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UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, DC 20549


 

FORM 10-Q

 

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

 

For the quarterly period ended July 29, 2017

 

Commission file number 001-36501


 

THE MICHAELS COMPANIES, INC.

A Delaware Corporation

 

IRS Employer Identification No. 37-1737959

 

 

8000 Bent Branch Drive

Irving, Texas 75063

 

(972) 409-1300


 

 

 

The Michaels Companies, Inc. (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.

 

The Michaels Companies, Inc. has submitted electronically and posted on its corporate website every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).

 

The Michaels Companies, Inc. is a large accelerated filer.

 

The Michaels Companies, Inc. is not a shell company or emerging growth company (as defined in Rule 12b-2 of the Exchange Act).

 

As of August 17, 2017, 180,986,344 shares of The Michaels Companies, Inc.’s common stock were outstanding.

 

 

 

994

 

 

 


 

Table of Contents

 

 

 

 

 

THE MICHAELS COMPANIES, INC.

 

TABLE OF CONTENTS

 

 

 

 

 

Part I—FINANCIAL INFORMATION 

 

 

 

Page

 

 

 

Item 1. 

Financial Statements

3

 

 

 

 

Consolidated Statements of Comprehensive Income for the 13 and 26 weeks ended July 29, 2017 and July 30, 2016 (unaudited)

3

 

 

 

 

Consolidated Balance Sheets as of July 29, 2017, January 28, 2017 and July 30, 2016 (unaudited)

4

 

 

 

 

Consolidated Statements of Cash Flows for the 26 weeks ended July 29, 2017 and July 30, 2016 (unaudited)

5

 

 

 

 

Notes to Consolidated Financial Statements (unaudited)

6

 

 

 

Item 2. 

Management’s Discussion and Analysis of Financial Condition and Results of Operations

17

 

 

 

Item 3. 

Quantitative and Qualitative Disclosures About Market Risk

26

 

 

 

Item 4. 

Controls and Procedures

26

 

 

 

Part II—OTHER INFORMATION 

 

 

 

Item 1. 

Legal Proceedings

27

 

 

 

Item 1A. 

Risk Factors

27

 

 

 

Item 2. 

Unregistered Sales of Equity Securities and Use of Proceeds

27

 

 

 

Item 6. 

Exhibits

28

 

 

 

Signatures 

 

29

 

 

 

2

 


 

Table of Contents

 

Part I—FINANCIAL INFORMATION

 

ITEM 1. FINANCIAL STATEMENTS

 

THE MICHAELS COMPANIES, INC.

CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME

(in thousands, except per share data)

(Unaudited)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

13 Weeks Ended

 

26 Weeks Ended

 

 

 

July 29,

 

July 30,

 

July 29,

 

July 30,

 

 

 

2017

    

2016

 

2017

    

2016

 

Net sales

    

$

1,072,593

    

$

1,060,353

 

$

2,231,156

    

$

2,219,233

 

Cost of sales and occupancy expense

 

 

670,082

 

 

669,656

 

 

1,361,012

 

 

1,363,785

 

Gross profit

 

 

402,511

 

 

390,697

 

 

870,144

 

 

855,448

 

Selling, general and administrative

 

 

313,867

 

 

302,712

 

 

641,263

 

 

620,512

 

Store pre-opening costs

 

 

662

 

 

908

 

 

1,640

 

 

2,534

 

Operating income

 

 

87,982

 

 

87,077

 

 

227,241

 

 

232,402

 

Interest expense

 

 

31,051

 

 

31,954

 

 

61,488

 

 

64,173

 

Losses on early extinguishments of debt and refinancing costs

 

 

 —

 

 

405

 

 

 —

 

 

405

 

Other expense (income), net

 

 

1,353

 

 

(515)

 

 

1,309

 

 

(69)

 

Income before income taxes

 

 

55,578

 

 

55,233

 

 

164,444

 

 

167,893

 

Income taxes

 

 

20,016

 

 

19,616

 

 

56,674

 

 

61,511

 

Net income

 

$

35,562

 

$

35,617

 

$

107,770

 

$

106,382

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Other comprehensive income, net of tax:

 

 

 

 

 

 

 

 

 

 

 

 

 

Foreign currency translation adjustment and other

 

 

13,944

 

 

(4,759)

 

 

8,672

 

 

9,450

 

Comprehensive income

 

$

49,506

 

$

30,858

 

$

116,442

 

$

115,832

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Earnings per common share:

 

 

 

 

 

 

 

 

 

 

 

 

 

Basic

 

$

0.19

 

$

0.17

 

$

0.57

 

$

0.51

 

Diluted

 

$

0.19

 

$

0.17

 

$

0.57

 

$

0.51

 

Weighted-average common shares outstanding:

 

 

 

 

 

 

 

 

 

 

 

 

 

Basic

 

 

186,886

 

 

205,881

 

 

187,927

 

 

206,437

 

Diluted

 

 

187,931

 

 

207,547

 

 

189,171

 

 

208,269

 

 

See accompanying notes to consolidated financial statements.

 

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THE MICHAELS COMPANIES, INC.

CONSOLIDATED BALANCE SHEETS

(in thousands, except per share data)

(Unaudited)

 

 

 

 

 

 

 

 

 

 

 

 

 

July 29,

 

January 28,

 

July 30,

 

ASSETS

 

2017

 

2017

 

2016

 

Current Assets:

 

 

 

 

 

 

 

 

 

 

Cash and equivalents

 

$

134,119

 

$

298,813

 

$

114,849

 

Merchandise inventories

 

 

1,195,495

 

 

1,127,777

 

 

1,145,422

 

Prepaid expenses and other

 

 

87,176

 

 

87,175

 

 

85,482

 

Accounts receivable, net

 

 

24,311

 

 

23,215

 

 

26,920

 

Income taxes receivable

 

 

20,085

 

 

5,825

 

 

42,676

 

Total current assets

 

 

1,461,186

 

 

1,542,805

 

 

1,415,349

 

Property and equipment, at cost

 

 

1,530,622

 

 

1,488,136

 

 

1,724,291

 

Less accumulated depreciation and amortization

 

 

(1,122,928)

 

 

(1,074,972)

 

 

(1,325,603)

 

Property and equipment, net

 

 

407,694

 

 

413,164

 

 

398,688

 

Goodwill

 

 

119,074

 

 

119,074

 

 

119,074

 

Other intangible assets, net

 

 

22,736

 

 

23,702

 

 

23,703

 

Deferred income taxes

 

 

37,137

 

 

36,834

 

 

39,780

 

Other assets

 

 

12,202

 

 

12,061

 

 

12,387

 

Total assets

 

$

2,060,029

 

$

2,147,640

 

$

2,008,981

 

 

 

 

 

 

 

 

 

 

 

 

LIABILITIES AND STOCKHOLDERS’ DEFICIT

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Current Liabilities:

 

 

 

 

 

 

 

 

 

 

Accounts payable

 

$

510,818

 

$

517,268

 

$

462,099

 

Accrued liabilities and other

 

 

391,784

 

 

397,497

 

 

355,359

 

Current portion of long-term debt

 

 

112,125

 

 

31,125

 

 

66,900

 

Income taxes payable

 

 

823

 

 

78,334

 

 

 —

 

Total current liabilities

 

 

1,015,550

 

 

1,024,224

 

 

884,358

 

Long-term debt

 

 

2,712,475

 

 

2,723,187

 

 

2,735,187

 

Other liabilities

 

 

99,997

 

 

98,655

 

 

97,232

 

Total liabilities

 

 

3,828,022

 

 

3,846,066

 

 

3,716,777

 

 

 

 

 

 

 

 

 

 

 

 

Commitments and contingencies

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Stockholders’ Deficit:

 

 

 

 

 

 

 

 

 

 

Common stock, $0.06775 par value, 350,000 shares authorized; 183,414 shares issued and outstanding at July 29, 2017; 193,311 shares issued and outstanding at January 28, 2017; and 205,824 shares issued and outstanding at July 30, 2016

 

 

12,330

 

 

12,948

 

 

13,770

 

Additional paid-in-capital

 

 

59,099

 

 

233,129

 

 

493,096

 

Treasury stock

 

 

(11,361)

 

 

 —

 

 

 —

 

Accumulated deficit

 

 

(1,822,509)

 

 

(1,930,279)

 

 

(2,202,056)

 

Accumulated other comprehensive loss

 

 

(5,552)

 

 

(14,224)

 

 

(12,606)

 

Total stockholders’ deficit

 

 

(1,767,993)

 

 

(1,698,426)

 

 

(1,707,796)

 

Total liabilities and stockholders’ deficit

 

$

2,060,029

 

$

2,147,640

 

$

2,008,981

 

 

See accompanying notes to consolidated financial statements.

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THE MICHAELS COMPANIES, INC.

CONSOLIDATED STATEMENTS OF CASH FLOWS

(in thousands)

(Unaudited)

 

 

 

 

 

 

 

 

 

 

 

 

26 Weeks Ended

 

 

 

July 29,

 

July 30,

 

 

    

2017

    

2016

 

Cash flows from operating activities:

 

 

 

 

 

 

 

Net income

 

$

107,770

 

$

106,382

 

Adjustments to reconcile net income to net cash used in operating activities:

 

 

 

 

 

 

 

Depreciation and amortization

 

 

57,423

 

 

58,468

 

Share-based compensation

 

 

10,557

 

 

6,590

 

Debt issuance costs amortization

 

 

2,549

 

 

3,760

 

Accretion of long-term debt, net

 

 

(252)

 

 

(124)

 

Deferred income taxes

 

 

(225)

 

 

619

 

Losses on early extinguishments of debt and refinancing costs

 

 

 —

 

 

405

 

Losses on disposition of property and equipment

 

 

 —

 

 

35

 

Excess tax benefits from share-based compensation

 

 

 —

 

 

(7,271)

 

Changes in assets and liabilities, excluding acquired net assets:

 

 

 

 

 

 

 

Merchandise inventories

 

 

(67,218)

 

 

(58,612)

 

Prepaid expenses and other

 

 

(1)

 

 

639

 

Accounts receivable

 

 

(1,096)

 

 

4,858

 

Other assets

 

 

(700)

 

 

(445)

 

Accounts payable

 

 

(11,841)

 

 

(20,171)

 

Accrued interest

 

 

(7,691)

 

 

(5,045)

 

Accrued liabilities and other

 

 

(2,811)

 

 

(35,091)

 

Income taxes

 

 

(91,771)

 

 

(78,816)

 

Other liabilities

 

 

1,272

 

 

(605)

 

Net cash used in operating activities

 

 

(4,035)

 

 

(24,424)

 

 

 

 

 

 

 

 

 

Cash flows from investing activities:

 

 

 

 

 

 

 

Additions to property and equipment

 

 

(43,120)

 

 

(38,395)

 

Acquisition of Lamrite West, net of cash acquired

 

 

 —

 

 

(151,100)

 

Net cash used in investing activities

 

 

(43,120)

 

 

(189,495)

 

 

 

 

 

 

 

 

 

Cash flows from financing activities:

 

 

 

 

 

 

 

Common stock repurchased

 

 

(191,164)

 

 

(129,039)

 

Payments on term loan credit facility

 

 

(12,450)

 

 

(12,450)

 

Borrowings on asset-based revolving credit facility

 

 

139,100

 

 

42,000

 

Payments on asset-based revolving credit facility

 

 

(58,100)

 

 

 —

 

Payment of debt issuance costs

 

 

 —

 

 

(3,048)

 

Payment of dividends

 

 

(408)

 

 

(415)

 

Proceeds from stock options exercised

 

 

5,483

 

 

15,058

 

Excess tax benefits from share-based compensation

 

 

 —

 

 

7,271

 

Net cash used in financing activities

 

 

(117,539)

 

 

(80,623)

 

 

 

 

 

 

 

 

 

Net change in cash and equivalents

 

 

(164,694)

 

 

(294,542)

 

Cash and equivalents at beginning of period

 

 

298,813

 

 

409,391

 

Cash and equivalents at end of period

 

$

134,119

 

$

114,849

 

 

 

 

 

 

 

 

 

Supplemental cash flow information:

 

 

 

 

 

 

 

Cash paid for interest

 

$

67,453

 

$

65,634

 

Cash paid for taxes

 

$

148,187

 

$

138,394

 

See accompanying notes to consolidated financial statements.

 

 

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THE MICHAELS COMPANIES, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

 

1. BASIS OF PRESENTATION

 

All expressions of the “Company”, “us”, “we”, “our”, and all similar expressions are references to The Michaels Companies, Inc. and our consolidated, wholly-owned subsidiaries, unless otherwise expressly stated or the context otherwise requires. Our consolidated financial statements include the accounts of The Michaels Companies, Inc. and our wholly-owned subsidiaries. All intercompany accounts and transactions have been eliminated.

 

The accompanying unaudited consolidated financial statements have been prepared in accordance with U.S. generally accepted accounting principles (“GAAP”) for interim financial information and with the instructions to Form 10‑Q and Article 10 of Regulation S-X. Accordingly, they do not include all of the information and footnotes required by GAAP for complete financial statements. Therefore, these financial statements should be read in conjunction with our Annual Report on Form 10-K for the fiscal year ended January 28, 2017 filed with the Securities and Exchange Commission (“SEC”) pursuant to Section 13 or 15(d) under the Securities Exchange Act of 1934. In the opinion of management, all adjustments (consisting of normal recurring accruals and other items) considered necessary for a fair presentation have been included.

 

We report on the basis of a 52- or 53-week fiscal year, which ends on the Saturday closest to January 31. All references to fiscal year mean the year in which that fiscal year began. References to “fiscal 2017” relate to the 53 weeks ending February 3, 2018 and references to “fiscal 2016” relate to the 52 weeks ended January 28, 2017. In addition, all references to “the second quarter of fiscal 2017” relate to the 13 weeks ended July 29, 2017 and all references to “the second quarter of fiscal 2016” relate to the 13 weeks ended July 30, 2016. Finally, all references to “the six months ended July 29, 2017” relate to the 26 weeks ended July 29, 2017 and all references to “the six months ended July 30, 2016” relate to the 26 weeks ended July 30, 2016. Because of the seasonal nature of our business, the results of operations for the 13 and 26 weeks ended July 29, 2017 are not indicative of the results to be expected for the entire year. 

 

Certain prior year amounts have been reclassified in the accompanying consolidated financial statements to conform to our fiscal 2017 presentation.

 

Share Repurchase Program

 

In June 2017, the Board of Directors authorized a new share repurchase program for the Company to purchase $500.0 million of the Company’s common stock on the open market. The share repurchase program does not have an expiration date, and the timing and number of repurchase transactions under the program will depend on market conditions, corporate considerations, debt agreements and regulatory requirements. Shares repurchased under the program are held as treasury shares until retired. During the six months ended July 29, 2017, we repurchased 10.3 million shares under our share repurchase programs for an aggregate amount of $200.8 million, including $99.4 million repurchased under our previous authorization. As of July 29, 2017, we had $398.6 million of availability remaining under our current program.

 

Accounting Pronouncements Recently Adopted

 

In March 2016, the Financial Accounting Standards Board (“FASB”) issued Accounting Standards Update (“ASU”) 2016-09, “Compensation – Stock Compensation (Topic 718): Improvements to Employee Share-Based Payment Accounting” (“ASU 2016-09”). ASU 2016-09 identifies areas for simplification involving several aspects of accounting for share-based payment transactions, including the income tax consequences, classification of awards as either equity or liabilities, an option to recognize gross stock compensation expense with actual forfeitures recognized as they occur, as well as certain classifications on the statement of cash flows. We adopted the new guidance on a prospective basis in the

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first quarter of fiscal 2017. As a result of the adoption, we recognized $0.1 million of excess tax benefits related to share-based compensation in income tax expense for the second quarter of fiscal 2017 and $1.0 million for the six months ended July 29, 2017. Excess tax benefits were historically recorded in additional paid-in capital. In addition, cash flows related to excess tax benefits are now classified as an operating activity. Cash flows were historically classified as a financing activity. We have elected to continue to estimate forfeitures expected to occur to determine the amount of compensation cost to be recognized each period. None of the other provisions in this amended guidance had a material impact on our consolidated financial statements.

 

Recent Accounting Pronouncements Not Yet Adopted

 

In May 2017, the FASB issued ASU 2017-09, “Compensation – Stock Compensation (Topic 718): Scope of Modification Accounting” (“ASU 2107-09”).  ASU 2017-09 provides clarity on when a change to the terms or conditions of a share-based payment award would require an entity to apply modification accounting. ASU 2017-09 is effective on a prospective basis for reporting periods beginning after December 15, 2017, with early adoption permitted.  We do not anticipate a material impact to the consolidated financial statements once implemented.

 

In January 2017, the FASB issued ASU 2017-04, “Intangibles - Goodwill and Other (Topic 350): Simplifying the Test for Goodwill Impairment” (“ASU 2017-04”). ASU 2017-04 simplifies the measurement of goodwill impairment by removing the second step of the goodwill impairment test, which requires the determination of the fair value of individual assets and liabilities of a reporting unit. Under ASU 2017-04, goodwill impairment is to be measured as the amount by which a reporting unit’s carrying value exceeds its fair value with the loss recognized not to exceed the total amount of goodwill allocated to the reporting unit. ASU 2017-04 is effective for fiscal years beginning after December 15, 2019, with early adoption permitted for interim or annual goodwill impairment tests performed after January 1, 2017. The standard is to be applied on a prospective basis. We do not anticipate a material impact to the consolidated financial statements once implemented.

 

In October 2016, the FASB issued ASU No. 2016-16, “Income Taxes (Topic 740): Intra-Entity Transfers of Assets Other than Inventory” (“ASU 2016-16”). ASU 2016-16 requires entities to recognize income tax consequences of an intra-entity transfer of an asset other than inventory when the transfer occurs. ASU 2016-16 is effective for annual periods beginning after December 15, 2017, including interim reporting periods within that reporting period, with early adoption permitted. We are currently evaluating the new standard but do not anticipate a material impact to the consolidated financial statements once implemented.

 

In August 2016, the FASB issued ASU No. 2016-15, “Statement of Cash Flows (Topic 230): Classification of Certain Cash Receipts and Cash Payments” (“ASU 2016-15”). ASU 2016-15 clarifies how companies should present and classify certain cash receipts and cash payments in the statement of cash flows. ASU 2016-15 is effective for annual periods beginning after December 15, 2017, including interim reporting periods within that reporting period, with early adoption permitted. We have evaluated the new standard and it will not have a material impact to the consolidated financial statements once implemented.

 

In February 2016, the FASB issued ASU No. 2016-02, "Leases (Topic 842)" ("ASU 2016-02"). Under ASU 2016‑02, an entity will be required to recognize right-of-use assets and lease liabilities on its balance sheet and disclose key information about leasing arrangements. ASU 2016-02 offers specific accounting guidance for a lessee, a lessor and sale and leaseback transactions. Lessees and lessors are required to disclose qualitative and quantitative information about leasing arrangements to enable a user of the financial statements to assess the amount, timing and uncertainty of cash flows arising from leases. ASU 2016-02 is effective for annual reporting periods beginning after December 15, 2018, including interim periods within that reporting period, with early adoption permitted. At adoption, this update will be applied using a modified retrospective approach. We are currently evaluating the impact that ASU 2016-02 will have on the consolidated financial statements and related disclosures. We believe the most significant impact relates to our accounting for real estate leases, which will be recorded as right-of-use assets and lease liabilities on our balance sheet upon adoption.

 

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In May 2014, the FASB issued ASU No. 2014-09, “Revenue from Contracts with Customers” (“ASU 2014‑09”). ASU 2014-09 supersedes the revenue recognition requirements in “Revenue Recognition (Topic 605)”, and requires entities to recognize revenue in a way that depicts the transfer of promised goods or services to customers in an amount that reflects the consideration to which the entity expects to be entitled to in exchange for those goods or services. In March 2016, the FASB issued ASU No. 2016-08, “Revenue from Contracts with Customers (Topic 606): Principal versus Agent Considerations (Reporting Revenue Gross versus Net)” which is intended to improve the operability and understandability of the implementation guidance on principal versus agent considerations. In April 2016, the FASB issued ASU No. 2016-10, “Revenue from Contracts with Customers (Topic 606): Identifying Performance Obligations and Licensing” which provides further guidance on identifying performance obligations and improves the operability and understandability of the licensing implementation guidance. In May 2016, the FASB issued ASU No. 2016-12, “Revenue from Contracts with Customers (Topic 606): Narrow-Scope Improvements and Practical Expedients” which narrowly amended the revenue recognition guidance regarding collectability, noncash consideration, presentation of sales tax and transition. The guidance under each of these standards is effective for annual reporting periods beginning after December 15, 2017, including interim periods within that reporting period.  We plan to adopt the standard using the modified retrospective approach. While we continue to assess all potential impacts of the guidance, our focus has been on vendor arrangements in which we act as either a principal or agent and customer incentive arrangements. Based on our preliminary assessment, we do not anticipate that the adoption of ASU 2014-09 will result in a material adjustment on the date of implementation nor will it have an ongoing material impact on our consolidated financial statements once implemented.

 

2. FAIR VALUE MEASUREMENTS

 

As defined in Accounting Standards Codification (“ASC”) 820, Fair Value Measurements (“ASC 820”), fair value is the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date. ASC 820 establishes a three-level valuation hierarchy for fair value measurements. These valuation techniques are based upon observable and unobservable inputs. Observable inputs reflect market data obtained from independent sources, while unobservable inputs reflect less transparent active market data, as well as internal assumptions. These two types of inputs create the following fair value hierarchy:

 

·

Level 1—Quoted prices for identical instruments in active markets;

 

·

Level 2—Quoted prices for similar instruments in active markets; quoted prices for identical or similar instruments in markets that are not active; and model-derived valuations whose significant inputs are observable; and

 

·

Level 3—Instruments with significant unobservable inputs.

 

Impairment losses related to store-level property and equipment are calculated using significant unobservable inputs including the present value of future cash flows expected to be generated using a risk-adjusted weighted-average cost of capital and comparable store sales growth assumptions, and therefore, are classified as a Level 3 measurement in the fair value hierarchy.

 

The carrying value of cash and cash equivalents, accounts receivable and accounts payable approximates their estimated fair values due to the short maturities of these instruments.

 

 

 

 

 

 

 

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The table below provides the fair values of our senior secured term loan facility (“Amended Term Loan Credit Facility”) and our 5.875% senior subordinated notes maturing in 2020 (“2020 Senior Subordinated Notes ). The fair values of our Amended Term Loan Credit Facility and our 2020 Senior Subordinated Notes were determined based on quoted market prices which are considered Level 2 inputs within the fair value hierarchy.

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

July 29,
2017

 

January 28,
2017

 

July 30,
2016

 

 

 

(in thousands)

 

Term loan credit facility

 

$

2,251,025

 

$

2,266,304

 

$

2,277,082

 

Senior subordinated notes

 

 

522,750

 

 

526,575

 

 

530,400

 

 

 

3. DEBT

 

Long-term debt consists of the following (in thousands):

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

July 29,

 

January 28,

 

July 30,

 

 

Interest Rate

 

2017

 

2017

 

2016

 

Term loan credit facility

Variable

 

$

2,251,025

 

$

2,263,475

 

$

2,269,700

 

Asset-based revolving credit facility

Variable

 

 

81,000

 

 

 —

 

 

42,000

 

Senior subordinated notes

5.875

%

 

510,000

 

 

510,000

 

 

510,000

 

Total debt

 

 

 

2,842,025

 

 

2,773,475

 

 

2,821,700

 

Less unamortized discount/premium and debt costs

 

 

 

(17,425)

 

 

(19,163)

 

 

(19,613)

 

Total debt, net

 

 

 

2,824,600

 

 

2,754,312

 

 

2,802,087

 

Less current portion

 

 

 

(112,125)

 

 

(31,125)

 

 

(66,900)

 

Long-term debt

 

 

$

2,712,475

 

$

2,723,187

 

$

2,735,187

 

 

 

Revolving Credit Facility

 

As of July 29, 2017 and July 30, 2016, the borrowing base under our senior secured asset-based revolving credit facility was $827.7 million and $696.4 million, respectively, of which Michaels Stores, Inc. (“MSI”) had unused borrowing capacity of $681.4 million and $597.1 million, respectively. As of July 29, 2017 and July 30, 2016, outstanding standby letters of credit, which reduce our borrowing base, totaled $65.3 million and $57.3 million, respectively.

 

Debt Issuance Costs

 

Accumulated amortization of debt issuance costs was $66.2 million,  $63.7 million and $61.0 million as of July 29, 2017, January 28, 2017 and July 30, 2016, respectively. 

 

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4. ACCUMULATED OTHER COMPREHENSIVE LOSS

 

The following table includes detail regarding changes in the composition of accumulated other comprehensive loss (in thousands):

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

13 Weeks Ended

 

26 Weeks Ended

 

 

 

July 29,

 

July 30,

 

July 29,

 

July 30,

 

 

 

2017

    

2016

    

2017

    

2016

    

Beginning of period

  

$

(19,496)

 

$

(7,847)

  

$

(14,224)

 

$

(22,056)

  

Foreign currency translation adjustment and other

 

 

13,944

 

 

(4,759)

 

 

8,672

 

 

9,450

 

End of period

 

$

(5,552)

 

$

(12,606)

 

$

(5,552)

 

$

(12,606)

 

 

 

5. INCOME TAXES

 

The effective tax rate was 36.0% in the second quarter of fiscal 2017 compared to 35.5% for the second quarter of fiscal 2016 and 34.5% for the six months ended July 29, 2017 compared to 36.6% for the same period in the prior year. The effective tax rate for both periods of fiscal 2017 include benefits realized associated with our direct sourcing initiatives that began in the second half of fiscal 2016. The sourcing benefits in the second quarter of fiscal 2017 were offset by a $1.4 million charge related to the reduction of certain federal tax credits.

 

 

6. EARNINGS PER SHARE

 

The Company’s unvested restricted stock awards contain non-forfeitable rights to dividends and meet the criteria of a participating security as defined by ASC 260, “Earnings Per Share”. In applying the two-class method, net income is allocated to both common and participating securities based on their respective weighted-average shares outstanding for the period. Basic earnings per share is computed by dividing net income allocated to common shareholders by the weighted-average number of common shares outstanding for the period. Diluted earnings per share is computed by dividing income available to common shareholders by the weighted-average common shares outstanding plus the potential dilutive impact from the exercise of stock options and restricted stock units. Common equivalent shares are excluded from the computation if their effect is anti-dilutive. There were 6.7 million and 1.4 million anti-dilutive shares during the second quarters of fiscal 2017 and fiscal 2016, respectively. There were 5.9 million and 1.8 million anti-dilutive shares during the six months ended July 29, 2017 and July 30, 2016, respectively.

 

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The following table sets forth the computation of basic and diluted earnings per common share (in thousands, except per share data):

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

13 Weeks Ended

 

26 Weeks Ended

 

 

 

July 29,
2017

 

July 29
2016

 

July 29,
2017

 

July 29
2016

 

Basic earnings per common share:

 

 

 

 

 

 

 

 

 

 

 

 

 

Net income

 

$

35,562

 

$

35,617

 

$

107,770

  

$

106,382

 

Less income related to unvested restricted shares

 

 

(150)

 

 

(234)

 

 

(478)

 

 

(707)

 

Income available to common shareholders - Basic

 

$

35,412

 

$

35,383

 

$

107,292

 

$

105,675

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Weighted-average common shares outstanding - Basic

 

 

186,886

 

 

205,881

 

 

187,927

 

 

206,437

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Basic earnings per common share

 

$

0.19

 

$

0.17

 

$

0.57

 

$

0.51

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Diluted earnings per common share:

 

 

 

 

 

 

 

 

 

 

 

 

 

Net income

 

$

35,562

 

$

35,617

 

$

107,770

 

$

106,382

 

Less income related to unvested restricted shares

 

 

(149)

 

 

(232)

 

 

(475)

 

 

(701)

 

Income available to common shareholders - Diluted

 

$

35,413

 

$

35,385

 

$

107,295

 

$

105,681

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Weighted-average common shares outstanding - Basic

 

 

186,886

 

 

205,881

 

 

187,927

 

 

206,437

 

Effect of dilutive stock options and restricted stock units

 

 

1,045

 

 

1,666

 

 

1,244

 

 

1,832

 

Weighted-average common shares outstanding - Diluted

 

 

187,931

 

 

207,547

 

 

189,171

 

 

208,269

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Diluted earnings per common share

 

$

0.19

 

$

0.17

 

$

0.57

 

$

0.51

 

 

 

 

 

 

7. SEGMENTS AND GEOGRAPHIC INFORMATION

 

We consider Michaels-U.S., Michaels-Canada, Aaron Brothers, Pat Catan’s and Darice to be our operating segments for purposes of determining reportable segments based on the criteria of ASC 280, Segment Reporting (“ASC 280”). We determined that Michaels-U.S., Michaels-Canada, Aaron Brothers and Pat Catan’s have similar economic characteristics and meet the aggregation criteria set forth in ASC 280. Therefore, we combine these operating segments into one reporting segment. Darice does not meet the materiality criteria in ASC 280 and, therefore, is not disclosed as a reportable segment. Our chief operating decision makers evaluate historical operating performance and forecast future periods’ operating performance based on operating income.

 

Our net sales by country are as follows (in thousands):

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

13 Weeks Ended

 

26 Weeks Ended

 

 

 

July 29,
2017

 

July 30,
2016

 

July 29,
2017

 

July 30,
2016

 

United States

 

$

977,779

 

$

970,367

 

$

2,034,422

 

$

2,034,204

 

Canada

 

 

94,814

 

 

89,986

 

 

196,734

 

 

185,029

 

Total

 

$

1,072,593

 

$

1,060,353

 

$

2,231,156

 

$

2,219,233

 

 

 

 

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8. CONTINGENCIES

 

Rea Claim

  

On September 15, 2011, MSI was served with a lawsuit filed in the California Superior Court in and for the County of Orange (“Superior Court”) by four former store managers as a class action proceeding on behalf of themselves and certain former and current store managers employed by MSI in California. The lawsuit alleged that MSI improperly classified its store managers as exempt employees and as such failed to pay all wages, overtime and waiting time penalties and failed to provide accurate wage statements. The lawsuit also alleged that the foregoing conduct was in breach of various laws, including California’s unfair competition law. On December 3, 2013, the Superior Court entered an order certifying a class of approximately 200 members. MSI successfully removed the case to the U.S. District Court for the Central District of California and on May 8, 2014, the class was decertified. Three of the four named plaintiffs’ claims were resolved in September 2014 and the remaining one is set for trial on December 12, 2017. The individual claims of 26 former class members remain pending in the Central District of California. In addition, a separate representative action brought on behalf of store managers throughout the state is pending in the California Superior Court, County of San Diego. We believe we have meritorious defenses and intend to defend the lawsuits vigorously. We do not believe the resolution of the lawsuits will have a material effect on our consolidated financial statements.  

Fair Credit Reporting Claim

On December 11, 2014, MSI was served with a lawsuit, Christina Graham v. Michaels Stores, Inc., filed in the U.S. District Court for the District of New Jersey by a former employee. The lawsuit is a purported class action, bringing plaintiff’s individual claims, as well as claims on behalf of a putative class of applicants who applied for employment with Michaels through an online application, and on whom a background check for employment was procured. The lawsuit alleges that MSI violated the Fair Credit Reporting Act (“FCRA”) and the New Jersey Fair Credit Reporting Act by failing to provide the proper disclosure and obtain the proper authorization to conduct background checks. Since the initial filing, another named plaintiff joined the lawsuit, which was amended in February 2015, Christina Graham and Gary Anderson v. Michaels Stores, Inc., with substantially similar allegations. The plaintiffs seek statutory and punitive damages as well as attorneys’ fees and costs.

Following the filing of the Graham case in New Jersey, five additional purported class action lawsuits with six plaintiffs were filed, Michele Castro and Janice Bercut v. Michaels Stores, Inc., in the U.S. District Court for the Northern District of Texas, Michelle Bercut v. Michaels Stores, Inc. in the Superior Court of California for Sonoma County, Raini Burnside v. Michaels Stores, Inc., in the U.S. District Court for the Western District of Missouri, Sue Gettings v. Michaels Stores, Inc., in the U.S. District Court for the Southern District of New York, and Barbara Horton v. Michaels Stores, Inc., in the U.S. District Court for the Central District of California. All of the plaintiffs alleged violations of the FCRA. In addition, the Castro, Horton and Janice Bercut lawsuits also alleged violations of California’s unfair competition law. The Burnside, Horton and Gettings lawsuits, as well as the claims by Michele Castro, have been dismissed. The Graham, Janice Bercut and Michelle Bercut lawsuits were transferred for centralized pretrial proceedings to the District of New Jersey. On January 24, 2017, the Company’s motion to dismiss for lack of standing was granted, and the court declined to rule on the merits of plaintiffs’ claims. The dismissal order was stayed for 30 days to allow the plaintiffs to amend their complaints. Because there were no amendments filed, two of the three centralized cases were dismissed and subsequently appealed to the U.S. Court of Appeals for the Third Circuit, and the remaining case (Michelle Bercut) was remanded to California Superior Court. The Company intends to defend the remaining lawsuits vigorously. We cannot reasonably estimate the potential loss, or range of loss, related to the lawsuits, if any.

Data Security Incident

 

Five putative class actions were filed against MSI relating to the January 2014 data breach. The plaintiffs generally alleged that MSI failed to secure and safeguard customers’ private information including credit and debit card information, and as such, breached an implied contract and violated the Illinois Consumer Fraud Act (and other states’ similar laws). The plaintiffs were seeking damages including declaratory relief, actual damages, punitive damages, statutory damages,

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attorneys’ fees, litigation costs, remedial action, pre and post judgment interest, and other relief as available. The cases were as follows: Christina Moyer v. Michaels Stores, Inc., was filed on January 27, 2014; Michael and Jessica Gouwens v. Michaels Stores, Inc., was filed on January 29, 2014; Nancy Maize and Jessica Gordon v. Michaels Stores, Inc., was filed on February 21, 2014; and Daniel Ripes v. Michaels Stores, Inc., was filed on March 14, 2014. These four cases were filed in the U.S. District Court for the Northern District of Illinois, Eastern Division. On March 18, 2014, an additional putative class action was filed in the U.S. District Court for the Eastern District of New York, Mary Jane Whalen v. Michaels Stores, Inc., but was voluntarily dismissed by the plaintiff on April 11, 2014 without prejudice to her right to re‑file a complaint. On April 16, 2014, an order was entered consolidating the Illinois actions. On July 14, 2014, the Company’s motion to dismiss the consolidated complaint was granted.

 

On December 2, 2014, Whalen filed a new lawsuit against MSI related to the data breach in the U.S. District Court for the Eastern District of New York, Mary Jane Whalen v. Michaels Stores, Inc., seeking damages including declaratory relief, monetary damages, statutory damages, punitive damages, attorneys’ fees and costs, injunctive relief, pre and post judgment interest, and other relief as available. The Company filed a motion to dismiss which was granted on December 28, 2015, and judgment was entered in favor of the Company on January 8, 2016. Plaintiff appealed the judgment to the U.S. Court of Appeals for the Second Circuit and on May 2, 2017, the Second Circuit affirmed the dismissal and Whalen did not appeal further, thereby concluding the matter.

Consumer Product Safety Commission Claim

 

On April 21, 2015, the U.S. Department of Justice, on behalf of the Consumer Product Safety Commission (the “CPSC”), filed a complaint against MSI and Michaels Stores Procurement Company, Inc. (“MSPC”) in the U.S. District Court for the Northern District of Texas. The complaint seeks civil penalties for an alleged failure to timely report a potential product safety hazard to the CPSC related to the breakage of certain glass vases. The complaint also alleges the report contained a material misrepresentation and seeks injunctive relief requiring MSI and MSPC to, among other things, establish internal recordkeeping and compliance monitoring systems. On April 4, 2017, the CPSC filed an amended complaint eliminating their misrepresentation claim. We believe we have meritorious defenses and intend to defend the lawsuit vigorously. We do not believe the resolution of the lawsuit will have a material effect on our consolidated financial statements.

 

General

In addition to the litigation discussed above, we are now, and may be in the future, involved in various other lawsuits, claims and proceedings incident to the ordinary course of business. The results of litigation are inherently unpredictable. Any claims against us, whether meritorious or not, could be time consuming, result in costly litigation, require significant amounts of management time and result in diversion of significant resources.

For some of the matters disclosed above, as well as other lawsuits involving the Company, we are able to estimate a range of losses in excess of the amounts recorded, if any, in the accompanying consolidated financial statements. As of July 29, 2017, the aggregate estimated loss was approximately $12 million, which includes amounts recorded by the Company.

 

9. RELATED PARTY TRANSACTIONS

 

Affiliates of, or funds advised by, Bain Capital Partners, LLC (“Bain Capital”) and The Blackstone Group L.P. (“The Blackstone Group”, together with Bain Capital and their applicable affiliates, the “Sponsors”) owned approximately 40% of our outstanding common stock as of July 29, 2017.

 

The Blackstone Group owns a majority equity position in RGIS, a vendor we utilize to count our store inventory. Payments associated with this vendor during the second quarters of fiscal 2017 and fiscal 2016 were $1.7 million.  Payments made during the six months ended July 29, 2017 and July 30, 2016 were $3.7 million. These expenses are included in selling, general and administrative (“SG&A”) in the consolidated statements of comprehensive income.

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The Blackstone Group owns a majority equity position in Excel Trust, Inc., Blackstone Real Estate DDR Retail Holdings III, LLC and Blackstone Real Estate RC Retail Holdings, LLC, vendors we utilize to lease certain properties. Payments associated with these vendors during the second quarters of fiscal 2017 and fiscal 2016 were $1.5 million and $1.3 million, respectively. Payments made during the six months ended July 29, 2017 and July 30, 2016 were $3.2 million and $2.1 million, respectively. These expenses are included in cost of sales and occupancy expense in the consolidated statements of comprehensive income.

 

Certain affiliates of The Blackstone Group have significant influence over US Xpress Enterprises, Inc., a vendor we utilize for transportation services. Payments associated with this vendor during the second quarters of fiscal 2017 and fiscal 2016 were $0.2 million. Payments made during the six months ended July 29, 2017 and July 30, 2016 were $0.4 million and $0.5 million, respectively. These expenses are recognized in cost of sales and occupancy expense in the consolidated statements of comprehensive income as the sales are incurred.

 

Three of our current directors, Joshua Bekenstein, Lewis S. Klessel and Peter F. Wallace, are affiliates of Bain Capital or The Blackstone Group. As such, some or all of such directors may have an indirect material interest in payments with respect to debt securities of the Company that have been purchased by affiliates of Bain Capital and The Blackstone Group. As of July 29, 2017, affiliates of The Blackstone Group held $55.1 million of our Amended Term Loan Credit Facility.

 

10. CONDENSED CONSOLIDATED FINANCIAL INFORMATION

 

Our debt covenants restrict MSI, and certain subsidiaries of MSI, from various activities including the incurrence of additional debt, payment of dividends and the repurchase of MSI’s capital stock (subject to certain exceptions), among other things. The following condensed consolidated financial information represents the financial information of MSI and its wholly-owned subsidiaries subject to these restrictions. The information is presented in accordance with the requirements of Rule 12-04 under the SEC’s Regulation S-X.

 

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Michaels Stores, Inc.

Condensed Consolidated Balance Sheets

(in thousands)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

ASSETS

    

July 29,
2017

 

January 28,
2017

 

July 30,
2016

Current assets:

 

 

 

 

 

 

 

 

 

Cash and equivalents

 

$

133,356

 

$

294,054

 

$

110,100

Merchandise inventories

 

 

1,195,495

 

 

1,127,777

 

 

1,145,422

Prepaid expenses and other current assets

 

 

115,662

 

 

116,072

 

 

112,336

Total current assets

 

 

1,444,513

 

 

1,537,903

 

 

1,367,858

Property and equipment, net

 

 

407,694

 

 

413,164

 

 

398,688

Goodwill

 

 

119,074

 

 

119,074

 

 

119,074

Other assets

 

 

72,679

 

 

73,201

 

 

77,503

Total assets

 

$

2,043,960

 

$

2,143,342

 

$

1,963,123

 

 

 

 

 

 

 

 

 

 

LIABILITIES AND STOCKHOLDERS’ DEFICIT

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Current liabilities:

 

 

 

 

 

 

 

 

 

Accounts payable

 

$

510,818

 

$

517,268

 

$

462,099

Accrued liabilities and other

 

 

391,047

 

 

395,745

 

 

353,854

Current portion of long-term debt

 

 

112,125

 

 

31,125

 

 

66,900

Other current liabilities

 

 

30,022

 

 

123,258

 

 

3,087

Total current liabilities

 

 

1,044,012

 

 

1,067,396

 

 

885,940

Long-term debt

 

 

2,712,475

 

 

2,723,187

 

 

2,735,187

Other liabilities

 

 

107,853

 

 

103,972

 

 

103,296

Total stockholders’ deficit

 

 

(1,820,380)

 

 

(1,751,213)

 

 

(1,761,300)

Total liabilities and stockholders’ deficit

 

$

2,043,960

 

$

2,143,342

 

$

1,963,123

 

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Michaels Stores, Inc.

Condensed Consolidated Statements of Comprehensive Income

(in thousands)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

13 Weeks Ended

 

26 Weeks Ended

 

 

July 29,

 

July 30,

 

July 29,

 

July 30,

 

    

2017

    

2016

    

2017

    

2016

Net sales

 

$

1,072,593

 

$

1,060,353

 

$

2,231,156

 

$

2,219,233

Cost of sales and occupancy expense

 

 

670,082

 

 

669,656

 

 

1,361,012

 

 

1,363,785

Gross profit

 

 

402,511

 

 

390,697

 

 

870,144

 

 

855,448

Selling, general and administrative

 

 

313,473

 

 

302,146

 

 

640,938

 

 

619,411

Other operating expense

 

 

662

 

 

908

 

 

1,640

 

 

2,534

Operating income

 

 

88,376

 

 

87,643

 

 

227,566

 

 

233,503

Interest and other expense

 

 

32,405

 

 

31,849

 

 

62,801

 

 

64,519

Income before income taxes

 

 

55,971

 

 

55,794

 

 

164,765

 

 

168,984

Income taxes

 

 

20,162

 

 

19,825

 

 

56,795

 

 

61,917

Net income

 

$

35,809

 

$

35,969

 

$

107,970

 

$

107,067

 

 

 

 

 

 

 

 

 

 

 

 

 

Other comprehensive income, net of tax:

 

 

 

 

 

 

 

 

 

 

 

 

Foreign currency translation adjustment and other

 

 

13,944

 

 

(4,759)

 

 

8,672

 

 

9,450

Comprehensive income

 

$

49,753

 

$

31,210

 

$

116,642

 

$

116,517

 

Michaels Stores, Inc.

Condensed Consolidated Statements of Cash Flows

(in thousands)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

26 Weeks Ended

 

 

July 29,
2017

 

July 30,
2016

Cash flows from operating activities:

 

 

 

 

 

 

Net cash used in operating activities

 

$

(644)

 

$

(11,866)

 

 

 

 

 

 

 

Cash flows from investing activities:

 

 

 

 

 

 

Additions to property and equipment

 

 

(43,120)

 

 

(38,395)

Acquisition of Lamrite West, net of cash acquired

 

 

 —

 

 

(151,100)

Net cash used in investing activities

 

 

(43,120)

 

 

(189,495)

 

 

 

 

 

 

 

Cash flows from financing activities:

 

 

 

 

 

 

Net repayments of debt

 

 

(70,550)

 

 

(12,450)

Net borrowings of debt