KIRKLAND'S, INC - Quarter Report: 2023 April (Form 10-Q)

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

FORM 10-Q

For the quarterly period ended April 29, 2023

or

For the transition period from ______to ______.

Commission file number: 000-49885

Kirkland’s, Inc.

(Exact name of registrant as specified in its charter)

Registrant’s telephone number, including area code: (615) 872-4800

Securities registered pursuant to Section 12(b) of the Act:

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 every Interactive Data File required to be submitted 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 such files). Yes ☒ No ☐

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

If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) 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 ☐ No ☒

Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date.

Common Stock, no par value – 12,812,898 shares outstanding as of May 31, 2023.

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KIRKLAND’S, INC.

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PART I - FINANCIAL INFORMATION

ITEM 1. FINANCIAL STATEMENTS

KIRKLAND’S, INC.

CONDENSED CONSOLIDATED BALANCE SHEETS (UNAUDITED)

(in thousands, except share data)

The accompanying notes are an integral part of these financial statements.

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KIRKLAND’S, INC.

CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS (UNAUDITED)

(in thousands, except per share data)

The accompanying notes are an integral part of these financial statements.

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KIRKLAND’S, INC.

CONDENSED CONSOLIDATED STATEMENTS OF SHAREHOLDERS’ EQUITY (UNAUDITED)

(in thousands, except share data)

The accompanying notes are an integral part of these financial statements.

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KIRKLAND’S, INC.

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED)

(in thousands)

The accompanying notes are an integral part of these financial statements.

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KIRKLAND’S, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)

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The Company is also party to other pending legal proceedings and claims that arise in the normal course of business. Although the outcome of such proceedings and claims cannot be determined with certainty, the Company’s management is of the opinion that it is unlikely that such proceedings and any claims in excess of insurance coverage will have a material effect on its consolidated financial condition, operating results or cash flows.

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

The following discussion and analysis is intended to provide the reader with information that will assist in understanding the significant factors affecting our consolidated operating results, financial condition, liquidity, and capital resources during the 13-week periods ended April 29, 2023 and April 30, 2022. For a comparison of our results of operations for the 52-week periods ended January 28, 2023 and January 29, 2022, see “Part II, Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations” of our Annual Report on Form 10-K for the fiscal year ended January 28, 2023, filed with the SEC on April 4, 2023. The following discussion should be read with our consolidated financial statements and related notes included elsewhere in this Quarterly Report on Form 10-Q.

Forward-Looking Statements

Except for historical information contained herein, certain statements in this Quarterly Report on Form 10-Q constitute forward-looking statements that are subject to the safe harbor provisions of the Private Securities Litigation Reform Act of 1995. Forward-looking statements deal with potential future circumstances and developments and are, accordingly, forward-looking in nature. You are cautioned that such forward-looking statements, which may be identified by words such as “anticipate,” “believe,” “expect,” “estimate,” “intend,” “plan,” “seek,” “may,” “could,” “strategy,” and similar expressions, involve known and unknown risks and uncertainties, which may cause our actual results to differ materially from forecasted results. Those risks and uncertainties include, among other things, risks associated with the Company's liquidity including cash flows from operations and the amount of borrowings under the secured revolving credit facility, the Company’s actual and anticipated progress towards its short-term and long-term objectives including its brand strategy, the risk of natural disasters, pandemic outbreaks (such as COVID-19), global political events, war and terrorism could impact the Company’s revenues, inventory and supply chain, the continuing consumer impact of inflation and countermeasures, including raising interest rates, the effectiveness of the Company’s marketing campaigns, risks related to changes in U.S. policy related to imported merchandise, particularly with regard to the impact of tariffs on goods imported from China and strategies undertaken to mitigate such impact, the Company’s ability to retain its senior management team, continued volatility in the price of the Company’s common stock, the competitive environment in the home décor industry in general and in our specific market areas, inflation, fluctuations in cost and availability of inventory, increased transportation costs and potential interruptions in supply chain, distribution systems and delivery network, including our e-commerce systems and channels, the ability to control employment and other operating costs, availability of suitable retail locations and other growth opportunities, disruptions in information technology systems including the potential for security breaches of our information or our customers’ information, seasonal fluctuations in consumer spending, and economic conditions in general. Those and other risks are more fully described in our filings with the Securities and Exchange Commission, including the Company’s Annual Report on Form 10-K filed on April 4, 2023 and subsequent reports. Forward-looking statements included in this Quarterly Report on Form 10-Q are made as of the date hereof. Any changes in assumptions or factors on which such statements are based could produce materially different results. Except as required by law, we disclaim any obligation to update any such factors or to publicly announce results of any revisions to any of the forward-looking statements contained herein to reflect future events or developments.

Overview

We are a specialty retailer of home décor and furnishings in the United States. As of April 29, 2023, we operated a total of 343 stores in 35 states, as well as an e-commerce website, www.kirklands.com, under the Kirkland’s Home brand. We provide our customers with an engaging shopping experience characterized by a curated, affordable selection of home furnishings along with inspirational design ideas. This combination of quality and stylish merchandise, value pricing and a stimulating online and store experience allows our customers to furnish their home at a great value.

Key Financial Measures

Net sales and gross profit are the most significant drivers of our operating performance. Net sales consists of all merchandise sales to customers, net of returns, shipping revenue associated with e-commerce sales, gift card breakage revenue, revenue earned from our private label credit card program and excludes sales taxes. Gross profit is the difference between net sales and cost of sales. Cost of sales has five distinct components: merchandise cost (including product cost, inbound freight expense, inventory shrink and damages), store occupancy costs, outbound freight costs (including both store and e-commerce shipping expenses), central distribution costs and depreciation of store and distribution center assets. Product and outbound freight costs are variable, while occupancy and central distribution costs are largely fixed. Accordingly, gross profit expressed as a percentage of net sales can be influenced by many factors including overall sales performance.

We use comparable sales to measure sales increases and decreases from stores that have been open for at least 13 full fiscal months, including our online sales. We remove closed stores from our comparable sales calculation the day after the stores close. Relocated

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stores remain in our comparable sales calculation. E-commerce sales, including shipping revenue, are included in comparable sales. Increases in comparable sales are an important factor in maintaining or increasing our profitability.

Operating expenses, including the costs of operating our stores and corporate headquarters, are also an important component of our operating performance. Compensation and benefits comprise the majority of our operating expenses. Operating expenses contain fixed and variable costs, and managing the operating expense ratio (operating expenses expressed as a percentage of net sales) is an important focus of management as we seek to increase our overall profitability. Operating expenses include cash costs as well as non-cash costs, such as depreciation and amortization associated with omni-channel technology, corporate property and equipment, and impairment of long-lived assets. Because many operating expenses are fixed costs, and because operating costs tend to rise over time, increases in comparable sales typically are necessary to prevent meaningful increases in the operating expense ratio. Operating expenses can also include certain costs that are of a one-time or non-recurring nature. While these costs must be considered to fully understand our operating performance, we typically identify such costs separately where significant in the consolidated statements of operations so that we can evaluate comparable expense data across different periods.

Stores

The following table summarizes our store closings during the periods indicated:

The following table summarizes our open stores and square footage under lease as of the dates indicated:

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13-Week Period Ended April 29, 2023 Compared to the 13-Week Period Ended April 30, 2022

Results of operations. The table below sets forth selected results of our operations both in dollars (in thousands) and as a percentage of net sales for the periods indicated:

Net sales. Net sales decreased 6.2% to $96.9 million for the first 13 weeks of fiscal 2023 compared to $103.3 million for the prior year period, which includes a 4.7% decline in store count. Comparable sales, including e-commerce sales, decreased 4.4%, or $4.4 million, for the first 13 weeks of fiscal 2023 compared to the prior year period. For the first 13 weeks of fiscal 2023, e-commerce comparable sales decreased 6.6% compared to the prior year period. The decrease in comparable sales was driven by lower traffic, partially offset by an increase in conversion and average ticket. Merchandise categories performing below prior period levels include furniture and wall décor, while floral and outdoor categories performed above prior period levels.

Gross profit. Gross profit as a percentage of net sales decreased 70 basis points from 27.4% in the first 13 weeks of fiscal 2022 to 26.7% in the first 13 weeks of fiscal 2023. The overall decrease in gross profit margin was due to unfavorable distribution center costs, store occupancy costs and outbound freight costs, partially offset by favorable merchandise margin and depreciation expense. Distribution center costs increased approximately 100 basis points to 5.6% of net sales due to sales deleverage and high levels of cost capitalization in inventory in the prior year period. Store occupancy costs increased approximately 100 basis points to 14.7% of net sales due to the sales deleverage on these fixed costs. Outbound freight costs, including both store and e-commerce shipping expenses, increased approximately 90 basis points to 7.7% of net sales due to sales deleverage. Merchandise margin increased approximately 160 basis points from 55.2% in the first 13 weeks of fiscal 2022 to 56.8% in the first 13 weeks of fiscal 2023, mainly due to lower inbound freight costs and lower product costs. Depreciation of store and distribution center assets decreased approximately 60 basis points to 2.1% of net sales in the first 13 weeks of fiscal 2023.

Compensation and benefits. Compensation and benefits as a percentage of net sales increased approximately 50 basis points from 20.2% in the first 13 weeks of fiscal 2022 to 20.7% in the first 13 weeks of fiscal 2023 primarily due to sales deleverage and higher severance charges, partially offset by favorable employee benefits costs due to higher costs in the prior year period.

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Other operating expenses. Other operating expenses as a percentage of net sales decreased approximately 110 basis points from 16.3% in the first 13 weeks of fiscal 2022 to 15.2% in the first 13 weeks of fiscal 2023. The decrease as a percentage of net sales was primarily related to a reduction in advertising expenses.

Income tax expense (benefit). We recorded income tax expense of approximately $1.4 million or (12.7)% of the loss before income taxes, during the first 13 weeks of fiscal 2023, compared to an income tax benefit of approximately $3.3 million or 29.7% of the loss before income taxes, during the prior year period. The change in the tax rate for the first 13 weeks of fiscal 2023 compared to the prior period was primarily due to valuation allowance adjustments and state income taxes.

Net loss and loss per share. We reported net loss of $12.1 million, or a loss of $0.95 per diluted share, for the first 13 weeks of fiscal 2023 as compared to net loss of $7.9 million, or a loss of $0.63 per diluted share, for the first 13 weeks of fiscal 2022.

Non-GAAP Financial Measures

To supplement our unaudited consolidated condensed financial statements presented in accordance with generally accepted accounting principles (“GAAP”), we provide certain non-GAAP financial measures, including EBITDA, adjusted EBITDA and adjusted operating loss. These measures are not in accordance with, and are not intended as alternatives to, GAAP financial measures. The Company uses these non-GAAP financial measures internally in analyzing our financial results and believes that they provide useful information to analysts and investors, as a supplement to GAAP financial measures, in evaluating the Company’s operational performance.

The Company defines EBITDA as net loss before interest and the provision for income tax, which is equivalent to operating loss, adjusted for depreciation, adjusted EBITDA as EBITDA with non-GAAP adjustments and adjusted operating loss as operating loss with non-GAAP adjustments.

Non-GAAP financial measures are intended to provide additional information only and do not have any standard meanings prescribed by GAAP. Use of these terms may differ from similar measures reported by other companies. Each non-GAAP financial measure has its limitations as an analytical tool, and you should not consider them in isolation or as a substitute for analysis of the Company’s results as reported under GAAP. The Company’s non-GAAP adjustments remove asset impairment and stock-based compensation expense, due to the non-cash nature of these expenses, and remove severance charges and lease termination costs, as those expenses can fluctuate based on the needs of the business and do not represent a normal, recurring operating expense.

The following table shows a reconciliation of operating loss to EBITDA and adjusted EBITDA (in thousands) for the 13-week periods ended April 29, 2023 and April 30, 2022:

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Liquidity and Capital Resources

Our principal capital requirements are for working capital and capital expenditures. Working capital consists mainly of merchandise inventories offset by accounts payable, which typically reach their peak by the early portion of the fourth quarter of each fiscal year. Capital expenditures primarily relate to technology and omni-channel projects, distribution center and supply chain enhancements, new or relocated stores and existing store refreshes, remodels and maintenance. Historically, we have funded our working capital and capital expenditure requirements with internally generated cash and borrowings under our revolving credit facility.

Cash flows from operating activities. Net cash used in operating activities was approximately $14.8 million and $43.6 million during the first 13 weeks of fiscal 2023 and the first 13 weeks of fiscal 2022, respectively. Cash flows from operating activities depend heavily on operating performance, changes in working capital and the timing and amount of payments for income taxes. The decrease in the amount of cash used in operations as compared to the prior year period was mainly due to changes in working capital including decreased inventory levels and a decline in accounts payable.

Cash flows from investing activities. Net cash used in investing activities for the first 13 weeks of fiscal 2023 consisted mainly of $846,000 in capital expenditures as compared to $2.4 million in capital expenditures for the prior year period. The table below sets forth capital expenditures by category (in thousands) for the periods indicated:

The capital expenditures in the current and prior year period related primarily to technology and omni-channel projects, the maintenance of existing stores and distribution center and supply chain enhancements.

Cash flows from financing activities. During the first 13 weeks of fiscal 2023, net cash provided by financing activities was $17.5 million, as we borrowed $21.0 million under our revolving credit facility, which was partially offset by the repayment of $3.0 million in borrowings. During the first 13 weeks of fiscal 2022, net cash provided by financing activities was approximately $26.4 million as we borrowed $35.0 million under our revolving credit facility, which was partially offset by the repurchase and retirement of our common stock pursuant to our share repurchase plan of $6.3 million.

Senior credit facility. On March 31, 2023, we entered into the 2023 Credit Agreement with Bank of America, N.A., as administrative agent and collateral agent, and lender. The 2023 Credit Agreement amended the 2019 Credit Agreement from a $75.0 million senior secured revolving credit facility to a $90.0 million senior secured revolving credit facility. The 2023 Credit Agreement contains substantially similar terms and conditions as the 2019 Credit Agreement including a swingline availability of $10.0 million, a $25.0 million incremental accordion feature and extended its maturity date to March 2028. Advances under the 2023 Credit Agreement bear interest at an annual rate equal to SOFR plus a margin ranging from 200 to 250 basis points with no SOFR floor. Upon the demonstration that the Company’s fixed charge coverage ratio is greater than 1.0 to 1.0 on a trailing twelve-month basis, the interest rate permanently decreases on the 2023 Credit Agreement to SOFR plus a margin of 150 to 200 basis points. Advances under the 2019 Credit Agreement bore interest at an annual rate equal to SOFR, or LIBOR through December 16, 2022, plus a margin ranging from 125 to 175 basis points with no SOFR or LIBOR floor. The fee paid to the lenders on the unused portion of the 2023 Credit Agreement is 25 basis points when usage is greater than 50% of the facility amount; otherwise, the fee on the unused portion is 37.5 basis points per annum. Under the 2019 Credit Agreement, the fee on the unused portion was 25 basis points per annum.

Borrowings under the Credit Agreements are subject to certain conditions, and the Credit Agreements contain customary events of default, including, without limitation, failure to make payments, a cross-default to certain other debt, breaches of covenants, breaches of representations and warranties, a change in control, certain monetary judgments and bankruptcy and certain events under ERISA. Upon any such event of default, the principal amount of any unpaid loans and all other obligations under the Credit Agreements may be declared immediately due and payable. The maximum availability under the Credit Agreements is limited by a borrowing base formula, which consists of a percentage of eligible inventory and eligible credit card receivables, less reserves.

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We are subject to a Security Agreement with Bank of America, N.A. Pursuant to the Security Agreement, we pledged and granted to the administrative agent, for the benefit of itself and the secured parties specified therein, a lien on and security interest in all of the rights, title and interest in substantially all of our assets to secure the payment and performance of the obligations under the Credit Agreements.

As of April 29, 2023, we were in compliance with the covenants in the 2023 Credit Agreement. Under the 2023 Credit Agreement, there were approximately $33.0 million of outstanding borrowings and no letters of credit outstanding with approximately $17.4 million available for borrowing as of April 29, 2023. Subsequent to April 29, 2023, we borrowed an additional $4.0 million under the 2023 Credit Agreement.

As of April 29, 2023, our balance of cash and cash equivalents was approximately $7.1 million. We believe that the combination of our cash balances, cash flow from operations and availability under our 2023 Credit Agreement will be sufficient to fund our planned capital expenditures and working capital requirements for at least the next twelve months.

Share repurchase plan. On January 6, 2022, we announced that our Board of Directors authorized a share repurchase plan providing for the purchase in the aggregate of up to $30 million of our outstanding common stock. Repurchases of shares are made in accordance with applicable securities laws and may be made from time to time in the open market or by negotiated transactions. The amount and timing of repurchases are based on a variety of factors, including stock price, regulatory limitations and other market and economic factors. The share repurchase plans do not require us to repurchase any specific number of shares, and we may terminate the repurchase plans at any time. As of April 29, 2023, we had approximately $26.3 million remaining under the current share repurchase plan.

The table below sets forth selected share repurchase plan information (in thousands, except share amounts) for the periods indicated:

Critical Accounting Policies and Estimates

There have been no material changes to our critical accounting policies or estimates during the 13-week period ended April 29, 2023. Refer to our Annual Report for a summary of our critical accounting policies and a discussion of the critical accounting estimates and assumptions impacting our consolidated financial statements.

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ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

We are exposed to interest rate changes, primarily as a result of borrowings under our Credit Agreements, as discussed in “Note 9 — Senior Credit Facility,” in the notes to the condensed consolidated financial statements, which bear interest based on variable rates. As of April 29, 2023, we had $33.0 million in outstanding borrowings under our 2023 Credit Agreement. As of April 30, 2022, we had $35.0 million in outstanding borrowings under our 2019 Credit Agreement. Subsequent to April 29, 2023, we borrowed an additional $4.0 million under our 2023 Credit Agreement. A 1% increase or decrease in the interest rate on borrowings under our revolving credit facility at our recent borrowing levels would not have a material impact to our results of operations.

We manage cash and cash equivalents in various institutions at levels beyond federally insured limits per institution, and we may purchase investments not guaranteed by the Federal Deposit Insurance Company. Accordingly, there is a risk that we will not recover the full principal of our investments or that their liquidity may be diminished.

We were not engaged in any foreign exchange contracts, hedges, interest rate swaps, derivatives or other financial instruments as of April 29, 2023.

ITEM 4. CONTROLS AND PROCEDURES

Evaluation of disclosure controls and procedures. Both our Interim Chief Executive Officer (our principal executive officer) and Chief Financial Officer (our principal financial officer), after the evaluation of the effectiveness of our disclosure controls and procedures (as defined in Rule 13a-15(e) and Rule 15d-15(e) under the Securities Exchange Act of 1934, as amended) was performed by management with the participation of our Interim Chief Executive Officer and Chief Financial Officer, have concluded that, as of April 29, 2023, our disclosure controls and procedures were effective as of the end of the period covered by this report.

Change in internal controls over financial reporting. There have been no changes in internal control over financial reporting that have occurred during our last fiscal quarter that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.