Ollie's Bargain Outlet Holdings, Inc. - Quarter Report: 2020 May (Form 10-Q)

For the quarterly period ended May 2, 2020

OR

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 the 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  ☒

The number of shares of the registrant’s common stock, $0.001 par value, outstanding as of May 29, 2020 was 65,753,287.

INDEX

ITEM 1 – CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)

OLLIE’S BARGAIN OUTLET HOLDINGS, INC. AND SUBSIDIARIES

Condensed Consolidated Statements of Income

(In thousands, except per share amounts)

(Unaudited)

See accompanying notes to the condensed consolidated financial statements.

OLLIE’S BARGAIN OUTLET HOLDINGS, INC. AND SUBSIDIARIES

Condensed Consolidated Balance Sheets

(In thousands, except per share amounts)

(Unaudited)

See accompanying notes to the condensed consolidated financial statements.

OLLIE’S BARGAIN OUTLET HOLDINGS, INC. AND SUBSIDIARIES

Condensed Consolidated Statements of Stockholders’ Equity

(In thousands)

(Unaudited)

See accompanying notes to the condensed consolidated financial statements.

OLLIE’S BARGAIN OUTLET HOLDINGS, INC. AND SUBSIDIARIES

Condensed Consolidated Statements of Cash Flows

(In thousands)

(Unaudited)

See accompanying notes to the condensed consolidated financial statements.

(1)	Organization and Summary of Significant Accounting Policies

(a)

Description of Business

(b)

Fiscal Year

(c)

Basis of Presentation

(d)

Use of Estimates

(e)

Fair Value Disclosures

●

Level 1 inputs are quoted prices available for identical assets and liabilities in active markets.

●

Level 2 inputs are observable for the asset or liability, either directly or indirectly, including quoted prices for similar assets and liabilities in active markets or other inputs which are observable or can be corroborated by observable market data.

●

Level 3 inputs are less observable and reflect the Company’s assumptions.

(f)

Immaterial Correction of Prior Period Financial Statements

(g)

Impact of the Novel Coronavirus (“COVID-19”)

(2)

Net Sales

(3)	Earnings per Common Share

(4)	Commitments and Contingencies

(1)

Lease obligations exclude $37.9 million of minimum lease payments for leases signed, but not commenced.

(5)	Accrued Expenses and Other

(6)	Debt Obligations and Financing Arrangements

(7)	Income Taxes

(8)	Equity Incentive Plans

(9)	Subsequent Event

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

The following discussion and analysis of the financial condition and results of our operations should be read together with the financial statements and related notes of Ollie’s Bargain Outlet Holdings, Inc. included in Item 1 of this Quarterly Report on Form 10-Q and with our audited financial statements and the related notes included in our Annual Report on Form 10-K filed with the Securities and Exchange Commission, or SEC, on March 25, 2020 (“Annual Report”). As used in this Quarterly Report on Form 10-Q, except where the context otherwise requires or where otherwise indicated, the terms “Ollie’s,” the “Company,” “we,” “our” and “us” refer to Ollie’s Bargain Outlet Holdings, Inc.

We operate on a fiscal calendar widely used by the retail industry that results in a fiscal year consisting of a 52- or 53-week period ending on the Saturday nearer to January 31 of the following year. References to “2020” refer to the 52-week period of February 2, 2020 to January 30, 2021.  References to “2019” refer to the 52-week period of February 3, 2019 to February 1, 2020.  References to the “first quarter of fiscal 2020” and the “first quarter of fiscal 2019” refer to the 13 weeks of February 2, 2020 to May 2, 2020 and February 3, 2019 to May 4, 2019, respectively.  Historical results are not necessarily indicative of the results to be expected for any future period and results for any interim period may not necessarily be indicative of the results that may be expected for a full year.

Cautionary Note Regarding Forward-Looking Statements

This Quarterly Report on Form 10-Q contains forward-looking statements within the meaning of the U.S. Private Securities Litigation Reform Act of 1995.  Forward-looking statements can be identified by words such as “could,” “may,” “might,” “will,” “likely,” “anticipates,” “intends,” “plans,” “seeks,” “believes,” “estimates,” “expects,” “continues,” “projects” and similar references to future periods, prospects, financial performance and industry outlook. Forward-looking statements are based on our current expectations and assumptions regarding our business, the economy and other future conditions. Because forward-looking statements relate to the future, by their nature, they are subject to inherent uncertainties, risks and changes in circumstances that are difficult to predict. As a result, our actual results may differ materially from those contemplated by the forward-looking statements. Important factors that could cause actual results to differ materially from those in the forward-looking statements include regional, national or global political, economic, business, competitive, market and regulatory conditions, including, but not limited to, legislation, national trade policy, and the following: our failure to adequately procure and manage our inventory or anticipate consumer demand; changes in consumer confidence and spending; risks associated with intense competition; our failure to open new profitable stores, or successfully enter new markets, on a timely basis or at all; the risks associated with doing business with international manufacturers and suppliers including, but not limited to, potential increases in tariffs on imported goods; outbreak of viruses or widespread illness, including the continued impact of COVID-19; our inability to operate our stores due to civil unrest and related protests or disturbances; our failure to hire and retain key personnel and other qualified personnel; our inability to obtain favorable lease terms for our properties; the failure to timely acquire, develop and open, the loss of, or disruption or interruption in the operations of, our centralized distribution centers; fluctuations in comparable store sales and results of operations, including on a quarterly basis; risks associated with our lack of operations in the growing online retail marketplace; risks associated with litigation, the expense of defense, and potential for adverse outcomes; our inability to successfully develop or implement our marketing, advertising and promotional efforts; the seasonal nature of our business; risks associated with the timely and effective deployment, protection, and defense of computer networks and other electronic systems, including e-mail; changes in government regulations, procedures and requirements; and our ability to service indebtedness and to comply with our financial covenants together with each of the other factors set forth under “Item 1A - Risk Factors” contained herein and in our filings with the SEC, including our Annual Report. Any forward-looking statement made by us in this Quarterly Report on Form 10-Q speaks only as of the date on which such statement is made. Factors or events that could cause our actual results to differ may emerge from time to time, and it is not possible for us to predict all of them. We undertake no obligation to publicly update or revise any forward-looking statement, whether as a result of new information, future developments or otherwise, except as may be required by law.  You are advised, however, to consult any further disclosures we make on related subjects in our public announcements and SEC filings.

Overview

Ollie’s is a highly differentiated and fast-growing, extreme value retailer of brand name merchandise at drastically reduced prices.  Known for our assortment of products offered as “Good Stuff Cheap,” we offer customers a broad selection of brand name products, including housewares, food, books and stationery, bed and bath, flooring, toys and hardware.  Our differentiated go-to market strategy is characterized by a unique, fun and engaging treasure hunt shopping experience, compelling customer value proposition and witty, humorous in-store signage and advertising campaigns.

Impact of COVID-19

The outbreak of the novel coronavirus COVID-19, which was declared a global pandemic by the World Health Organization on March 11, 2020, has led to adverse impacts on the U.S. and global economies. The outbreak of COVID-19 and related measures to quell the outbreak have impacted our supply chain, operations and customer demand. The COVID-19 pandemic could further affect our operations and the operations of our suppliers and vendors as a result of shelter-in-place orders, restrictions and limitations on travel, limitations on store or facility operations up to and including closures, and other governmental, business or consumer actions.

Our stores and distribution centers have continued to operate as an essential business during the COVID-19 pandemic and we committed to maintaining a safe work and shopping environment. We experienced significant volatility in our sales during the first quarter of fiscal 2020 as store traffic and consumer demand significantly decreased in the initial consumer reaction to the COVID-19 pandemic. To address the demand, we worked quickly to reassure customers that our stores remained open and that we carried needed products at great prices and advertised our heightened store safety protocols in response to the pandemic. Our sales improved late in the quarter as we responded to changing consumer needs and benefited from increased consumer spending that coincided with economic stimulus provided under the Coronavirus Aid, Relief, and Economic Security (CARES) Act. During the quarter we also experienced significant shifts in our sales mix into more non-discretionary and/or consumable products, which generally carry a lower than average gross margin rate. We incurred additional SG&A expenses during the quarter in response to operating during the pandemic as we closely managed other controllable expenses.

As circumstances evolved during the first quarter of fiscal 2020, our top priorities in responding to the pandemic have been and continue to be the safety and well-being of our associates and customers. In response to COVID-19, we have taken a number of actions, including the following:

•	Implemented procedures for social distancing, cleaning, sanitation, and use of protective personal equipment in our stores, distribution centers, and store support center to adhere to the appropriate  CDC and local guidelines.

•	Implemented temporary premium pay for our in-store associates, store leadership, and distribution center employees.

•	Supported our communities by raising money to provide much needed funding to local food banks through a partnership with Feeding America.

As a result of these efforts, we have incurred and expect to continue to incur higher payroll expenses at our stores and distribution facilities and incremental cleaning and safety costs at all of our facilities.

We continue to actively monitor developments that may cause us to take further actions that alter our business operations as may be required by federal, state or local authorities or that we determine are in the best interests of our associates, customers, suppliers and stockholders.

While we are closely monitoring the economic impact of the COVID-19 pandemic on our business, the long-term impact of the pandemic is unknown at this time. We expect the impact of the COVID-19 pandemic on our financial condition, results of operations and cash flows will largely depend on the extent and duration of the pandemic, the governmental and public actions taken in response, and the effect the pandemic will have on the U.S. economy. Moreover, the significant uncertainty surrounding the COVID-19 pandemic and its effects may result in impacts or consequences that we do not anticipate at this time or that develop in unexpected ways, which makes it more challenging for management to estimate future performance of our business, including the cadence of new store openings, particularly over the near term.

Our Growth Strategy

Since the founding of Ollie’s in 1982, we have grown organically by backfilling existing markets and leveraging our brand awareness, marketing and infrastructure to expand into new markets in contiguous states.  We have expanded to 360 stores located in 25 states as of May 2, 2020.

Our stores are supported by three distribution centers, one each in York, PA, Commerce, GA and our new facility in Lancaster, TX, which commenced operations in February 2020. We believe our distribution capabilities can support a range of 500 to 600 stores over the next several years.

We have invested in our associates, infrastructure, distribution network and information systems to allow us to continue to rapidly grow our store footprint, including:

•	growing our merchant buying team to increase our access to brand name/closeout merchandise;

•	adding members to our senior management team;

•	expanding the capacity of our distribution centers to their current 2.2 million square feet; and

•	investing in information technology, accounting, and warehouse management systems.

Our business model has produced consistent and predictable store growth over the past several years, during both strong and weaker economic cycles.  We plan to continue to enhance our competitive positioning and drive growth in sales and profitability by executing on the following strategies:

•	growing our store base;

•	increasing our offerings of great bargains; and

•	leveraging and expanding Ollie’s Army, our customer loyalty program.

We have a proven portable, flexible, and highly profitable store model that has produced consistent financial results and returns.  Our new store model targets a store size between 25,000 to 35,000 square feet and an average initial cash investment of approximately $1.0 million, which includes store fixtures and equipment, store-level and distribution center inventory (net of payables) and pre-opening expenses.  We target new store sales of approximately $4 million.

While we are focused on driving comparable store sales and managing our expenses, our revenue and profitability growth will primarily come from opening new stores.  The core elements of our business model are procuring great deals, offering extreme values to our customers and creating consistent, predictable store growth and margins.  In addition, our new stores generally open strong, immediately contributing to the growth in net sales and profitability of our business.  We plan to achieve continued net sales growth, including comparable stores sales, by adding stores to our store base and by continuing to provide quality merchandise at a value for our customers as we scale and gain more access to purchase directly from major manufacturers.  We also plan to leverage and expand our Ollie’s Army database marketing strategies.  In addition, we plan to continue to manage our selling, general and administrative expenses (“SG&A”) by continuing to make process improvements and by maintaining our standard policy of reviewing our operating costs.

Our ability to grow and our results of operations may be impacted by additional factors and uncertainties, such as consumer spending habits, which are subject to macroeconomic conditions and changes in discretionary income.  Our customers’ discretionary income is primarily impacted by gas prices, wages and consumer trends and preferences, which fluctuate depending on the environment. The potential consolidation of our competitors or other changes in our competitive landscape could also impact our results of operations or our ability to grow, even though we compete with a broad range of retailers.

Our key competitive advantage is our direct buying relationships with many major manufacturers, wholesalers, distributors, brokers and retailers for our brand name and closeout products and unbranded goods.  We also augment our product mix with private label brands.  As we continue to grow, we believe our increased scale will provide us with even greater access to brand name and closeout products as major manufacturers seek a single buyer to acquire an entire deal.

How We Assess the Performance of Our Business and Key Line Items

We consider a variety of financial and operating measures in assessing the performance of our business.  The key measures we use are number of new stores, net sales, comparable store sales, gross profit and gross margin, SG&A, pre-opening expenses, operating income, EBITDA and Adjusted EBITDA.

Number of New Stores

The number of new stores reflects the number of stores opened during a particular reporting period.  Before we open new stores, we incur pre-opening expenses described below under “Pre-Opening Expenses” and we make an initial investment in inventory.  We also make initial capital investments in fixtures and equipment, which we amortize over time.

We expect new store growth to be the primary driver of our sales growth.  Our initial lease terms are approximately seven years with options to renew for three to five successive five-year periods.  Our portable and predictable real estate model focuses on backfilling existing markets and entering new markets in contiguous states.  Our new stores often open with higher sales levels as a result of greater advertising and promotional spend in connection with grand opening events but decline shortly thereafter to our new store model levels.

Net Sales

Ollie’s recognizes retail sales in its stores when merchandise is sold and the customer takes possession of the merchandise.  Also included in net sales is revenue allocated to certain redeemed discounts earned via the Ollie’s Army loyalty program and gift card breakage.  Net sales are presented net of returns and sales tax.  Net sales consist of sales from comparable stores and non-comparable stores, described below under “Comparable Store Sales.”  Growth of our net sales is primarily driven by expansion of our store base in existing and new markets.  As we continue to grow, we believe we will have greater access to brand name and closeout merchandise and an increased deal selection, resulting in more potential offerings for our customers.  Net sales are impacted by product mix, merchandise mix and availability, as well as promotional activities and the spending habits of our customers. Our broad selection of offerings across diverse product categories supports growth in net sales by attracting new customers, which results in higher spending levels and frequency of shopping visits from our customers, including Ollie’s Army members.

The spending habits of our customers are subject to macroeconomic conditions and changes in discretionary income.  Our customers’ discretionary income is primarily impacted by gas prices, wages, and consumer trends and preferences, which fluctuate depending on the environment.  However, because we offer a broad selection of merchandise at extreme values, we believe we are less impacted than other retailers by economic cycles. These cycles correspond with declines in general consumer spending habits and we benefit from periods of increased consumer spending.

Comparable Store Sales

Comparable store sales measure performance of a store during the current reporting period against the performance of the same store in the corresponding period of the previous year.  Comparable store sales consists of net sales from our stores beginning on the first day of the sixteenth full fiscal month following the store’s opening, which is when we believe comparability is achieved.  Comparable store sales are impacted by the same factors that impact net sales.

We define comparable stores to be stores that:

•	have been remodeled while remaining open;

•	are closed for five or fewer days in any fiscal month;

•	are closed temporarily and relocated within their respective trade areas; and

•	have expanded, but are not significantly different in size, within their current locations.

Non-comparable store sales consist of new store sales and sales for stores not open for a full 15 months.  Stores which are closed temporarily, but for more than five days in any fiscal month, are included in non-comparable store sales beginning in the fiscal month in which the temporary closure begins until the first full month of operation once the store re-opens, at which time they are included in comparable store sales.

Opening new stores is the primary component of our growth strategy and as we continue to execute on our growth strategy, we expect a significant portion of our sales growth will be attributable to non-comparable store sales.  Accordingly, comparable store sales are only one measure we use to assess the success of our growth strategy.

Gross Profit and Gross Margin

Gross profit is equal to our net sales less our cost of sales.  Cost of sales includes merchandise costs, inventory markdowns, shrinkage and transportation, distribution and warehousing costs, including depreciation. Gross margin is gross profit as a percentage of our net sales. Gross margin is a measure used by management to indicate whether we are selling merchandise at an appropriate gross profit.

In addition, our gross margin is impacted by product mix, as some products generally provide higher gross margins, by our merchandise mix and availability, and by our merchandise cost, which can vary.

Our gross profit is variable in nature and generally follows changes in net sales.  We regularly analyze the components of gross profit, as well as gross margin.  Specifically, our product margin and merchandise mix is reviewed by our merchant team and senior management, ensuring strict adherence to internal margin goals.  Our disciplined buying approach has produced consistent gross margins and we believe helps to mitigate adverse impacts on gross profit and results of operation.

The components of our cost of sales may not be comparable to the components of cost of sales or similar measures of our competitors and other retailers.  As a result, our gross profit and gross margin may not be comparable to similar data made available by our competitors and other retailers.

Selling, General and Administrative Expenses

SG&A are comprised of payroll and benefits for store, field support and support center associates.  SG&A also include marketing and advertising, occupancy, utilities, supplies, credit card processing fees, insurance and professional services. The components of our SG&A remain relatively consistent per store and for each new store opening. The components of our SG&A may not be comparable to the components of similar measures of other retailers.  Consolidated SG&A generally increase as we grow our store base and as our net sales increase. A significant portion of our expenses is primarily fixed in nature, and we expect to continue to maintain strict discipline while carefully monitoring SG&A as a percentage of net sales.  We expect that our SG&A will continue to increase in future periods with future growth.

Depreciation and Amortization Expenses

Property and equipment are stated at original cost less accumulated depreciation and amortization. Depreciation and amortization are calculated over the estimated useful lives of the related assets, or in the case of leasehold improvements, the lesser of the useful lives or the remaining term of the lease. Expenditures for additions, renewals, and betterments are capitalized; expenditures for maintenance and repairs are charged to expense as incurred. Depreciation is computed on the straight-line method for financial reporting purposes. Depreciation as it relates to our distribution centers is included within cost of sales on the condensed consolidated statements of income.

Pre-Opening Expenses

Pre-opening expenses consist of expenses of opening new stores and distribution centers, as well as store closing costs.  For opening new stores, pre-opening expenses include grand opening advertising costs, payroll expenses, travel expenses, employee training costs, rent expenses and store setup costs.  Pre-opening expenses for new stores are expensed as they are incurred, which is typically within 30 to 45 days of opening a new store. For opening distribution centers, pre-opening expenses primarily include inventory transportation costs, employee travel expenses and occupancy costs.  Store closing costs primarily consist of insurance deductibles, rent and store payroll.

Operating Income

Operating income is gross profit less SG&A, depreciation and amortization and pre-opening expenses.  Operating income excludes net interest income or expense and income tax expense.  We use operating income as an indicator of the productivity of our business and our ability to manage expenses.

EBITDA and Adjusted EBITDA

EBITDA and Adjusted EBITDA are key metrics used by management and our Board to assess our financial performance.  EBITDA and Adjusted EBITDA are also frequently used by analysts, investors and other interested parties to evaluate companies in our industry.  We use Adjusted EBITDA to supplement GAAP measures of performance to evaluate the effectiveness of our business strategies, to make budgeting decisions, to evaluate our performance in connection with compensation decisions and to compare our performance against that of other peer companies using similar measures.  Management believes it is useful to investors and analysts to evaluate these non-GAAP measures on the same basis as management uses to evaluate the Company’s operating results.  We believe that excluding items from operating income, net income and net income per diluted share that may not be indicative of, or are unrelated to, our core operating results, and that may vary in frequency or magnitude, enhances the comparability of our results and provides a better baseline for analyzing trends in our business.

We define EBITDA as net income before net interest income or expense, depreciation and amortization expenses and income taxes.  Adjusted EBITDA represents EBITDA as further adjusted for non-cash stock-based compensation expense and the gain from an insurance settlement.  EBITDA and Adjusted EBITDA are non-GAAP measures and may not be comparable to similar measures reported by other companies.  EBITDA and Adjusted EBITDA have limitations as analytical tools, and you should not consider them in isolation or as a substitute for analysis of our results as reported under GAAP. In the future we may incur expenses or charges such as those added back to calculate Adjusted EBITDA. Our presentation of Adjusted EBITDA should not be construed as an inference that our future results will be unaffected by these items. For further discussion of EBITDA and Adjusted EBITDA and for reconciliations of EBITDA and Adjusted EBITDA to net income, the most directly comparable GAAP measure, see “Results of Operations.”

Factors Affecting the Comparability of our Results of Operations

Our results over the past two years have been affected by the following factors, which must be understood in order to assess the comparability of our period-to-period financial performance and condition.

Historical Results

Historical results are not necessarily indicative of the results to be expected for any future period.

Store Openings

We opened 17 new stores and closed two stores in the first quarter of fiscal 2020  and opened 21 new stores in the first quarter of fiscal 2019. In connection with these store openings and closings, we incurred pre-opening expenses of $3.7 million and $5.2 million in the respective periods.

Seasonality

Our business is seasonal in nature and demand is generally the highest in our fourth fiscal quarter due to the holiday sales season.  To prepare for the holiday sales season, we must order and keep in stock more merchandise than we carry during other times of the year and generally engage in additional marketing efforts.  We expect inventory levels, along with accounts payable and accrued expenses, to reach their highest levels in our third and fourth fiscal quarters in anticipation of increased net sales during the holiday sales season.  As a result of this seasonality, and generally because of variation in consumer spending habits, we experience fluctuations in net sales and working capital requirements during the year.  Because we offer a broad selection of merchandise at extreme values, we believe we are less impacted than other retailers by economic cycles which correspond with declines in general consumer spending habits and we believe we still benefit from periods of increased consumer spending.

Results of Operations

The following tables summarize key components of our results of operations for the periods indicated, both in dollars and as a percentage of our net sales.

We derived the condensed consolidated statements of income for the first quarter of fiscal 2020 and the first quarter of fiscal 2019 from our unaudited condensed consolidated financial statements and related notes.  Our historical results are not necessarily indicative of the results that may be expected in the future.

(1)	Components may not add to totals due to rounding.

(2)	Average net sales per store represents the weighted average of total net weekly sales divided by the number of stores open at the end of each week for the respective periods presented.

The following table provides a reconciliation of our net income to Adjusted EBITDA for the periods presented:

(1)	Includes depreciation and amortization relating to our distribution centers, which is included within cost of sales on our condensed consolidated statements of income.

First Quarter of Fiscal 2020 Compared with the First Quarter of Fiscal 2019

Net Sales

Net sales increased to $349.4 million in the first quarter of fiscal 2020 from $324.9 million in the first quarter of fiscal 2019, an increase of $24.5 million, or 7.5%.  The increase was the result of a non-comparable store sales increase of $34.5 million, partially offset by a comparable store sales decrease of $10.0 million.  The increase in non-comparable store sales was driven by sales from new stores that have not been open for a full 15 months.

Comparable store sales decreased 3.3% in the first quarter of fiscal 2020 compared with a 0.8% increase in the first quarter of fiscal 2019. We experienced significant volatility in our comparable store sales during the first quarter of fiscal 2020 as store traffic and consumer demand significantly decreased in the initial consumer reaction to the COVID-19 pandemic. Our stores have continued to operate as an essential business during the quarter and comparable store sales subsequently improved as we effectively responded to the changing retail environment and consumer needs. Also, we benefited from increased consumer spending coinciding with the economic stimulus provided under the CARES Act.

The decrease in comparable store sales in the current quarter consisted of a decrease in the number of transactions, partially offset by an increase in the average transaction size.  Declines in our books, domestics and electronic departments were offset by increases in health and beauty aids, food and housewares departments.

Gross Profit and Gross Margin

Gross profit increased to $140.4 million in the first quarter of fiscal 2020 from $132.7 million in the first quarter of fiscal 2019, an increase of $7.6 million, or 5.7%. Gross margin decreased 70 basis points to 40.2% in the first quarter of fiscal 2020 from 40.9% in the first quarter of fiscal 2019.  The decrease in gross margin in the first quarter of fiscal 2020 is primarily due to higher sales penetration of consumables, which generally carry below average gross margin rates, and the deleveraging of supply chain costs as a percentage of net sales primarily due to the increased costs from the opening of our Lancaster, TX distribution center at the beginning of this fiscal year.

Selling, General and Administrative Expenses

SG&A increased to $89.7 million in the first quarter of fiscal 2020 from $83.3 million in the first quarter of fiscal 2019, an increase of $6.4 million, or 7.7%. We incurred increased expenses associated with operating through COVID-19, primarily premium pay totaling $1.5 million to qualifying in-store associates, store leadership and distribution center associates. Our SG&A rate was 25.7% in both the first quarter of fiscal 2020 and fiscal 2019. Included in SG&A in the first quarter of fiscal 2019 is $0.6 million of income related to a gain from an insurance settlement. Excluding this prior-year gain, current year SG&A dollars increased 6.9% and the rate improved 10 basis points from the prior year. The increase in SG&A was primarily driven by increased selling expenses related to new store growth. The increased selling expenses consisted primarily of store payroll and benefits, store occupancy costs and other store-related expenses.

Pre-Opening Expenses

Pre-opening expenses for new stores decreased to $3.7 million in the first quarter of fiscal 2020 from $5.2 million in the first quarter of fiscal 2019 due to the comparative number and timing of new stores.  During the first quarter of fiscal 2020, we opened 17 stores and closed two stores, one as planned and one closed temporarily due to smoke damage from a fire at an adjacent tenant.  As a percentage of net sales, pre-opening expenses decreased 50 basis points to 1.1% in the first quarter of fiscal 2020 from 1.6% in the first quarter of fiscal 2019.

Interest Income, Net

Net interest income was $0.1 million in both the first quarters of fiscal 2020 and fiscal 2019.

Income Tax Expense

Income tax expense was $9.6 million and $2.2 million in the first quarters of fiscal 2020 and fiscal 2019, respectively.   The effective tax rates for the first quarters of fiscal 2020 and fiscal 2019 were 22.3% and 5.4%, respectively.  The increased effective tax rate in the first quarter of fiscal 2020 was primarily the result of a reduction in excess tax benefits related to stock-based compensation.  These discrete tax benefits totaled $1.2 million and $8.1 million in the first quarters of fiscal 2020 and fiscal 2019, respectively.

Net Income

As a result of the foregoing, net income decreased to $33.5 million in the first quarter of fiscal 2020 from $38.7 million in the first quarter of fiscal 2019, a decrease of $5.3 million or 13.6%.

Adjusted EBITDA

Adjusted EBITDA increased to $49.7 million in the first quarter of fiscal 2020 from $46.6 million in the first quarter of fiscal 2019, an increase of $3.1 million, or 6.6%.

Liquidity and Capital Resources

Overview

Our primary sources of liquidity are net cash flows provided by operating activities and available borrowings under our Revolving Credit Facility.  Our primary cash needs are for capital expenditures and working capital.  As of May 2, 2020, we had $94.9 million available to borrow under our Revolving Credit Facility and $119.4 million of cash and cash equivalents on hand. On May 22, 2019, we amended and restated our Revolving Credit Facility to effect several amendments thereto and extend the maturity thereunder to May 22, 2024. For further information, see Note 6 under “Notes to Unaudited Condensed Consolidated Financial Statements.”

Our capital expenditures are primarily related to new store openings, store resets, which consist of improvements to stores as they are needed, expenditures related to our distribution centers, and infrastructure-related investments, including investments related to upgrading and maintaining our information technology systems.  We spent $12.4 million and $20.1 million for capital expenditures in the first quarters of fiscal 2020 and fiscal 2019, respectively.  Prior year expenditures included approximately $10.1 million invested in the construction of the Company’s new distribution center.  We expect to fund capital expenditures from net cash provided by operating activities. We opened 17 new stores during the first quarter of fiscal 2020 and expect to open between 47 and 49 stores during 2020. However, we may experience delays in construction and permitting of new stores due to COVID-19.

Historically, we have funded our capital expenditures and working capital requirements during the fiscal year with cash flows from operations.

Our primary working capital requirements are for the purchase of inventory, payroll, rent, other store operating costs, distribution costs and general and administrative costs.  Our working capital requirements fluctuate during the year, rising in our third fiscal quarter as we increase quantities of inventory in anticipation of our peak holiday sales season in our fourth fiscal quarter.  Fluctuations in working capital are also driven by the timing of new store openings.

Based on our new store growth plans, we believe our cash and cash equivalents position, net cash provided by operating activities and availability under our Revolving Credit Facility will be adequate to finance our planned capital expenditures, working capital requirements, debt service and other financing activities over the next 12 months.  If cash provided by operating activities and borrowings under our Revolving Credit Facility are not sufficient or available to meet our capital requirements, we will then be required to obtain additional equity or debt financing in the future.  There can be no assurance equity or debt financing will be available to us when needed or, if available, the terms will be satisfactory to us and not dilutive to our then-current stockholders.

We are not currently receiving, and do not currently intend to apply for, loans under any federal or state programs implemented as a result of the COVID-19 pandemic, including the CARES Act.

Share Repurchase Program

On March 26, 2019, the Board of Directors of the Company authorized the repurchase of up to $100.0 million of shares of our common stock.  The shares to be repurchased may be purchased from time to time in open market conditions (including blocks or in privately negotiated transactions).  The timing of repurchases and the actual amount purchased will depend on a variety of factors, including the market price of our shares, general market, economic, and business conditions, and other corporate considerations.  Repurchases may be made pursuant to plans intended to comply with Rule 10b5-1 under the Securities Exchange Act of 1934, which could allow us to purchase our shares during periods when we otherwise might be prevented from doing so under insider trading laws or because of self-imposed trading blackout periods.  Repurchases are expected to be funded from cash on hand or through the utilization of our Revolving Credit Facility.  The repurchase authorization does not require the purchase of a specific number of shares, has a two-year term, and is subject to suspension or termination by our Board of Directors at any time.

 

During 2019, we repurchased 689,457 shares of our common stock for $40.0 million, inclusive of transaction costs, pursuant to our share repurchase program.  These expenditures were funded by cash generated from operations.  As of May 2, 2020, we had $60.0 million remaining under our share repurchase authorization.  There can be no assurances that any additional repurchases will be completed, or as to the timing or amount of any repurchases.

 

Summary of Cash Flows

A summary of our cash flows from operating, investing and financing activities is presented in the following table:

Cash Provided by Operating Activities

Net cash provided by operating activities in the first quarters of fiscal 2020 and fiscal 2019 was $41.4 million and $22.0 million, respectively.  The increase in net cash provided by operating activities in the first quarter of fiscal 2020 was primarily due to favorable comparative adjustments to working capital, particularly in our inventories.

Cash Used in Investing Activities

Net cash used in investing activities in the first quarters of fiscal 2020 and fiscal 2019 was $12.4 million and $20.1 million, respectively.  The comparative decrease in cash used in investing activities relates to the prior-year construction of our Texas distribution center, which totaled approximately $10.1 million in the first quarter of fiscal 2019, partially offset by the timing of capital expenditures for our new store locations.

Cash Provided by Financing Activities

Net cash provided by financing activities was $0.4 million and $4.7 million in the first quarter of fiscal 2020 and fiscal 2019, respectively.  The decrease in cash provided by financing activities is due to a decrease in the proceeds from stock option exercises in the current year.

Contractual Obligations

We enter into long-term contractual obligations and commitments in the normal course of business, primarily operating leases. Except as set forth in Note 4 of the accompanying unaudited condensed consolidated financial statements,  there have been no material changes to our contractual obligations as disclosed in our Annual Report, other than those which occur in the ordinary course of business.

Off-Balance Sheet Arrangements

We do not have any off-balance sheet arrangements that have or are reasonably likely to have a current or future effect on our financial condition, changes in financial condition, revenues or expenses, results of operations, liquidity, capital expenditures or capital resources that is material to investors.

Critical Accounting Policies and Estimates

The preparation of financial statements in conformity with GAAP requires us to make estimates and assumptions that affect the reported amounts of assets, liabilities, revenues, expenses and related disclosures. There have been no significant changes in the significant accounting policies and estimates.

Recently Issued Accounting Pronouncements

Not applicable.

ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

Interest Rate Risk

We are subject to interest rate risk in connection with borrowings under our Revolving Credit Facility, which bears interest at variable rates. As of May 2, 2020, we had no outstanding variable rate debt.

As of May 2, 2020, there were no material changes in the market risks described in the “Quantitative and Qualitative Disclosure of Market Risks” section of our Annual Report.

Impact of Inflation

Our results of operations and financial condition are presented based on historical cost. While it is difficult to accurately measure the impact of inflation due to the imprecise nature of the estimates required, we believe the effects of inflation, if any, on our historical results of operations and financial condition have been immaterial. We cannot be assured that our results of operations and financial condition will not be materially impacted by inflation in the future.

ITEM 4. CONTROLS AND PROCEDURES

Evaluation of Disclosure Controls and Procedures

Our management has evaluated, under the supervision and with the participation of our Chief Executive Officer and Chief Financial Officer, the effectiveness of our disclosure controls and procedures, as defined in Rule 13(a)-15(e) of the Securities Exchange Act of 1934, as amended (the “Exchange Act”), as of the end of the period covered by this Quarterly Report on Form 10-Q pursuant to Rule 13a-15(b) of the Exchange Act. Based on that evaluation, our Chief Executive Officer and Chief Financial Officer have concluded that our disclosure controls and procedures as of the end of the period covered by this Quarterly Report on Form 10-Q are effective at a reasonable assurance level in ensuring that information required to be disclosed in our Exchange Act reports is: (1) recorded, processed, summarized and reported in a timely manner, and (2) accumulated and communicated to our management, including our Chief Executive Officer and Chief Financial Officer, as appropriate to allow timely decisions regarding required disclosure. Our management, including our Chief Executive Officer and Chief Financial Officer, does not expect that our disclosure controls and procedures will prevent or detect all errors and all fraud. While our disclosure controls and procedures are designed to provide reasonable assurance of their effectiveness, because of the inherent limitations in all control systems, no evaluation of controls can provide absolute assurance that all control issues and instances of fraud, if any, within the Company have been detected.

Changes in Internal Control over Financial Reporting

There were no changes to our internal control over financial reporting during the first quarter of fiscal 2020 that have materially affected, or that are reasonably likely to materially affect, our internal control over financial reporting.

PART II - OTHER INFORMATION

ITEM 1. LEGAL PROCEEDINGS

ITEM 1A. RISK FACTORS

The risk factor below updates those disclosed in Item 1A in our Annual Report on Form 10-K.

Our business, operations and financial performance have been and may in the future be adversely affected by an epidemic or pandemic outbreak such as COVID-19 (coronavirus).

The occurrence of epidemic outbreaks, including the COVID-19 pandemic, in regions where our stores are located could adversely affect our business and financial performance. Considerable uncertainty exists regarding the extent to which the COVID-19 pandemic will continue, as well as the scope and duration of measures directed at the containment and remediation of COVID-19. The pandemic and public health measures have caused us to take actions that we determine are in the best interests of our associates and our customers.  If we do not respond appropriately to the pandemic, or if our response is perceived to be inadequate, we could suffer damage to our reputation and our brand, which could materially adversely affect our business.  The COVID-19 pandemic has contributed to economic uncertainties, governmental orders such including travel bans, quarantines, shelter-in-place orders, among other things.

In addition to the factors above, the COVID-19 pandemic has subjected our business to additional risk, including, but not limited to:

•

Increased Costs of Operation.  In response to COVID-19, we have taken actions that focus on providing a safe work and shopping environment.  As a result of these actions, we have incurred and expect to continue to incur higher payroll expenses at our stores and distribution facilities and incremental cleaning and safety costs at all of our facilities.

•

Supply Chain Disruptions.  Governmental orders or other challenges could  impact one or more of our key suppliers or result in the closure of one or more of our centralized distribution centers, our stores or our corporate headquarters and we may be unable to maintain delivery schedules or provide other support functions to our stores.

•	Economic Uncertainty. Widespread volatility and deteriorations in consumer spending, economic and market conditions, the risk of significant recession and a record rise in unemployment could adversely impact our sales.

•	Consumer Shopping Trends.  The adoption of travel bans, quarantines, shelter-in-place orders, among other things could cause a shift in consumer attitudes with respect to in-person shopping and may decrease foot traffic in our stores.

At this time, we cannot assess the ultimate economic impact of the COVID-19 pandemic on our business, operations or financial performance, which will be determined by, among other things, the duration, severity and magnitude of such circumstances and governmental responses and requirements relating to the pandemic, nor can we predict the long-term effects of governmental and public responses to changing conditions. The extent to which the COVID-19 pandemic will impact our operations, liquidity or financial results in subsequent periods is uncertain, but such impact could be material. If the COVID-19 pandemic becomes prolonged, and/or more severe, it could exacerbate the negative impacts on our business and results of operations and may also heighten many of the other risks described in the “Risk Factors” section of our Form 10-K for the period ended February 1, 2020. It is also possible that any adverse business and other financial impacts of the pandemic and public health measures may continue once the pandemic is controlled and those measures are lifted.

ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS

Not applicable.

ITEM 3. DEFAULTS UPON SENIOR SECURITIES

Not applicable.

ITEM 4. MINE SAFETY DISCLOSURES

Not applicable.

ITEM 5. OTHER INFORMATION

None.

ITEM 6. EXHIBITS

* Filed herewith.

** Submitted electronically with this Report.

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