Zumiez Inc (ZUMZ) FY 2022 MD&A
This page reproduces the company's own Item 7 MD&A text from the linked SEC filing. It is filer text, not grepcent analysis, scoring, or investment advice.
Item 7. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
MD&A is provided as a supplement to, and should be read in conjunction with, our consolidated financial statements and related notes included elsewhere in this document. This discussion contains forward-looking statements that involve risks and uncertainties. Our actual results could differ materially from those anticipated in these forward-looking statements as a result of certain factors, including those discussed in “Item 1A Risk Factors.” See the cautionary note regarding forward-looking statements set forth at the beginning of Part I of the Annual Report on Form 10-K.
The following Management’s Discussion and Analysis of Financial Condition and Result of Operations (“MD&A”) is intended to help the reader understand the financial condition, results of operations, and the certainty of cash flows of Zumiez Inc. and its wholly-owned subsidiaries. This discussion focuses on known material events and uncertainties that are reasonably likely to cause reported financial information not to be necessarily indicative of future operating results or of future financial condition. This includes descriptions and amounts of matters that have had a material impact on reported operations, as well as matters that are reasonably likely, based on our assessment, to have a material impact on future operations.
Fiscal 2021—A Review of This Past Year
Fiscal 2021 was marked by record sales and earnings for the Company including net sales growth of 19.5% and growth in diluted earnings per share of 61.7% to $4.85. This was up from our previous diluted earnings per share record in the prior year of $3.00. Our stores were open for approximately 97.0% of the possible operating days in fiscal 2021, while due to COVID-19 related store closures in fiscal 2020, our stores were open for approximately 78.4% of the possible operating days in the prior year. The majority of the improvement in open store days was related to the United States, while we experienced continued impacts of store closures in Europe, Canada and Australia. We also benefitted from domestic government stimulus early in fiscal 2021 resulting in sales growth of 102.6% for first quarter of fiscal 2021 compared with the prior year. Throughout the remainder of the year we drove quarterly year-over-year sales growth in the mid to high single digits resulting in the highest sales in Company history and growth of 14.5% over pre-pandemic fiscal 2019 sales.
Fiscal 2021 represented our sixth straight year of product margin gains. Product margins grew by 110 basis points in 2021 as our teams remained focused on providing our customers with a diverse product offering and continued newness. While the year was full of challenges associated with labor shortages, closures, inflation and supply chain, we were able to manage through the issues growing sales and product margin in each quarter of the year. Overall gross margin was also positively impacted by 140 basis points of leverage in our occupancy costs with significant sales growth, as well as a reduction in web fulfillment and web shipping to customers of 100 basis points as sales shifted back to physical stores with fewer closures overall during the year and a resurgence of our customers coming back to malls represented by a store penetration level that was closer to 2019 than 2020. Total gross margin improved 330 basis points from the prior year to 38.6% of sales.
In fiscal 2021 we began to see expenses that were eliminated or reduced due to the pandemic in 2020 reintroduced into the business. The most significant of these was store payroll as we had a higher percentage of open stores and many of our stores started shifting back to normal operating hours. Though not fully back to pre-pandemic levels, we also began to reintroduce expenses such as training, travel and other discretionary expenses. These increases combined with a year-over-year reduction in COVD-19 related government subsidies and an increase in incentive compensation due to performance, led to growth in selling, general and administrative expenses of 18.1% from the prior year. With annual sales growth of 19.5%, we did leverage selling general and administrative expenses by 20 basis points from the prior year.
Our earnings per diluted share for fiscal 2021 of $4.85 was an all-time high for the Company and grew 61.7% from our previous record high earnings per share of $3.00 in 2020. With our significant cash position entering the year and cash flow generated during 2021, we were able to buy back 4.6 million shares during the year at a total cost of $198.4 million ultimately reducing annual diluted shares outstanding by 3.2% from the prior year and total shares outstanding by 4.4 million when compared to the beginning of the year. This will have a larger impact on 2022 weighted average diluted share counts as most of these shares were repurchased in the back half of the year. We added 7 new stores in North America in fiscal 2021, 12 new Blue Tomato stores in Europe and 4 new Fast Times store in Australia. We believe that we still have meaningful expansion opportunities internationally.
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As a leading global lifestyle retailer, we continue to differentiate ourselves through our distinctive brand offering and diverse product selection, as well as the unique customer experience across all of our platforms. We remain committed to serving the customer launching over 100 new brands in 2021. We have made investments over several years to integrate the digital and physical channels creating a seamless shopping experience for our customer and one channel expense structure. We believe this has been a critical asset during the pandemic in 2020 and recovery in 2021 marked by significant shifts in demand between physical and digital channels. We are continuing to deliver almost all of our online orders in North America from our stores, which has provided substantial improvements in the speed of delivery to our customers and eliminated the need to manage two pools of inventory separately for digital and physical demand. Internationally we continue to see deeper penetration of localized fulfillment and are in various stages of roll-out in different countries. In-store fulfillment is a key part of strategy that we believe will drive long term market share by leveraging the strengths of our store sales team, providing better and faster service to customers, improving product margins, maximizing the productivity of inventory, providing additional selling opportunities, and utilizing one cost structure to serve the customer.
The following table shows net sales, operating profit, operating margin and diluted earnings per share for fiscal 2021 compared to fiscal 2020:
| Fiscal 2021 | Fiscal 2020 | % Change | ||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|
| Net sales (in thousands) (1) | $ | 1,183,867 | $ | 990,652 | 19.5 | % | ||||||
| Operating profit (in thousands) | $ | 157,810 | $ | 96,938 | 62.8 | % | ||||||
| Operating margin | 13.3 | % | 9.8 | % | ||||||||
| Diluted earnings per share | $ | 4.85 | $ | 3.00 | 61.7 | % |
| Column 1 | Column 2 | Column 3 |
|---|---|---|
| (1) | The increase in net sales was driven by fewer COVID-19 related store closures, government stimulus benefits in the United States during the first quarter of 2021, and the net addition of 18 stores (23 new stores offset by 5 store closures) in fiscal 2021. The increase in net sales was driven by an increase in transactions and an increase in dollars per transaction. The increase in dollars per transaction was driven by an increase in average unit retail, partially offset by a decrease in units per transaction. |
Fiscal 2022—A Look At the Upcoming Year
In fiscal 2022, our focus remains on serving the customer with strategic investments largely focused on enhancing the customer experience while increasing market share and creating operational efficiencies to drive long-term operating margin expansion. We are planning accelerated store growth in 2022 anticipating 34 new stores compared with 23 new stores opened in 2021. We expect to open 15 new stores in North America, 14 in Europe and 5 in Australia as we continue to extend our reach in both existing and new markets.
Coming off of a record year in sales and earnings in 2021, we are entering fiscal 2022 anticipating some fluctuation in quarterly results. The first and second quarters of 2022 in particular are likely to be challenging as we annualize the substantial benefits from domestic stimulus that positively impacted the first quarter and beginning of the second quarter of fiscal 2021. The first and second quarters of 2022 are likely to be down year-over-year in sales with the second quarter more modestly impacted. As we move to the back half of the year we anticipate sales growth in the third and fourth quarters against more normalized results in 2021. Throughout the year we anticipate we will see stronger results across our international entities in Canada, Europe and Australia as we anniversary store closures and continue to benefit from a growing store base. Overall, we anticipate sales will be roughly flat to fiscal 2021.
Fiscal 2022 operating expenses are expected to grow at a greater rate than sales. Several factors are expected to contribute to this including wage and other expense inflation, a more normalized operating environment driving longer store hours and higher variable operating costs, additional training, travel and other discretionary expenses foregone in 2021 as a result of COVID-19 restrictions that will return to the business. We are currently expecting operating profit to decrease in fiscal 2022 compared to fiscal 2021. Given our strong cash position, we have the security to manage through potential difficulties while also investing strategically in important long-term initiatives and returning value to our shareholders. At the end of fiscal 2021, we had $83.3 million remaining on our currently active stock repurchase authorization. Given the share repurchases we have completed from 2021 and the current program that we have been executing in fiscal 2021 and early fiscal 2022, we expect that the reduction in shares outstanding will drive a double digit increase in diluted earnings per share in fiscal 2022 compared with fiscal 2021.
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General
Net sales constitute gross sales, net of actual and estimated returns and deductions for promotions, and shipping revenue. Net sales include our store sales and our ecommerce sales. We record the sale of gift cards as a current liability and recognize revenue when a customer redeems a gift card. Additionally, the portion of gift cards that will not be redeemed (“gift card breakage”) is recognized based on our historical redemption rate in proportion to the pattern of rights exercised by the customer.
We report “comparable sales” based on net sales beginning on the first anniversary of the first day of operation of a new store or ecommerce business. We operate a sales strategy that integrates our stores with our ecommerce platform. There is significant interaction between our store sales and our ecommerce sales channels and we believe that they are utilized in tandem to serve our customers. Therefore, our comparable sales also include our ecommerce sales. Changes in our comparable sales between two periods are based on net sales of store or ecommerce business which were in operation during both of the two periods being compared and, if a store or ecommerce business is included in the calculation of comparable sales for only a portion of one of the two periods being compared, then that store or ecommerce business is included in the calculation for only the comparable portion of the other period. Any increase or decrease less than 25% in square footage of an existing comparable store, including remodels and relocations within the same mall, or temporary closures less than seven days does not eliminate that store from inclusion in the calculation of comparable sales. Any store or ecommerce business that we acquire will be included in the calculation of comparable sales after the first anniversary of the acquisition date. Current year foreign exchange rates are applied to both current year and prior year comparable sales to achieve a consistent basis for comparison. Stores closed due the impacts of COVID-19 are excluded from our comparable sales calculation if they were closed for longer than seven days. Our ecommerce business has remained open during the COVID-19 pandemic and therefore remains reported in our comparable sales calculation. There may be variations in the way in which some of our competitors and other apparel retailers calculate comparable sales. As a result, data herein regarding our comparable sales may not be comparable to similar data made available by our competitors or other retailers.
Cost of goods sold consists of branded merchandise costs and our private label merchandise costs including design, sourcing, importing and inbound freight costs. Our cost of goods sold also includes shrinkage, buying, occupancy, ecommerce fulfillment, distribution and warehousing costs (including associated depreciation) and freight costs for store merchandise transfers. This may not be comparable to the way in which our competitors or other retailers compute their cost of goods sold. Cash consideration received from vendors is reported as a reduction of cost of goods sold if the inventory has sold, a reduction of the carrying value of the inventory if the inventory is still on hand, or a reduction of selling, general and administrative expense if the amounts are reimbursements of specific, incremental and identifiable costs of selling the vendors’ products.
With respect to the freight component of our ecommerce sales, amounts billed to our customers are included in net sales and the related freight cost is charged to cost of goods sold.
Selling, general and administrative expenses consist primarily of store personnel wages and benefits, administrative staff and infrastructure expenses, freight costs for merchandise shipments from the distribution centers to the stores, store supplies, depreciation on fixed assets at our home office and stores, facility expenses, training expenses and advertising and marketing costs. Credit card fees, insurance, public company expenses, legal expenses, amortization of intangibles, and other miscellaneous operating costs are also included in selling, general and administrative expenses. This may not be comparable to the way in which our competitors or other retailers compute their selling, general and administrative expenses.
Key Performance Indicators
Our management evaluates the following items, which we consider key performance indicators, in assessing our performance:
Net sales. Net sales constitute gross sales, net of sales returns and deductions for promotions, and shipping revenue. Net sales includes comparable sales and new store sales for all our store and ecommerce businesses. We consider net sales to be an important indicator of our current performance. Net sales results are important to achieve
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leveraging of our costs, including store payroll and store occupancy. Net sales also have a direct impact on our operating profit, cash and working capital.
Gross profit. Gross profit measures whether we are optimizing the price and inventory levels of our merchandise. Gross profit is the difference between net sales and cost of goods sold. Any inability to obtain acceptable levels of initial markups or any significant increase in our use of markdowns could have an adverse effect on our gross profit and results of operations.
Operating profit. We view operating profit as a key indicator of our success. Operating profit is the difference between gross profit and selling, general and administrative expenses. The key drivers of operating profit are net sales, gross profit, our ability to control selling, general and administrative expenses and our level of capital expenditures affecting depreciation expense.
Diluted earnings per share. Diluted earnings per share is based on the weighted average number of common shares and common share equivalents outstanding during the period. We view diluted earnings per share as a key indicator of our success in increasing shareholder value.
Trends and Uncertainties Affecting Our Results and Comparability
We have been, and we expect to continue to be affected by a number of factors that may cause actual results to differ from our historical results or current expectations. These factors include the impact of the COVID-19 pandemic on our operations and financial results; foreign currency rates; changes in laws, including U.S. tax law changes; fluctuations in variable costs, and changes in general economic conditions in the markets in which we operate. Additionally, while there was not a significant impact from inflation on our operations during the past three fiscal years, we experienced increased costs during 2021 that are expected to continue into 2022. Our ability to raise our selling prices depends on market conditions and there may be periods during which we are unable to fully recover increases in our costs.
These and other factors can affect our operations and net earnings for any period and may cause such results not to be comparable to the same period in previous years and the results presented in this report are not necessarily indicative of future operating results.
Results of Operations
In December 2019, a novel strain of coronavirus (COVID-19) was first identified, and in March 2020, the World Health Organization categorized COVID-19 as a pandemic. In the best interest of our customers and employees and in line with governmental regulations, all stores were closed by March 19, 2020. We began gradually re-opening physical stores at the end of the first fiscal quarter and into the second fiscal quarter, with the majority of our stores open through the third and fourth quarter. In certain regions, COVID-19 related short-term closures have continued into fiscal 2021, primarily in Europe, Canada, and Australia.
Our stores were open, on an aggregate basis, approximately 97.0% of the possible days during fiscal 2021 compared to 78.4% of the possible days during fiscal 2020.
The following table presents selected items on the consolidated statements of income as a percent of net sales:
| Fiscal 2021 | Fiscal 2020 | Fiscal 2019 | ||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|
| Net sales | 100.0 | % | 100.0 | % | 100.0 | % | ||||||
| Cost of goods sold | 61.4 | % | 64.7 | % | 64.6 | % | ||||||
| Gross profit | 38.6 | % | 35.3 | % | 35.4 | % | ||||||
| Selling, general and administrative expenses | 25.3 | % | 25.5 | % | 27.1 | % | ||||||
| Operating profit | 13.3 | % | 9.8 | % | 8.3 | % | ||||||
| Interest and other income (expense), net | 0.3 | % | 0.5 | % | 0.5 | % | ||||||
| Earnings before income taxes | 13.6 | % | 10.3 | % | 8.8 | % | ||||||
| Provision for income taxes | 3.5 | % | 2.6 | % | 2.3 | % | ||||||
| Net income | 10.1 | % | 7.7 | % | 6.5 | % |
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Fiscal 2021 Results Compared With Fiscal 2020
Net Sales
Net sales were $1,183.9 million for fiscal 2021 compared to $990.7 million for fiscal 2020, an increase of $193.2 million or 19.5%. The increase in sales was primarily driven by the re-opening of stores compared to the wide spread short-term store closures related to the COVID-19 pandemic in the prior year, our ability to capitalize on current trends and the impact of domestic economic stimulus on the business during the year. For the year, our stores were open approximately 97.0% of the possible days compared to 78.4% of the possible days during fiscal 2020.
The increase in net sales was driven by an increase in transactions and an increase in dollars per transaction. Dollars per transaction increased due to an increase in average unit retail partially offset by a decrease in units per transaction. For the year, the men’s category was our largest growth category followed by accessories, footwear, and women’s. Our only negative category for the year was hardgoods.
By region, North America sales increased $165.1 million or 19.1% and other international sales increased $28.1 million or 22.5% during fiscal 2021 compared to fiscal 2020. Net sales for the year ended January 29, 2022 included a $4.2 million increase due to the change in foreign exchange rates, which consisted of $3.0 million in Canada, $1.0 million in Australia, and $0.3 million in Europe. Excluding the impact of changes in foreign exchange rates, North America sales increased $162.2 million or 18.7% and other international sales increased $26.8 million or 21.4% during fiscal 2021 compared to fiscal 2020.
Gross Profit
Gross profit was $456.7 million for fiscal 2021 compared to $350.0 million for fiscal 2020, an increase of $106.7 million, or 30.5%. As a percentage of net sales, gross profit increased 330 basis points in fiscal 2021 to 38.6%, as we leverage meaningfully across the fixed cost structures compared to the period of COVID-19 related closures in the prior year. The increase was primarily driven by a 140 basis point leverage in our store occupancy costs when compared to the prior year, which included the continuation of rent charges without associated sales during COVID-19 related closures in fiscal 2020. In addition, there was a 110 basis point increase in product margin and a 100 basis point decrease in web fulfillment and web shipping costs due to leverage of distribution fixed costs and decreased total web sales activity compared to the prior year which increased as a result of COVID-19 related short-term closures.
Selling, General and Administrative Expenses
Selling, general and administrative (“SG&A”) expenses were $298.9 million for fiscal 2021 compared to $253.1 million for fiscal 2020, an increase of $45.8 million, or 18.1%. SG&A expenses as a percent of net sales decreased 20 basis points in fiscal 2021 to 25.3% as we leveraged meaningfully across our fixed costs compared to the period of COVID-19 related closures in the prior year. The decrease was primarily driven by 90 basis points of leverage in non-wage store operating costs partially offset by a 50 basis point unfavorable impact related to fewer government subsidies received in fiscal 2021.
Net Income
Net income for fiscal 2021 was $119.3 million, or $4.85 per diluted share, compared with net income of $76.2 million, or $3.00 per diluted share, for fiscal 2020. Our effective income tax rate for fiscal 2021 was 25.7% compared to 25.6% for fiscal 2020.
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Fiscal 2020 Results Compared With Fiscal 2019
Net Sales
Net sales were $990.7 million for fiscal 2020 compared to $1,034.1 million for fiscal 2019, a decrease of $43.4 million or 4.2%. The decrease in sales was primarily driven by the closure of our physical retail globally due to the impact of COVID-19. For the year, our stores were open approximately 78.4% of the possible days. This decrease was partially offset by a 13.6% increase in comparable sales driven by the increase in ecommerce sales as well as the strong performance of our physical stores upon re-opening.
The 13.6% increase in comparable sales was primarily driven by an increase in comparable transactions and an increase in dollars per transaction. Dollars per transaction increased due to an increase in average unit retail and units per transaction. Comparable sales were primarily driven by an increase in hardgoods followed by men’s clothing, accessories, and women’s clothing partially offset by a decrease in footwear. For information as to how we define comparable sales, see “General” above.
By region, North America sales decreased $48.7 million or 5.3% and other international sales increased $5.3 million or 4.4% during fiscal 2020 compared to fiscal 2019. Net sales for the year ended January 30, 2021 included a $4.6 million increase due to the change in foreign exchange rates, which consisted of $4.3 million in Europe, $0.5 million in Australia offset by a $0.2 million decrease in Canada. Excluding the impact of changes in foreign exchange rates, North America sales decreased $48.5 million or 5.3% and other international sales increased $0.5 million or 0.3% during fiscal 2020 compared to fiscal 2019.
Gross Profit
Gross profit was $350.0 million for fiscal 2020 compared to $366.6 million for fiscal 2019, a decrease of $16.6 million, or 4.5%. As a percentage of net sales, gross profit decreased 10 basis points in fiscal 2020 to 35.3%. The decrease was primarily driven by a 120 basis point increase in web fulfillment and shipping costs due to increased web activity as a result of COVID-19, however leveraged to the prior year when compared to total shipped sales and a 30 basis point increase due to the impairment of operating lease right-of-use assets. This was partially offset by an 80 basis point decrease in inventory shrinkage and a 70 basis point increase in product margin.
Selling, General and Administrative Expenses
Selling, general and administrative (“SG&A”) expenses were $253.1 million for fiscal 2020 compared to $280.8 million for fiscal 2019, a decrease of $27.7 million, or 9.9%. SG&A expenses as a percent of net sales decreased 160 basis points in fiscal 2020 to 25.5%. The decrease was primarily driven by a 70 basis point decrease due to governmental credits, a 60 basis point decrease in store wages, a 30 basis point decrease in national training and recognition events and a 20 basis point decrease in corporate costs.
Net Income
Net income for fiscal 2020 was $76.2 million, or $3.00 per diluted share, compared with net income of $66.9 million, or $2.62 per diluted share, for fiscal 2019. Our effective income tax rate for fiscal 2020 was 25.6% compared to 26.5% for fiscal 2019. The decrease in the effective tax rate for fiscal 2020 compared to fiscal 2019 was primarily related to a reduction in net losses in certain jurisdictions where there is uncertainty as to the realization of deferred tax assets and the proportion of earnings or loss before income taxes across jurisdictions.
Liquidity and Capital Resources
Our cash requirements are subject to change as business conditions warrant and opportunities arise. Our primary uses of cash are for operational expenditures, inventory purchases, common stock repurchases and capital investments, including new stores, store remodels, store relocations, store fixtures and ongoing infrastructure improvements. Historically, our main source of liquidity has been cash flows from operations.
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The significant components of our working capital are inventories and liquid assets such as cash, cash equivalents, current marketable securities and receivables, reduced by accounts payable and accrued expenses. Our working capital position benefits from the fact that we generally collect cash from sales to customers the same day or within several days of the related sale, while we typically have longer payment terms with our vendors.
At January 29, 2022 and January 30, 2021, cash, cash equivalents and current marketable securities were $294.5 million and $375.5 million. Working capital, the excess of current assets over current liabilities, was $263.2 million at the end of fiscal 2021, a decrease of 22.5% from $339.8 million at the end of fiscal 2020. The decrease in cash, cash equivalents and current marketable securities in fiscal 2021 was due repurchases of common stock of $193.8 million and $15.7 million of capital expenditures primarily related to the opening of 23 new stores and 3 remodels and relocations, partially offset by $135.0 million of cash provided by operating activities.
The following table summarizes our cash flows from operating, investing and financing activities (in thousands):
| Fiscal 2021 | Fiscal 2020 | Fiscal 2019 | ||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|
| Total cash provided by (used in) | ||||||||||||
| Operating activities | $ | 134,950 | $ | 138,412 | $ | 106,070 | ||||||
| Investing activities | 101,643 | (110,541 | ) | (102,931 | ) | |||||||
| Financing activities | (191,409 | ) | (9,694 | ) | 2,010 | |||||||
| Effect of exchange rate changes on cash and cash equivalents | (1,822 | ) | 3,522 | (429 | ) | |||||||
| Increase in cash and cash equivalents | $ | 43,362 | $ | 21,699 | $ | 4,720 |
Operating Activities
Net cash provided by operating activities decreased by $3.5 million in fiscal 2021 to $135.0 million from $138.4 million in fiscal 2020. Net cash provided by operating activities increased by $32.3 million in fiscal 2020 to $138.4 million from $106.1 million in fiscal 2019. Our operating cash flows result primarily from cash received from our customers, offset by cash payments we make for inventory, employee compensation, store occupancy expenses and other operational expenditures. Cash received from our customers generally corresponds to our net sales. Because our customers primarily use credit cards or cash to buy from us, our receivables from customers settle quickly. Changes to our operating cash flows have historically been driven primarily by changes in operating income, which is impacted by changes to non-cash items such as depreciation, amortization and accretion, deferred taxes, and changes to the components of working capital.
Investing Activities
Net cash provided by investing activities was $101.6 million in fiscal 2021 related to $117.4 million in net sales of marketable securities and $15.7 million of capital expenditures primarily for new store openings and existing store remodels or relocations. Net cash used in investing activities was $110.5 million in fiscal 2020 related to $101.4 million in net purchases of marketable securities and $9.1 million of capital expenditures primarily for new store openings and existing store remodels or relocations. Net cash used in investing activities was $102.9 million in fiscal 2019 related to $84.1 million in net purchases of marketable securities and $18.8 million of capital expenditures primarily for new store openings and existing store remodels or relocations.
Financing Activities
Net cash used in financing activities in fiscal 2021 was $191.4 million related to $193.8 million used in the repurchase of common stock and $0.6 million in payments for tax withholding obligations upon vesting of restricted stock partially offset by $3.0 million in proceeds from the issuance and exercise of stock-based awards. Net cash used in financing activities in fiscal 2020 was $9.7 million related to $13.4 million used in the repurchase of common stock and $0.2 million in payments on tax withholding obligation upon vesting of restricted stock partially offset by $3.9 million in proceeds from the issuance and exercise of stock-based awards. Net cash provided by financing activities in fiscal 2019 was $2.0 million related to $2.3 million in proceeds from issuance of stock-based awards partially offset by $0.3 million in payments on tax withholding obligation upon vesting of restricted stock.
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Capital Expenditures
Our capital requirements include construction and fixture costs related to the opening of new stores and remodel and relocation expenditures for existing stores. Future capital requirements will depend on many factors, including the pace of new store openings, the availability of suitable locations for new stores and the nature of arrangements negotiated with landlords. In that regard, our net investment to open a new store has varied significantly in the past due to a number of factors, including the geographic location and size of the new store, and is likely to vary significantly in the future.
During fiscal 2021, we spent $15.7 million on capital expenditures which consisted of $11.5 million of costs related to investment in 23 new stores and 3 remodeled or relocated stores, $1.1 million associated with improvements to our websites and $3.1 million in other improvements.
During fiscal 2020, we spent $9.1 million on capital expenditures, which consisted of $6.6 million of costs related to investment in 12 new stores and 3 remodeled or relocated stores, $2.1 million associated with improvements to our websites and $0.4 million in other improvements.
During fiscal 2019, we spent $18.8 million on capital expenditures, which consisted of $13.7 million of costs related to investment in 16 new stores and 17 remodeled or relocated stores, $1.2 million associated with improvements to our websites and the Customer Engagement Suite and $3.9 million in other improvements.
In fiscal 2022, we expect to spend approximately $30 million to $32 million on capital expenditures, a majority of which will relate to leasehold improvements and fixtures for the approximately 34 new stores we plan to open in fiscal 2022 and remodels or relocations of existing stores. There can be no assurance that the number of stores that we actually open in fiscal 2022 will not be different from the number of stores we plan to open, or that actual fiscal 2022 capital expenditures will not differ from this expected amount.
Other Material Cash Requirements
Our material cash requirements include the following contractual and other obligations: (1) purchase obligations (for additional information, see Note 11 to the Consolidated Financial Statements); (2) supply and service arrangements entered in the normal course of business; (3) operating lease payments (for additional information, see Note 10 to the Consolidated Financial Statements); and (4) employee wages, benefits, and incentives; (5) commitments for capital expenditures; and (6) tax payables. Moreover, we may be subject to additional material cash requirements that are contingent upon the occurrence of certain events, e.g., legal contingencies, uncertain tax positions, and other matters.
At January 29, 2022, we did not have any “off-balance sheet arrangements,” as defined in relevant SEC regulations that are reasonably likely to have a current or future effect on our financial condition, results of operations, liquidity, capital expenditures or capital resources.
Sources of Liquidity
Our most significant sources of liquidity continue to be funds generated by operating activities and available cash, cash equivalents and current marketable securities. We expect these sources of liquidity and available borrowings under our revolving credit facility will be sufficient to meet our foreseeable cash requirements for operations and planned capital expenditures for at least the next twelve months. Beyond this time frame, if cash flows from operations are not sufficient to meet our capital requirements, then we will be required to obtain additional equity or debt financing in the future. However, there can be no assurance that equity or debt financing will be available to us when we need it or, if available, that the terms will be satisfactory to us and not dilutive to our then-current shareholders.
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As of January 29, 2022, we maintained a secured credit agreement with Wells Fargo Bank, N.A., which provided us with a senior secured credit facility (“credit facility”) of up to $25.0 million through December 1, 2023, and up to $35.0 million after December 1, 2023 and through December 1, 2024. The credit facility is available for working capital and other general corporate purposes. The credit facility provides for the issuance of standby letters of credit in an amount not to exceed $17.5 million outstanding at any time and with a term not to exceed 365 days. The commercial line of credit provides for the issuance of commercial letters of credit in an amount not to exceed $10.0 million and with terms not to exceed 120 days. The credit facility will mature on December 1, 2024. The credit facility is secured by a first-priority security interest in substantially all of the personal property (but not the real property) of the borrowers and guarantors. Amounts borrowed under the credit facility bear interest at a daily simple SOFR rate plus a margin of 1.35% per annum. There were no borrowings or open commercial letters of credit outstanding under the secured credit facility at January 29, 2022.
Additionally, we maintain a credit facility with UBS Switzerland AG of up to 15.0 million Euro ($16.7 million), which may be used to guarantee payment of letters of credit. The credit facility bears interest at 1.25%. There were no borrowings outstanding under the credit agreement at January 29, 2022.
Critical Accounting Estimates
Our consolidated financial statements are prepared in accordance with U.S. GAAP. In connection with the preparation of our consolidated financial statements, we are required to make assumptions and estimates about future events, and apply judgments that affect the reported amounts of assets, liabilities, revenue, expenses and the related disclosures. We base our assumptions, estimates and judgments on historical experience, current trends and other factors that we believe to be relevant at the time our consolidated financial statements are prepared. On a regular basis, we review the accounting policies, assumptions, estimates and judgments to ensure that our consolidated financial statements are presented fairly and in accordance with U.S. GAAP. However, because future events and their effects cannot be determined with certainty, actual results could differ from our assumptions and estimates, and such differences could be material.
Our significant accounting policies are discussed in Note 2, “Summary of Significant Accounting Policies,” in the Notes to Consolidated Financial Statements found in Part IV Item 15 of this Form 10-K. We believe that the following accounting estimates involve a significant level of estimation uncertainty and have had or are reasonably likely to have a material impact on our consolidated financial statements.
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| Description | Judgments and Uncertainties | Effect If Actual Results Differ From Assumptions | |||
|---|---|---|---|---|---|
| Valuation of Merchandise Inventories | |||||
| We value our inventory at the lower of average cost or net realizable value through the establishment of write-down and inventory loss reserves. Our write-down reserve represents the excess of the carrying value over the amount we expect to realize from the ultimate sales or other disposal of the inventory. Write-downs establish a new cost basis for our inventory. Subsequent changes in facts or circumstances do not result in the restoration of previously recorded write-downs or an increase in that newly established cost basis. Our inventory loss reserve represents anticipated physical inventory losses (“shrinkage reserve”) that have occurred since the last physical inventory. | Our write-down reserve contains uncertainties because the calculation requires management to make assumptions based on the current rate of sales, the age and profitability of inventory and other factors. Our shrinkage reserve contains uncertainties because the calculation requires management to make assumptions and to apply judgment regarding a number of factors, including historical percentages that can be affected by changes in merchandise mix and changes in actual shrinkage trends. | We have not made any material changes in the accounting methodology used to calculate our write-down and shrinkage reserves in the past three fiscal years. We do not believe there is a reasonable likelihood that there will be a material change in the future estimates we use to calculate our inventory reserves. However, if actual results are not consistent with our estimates, we may be exposed to losses or gains that could be material. Our inventory reserves have increased by $1.3 million in fiscal 2021. A 10% decrease in the sales price of our inventory at January 29, 2022 would have decreased net income by less than $0.1 million in fiscal 2021. A 10% increase in actual physical inventory shrinkage rate at January 29, 2022 would have decreased net income by $0.2 million in fiscal 2021. | |||
| Valuation of Long-Lived Assets | |||||
| We review the carrying value of our long-lived assets, including fixed assets and operating lease right-of-use assets, for impairment whenever events or changes in circumstances indicate that the carrying value of such asset or asset group may not be recoverable. Recoverability of assets to be held and used is determined by a comparison of the carrying amount of an asset to future undiscounted net cash flows expected to be generated by the asset. If such assets are considered impaired, the impairment recognized is measured by comparing the fair value of the asset to the asset carrying value. The fair value of the asset is based on the future discounted cash flow of current market rents that we could receive as sublease income. | Events that may result in an impairment include the decision to close a store or facility or a significant decrease in the operating performance of a long-lived asset group. Our impairment calculations contain uncertainties because they require management to make assumptions and to apply judgment to estimate future cash flows and asset fair values, including forecasting future sales, gross profit, operating expenses, or sub-lease income. In addition to historical results, current trends and initiatives, and long-term macro-economic and industry factors are qualitatively considered. Additionally, management seeks input from store operations related to local economic conditions, including the impact of closures of selected co-tenants who occupy the mall. | We do not believe there is a reasonable likelihood that there will be a material change in the estimates or assumptions we use to calculate long-lived asset impairment losses. However, if actual results are not consistent with our estimates and assumptions, our operating results could be adversely affected. Declines in projected cash flow of the assets could result in impairment. We recognized impairment losses of $2.2 million related to long-lived assets in fiscal 2021. |
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| Description | Judgments and Uncertainties | Effect If Actual Results Differ From Assumptions | |||
|---|---|---|---|---|---|
| Right-of-use Assets and Lease Liabilities We determine if a contract contains a lease at inception. Our operating leases primarily consist of retail store locations, distribution centers and corporate office space. We do not have any material leases, individually or in the aggregate, classified as a finance leasing arrangement. Operating lease right-of-use assets and liabilities are recognized at commencement date based on the present value of lease payments over the lease term, net of lease incentives received and initial direct costs paid. Our retail store leases are generally for an initial period of 5-10 years, with some of our international leases structured to include renewal options at our election. We include renewal options that we are reasonably certain to exercise in the measurement our lease liabilities and right-of-use assets. | Significant judgment is required in determining our incremental borrowing rate and the expected lease term, both of which impact the determination of lease classification and the present value of lease payments. Generally, our lease contracts do not provide a readily determinable implicit rate and, therefore, we use an estimated incremental borrowing rate as of the lease commencement date in determining the present value of lease payments. The estimated incremental borrowing rate reflects considerations such as market rates for our outstanding collateralized debt and interpolations of rates for leases with terms that differ from our outstanding debt. Our lease terms include option periods to extend or terminate the lease when it is reasonably certain that those options will be exercised, which is generally through an initial period of 5-10 years. | We do not believe there is a reasonable likelihood that there will be a material change in the estimates or assumptions we use to calculate right-of-use assets and lease liabilities. Given the significant operating lease assets and liabilities recorded, changes in the estimates made by management or the underlying assumptions could have a material impact on our consolidated financial statements. Total undiscounted future payments for lease liabilities were $288.5 million at January 29, 2022. If the incremental borrowing rate increased 10 basis points from the rate in effect at January 29, 2022, the lease liability balance would decrease by $0.3 million. | |||
| Revenue Recognition Revenue is recognized upon purchase at our retail store locations. For our ecommerce sales, revenue is recognized upon shipment to the customer. Revenue is recorded net of sales returns and deductions for promotions. Revenue is not recorded on the sale of gift cards. We record the sale of gift cards as a current liability and recognize revenue when a customer redeems a gift card. Additionally, the portion of gift cards that will not be redeemed (“gift card breakage”) is recognized in proportion of the patterns used by the customer based on our historical redemption patterns. | Our revenue recognition accounting methodology contains uncertainties because it requires management to make assumptions regarding future sales returns and the amount and timing of gift cards projected to be redeemed by gift card recipients. Our estimate of the amount and timing of sales returns and gift cards to be redeemed is based primarily on historical experience. | We have not made any material changes in the accounting methodology used to measure future sales returns or gift card breakage in the past three fiscal years. We do not believe there is a reasonable likelihood that there will be a material change in the future estimates or assumptions we use to recognize revenue. However, if actual results are not consistent with our estimates or assumptions, we may be exposed to losses or gains that could be material. Our sales return reserve has decreased by $0.1 million in fiscal 2021. A 10% increase in our sales return reserve at January 29, 2022 would have decreased net income by $0.3 million in fiscal 2021. Our gift card breakage reserve has increased by $1.5 million in fiscal 2021. A 1% increase in the estimated gift card redemption rate would have decreased net income by $0.1 million in fiscal 2021. |
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| Description | Judgments and Uncertainties | Effect If Actual Results Differ From Assumptions | |||
|---|---|---|---|---|---|
| Accounting for Income Taxes | |||||
| As part of the process of preparing the consolidated financial statements, income taxes are estimated for each of the jurisdictions in which we operate. This process involves estimating actual current tax exposure together with assessing temporary differences resulting from differing treatment of items for tax and accounting purposes. These differences result in deferred tax assets and liabilities, which are included on the consolidated balance sheets. Valuation allowances are established when necessary to reduce deferred tax assets to the amount expected to be realized. We regularly evaluate the likelihood of realizing the benefit for income tax positions we have taken in various federal, state and foreign filings by considering all relevant facts, circumstances and information available to us. If we believe it is more likely than not that our position will be sustained, we recognize a benefit at the largest amount that we believe is cumulatively greater than 50% likely to be realized. | Significant judgment is required in evaluating our tax positions and determining our provision for income taxes. During the ordinary course of business, there are many transactions and calculations for which the ultimate tax determination is uncertain. For example, our effective tax rates could be adversely affected by earnings being lower than anticipated in jurisdictions where we have lower statutory rates and higher than anticipated in jurisdictions where we have higher statutory rates. The assessment of whether we will realize the value of our deferred tax assets requires estimates and judgments related to amount and timing of future taxable income. Actual results may differ from those estimates. Additionally, changes in the relevant tax, accounting and other laws, regulations, principles and interpretations may adversely affect financial results. | Although management believes that the income tax related judgments and estimates are reasonable, actual results could differ and we may be exposed to losses or gains that could be material. At January 29, 2022 and January 30, 2021, we had valuation allowances on our deferred tax assets of $10.0 million and $8.7 million, respectively. Significant changes in performance or estimated taxable income may result in a change in our assessment of the valuation allowance. Upon income tax audit, any unfavorable tax settlement generally would require use of our cash and may result in an increase in our effective income tax rate in the period of resolution. A favorable tax settlement may be recognized as a reduction in our effective income tax rate in the period of resolution. | |||
| Accounting for Contingencies | |||||
| We are subject to various claims and contingencies related to lawsuits, insurance, regulatory and other matters arising out of the normal course of business. We accrue a liability if the likelihood of an adverse outcome is probable and the amount is estimable. If the likelihood of an adverse outcome is only reasonably possible (as opposed to probable), or if an estimate is not determinable, we provide disclosure of a material claim or contingency. | Significant judgment is required in evaluating our claims and contingencies, including determining the probability that a liability has been incurred and whether such liability is reasonably estimable. The estimated accruals for claims and contingencies are made based on the best information available, which can be highly subjective. | Although management believes that the contingency related judgments and estimates are reasonable, our accrual for claims and contingencies could fluctuate as additional information becomes known, thereby creating variability in our results of operations from period to period. Additionally, actual results could differ and we may be exposed to losses or gains that could be material. See Note 11, “Commitments and Contingencies,” in the Notes to the consolidated financial statements found in Part IV Item 15 of this Form 10-K. |
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| Description | Judgments and Uncertainties | Effect If Actual Results Differ From Assumptions | |||
|---|---|---|---|---|---|
| Goodwill and Indefinite-lived Intangible Assets | |||||
| We assess goodwill and indefinite-lived intangible assets for impairment on an annual basis or more frequently if indicators of impairment arise. We perform this analysis at the reporting unit level. We have an option to first perform a qualitative assessment to determine whether it is more likely than not that the fair value of a reporting unit is less than its carrying amount. If we choose not to perform the qualitative test or we determine that it is more likely than not that the fair value of the reporting unit is less than the carrying amount, we compare the carrying value of the reporting unit to its estimated fair value, which is based on the perspective of a market-participant. If the fair value of the reporting unit is lower than the carrying value, an impairment loss is recorded for the amount in which the carrying value exceeds the estimated fair value. | The goodwill and indefinite-lived intangible assets impairment tests require management to make assumptions and judgments. Our quantitative goodwill analysis of fair value is determined using a combination of the income and market approaches. Key assumptions in the income approach include estimating future cash flows, long-term growth rates and weighted average cost of capital. Our ability to realize the future cash flows used in our fair value calculations is affected by factors such as changes in economic conditions, operating performance and our business strategies. Key assumptions in the market approach include identifying companies and transactions with comparable business factors, such as earnings growth, profitability, business and financial risk. The fair value of the trade names and trademarks is determined using the relief from royalty method, which requires assumptions including forecasting future sales, discount rates and royalty rates. | Based on the results of our annual impairment test for goodwill and indefinite-lived intangible assets, no impairment was recorded. All reporting units had a fair value substantially in excess of the carrying value. If actual results are not consistent with our estimates or assumptions, or there are significant changes in any of these estimates, projections and assumptions, could have a material effect of the fair value of these assets in future measurement periods and result in an impairment, which could materially affect our results of operations. A goodwill impairment analysis was performed for each of our reporting units as of November 1, 2021. Based on this analysis the implied fair value of each of our reporting units was substantially in excess of its carrying value. A 10% decrease in the estimated fair value of any of our reporting units would not have resulted in different conclusion. |
Recent Accounting Pronouncements
See Note 2, “Summary of Significant Accounting Policies,” in the Notes to Consolidated Financial Statements found in Part IV Item 15 of this Form 10-K.
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