similar expressions are intended to identify forward-looking statements. While these forward-looking statements and the related assumptions are made in good faith and reflect the Company’s current judgment regarding the direction of the Company’s business, actual results will almost always vary, sometimes materially, from any estimates, predictions, projections, assumptions or other future performance suggested herein. Such statements are based upon a number of assumptions and estimates which are inherently subject to significant risks and uncertainties many of which are beyond the Company’s control. Some of these assumptions inevitably will not materialize, and unanticipated events will occur which will affect the Company’s results. Some important factors (but not necessarily all factors) that affect the Company’s revenues, growth strategies, future profitability and operating results, or that otherwise could cause actual results to differ materially from those expressed in or implied by any forward-looking statement, include business and economic conditions generally in the Company’s operating area; the Company’s ability to successfully implement its expansion and operating strategies and to manage rapid expansion; pricing pressures and other competitive factors; reduction in per gallon retail gasoline prices; the maturation of new and expanded stores; the Company’s ability to reduce costs and achieve improvements in operating results; the availability and terms of financing; increases in labor and utility costs; success or failure in the ownership and development of real estate; changes in the laws and government regulations applicable to the Company;  and changes in accounting policies, standards, guidelines or principles as may be adopted by regulatory agencies as well as the Financial Accounting Standards Board.

 

Consequently, actual events affecting the Company and the impact of such events on the Company’s operations may vary significantly from those described in this report or contemplated or implied by statements in this report.  The Company does not undertake and specifically denies any obligation to update any such statements or to publicly announce the results of any revisions to any such statements to reflect future events or developments. 

 

---

 

 

Item 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

 

The Company does not typically utilize financial instruments for trading or other speculative purposes, nor does it typically utilize leveraged financial instruments.  There have been no material changes in the market risk factors from those disclosed in the Company’s Annual Report on Form 10-K for the year ended September 26,  2015.  

 

Item 4.  CONTROLS AND PROCEDURES    

 

The Company maintains disclosure controls and procedures designed to provide reasonable assurance of achieving the objective that information in its Exchange Act reports is recorded, processed, summarized and reported within the time periods specified and pursuant to the regulations of the Securities and Exchange Commission. Disclosure controls and procedures, as defined in Rule 13a-15(e) and 15d-15(e) under the Exchange Act, include controls and procedures designed to ensure the information required to be disclosed by the Company in the reports it files or submits under the Exchange Act is accumulated and communicated to the Company’s management, including its Chief Executive Officer and Chief Financial Officer, as appropriate, to allow timely decisions regarding required disclosure. It should be noted that the Company’s system of controls, however well designed and operated, can provide only reasonable, and not absolute, assurance that the objectives of the system are met.

 

As required by SEC Rule 13a-15(b), the Company carried out an evaluation, under the supervision and with participation of its management, including its Chief Executive Officer and Chief Financial Officer, of the effectiveness of the design and operation of its disclosure controls and procedures as of December 26, 2015, the end of the period covered by this report. In making this evaluation, it considered matters previously identified and disclosed in connection with the filing of its Form 10-K for fiscal 2015. After consideration of the matters discussed above, the Company has concluded that its controls and procedures were effective as of December  26, 2015.  

 

(b) Changes in Internal Control over Financial Reporting

 

The Company is currently performing tests of internal controls over financial reporting for fiscal year 2016.  

 

No change in internal control over financial reporting occurred during the Company’s last fiscal quarter that materially affected, or is reasonably likely to materially affect, the Company’s internal control over financial reporting.

 

In May 2013, COSO issued its Internal Control – Integrated Framework (the “2013 Framework”).  While the 2013 Framework’s internal control components (i.e., control environment, risk assessment, control activities, information and communication, and monitoring activities) are the same as those in the 1992 Framework, the new framework requires companies to assess whether 17 principles are present and functioning in determining whether their system of internal control is effective.  The Company adopted the 2013 Framework during the year ending September 26, 2015.

 

Part II. OTHER INFORMATION

 

 

 

Item 6. EXHIBITS 

 

 

3.1Articles of Incorporation of Ingles Markets, Incorporated (included as Exhibit 3.1 to Ingles Markets, Incorporated’s Registration Statement on Form S-1, File No. 33-23919, previously filed with the Commission and incorporated herein by this reference).

 

3.2Articles of Amendment to Articles of Incorporation of Ingles Markets, Incorporated (included as Exhibit 3.3 to Ingles Markets, Incorporated’s Annual Report on Form 10-K for the fiscal year ended September 25, 2004, File No. 0-14706, previously filed with the Commission and incorporated herein by this reference).

 

3.3Articles of Amendment to Articles of Incorporation of Ingles Markets, Incorporated dated April 23, 2012 (included as Exhibit 3.3 to Ingles Markets, Incorporated Quarterly Report on Form 10-Q for the fiscal quarter ended March 24, 2012, File No. 0-14706, previously filed with the Commission and incorporated herein by this reference).

 

3.4Amended and Restated By-Laws of Ingles Markets, Incorporated (included as Exhibit 99.1 to Ingles Markets, Incorporated’s Current Report on Form 8-K, File No. 0-14706, previously filed with the Commission on August 30, 2007 and incorporated herein by this reference).

 

4.1Articles 4 and 9 of the Articles of Incorporation of Ingles Markets, Incorporated (included as Exhibit 3.1 to Ingles Markets, Incorporated’s Registration Statement on Form S-1, File No. 33-23919, and Exhibit 3.3 to Ingles Markets, Incorporated’s Annual Report on Form 10-K for the fiscal year ended September 25, 2004, File No. 0-14706, respectively, each of which were previously filed with the Commission and are incorporated herein by this reference).

---

 

 

4.2Articles 2, 3, 10, 11 and 14 of the Amended and Restated By-Laws of Ingles Markets, Incorporated (included as Exhibit 99.1 to Ingles Markets, Incorporated’s Current Report on Form 8-K, File No. 0-14706, previously filed with the Commission on August 30, 2007 and incorporated herein by this reference).

 

 4.3Indenture, dated as of June 12, 2013, between Ingles Markets, Incorporated and Branch Banking and Trust Company, as Trustee, governing the 5.75% Senior Notes Due 2023, including the form of unregistered 5.75% Senior Note Due 2023 (included as Exhibit 4.1 to Ingles Markets, Incorporated’s Current Report on Form 8-K, File No. 0-14706, previously filed with the Commission on June 12, 2013 and incorporated herein by this reference).

 

 4.4Registration Rights Agreement, dated June 12, 2013, among the Company and Merrill Lynch, Pierce, Fenner and Smith Incorporated, Wells Fargo Securities, LLC, BB&T Capital Markets, a division of BB&T Securities, LLC and SunTrust Robinson Humphrey, Inc. (included as Exhibit 4.3 to Ingles Markets, Incorporated’s Current Report on Form 8-K, File No. 0-14706, previously filed with the Commission on June 12, 2013 and incorporated herein by this reference). 

 

10.1Credit Agreement, dated May 12, 2009, among the Company and the lenders party thereto, Bank of America, as administrative agent, swing line lender and l/c issuer, Branch Banking and Trust Company, as syndication agent, Wachovia Bank, National Association, as documentation agent, and Banc of America Securities LLC, Branch Banking and Trust Company and Wachovia Capital Markets, LLC, as joint lead arrangers and book managers (included as Exhibit 10.1 to Ingles Markets, Incorporated’s Current Report on Form 8-K, File No. 0-14706, previously filed with the Commission on May 15, 2009 and incorporated herein by this reference).

 

10.2Exhibits and Schedules to Credit Agreement dated May 12, 2009, among the Company and the lenders party thereto, Bank of America, as administrative agent, swing line lender and l/c issuer, Branch Banking and Trust Company, as syndication agent, Wachovia Bank, National Association, as documentation agent, and Banc of America Securities LLC, Branch Banking and Trust Company and Wachovia Capital Markets, LLC, as joint lead arrangers and joint book managers (included as Exhibit 10.1 to Ingles Markets, Incorporated’s Current Report on Form 8-K, File No. 0-14706, previously filed with the Commission on May 15, 2009 and incorporated herein by this reference).

 

10.3Waiver and First Amendment to the Credit Agreement dated as of July 31, 2009, among the Company the lenders from time to time party thereto, Bank of America, N.A., as administrative agent, swing line lender and l/c issuer, and the other agents, joint lead arrangers and joint book managers party thereto (included as Exhibit 10.3 to Ingles Markets, Incorporated’s Annual Report on Form 10-K for the fiscal year ended September, 29, 2012, File No. 0-14706, previously filed with the Commission and incorporated herein by this reference).

 

10.4Second Amendment to the Credit Agreement dated as of December 29, 2010, among the Company the lenders from time to time party thereto, Bank of America, N.A., as administrative agent, swing line lender and l/c issuer, and the other agents, joint lead arrangers and joint book managers party thereto (included as Exhibit 10.1 to Ingles Markets, Incorporated’s Current Report on Form 8-K, File No. 0-14706, previously filed with the Commission on January 4, 2011 and incorporated herein by this reference).

 

10.5Third Amendment to the Credit Agreement dated as of September 6, 2012, among the Company the lenders from time to time party thereto, Bank of America, N.A., as administrative agent, swing line lender and l/c issuer, and the other agents, joint lead arrangers and joint book managers party thereto (included as Exhibit 10.5 to Ingles Markets, Incorporated’s Annual Report on Form 10-K for the fiscal year ended September 29, 2012, File No. 0-14706, previously filed with the Commission and incorporated herein by this reference).

 

10.6Fourth Amendment to the Credit Agreement dated as of June 12, 2013, among the Company the lenders from time to time party thereto, Bank of America, N.A., as administrative agent, swing line lender and l/c issuer, and the other agents, joint lead arrangers and joint book managers party thereto (included as Exhibit 10.6 to Ingles Markets, Incorporated’s Quarterly Report on Form 10-Q for the quarter ended December 28, 2013, File No. 0-14706, previously filed with the Commission and incorporated herein by this reference).

 

10.7Fifth Amendment to the Credit Agreement dated as of January 31, 2014, among the Company the lenders from time to time party thereto, Bank of America, N.A., as administrative agent, swing line lender and l/c issuer, and the other agents, joint lead arrangers and joint book managers party thereto (included as Exhibit 10.7 to Ingles Markets, Incorporated’s Quarterly Report on Form 10-Q for the quarter ended December 28, 2013, File No. 0-14706, previously filed with the Commission and incorporated herein by this reference).

 

10.8Sixth Amendment to the Credit Agreement dated as of June 23, 2014, among the Company the lenders from time to time party thereto, Bank of America, N.A., as administrative agent, swing line lender and l/c issuer, and the other agents, joint lead

---

 

arrangers and joint book managers party thereto (included as Exhibit 10.1 to Ingles Markets, Incorporated’s Current Report on Form 8-K, File No. 0-14706, previously filed with the Commission on June 24, 2014 and incorporated herein by this reference).

 

31.1*Rule 13a-14(a) Certification

 

31.2*Rule 13a-14(a) Certification

 

32.1*Certification Pursuant to 18 U.S.C. Section 1350

 

32.2*Certification Pursuant to 18 U.S.C. Section 1350

 

101*The following financial information from the Quarterly Report on Form 10-Q for the fiscal quarter ended December  26, 2015, formatted in XBRL (Extensible Business Reporting Language) and furnished electronically herewith: (i) the Consolidated Statements of Earnings; (ii) the Consolidated Balance Sheets; (iii) the Consolidated Statements of Cash Flows; (iv) the Consolidated Statements of Comprehensive Income; and (v) the Notes to the Consolidated Financial Statements.

________

* Filed herewith.

---

 

SIGNATURES

 

Pursuant to the requirements of the Securities Exchange Act of 1934, the Registrant has duly caused this Form 10-Q to be signed on its behalf by the undersigned thereunto duly authorized.

 

 

 

 

 

 

 

 

---