REGIS CORP - Quarter Report: 2013 September (Form 10-Q)

Table of Contents

 

 

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

 

FORM 10-Q

 

(Mark One)

 

 

For the quarterly period ended September 30, 2013

 

OR

 

 

For the transition period from             to            

 

Commission file number 1-12725

 

Regis Corporation

(Exact name of registrant as specified in its charter)

 

 

(952) 947-7777

(Registrant’s telephone number, including area code)

 

N/A

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

 

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes x No o

 

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§ 232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to be submit and post such files). Yes x No o

 

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

 

 

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

 

Indicate the number of shares outstanding of each of the issuer’s classes of common stock as of October 28, 2013:

 

 

 

Table of Contents

 

REGIS CORPORATION

 

INDEX

 

Part I.	Financial Information
	Item 1.	Financial Statements (Unaudited):
		Condensed Consolidated Balance Sheet as of September 30, 2013 and June 30, 2013	3
		Condensed Consolidated Statement of Operations for the three months ended September 30, 2013 and 2012	4
		Condensed Consolidated Statement of Comprehensive Income for the three months ended September 30, 2013 and 2012	5
		Condensed Consolidated Statement of Cash Flows for the three months ended September 30, 2013 and 2012	6
		Notes to Condensed Consolidated Financial Statements	7
	Item 2.	Management’s Discussion and Analysis of Financial Condition and Results of Operations	15
	Item 3.	Quantitative and Qualitative Disclosures about Market Risk	22
	Item 4.	Controls and Procedures	22
Part II.	Other Information		23
	Item 1.	Legal Proceedings	23
	Item 1A.	Risk Factors	23
	Item 2.	Unregistered Sales of Equity Securities and Use of Proceeds	23
	Item 6.	Exhibits	23
	Signatures		24

 

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PART I - FINANCIAL INFORMATION

 

Item 1. Financial Statements

 

REGIS CORPORATION

CONDENSED CONSOLIDATED BALANCE SHEET (Unaudited)

(Dollars in thousands, except share data)

 

		September 30, 2013			June 30, 2013
ASSETS
Current assets:
Cash and cash equivalents		$	203,686		$	200,488
Receivables, net		20,278			33,062
Inventories		149,224			139,607
Deferred income taxes		21,124			24,145
Income tax receivable		34,355			33,346
Other current assets		57,510			57,898
Total current assets		486,177			488,546
Property and equipment, net		302,400			313,460
Goodwill		461,740			460,885
Other intangibles, net		21,287			21,496
Investment in affiliates		44,331			43,319
Other assets		64,347			62,786
Total assets		$	1,380,282		$	1,390,492
LIABILITIES AND SHAREHOLDERS’ EQUITY
Current liabilities:
Long-term debt, current portion		$	174,452		$	173,515
Accounts payable		65,651			66,071
Accrued expenses		128,930			137,226
Total current liabilities		369,033			376,812
Long-term debt and capital lease obligations		15			1,255
Other noncurrent liabilities		153,129			155,011
Total liabilities		522,177			533,078
Commitments and contingencies (Note 7)
Shareholders’ equity:
Common stock, $0.05 par value; issued and outstanding 56,649,378 and 56,630,926 common shares at September 30, 2013 and June 30, 2013, respectively		2,833			2,832
Additional paid-in capital		335,362			334,266
Accumulated other comprehensive income		23,591			20,556
Retained earnings		496,319			499,760
Total shareholders’ equity		858,105			857,414
Total liabilities and shareholders’ equity		$	1,380,282		$	1,390,492

 

The accompanying notes are an integral part of the unaudited Condensed Consolidated Financial Statements.

 

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REGIS CORPORATION

CONDENSED CONSOLIDATED STATEMENT OF OPERATIONS (Unaudited)

For The Three Months Ended September 30, 2013 and 2012

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

 

		Three Months Ended September 30,
		2013			2012
Revenues:
Service		$	371,727		$	393,416
Product		86,743			102,284
Royalties and fees		10,113			9,660
		468,583			505,360
Operating expenses:
Cost of service		225,015			232,528
Cost of product		44,024			53,132
Site operating expenses		50,841			52,347
General and administrative		44,433			55,872
Rent		79,010			81,499
Depreciation and amortization		23,831			20,709
Total operating expenses		467,154			496,087
Operating income		1,429			9,273
Other income (expense):
Interest expense		(4,491		)	(6,829		)
Interest income and other, net		544			34,612
(Loss) income before income taxes and equity in income of affiliated companies		(2,518		)	37,056
Income taxes		383			(2,986		)
Equity in income of affiliated companies, net of income taxes		1,999			577
(Loss) income from continuing operations		(136		)	34,647
Income from discontinued operations, net of taxes		—			3,777
Net (loss) income		$	(136	)	$	38,424
Net (loss) income per share:
Basic:
(Loss) income from continuing operations		(0.00		)	0.60
Income from discontinued operations		—			0.07
Net (loss) income per share, basic		$	(0.00	)	$	0.67
Diluted:
(Loss) income from continuing operations		(0.00		)	0.54
Income from discontinued operations		—			0.06
Net (loss) income per share, diluted (1)		$	(0.00	)	$	0.59
Weighted average common and common equivalent shares outstanding:
Basic		56,393			57,283
Diluted		56,393			68,589
Cash dividends declared per common share		$	0.06		$	0.06

(1)            Total is a recalculation; line items calculated individually may not sum to total.

 

The accompanying notes are an integral part of the unaudited Condensed Consolidated Financial Statements.

 

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REGIS CORPORATION

CONDENSED CONSOLIDATED STATEMENT OF COMPREHENSIVE INCOME (Unaudited)

For The Three Months Ended September 30, 2013 and 2012

(Dollars in thousands)

 

		Three Months Ended September 30,
		2013			2012
Net (loss) income		$	(136	)	$	38,424
Other comprehensive income (loss), net of tax:
Foreign currency translation adjustments:
Foreign currency translation adjustments during the period		3,035			7,038
Reclassification adjustments for gains included in net income (Note 1)		—			(33,842		)
Net current period foreign currency translation adjustments		3,035			(26,804		)
Change in fair market value of financial instruments designated as cash flow hedges		—			(23		)
Other comprehensive income (loss)		3,035			(26,827		)
Comprehensive income		$	2,899		$	11,597

 

The accompanying notes are an integral part of the unaudited Condensed Consolidated Financial Statements.

 

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REGIS CORPORATION

CONDENSED CONSOLIDATED STATEMENT OF CASH FLOWS (Unaudited)

For The Three Months Ended September 30, 2013 and 2012

(Dollars in thousands)

 

		Three Months Ended September 30,
		2013			2012
Cash flows from operating activities:
Net (loss) income		$	(136	)	$	38,424
Adjustments to reconcile net (loss) income to net cash provided by operating activities:
Depreciation and amortization		23,831			21,161
Equity in income of affiliated companies		(1,999		)	(907		)
Deferred income taxes		(250		)	7,120
Accumulated other comprehensive income reclassification adjustments (Note 1)		—			(33,842		)
Loss on write down of inventories		854			—
Stock-based compensation		1,811			1,818
Amortization of debt discount and financing costs		1,843			1,749
Other non-cash items affecting earnings		(34		)	410
Changes in operating assets and liabilities, excluding the effects of acquisitions		(10,164		)	(27,467		)
Net cash provided by operating activities		15,756			8,466
Cash flows from investing activities:
Capital expenditures		(11,444		)	(18,077		)
Proceeds from sale of assets		5			21
Asset acquisitions, net of cash acquired		(17		)	—
Proceeds from loans and investments		2,968			130,281
Net cash (used in) provided by investing activities		(8,488		)	112,225
Cash flows from financing activities:
Repayments of long-term debt and capital lease obligations		(1,706		)	(8,825		)
Dividends paid		(3,397		)	(3,448		)
Net cash used in financing activities		(5,103		)	(12,273		)
Effect of exchange rate changes on cash and cash equivalents		1,033			2,097
Increase in cash and cash equivalents		3,198			110,515
Cash and cash equivalents:
Beginning of period		200,488			111,943
End of period		$	203,686		$	222,458

 

The accompanying notes are an integral part of the unaudited Condensed Consolidated Financial Statements.

 

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REGIS CORPORATION

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

 

1.                                     BASIS OF PRESENTATION OF UNAUDITED INTERIM CONDENSED CONSOLIDATED FINANCIAL STATEMENTS AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES:

 

The unaudited interim Condensed Consolidated Financial Statements of Regis Corporation (the Company) as of September 30, 2013 and for the three months ended September 30, 2013 and 2012, reflect, in the opinion of management, all adjustments necessary to fairly state the consolidated financial position of the Company as of September 30, 2013 and the consolidated results of its operations and its cash flows for the interim periods. Adjustments consist only of normal recurring items, except for any discussed in the notes below. The results of operations and cash flows for any interim period are not necessarily indicative of results of operations and cash flows for the full year.

 

The Condensed Consolidated Balance Sheet data for June 30, 2013 was derived from audited Consolidated Financial Statements, but does not include all disclosures required by accounting principles generally accepted in the United States of America (GAAP). The unaudited interim Condensed Consolidated Financial Statements should be read in conjunction with the Company’s Annual Report on Form 10-K for the year ended June 30, 2013 and other documents filed or furnished with the Securities and Exchange Commission (SEC) during the current fiscal year.

 

Stock-Based Employee Compensation:

 

During the three months ended September 30, 2013, the Company granted 225,223 restricted stock units (RSUs), 438,523 equity-based stock appreciation rights (SARs), and 284,604 performance share units (PSUs). There were no significant changes to the assumptions used in calculating the fair value of SARs. All grants relate to stock incentive plans that have been approved by the shareholders of the Company.

 

Total compensation cost for stock-based payment arrangements totaled $1.8 million for both the three months ended September 30, 2013 and 2012 recorded within general and administrative expense on the Condensed Consolidated Statement of Operations.

 

Goodwill:

 

For the fiscal year 2013 annual impairment testing of goodwill, the estimated fair value of the Regis salon concept reporting unit exceeded its carrying values by approximately 9.0 percent. Although the Regis salon concept experienced a same-store sales decrease of 7.0 percent during the three months ended September 30, 2013, the Regis salon concept’s cash flows did not significantly differ from the projections used in the fiscal year 2013 annual goodwill impairment test. Any meaningful underperformance against the projections used in the fiscal year 2013 annual goodwill impairment test, reduced outlook for the Regis salon concept or increases to the carrying value of the Regis salon concept could lead to a goodwill impairment charge. The respective fair values of the Company’s remaining reporting units exceeded their carrying values by greater than 20.0 percent.

 

While the Company has determined that the estimated fair value of Regis is appropriate based on the historical level of revenue growth, operating income and cash flows, it is reasonably likely that Regis may experience additional impairment in future periods. Because some of the inherent assumptions and estimates used in determining the fair value of each reporting unit are outside the control of management, changes in these underlying assumptions can adversely impact fair value. Potential impairment of a portion or all of the carrying value of goodwill for the Regis salon concept is dependent on many factors and cannot be predicted with certainty.

 

As of September 30, 2013, the Company’s estimated fair value, as determined by the sum of the Company’s reporting units’ fair values, reconciled to within a reasonable range of the Company’s market capitalization which included an assumed control premium. The Company concluded that there were no triggering events requiring the Company to perform an interim goodwill impairment test between the previous annual impairment test and September 30, 2013.

 

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A summary of the Company’s goodwill balance by reporting unit is as follows:

 

Reporting Unit		September 30, 2013			June 30, 2013
		(Dollars in thousands)
SmartStyle		$	49,387		$	49,286
Supercuts		129,728			129,610
MasterCuts		4,652			4,652
Regis		34,974			34,953
Promenade		242,999			242,384
Total		$	461,740		$	460,885

 

Prior Period Adjustments:

 

During the three months ended September 30, 2013, the Company recorded certain errors that related to prior periods. The errors related to an overstatement of inventory and self-insurance accruals and an understatement of cash in prior periods. Because these errors were not material to the Company’s consolidated financial statements for any prior periods or the current quarter, the Company recorded a cumulative adjustment to correct the errors during the first quarter of fiscal year 2014. The impact of these items on the Company’s Consolidated Statement of Operations decreased Site Operating expense by $1.3 million, increased Cost of Product expense by $0.3 million and increased net income by $0.6 million.

 

Foreign Currency Translation:

 

During the three months ended September 30, 2012, the Company completed its sale of its investment in Provalliance and subsequently liquidated all foreign entities with Euro denominated operations. As a result, the Company recognized a net $33.8 million foreign currency translation gain within interest income and other, net in the Consolidated Statement of Operations for amounts previously classified within accumulated other comprehensive income.

 

Recent Accounting Standards Adopted by the Company:

 

Testing Indefinite-Lived Intangible Assets for Impairment

 

In July 2012, the FASB updated the accounting guidance related to annual and interim indefinite-lived intangible asset impairment testing. The updated accounting guidance allows entities to first assess qualitative factors before performing a quantitative assessment of the fair value of indefinite-lived intangible assets. If it is determined on the basis of qualitative factors that the fair value of indefinite-lived intangible assets is more likely than not less than the carrying amount, the existing quantitative impairment test is required. Otherwise, no further impairment testing is required. The Company adopted this guidance in the first quarter of fiscal year 2014; its adoption did not have a material impact on the Company’s financial statements.

 

Accounting Standards Recently Issued But Not Yet Adopted by the Company:

 

Accounting for Cumulative Translation Adjustment upon Derecognition of Foreign Entities

 

In March 2013, the FASB updated the accounting guidance related to the release of cumulative translation adjustments.  The updated accounting guidance clarified when to release cumulative translation adjustments into net income.  The updated guidance is effective for the Company beginning in the first quarter of fiscal year 2015 with early adoption permitted.  The Company does not expect the adoption of this update to have a material impact on the Company’s consolidated financial statements.

 

Presentation of an Unrecognized Tax Benefit When a Net Operating Loss Carryforward, a Similar Tax Loss, or a Tax Credit Carryforward Exists

 

In July 2013, the FASB issued new accounting requirements which provide guidance on the financial statement presentation of unrecognized tax benefits when a net operating loss, a similar tax loss, or a tax credit carryforward exists. The requirements are effective for the Company beginning in the first quarter of fiscal year 2015 with early adoption permitted. The Company does not expect the adoption of these requirements to have a material impact on the Company’s consolidated financial statements.

 

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2.                                     DISCONTINUED OPERATIONS:

 

Hair Restoration Centers

 

On April 9, 2013, the Company sold its Hair Club for Men and Women business (Hair Club), a provider of hair restoration services. The Company received $162.8 million during fiscal year 2013, which was the purchase price of $163.5 million adjusted for the preliminary working capital provision. During the three months ended September 30, 2013, the Company received the $3.0 million of cash recorded as a receivable as of June 30, 2013, of which $2.0 million was a result of the final working capital provision, resulting in a final purchase price of $164.8 million, and $1.0 million of excess cash from the transaction completion date.

 

The Company classified the results of operations of Hair Club as discontinued operations for all periods presented in the Condensed Consolidated Statement of Operations.

 

The following summarizes the results of operations of the discontinued Hair Club operations for the three months ended September 30, 2012:

 

		(Dollars in thousands)
Revenues		$	38,951
Income from discontinued operations, before income taxes		5,872
Income tax provision on discontinued operations		(2,299		)
Equity in income of affiliated companies, net of income taxes		204
Income from discontinued operations, net of income taxes		$	3,777

 

Income taxes have been allocated to continuing and discontinued operations based on the methodology required by interim reporting and accounting for income taxes guidance.  Depreciation and amortization ceased during the three months ended September 30, 2012 in accordance with accounting for discontinued operations.

 

3.                                     INVESTMENT IN AFFILIATES:

 

Investment in affiliates

 

The table below presents the carrying amount of investments in affiliates:

 

		September 30, 2013			June 30, 2013
		(Dollars in thousands)
Empire Education Group, Inc.		$	44,108		$	43,098
MY Style		223			221
		$	44,331		$	43,319

 

Empire Education Group, Inc.

 

During the three months ended September 30, 2013 and 2012, the Company recorded $1.0 and ($0.1) million, respectively, of equity earnings (loss) related to its investment in Empire Education Group, Inc. (EEG). The exposure to loss related to the Company’s involvement with EEG is the carrying value of the investment.

 

Based on the Company’s fiscal year 2013 assessment of the carrying value of its investment in EEG, the Company’s estimate of EEG’s fair value exceeds carrying value by approximately 5 percent. During the three months ended September 30, 2013, the Company monitored and assessed the performance of EEG and comparable companies and noted an improvement in EEG’s financial performance and overall industry trends.  The Company will continue to closely monitor EEG’s performance and trends in the for-profit secondary educational market to assess the carrying value of its investment.  In the event these favorable trends were to reverse in the future, EEG could be required to impair its goodwill.  As of September 30, 2013, the Company’s share of EEG’s goodwill balance is approximately $16 million.

 

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The table below presents the summarized Statement of Operations information for EEG:

 

		Three Months Ended September 30,
		2013			2012
		(Dollars in thousands)
Gross revenues		$	43,965		$	41,351
Gross profit		14,912			12,750
Operating income (loss)		2,904			(228		)
Net income (loss)		1,938			(181		)

 

MY Style

 

During the three months ended September 30, 2013, the Company recovered $1.0 million on its previously impaired investment in MY Style’s parent company, Yamano Holding Corporation (“Yamano”), which is reported in equity in income of affiliated companies on the Condensed Consolidated Statement of Operations. During fiscal year 2011, the Company had estimated the fair value of the Yamano Class A Preferred Stock to be negligible and recorded an other than temporary impairment.

 

4.                                     EARNINGS PER SHARE:

 

The Company’s basic earnings per share is calculated as net (loss) income divided by weighted average common shares outstanding, excluding unvested outstanding restricted stock awards, RSUs and PSUs. The Company’s dilutive earnings per share is calculated as net (loss) income divided by weighted average common shares and common share equivalents outstanding, which includes shares issued under the Company’s stock based compensation plans. Stock-based awards with exercise prices greater than the average market value of the Company’s common stock are excluded from the computation of diluted earnings per share. The Company’s dilutive earnings per share will also reflect the assumed conversion under the Company’s convertible debt if the impact is dilutive, along with the exclusion of interest expense, net of taxes. The impact of the convertible debt is excluded from the computation of diluted earnings per share when interest expense per common share obtainable upon conversion is greater than basic earnings per share.

 

The following table sets forth a reconciliation of the net (loss) income from continuing operations available to common shareholders and the net (loss) income from continuing operations for diluted earnings per share under the if-converted method:

 

		For the Three Months Ended September 30,
		2013			2012
		(Dollars in thousands)
Net (loss) income from continuing operations available to common shareholders		$	(136	)	$	34,647
Effect of dilutive securities:
Interest on convertible debt, net of taxes		—			2,130
Net (loss) income from continuing operations for diluted earnings per share		$	(136	)	$	36,777

 

The following table sets forth a reconciliation of shares used in the computation of basic and diluted earnings per share:

 

		For the Three Months Ended September 30,
		2013		2012
		(Shares in thousands)
Weighted average shares for basic earnings per share		56,393		57,283
Effect of dilutive securities:
Dilutive effect of stock-based compensation (1)		—		67
Dilutive effect of convertible debt		—		11,239
Weighted average shares for diluted earnings per share		56,393		68,589

 

(1)   For the three months ended September 30, 2013, 132,392, common stock equivalents of potentially dilutive common stock were not included in the diluted earnings per share calculation due to the net loss from continuing operations.

 

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The computation of weighted average shares outstanding, assuming dilution, excluded 1,409,169 and 1,028,988 of equity-based compensation awards during the three months ended September 30, 2013 and 2012, respectively as they were not dilutive under the treasury stock method. The computation of weighted average shares outstanding, assuming dilution also excluded 11,289,545 of shares from convertible debt for the three months ended September 30, 2013 as they were not dilutive.

 

5.                                  SHAREHOLDERS’ EQUITY:

 

Additional Paid-In Capital:

 

The $1.1 million increase in additional paid-in capital during the three months ended September 30, 2013 was primarily due to stock-based compensation expense, partially offset by expiration of unexercised stock options and stock appreciation rights.

 

6.                                  INCOME TAXES:

 

During the three months ended September 30, 2013 and 2012, the Company recognized tax (benefit) expense of $(0.4) million and $3.0 million, respectively, with corresponding effective tax rates of 15.2 and 8.1 percent.

 

The recorded tax benefit and the effective tax rate for the three months ended September 30, 2013 is lower than would be expected due to unique items of tax expense reducing the tax benefit, with a resulting greater impact on the tax rate due to the relatively small amount of pretax loss reported for the quarter. The recorded tax expense and the effective income tax rate for the three months ended September 30, 2012 is significantly lower than would be expected due primarily to the non-taxability of the $33.8 million foreign currency translation gain recognized at the time of the sale of Provalliance.

 

In the United States, after excluding certain deferred tax liabilities related to assets with indefinite lives, the Company has net deferred tax assets of approximately $54.7 million as of September 30, 2013.  Realization of deferred tax assets is ultimately dependent upon future taxable income.  We assess the likelihood that deferred tax assets will be recovered.  If recovery is not likely, we must increase our provision for income taxes by recording a reserve, in the form of a valuation allowance, for the deferred tax assets that will not ultimately be recoverable.  Should the Company’s present financial trends continue, it is reasonably possible that the Company could determine that a valuation allowance for the United States deferred tax assets will be required.

 

The Company’s United States federal income tax returns for the fiscal years 2010 and 2011 are currently under audit. All earlier tax years are closed to examination. For state tax audits, the statute of limitations generally runs three to four years resulting in a number of returns being open for tax audits dating back to fiscal year 2009. The Company is currently under audit in a number of states in which the statute of limitations has been extended for fiscal years 2007 and forward.

 

7.                                      COMMITMENTS AND CONTINGENCIES:

 

The Company is a defendant in various lawsuits and claims arising out of the normal course of business. Like certain other large retail employers, the Company has been faced with allegations of purported class-wide consumer and wage and hour violations. In addition, the Company is a nominal defendant, and nine current and former directors and officers of the Company are named defendants, in a shareholder derivative action in Minnesota state court. The derivative shareholder action alleges that the individual defendants breached their fiduciary duties to the Company in connection with their approval of certain executive compensation arrangements and certain related party transactions. The Board of Directors appointed a Special Litigation Committee to investigate the claims and allegations made in the derivative action, and to decide on behalf of the Company whether the claims and allegations should be pursued. The derivative action has been stayed by the court pending the decision of the Special Litigation Committee. We do not know when the Special Litigation Committee will complete its work, or what it will decide. Litigation is inherently unpredictable and the outcome of these matters cannot presently be determined. Although the actions are being vigorously defended, the Company could in the future incur judgments or enter into settlements of claims that could have a material adverse effect on its results of operations in any particular period.

 

The exposure to loss related to the Company’s discontinued Trade Secret salon concept is the guarantee of certain operating leases that have future minimum rents of approximately $2.7 million. The Company has determined the exposure to the risk of loss on the guarantee of the operating leases to be immaterial to the financial statements.

 

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8.                                  GOODWILL AND OTHER INTANGIBLES:

 

The table below contains details related to the Company’s recorded goodwill:

 

		September 30, 2013									June 30, 2013
		Gross									Gross
		Carrying Value			Accumulated Impairment (1)			Net (2)			Carrying Value			Accumulated Impairment (1)			Net (2)
		(Dollars in thousands)
Goodwill		$	680,462		$	(218,722	)	$	461,740		$	679,607		$	(218,722	)	$	460,885

 

(1) The table below contains additional information regarding the Company’s $218.7 million accumulated impairment losses:

 

Fiscal Year		Impairment Charge			Reporting Unit
		(Dollars in thousands)
2009		$	41,661		International
2010		35,277			Regis
2011		74,100			Promenade
2012		67,684			Regis
2013		—			N/A
2014 (through 9.30.13)		—			N/A
Total		$	218,722

 

(2) Remaining net goodwill relates to the Company’s North American operations.

 

The table below presents other intangible assets:

 

		September 30, 2013									June 30, 2013
					Accumulated									Accumulated
		Cost			Amortization (1)			Net			Cost			Amortization (1)			Net
		(Dollars in thousands)
Amortized intangible assets:
Brand assets and trade names		$	9,408		$	(3,340	)	$	6,068		$	9,310		$	(3,226	)	$	6,084
Franchise agreements		11,299			(7,002		)	4,297			11,187			(6,839		)	4,348
Lease intangibles		14,789			(6,782		)	8,007			14,754			(6,582		)	8,172
Non-compete agreements		204			(158		)	46			201			(147		)	54
Other		4,754			(1,885		)	2,869			4,614			(1,776		)	2,838
		$	40,454		$	(19,167	)	$	21,287		$	40,066		$	(18,570	)	$	21,496

 

(1) Balance sheet accounts are converted at the applicable exchange rates effective as of the reported balance sheet dates, while income statement accounts are converted at the average exchange rates for the year-to-date periods presented.

 

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9.                                  FINANCING ARRANGEMENTS:

 

The Company’s long-term debt consisted of the following:

 

						Amounts outstanding
		Maturity Dates		Interest Rate		September 30, 2013			June 30, 2013
		(fiscal year)				(Dollars in thousands)
Convertible senior notes		2015		5.00%		$	167,857		$	166,454
Revolving credit facility		2018		—		—			—
Equipment and leasehold notes payable		2015 - 2016		4.90 - 8.75		6,610			8,316
						174,467			174,770
Less current portion						(174,452		)	(173,515		)
Long-term portion						$	15		$	1,255

 

Convertible Senior Notes

 

In July 2009, the Company issued $172.5 million aggregate principal amount of 5.0% convertible senior notes due July 2014. The notes are unsecured, senior obligations of the Company and interest is payable semi-annually in arrears on January 15 and July 15 of each year at a rate of 5.0% per year. As of September 30, 2013, the conversion rate was 65.5131 shares of the Company’s common stock per $1,000 principal amount of notes, representing a conversion price of approximately $15.26 per share of the Company’s common stock. Interest expense related to the 5.0% contractual interest coupon was $2.2 million during the three months ended September 30, 2013 and 2012.  Interest expense related to the amortization of the debt discount was $1.4 and $1.3 million during the three months ended September 30, 2013 and 2012, respectively.

 

Revolving Credit Facility

 

As of September 30, 2013 and June 30, 2013, the Company had no outstanding borrowings under this facility. Additionally, the Company had outstanding standby letters of credit under the facility of $2.2 million at September 30, 2013 and June 30, 2013 primarily related to its self-insurance program. Unused available credit under the facility at September 30, 2013 and June 30, 2013 was $397.8 million.

 

The Company was in compliance with all covenants and requirements of its financing arrangements as of and during the three months ended September 30, 2013.

 

10.                              FAIR VALUE MEASUREMENTS:

 

Fair value measurements are categorized into one of three levels based on the lowest level of significant input used: Level 1 (unadjusted quoted prices in active markets); Level 2 (observable market inputs available at the measurement date, other than quoted prices included in Level 1); and Level 3 (unobservable inputs that cannot be corroborated by observable market data).

 

Assets and Liabilities that are Measured at Fair Value on a Recurring Basis

 

As of September 30, 2013, the Company’s financial instruments included cash, cash equivalents, receivables, accounts payable and debt. The fair value of these instruments approximated their carrying values as of September 30, 2013 and June 30, 2013.

 

Assets and Liabilities Measured at Fair Value on a Nonrecurring Basis

 

We measure certain assets, including the Company’s equity method investments, tangible fixed assets and goodwill, at fair value on a nonrecurring basis when they are deemed to be other than temporarily impaired. The fair values of the Company’s investments are determined based on valuation techniques using the best information available, and may include quoted market prices, market comparables, and discounted cash flow projections. There were no assets measured at fair value on a nonrecurring basis during the three months ended September 30, 2013.

 

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11.                               SEGMENT INFORMATION:

 

As of September 30, 2013, the Company owned, franchised, or held ownership interests in 9,752 worldwide locations. The Company’s locations consisted of 9,154 North American salons, including 2,103 franchised salons (located in the United States, Canada and Puerto Rico), 352 international salons (located primarily in the United Kingdom), and 246 locations in which the Company maintains an ownership interest through the Company’s investment in affiliates. See Note 3 to the Condensed Consolidated Financial Statements for discussion of the Company’s investment in affiliates.

 

Based on the way the Company manages its business, it has reported its North American salons and international salons as two separate reportable segments.

 

		For the Three Months Ended September 30,
		2013			2012
		(Dollars in thousands)
Revenues (1):
North American Salons		$	439,531		$	473,882
International Salons		29,052			31,478
		$	468,583		$	505,360
Operating income (loss) (1):
North American Salons		$	28,808		$	33,978
International Salons		(257		)	422
Total segment operating income		28,551			34,400
Unallocated Corporate		(27,122		)	(25,127		)
Operating income (1)		$	1,429		$	9,273

 

(1) See Note 2 to the Condensed Consolidated Financial Statements for discussion of the classification of the results of operations of Hair Club as a discontinued operation.

 

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

 

Management’s Discussion and Analysis of Financial Condition and Results of Operations (MD&A) is designed to provide a reader of our financial statements with a narrative from the perspective of our management on our financial condition, results of operations, liquidity and certain other factors that may affect our future results. This MD&A should be read in conjunction with the MD&A included in our June 30, 2013 Annual Report on Form 10-K.

 

MANAGEMENT’S OVERVIEW

 

Regis Corporation (RGS) owns, franchises and operates beauty salons. Our mission is to create guests for life. Our strategies underlying our mission are focused in two main areas: guest experience and salon support. We plan to execute these strategies by putting guests and stylists first, focusing on technology and connectivity, building a winning team with a performance-driven culture, simplifying our operating model, and reviewing our non-core assets.  Since fiscal year 2012, the Company has been evaluating its portfolio of assets, investments and businesses, with the strategic objective of simplifying our business model, focusing on our core business of operating beauty salons and improving our long-term profitability and maximizing shareholder value.  The disposal or sale of any non-core assets may impact our operations by decreasing total revenues, operating expenses and income or loss from equity method investments. This evaluation led to the sale of our Hair Club and Provalliance businesses during fiscal year 2013.

 

As of September 30, 2013, we owned, franchised or held ownership interests in 9,752 worldwide locations. Our locations consisted of 9,506 system wide North American and international salons, and 246 locations in which we maintain a non-controlling ownership interest less than 100 percent. Each of the Company’s salon concepts generally offer similar salon products and services and serve the mass market.  As of September 30, 2013, we had approximately 50,000 corporate employees worldwide.

 

CRITICAL ACCOUNTING POLICIES

 

The interim Condensed Consolidated Financial Statements are prepared in conformity with accounting principles generally accepted in the United States of America. In preparing the interim Condensed Consolidated Financial Statements, we are required to make various judgments, estimates and assumptions that could have a significant impact on the results reported in the interim Condensed Consolidated Financial Statements. We base these estimates on historical experience and other assumptions believed to be reasonable under the circumstances. Estimates are considered to be critical if they meet both of the following criteria: (1) the estimate requires assumptions about material matters that are uncertain at the time the accounting estimates are made, and (2) other materially different estimates could have been reasonably made or material changes in the estimates are reasonably likely to occur from period to period. Changes in these estimates could have a material effect on our interim Condensed Consolidated Financial Statements.

 

Our significant accounting policies can be found in Note 1 to the Consolidated Financial Statements contained in Part II, Item 8 of the June 30, 2013 Annual Report on Form 10-K, as well as Note 1 to the Condensed Consolidated Financial Statements contained within this Quarterly Report on Form 10-Q. We believe the accounting policies related to investment in affiliates, the valuation of goodwill, the valuation and estimated useful lives of long-lived assets, estimates used in relation to tax liabilities and deferred taxes and legal contingencies are most critical to aid in fully understanding and evaluating our reported financial condition and results of operations. Discussion of each of these policies is contained under “Critical Accounting Policies” in Part II, Item 7 of our June 30, 2013 Annual Report on Form 10-K.

 

See discussion of potential impairment of a portion or all of the carrying value of goodwill for the Regis salon concept and the carrying value of our investment in Empire Education Group, Inc. (EEG) within Notes 1 and 3, respectively, to the Condensed Consolidated Financial Statements.

 

Recent Accounting Pronouncements

 

Recent accounting pronouncements are discussed in Note 1 to the Condensed Consolidated Financial Statements.

 

RESULTS OF OPERATIONS

 

Beginning with the period ended September 30, 2012, the Hair Restoration Centers reportable segment was accounted for as a discontinued operation.  All comparable periods reflect Hair Restoration Centers as a discontinued operation.  Discontinued operations is discussed at the end of this section.

 

Beginning in the first quarter of fiscal year 2014, costs associated with field leaders, excluding salons within the mass premium category, that were previously recorded within General and Administrative expense are now categorized within Cost of Service and Site Operating expense as a result of the field reorganization that took place in the fourth quarter of fiscal year 2013. Previously, field leaders did not work on the salon floor daily. As reorganized, field leaders now spend most of their time on the salon floor leading

 

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and mentoring stylists, and serving guests. Accordingly, field leader costs, including their labor and travel costs, now directly arise from the management of salon operations. As a result, district and senior district leader labor costs are reported within Cost of Service rather than General and Administrative expenses, and their travel costs are reported within Site Operating expenses rather than General and Administrative expenses. This expense classification does not have a financial impact on the Company’s reported operating income (loss), reported net income (loss) or cash flows from operations.

 

Recent Developments

 

During the fourth quarter of fiscal year 2013, the Company made significant investments in strategies to turn around its business and drive improved long-term sustainable revenue and profitability growth. These initiatives included rolling out a new a point-of-sale (POS) system and salon workstations in our North American salons, restructuring our North American field organization and standardizing plan-o-grams and reducing our retail product assortment. However, as a result of these transformational changes, the Company’s financial performance during the three months ended September 30, 2013 was negatively impacted.  Management’s focus is on stabilizing these trends and expects our business performance to improve over time.

 

Consolidated Results of Operations

 

The following table sets forth, for the periods indicated, certain information derived from our Condensed Consolidated Statement of Operations. The percentages are computed as a percent of total consolidated revenues, except as otherwise indicated.

 

		For the Three Months Ended September 30,
		2013			2012			2013		2012		2013		2012
		($ in millions)						% of Total Revenues				Basis Point Increase (Decrease)
Service revenues		$	371.7		$	393.4		79.3	%	77.9	%	140		(20	)
Product revenues		86.7			102.3			18.5		20.2		(170	)	10
Franchise royalties and fees		10.1			9.7			2.2		1.9		30		10
Cost of service (1)		225.0			232.5			60.5		59.1		140		230
Cost of product (2)		44.0			53.1			50.8		51.9		(110	)	220
Site operating expenses		50.8			52.3			10.8		10.4		40		10
General and administrative		44.4			55.9			9.5		11.1		(160	)	(130	)
Rent		79.0			81.5			16.9		16.1		80		60
Depreciation and amortization		23.8			20.7			5.1		4.1		100		(170	)
Interest expense		4.5			6.8			1.0		1.4		(40	)	—
Interest income and other, net		0.5			34.6			0.1		6.8		(670	)	660
Income taxes (3)		0.4			(3.0		)	15.2		8.1		N/A		(3,270	)
Equity in income (loss) of affiliated companies, net of income taxes		2.0			0.6			0.4		0.1		30		(60	)
Income from discontinued operations, net of taxes		—			3.8			—		0.7		(70	)	20

(1)                                Computed as a percent of service revenues and excludes depreciation and amortization expense.

(2)                                Computed as a percent of product revenues and excludes depreciation and amortization expense.

(3)           Computed as a percent of (loss) income before income taxes and equity in income of affiliated companies. Any basis point change noted as not applicable (N/A) is due to a change in income tax benefit versus income tax expense.

 

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Consolidated revenues primarily include revenues of company-owned salons, product and equipment sales to franchisees, and franchise royalties and fees. As compared to the respective prior period, consolidated revenues decreased 7.3% during the three months ended September 30, 2013 and decreased 4.9% during the three months ended September 30, 2012. The following tables summarize revenues and same-store sales by concept as well as the reasons for the percentage change:

 

		For the Three Months Ended September 30,
		2013			2012
		(Dollars in thousands)
North American salons:
SmartStyle		$	117,476		$	122,998
Supercuts		85,319			87,068
MasterCuts		31,975			37,931
Regis		85,062			96,867
Promenade		119,699			129,018
Total North American salons		439,531			473,882
International salons		29,052			31,478
Consolidated revenues		$	468,583		$	505,360
Percent change from prior year		(7.3		)%	(4.9		)%
Salon same-store sales decrease (1)		(5.4		)%	(3.1		)%

(1)         Same-store sales are calculated on a daily basis as the total change in sales for company-owned locations which were open on a specific day of the week during the current period and the corresponding prior period. Quarterly same-store sales are the sum of the same-store sales computed on a daily basis. Locations relocated within a one mile radius are included in same-store sales as they are considered to have been open in the prior period. International same-store sales are calculated in local currencies to remove foreign currency fluctuations from the calculation.

 

Decreases of 7.3% and 4.9% in consolidated revenues during the three months ended September 30, 2013 and 2012, respectively, were driven by the following:

 

		For the Three Months Ended September 30,
Factor		2013		2012
Same-store sales		(5.4	)%	(3.1	)%
Closed salons		(3.2	)	(3.1	)
New stores and conversions		0.9		1.5
Other		0.4		(0.2	)
		(7.3	)%	(4.9	)%

 

Same-store sales by concept for the three months ended September 30, 2013 and 2012, respectively, are detailed in the table below:

 

		For the Three Months Ended September 30,
		2013		2012
SmartStyle		(5.5	)%	(4.2	)%
Supercuts		(1.8	)	1.2
MasterCuts		(11.9	)	(4.2	)
Regis		(7.0	)	(3.8	)
Promenade		(5.0	)	(3.2	)
North America same-store sales		(5.6	)	(3.0	)
International same-store sales		(1.4	)	(5.1	)
Consolidated same-store sales		(5.4	)%	(3.1	)%

 

The same-store sales decrease of 5.4% during the three ended September 30, 2013 was due to a 7.2% decrease in guest visits, partially offset by a 1.8% increase in average ticket. The Company constructed (net of relocations) and closed 135 and 393 company-owned salons, respectively during the twelve months ended September 30, 2013.

 

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